Strange as this may seem, this is a common occurrence in misconduct situations. Therefore, make sure you know when you can and when you cannot suspend, and then go through the process correctly.

When can you suspend?

Suspension from employment is generally only reserved for misconduct cases. So if you are dealing with a performance issue then the option of suspension is not available unless the allegation is one of serious negligence and the employee’s continued presence at work could pose a business risk. These situations are pretty rare, so the rule of thumb is to reserve suspensions only to misconduct cases.

In terms of the misconduct required, it would normally have to be serious enough to warrant suspension. The purpose of a suspension is to protect your business whilst an investigation into the misconduct is carried out. Therefore, the continued presence of the employee at work should pose a business risk. For example, if the allegation was theft, the risk could be that the employee would continue stealing. On the other hand, turning up late for work (even if repeated on numerous occasions) would not pose a business risk so suspension would be inappropriate. However, the extent of the ability to suspend can often be dictated by the employment agreement.

Does your employment agreement allow for it?

If you have decided that suspension may be appropriate then the next step is to check your employment agreement to see whether there is a clause which allows for suspension. The clause may stipulate when a suspension will be allowed so it is important that the individual situation matches the parameters of the clause. If you go beyond the parameters of the clause, or you don’t have a clause at all, you could expose yourself to a grievance. By and large however, it is not the ability to suspend that often causes grievances but how the suspension is implemented.

How to implement the suspension

The law requires that before you suspend any employee you must first consult with them. That means giving the employee the opportunity to give their feedback on whether suspension is appropriate. The point to remember here is that being suspended from work can be detrimental to the employee for two reasons:

1. It inhibits the employee access to documents which may prove their innocence;
2. Suspension carries with it a stigma which may indicate that the employee has been found guilty already.

On the other side of the coin, whilst on suspension an employee remains on full pay and has plenty of time to seek legal advice without having to worry about doing their job under the stress of the disciplinary process. For this reason, my experience is that many employees do not object to a suspension. As a result, there is opportunity to get agreement over the suspension rather than having to impose it.

How to get an employee’s agreement not to come to work

Whenever a suspension situation arises, my advice is to explain the allegations to the employee and emphasise the seriousness of the allegations. It would be appropriate to say that one outcome of the disciplinary process could be dismissal. As a result, emphasise the need for the employee to obtain legal advice and indicate that you would be happy for the employee to take time off prior to the disciplinary meeting on full pay to obtain that advice. If the employee agrees (which is likely) then you have satisfied your obligations to consult.

What if the employee disagrees?

If the employee doesn’t accept your offer to take time off prior to the disciplinary meeting, then you need to explain that you are contemplating suspending the employee because the allegations are serious. If the employee continues to dispute your right to do so, then you will need to be happy in your own mind that:

1. The allegations are serious;
2. The employee imposes a risk to the business.

Try enquiring of the employee why he or she does not want to take the time off work. If you know the objection, you may be able to overcome the objection and still suspend the employee. For example, if the employee is concerned about access to documents then you can make those documents available whilst the employee is still on suspension. It will then be difficult for the employee to complain and raise a grievance.

The effect of the personal grievance

Forgetting to carry out these steps could put you on the back foot in the disciplinary meeting, particularly if the employee takes legal advice and raises a personal grievance on the grounds that the disciplinary process has already been “tainted with unfairness”. The employee may then argue that the outcome of the disciplinary meeting is predetermined and all of a sudden you are exposed to a personal grievance. This can be particularly frustrating if you know that the employee is at fault. So, follow these simple steps to avoid the grievance:

1. Assess the seriousness of the allegations and the business risk posed by the employee;
2. Check the employment agreement;
3. Consult with the employee or get the employee’s agreement to suspend.

Your terms of business must suit YOUR business

Your terms of business is the most important document in your business. It dictates how you interact with your customers…and it’s your customers that make you money. Get your terms of business wrong and you end up with the biggest problem for most small to medium sized businesses – poor cash-flow.

And, if you think that cash-flow isn’t bad enough, you then realise that you are exposed to unnecessary law suits because you haven’t excluded liability for certain events and have no remedies for chasing those late payers.

Think about it: how many customer transactions do you have a year? What is their value? With things figures in mind, do you think it is worth investing a little bit of effort to get your terms of business right?

Effort means working out what you need first

If you wouldn’t put a bicycle wheel on a car, then you wouldn’t use just any old terms of business as your own. First, you need to understand the nature of your business. Is it the same as the business whose terms you are copying? Invariably the answer will be no – that’s because all businesses are different and have their own special requirements.

There are many different types of business. Some sell products, some sell services. Others don’t sell at all, but hire products out. Some deal exclusively with consumers others exclusively with business clients. Some operate internationally, others simply domestically. All these factors will effect what goes in the terms of business. Get it wrong and it would be like driving your car with one wheel smaller than the others – it will sure be a bumpy ride!

Why you can’t copy your competition

The obvious answer to this problem would be to copy your competition’s terms of business – after all, they have the same terms of business as you, right? Well, maybe, but not necessarily. As a competitor, you will want to differentiate yourself from your competition. That differentiation may reflect in your terms of business. If you have the same terms of business, then you run the risk of being the same. But, that’s not the most important reason you shouldn’t copy.

Never copy something that is broken

If you are going to copy your competition’s terms of business, you need to be very sure that those terms of business are working well for their business. But, how can you be sure that those terms of business are doing just that? The answer is that you can’t. Therefore, it is better than you simply don’t copy. Instead, work out what you will need to make your business work efficiently.

How to work out what you need

Working out what you need to put in your terms of business requires some analysis of how your business operates. You need to look into the future and say “What if such and such happened…” That’s because your terms of business are their most important when things go wrong with a customer. If something goes wrong with your service or your customer, what are the comebacks?

Only by doing this analysis will you get it right. If you copy, you short circuit this process and miss out on valuable lessons about how your business really works. Worse still, you end up with a wheel that doesn’t fit which will inevitably lead to a very bumpy ride!

Need Help putting together your terms of business? Download the Terms of Business checklist

The checklist has been specifically designed to allow you to work out what you need to have in your terms of business. It guides you through the process of working out how you will deal with your clients and most importantly how you will get paid on time. The checklist is FREE and you can download by clicking here.

You get exactly the same feelings when an employee steals your intellectual property and sets up in competition down the road.

My employees would never do that!

It is true to say that the majority of people are not thieves in the sense that they will plan to steal someone else’s property. However, it is surprising to learn how many of us are opportunistic thieves. If a wallet was left lying on a table containing a wad of cash how many people would pocket the cash and how many would hand it in to the police station in the hope of a reward? It is the same with a business’s intellectual property. If you leave your IP totally unprotected the most innocent of employee will see no wrong in using that property for their own gain to set up in competition. The chances are that they were partly responsible for creating that IP, so in their own minds they can justify the theft. It is then a small jump to walking out the door with your most valuable assets.

That is, unless you very clearly tell them that it is yours and mustn’t be stolen.

How to protect your IP

The best way to protect your IP is with properly drafted contract clauses in your employment agreements. There are various types of clauses each of which serves a very different purpose:

• Non competition clause – this is the clause which protects you from employees working for your competition whilst they are still employed by you. Clearly, if an employee holds a concurrent job with your competition then the risk of IP passing hands is very great.
• Confidentiality clause – the law only offers limited protection to employers from unauthorised disclosure of confidentiality. However, it is possible to strengthen that protection by drafting a tighter clause in your employment agreement.
• Protection of Intellectual Property Clause – this clause spells out who owns any IP created by the employee during the employment and puts in place a procedure for ensuring that ownership of that IP is registered in the name of your business.
• Non solicitation clause – this type of clause prevents your employees stealing your clients or other employees when they leave your employment. Your client base is probably your most valuable asset alongside your employees. Both assets deserve a special clause to protect them in your employment agreement.
• Restraint of trade clause – sometimes you will need greater protection than all the above clauses can offer. It that is the case then a restraint of trade clause is the way to go. What this says is that an ex employee cannot work for a competitor after leaving your employment. Such clauses are usually limited by a time period or a geographical locale. Such clauses can be combined with a long notice period and an ability for you to require that the employee not come not work during the notice period (”a garden leave clause”) for added protection.

Does your employment agreement have all of these clauses and are you sure they adequately protect your interests?

Do I need all these clauses?

There are lots of burglar alarms on the market each offering different functionality and priced accordingly. Some simply sound an alarm on break in, others have movement sensors all around the house, while others are linked to the local police station or security firm offering round the clock protection. Which you chose to protect your valuables will depend on how much value you put on your possessions and your assessment of the risks. Contract clauses are the same. The type of clause you need will depend on how sensitive the information is you want to protect and the type of employee who has access to it.

For example, an office administrator may have access to sensitive information indirectly through his work but may pose a low risk of setting up in competition to you or passing on information. In that case you may decide that only the following clauses are necessary:

• Non competition
• Confidentiality

A person employed in research and development however poses a greater risk. You may want the following in this case:

• Non competition
• Confidentiality
• Protection of Intellectual Property
• Restraint of trade
• For a sales person with regular access to your client base you would include all the above plus a non solicitation clause.

Why they need to be well drafted

People invest in burglar alarms for two reasons:

1. To keep intruders out – the deterrent effect;
2. To catch the culprits.
3. Your contract clauses must do both too. They must be worded sufficiently well not only to stop the opportunistic thief but also to hold up in court should you ever want to enforce them.

There are a number of laws surrounding protection of IP and what you can and cannot say – for example, all restraint of trade clauses must be reasonable. If your clauses fall foul of the law they may act as a deterrent to the ignorant employee but certainly won’t hold up in court.

But I don’t have that many secrets

If you are thinking that you may not need well drafted contract clauses at this stage of your business, think again. As your business grows so will your IP. However, your original employees (those that can cause the most damage) will continue to be employed under their original employment agreements. Plan for the future and make that investment now.
Don’t invest in cheap contract clauses

So, if you want to avoid the shock, rage and then regret when an employee steals your intellectual property, invest some or all of these well drafted contract clauses:

• Non competition clause
• Confidentiality clause
• Protection of Intellectual Property Clause
• Non solicitation clause
• Restraint of trade clause
• Carry out an audit of your agreements now to see whether you are properly protected.

Do want me to audit your agreement for you? This is a free service called the IEA Diagnostic – get your employment agreement checked over and receive an overall rating allowing you to judge for yourself whether you need to make changes.

First, have a system

The purpose of this system is twofold. First, by having a pre-determined system you actually remember to chase your debtors. By automating the process you can save yourself time as well. Second, it is to educate your customers to pay on time. If they know that they will be chased on given dates they are much more likely to pay on time.

What if they still don’t pay? Self help options

Most customers are honest (we hope) but of course you will get the odd one or two that will play your system. In other words, they will leave it to the very last reminder to pay and even then may not do so. That’s when you need to create an extra incentive. Charging interest on a given date is a good way to do this: Just make sure your terms and conditions allow for it.

If you have supplied a product to your customer then there may the possibility to retake possession of it. However, your ability to do this will be dictated by your terms and conditions of business. Make sure they are properly drafted by a lawyer. If that it is not an option for you, another option may be to suspend the future supply of services or products. This will have the desired effect if your customer needs your product and services to do business but not otherwise. They may just find another supplier, leaving you to take a more ‘legal’ route.

What about legal action?

If you have exhausted your self help remedies and still haven’t received payment, then the next step is to consider legal action. The place to start is with a lawyer’s letter and often this will be enough to do the trick. However, some customers may perceive a lawyer’s letter as an empty threat so you need to have a back up plan.

So, the next step is to serve a statutory demand. This assumes that the debt is over $1,000. A statutory demand is a precursor to insolvency proceedings. In other words, if the customer doesn’t pay on service of a statutory demand you have the ability to start legal action to wind up the company or make the person bankrupt.

You need to think carefully whether this is the route you want to take. Legal action of this sort will cost money and if there is a limited chance of recovering your debt because the customer has no money, you may be better off letting things lie.

The customer disputes the debt

If the customer disputes the debt, the statutory demand procedure is not available. This means to recover the debt you must first show that the debt is owed. If the sum claimed is less than $7,500 then the Disputes Tribunal is the place to go. If it is over $7,500 then you must file a claim in the District Court. No lawyers are allowed in the Disputes Tribunal which makes the process much cheaper. It is also less formal.

If your claim ends up in the District Court it becomes more complicated and using a lawyer is advisable. It is possible to restrict your claim to $7,500 and bring the claim in the Disputes Tribunal to avoid the cost of the District Court, and this is often advisable to get the benefits of the more informal procedure. However you can’t bring a claim in the District Court if there is no dispute over the debt – instead use the statutory demand procedure.

Alternatives to legal action

There will be many businesses that would prefer to stay away from getting involved in legal proceedings for fear of the cost and time expended. An alternative option is to register the debt with an organisation like Baycorp. This has the effect of putting a black mark against the customer’s credit rating and may hinder them from obtaining future finance. However, Baycorp will remove such registrations if the customer is able to show that the debt is disputed. So registering the debt may not take you much further.

Should you use a debt collection agency?

Then there are debt collection agencies. They may use a variety of means to recover your debt and are likely to simply employ one or more of the methods detailed in this article. If you use a debt collection agency make sure you understand their basis of charging before instructing them. Most agencies will charge a percentage of the amount recovered and there may also be a base fee on top. They may even charge a fee if they don’t recover your debt or the debtor pays voluntarily. Therefore, you should assess the viability of a debt collection agency before signing any terms of engagement.

Are factoring companies a viable option?

A way to avoid having to collect any money at all is to factor your invoices to a factoring company. What happens here is that the factoring company will take an assignment of your invoices for less than their face value. In other words, they pay you straight away and they have the responsibility of collecting the money. They make their money from the difference between what they are able to recover and the value of the invoice.

To make factoring a success you need to make sure you have sufficient margin in your invoices to cover the factoring costs. The obvious advantage is that you get your money straight away, but you don’t get the full amount. So before you engage a factoring company check their terms and conditions fully, firstly to make sure there are no hidden changes and secondly, to make sure you don’t have to refund any money if they are unable to collect.

Is collecting the debt viable in the first place?

There will be some situations where collecting the debt may not be a viable option given the cost and time involved for your business. No one likes writing off bad debts but sometimes it is the most cost efficient thing to do: making money is sometimes more profitable than saving money. And as for that bad debtor, they do play the system, but take some comfort in the law of nature which says “what comes around goes around”.

Know your documents

Before signing any document, you must understand what you are signing. Do not rely on the word of a Real Estate agent who may tell you that “its standard and everyone signs”.

If you are going into business premises there are two types of documents which you could be asked to sign: a lease and an agreement to lease. A lease is a contract between you and your landlord which sets out all the terms you have agreed relating to how that lease will operate. An agreement to lease on the other hand, is simply an agreement that you will enter into a full lease agreement at a later date. Since it is not a full lease, the agreement to lease does not contain all the terms you will later be agreeing to. By signing an agreement to lease document you may be committing yourself to signing a lease which works against you and in favour of the landlord. Therefore, it is important to get any agreement to lease document checked by a lawyer before you sign. If you don’t, then it may make it extremely difficult for you to extract yourself from onerous lease terms later on.

What onerous terms should you look out for?

There are a number of clauses in a typical or standard lease agreement which you should watch out for and negotiate. The first issue you should consider in the length or term of the lease. Don’t be persuaded into entering a long term such as six years without the ability to get out of the lease early if you need to. In the current economic climate you need the flexibility to bail out in case business goes bad. If you have committed to a long term then you remain liable for the rent whether you are in occupancy or not.

If you set up a separate company to take the lease, you may not think that will avoid the risk but it is likely your landlord will ask for a Director’s or Shareholder’s guarantee. This makes you, the business owner, personally liable if the company doesn’t pay. The same could apply if you assign the lease to another business and it doesn’t pay.

An assignment may not solve your problems either

When you “assign” a lease, you sell it to another party so that they become the tenant for the remainder of the lease term. You would think that this would absolve you of a liability to pay rent, but not necessarily. Many lease agreements provide that the original tenant (and guarantor) remain liable for the rent regardless of any assignment to a third party. Therefore, if the third party defaults on the rent, the landlord may come after you. Clearly this is undesirable so you need to negotiate these clauses to absolve you of any liability. If you don’t, you will not only end up liable for the rent which you originally agreed but also any rent increases that occur during the term… which brings me to my next point.

Will any rent increases be fair?

Beware of what are commonly called “rent ratchet clauses”. These are clauses which automatically increase the rent at given review points regardless of what the market is doing. Such clauses could mean that you end up paying greater than market rent which is very undesirable. Rent reviews in themselves are normal but they should be based upon market rent and not on some arbitrary figure. Therefore, pay close scrutiny to how these clauses are drafted.

Of course, the obligation to pay rent will just be one of many tenant obligations contained in the lease and care should be given to ensure that the remaining obligations are also not too onerous. For example, the obligation to maintain the premises will fall upon the tenant but you must ensure that they are not too wide. Also make sure that you have budgeted for other costs such as rates, insurance premiums, rubbish collection etc. One cost which sometimes catches tenants out is the obligation to pay the landlord’s solicitors’ costs for preparing the lease. Make sure you find out what these costs are (and negotiate them down) before you proceed.

Always Proceed with caution

Needless to say, lease agreements require careful reading before you sign on the dotted line. Few business owners will be qualified to do this without expert advice which is where your solicitor should come in. Always run these documents past your lawyer first and never rely on the advice of a real estate agent, otherwise your business could end up with a weight around its neck which in turn could spell financial disaster for you and your business.

His answer was in the Consumer Guarantees Act

So when a stereo didn’t work, Martin had a responsibility to remedy the problem. The question was, how? Was a refund always the best solution?

When a refund should be avoided

The problem with refunds is that you risk losing the sale altogether and the customer goes away with a poor impression of your products. A far better solution is to fix the problem or provide the customer with a replacement product. However, your ability to do this is limited by the CGA which says that you can only do this where the defect is capable of being remedied or is not substantial. Where that is not the case, the customer can claim his money back providing he tells you straight away about the problem and doesn’t damage the goods before sending them back to you.

What if the goods are damaged by the customer trying to fix them?

If the customer tries to fix the defect, then that implies that the goods are capable of being remedied. But, until recently there was some confusion as to whether the customer could get the goods fixed himself (and claim the costs back). A recent case has clarified that position, and helps businesses like Martin’s. Essentially, it says that if defective goods are capable of being fixed, the customer must give the supplier the chance to fix them first before either getting the goods fixed himself or, claiming a refund. It is only if the supplier refuses to fix the goods (or doesn’t do so within a reasonable time) that the customer can get them fixed himself and claim the cost back. Sounds like common sense.

Common sense prevails

This case is a common sense solution to an age old problem. Suppliers are in a much better position to get their products fixed at the most economical cost. They have the skills to do so, or know the people who can and also may benefit from advantageous supplier agreements. Consumers on the other hand often are not so equipped and could end up incurring expensive repair costs and more importantly causing more damage to the product than existed in the first place.

How do you know if something can be repaired or not?

One of the problems with the CGA is establishing whether a defect is capable of remedy or is substantial, or whether it is not. The problem for the retailer is that you won’t know until you inspect the product and the defect. That’s why you should always insist on the return of the product before agreeing to provide a refund. Once the product is in your possession you can decide whether the product is capable of remedy or not. If it is, then you can repair it. If it is not, then you can persuade your customer to accept a replacement item. That way you are in control of the process and not the customer. Hopefully you will end up keeping the sale.

On the other hand, for those customers who can’t resist picking up the screwdriver and prodding around, you need to send a firm message that you won’t accommodate that type of action. A sign at the point of sale would be useful to emphasise that customers shouldn’t attempt repairs.

Martin’s stereo was damaged beyond repair

The reason Martin’s stereo couldn’t be fixed was because his customer had tried to bodge a repair and caused irreparable damage in the process. That meant that Martin wasn’t obliged to provide a refund or reimburse the customer for the cost of repair. Since the stereo was being paid for in installments, Martin was fully within his rights to claim the balance of the purchase price even though the consumer didn’t have a workable stereo.

So, if a customer insists on a refund, always ask for the original goods back first before agreeing to provide a refund. If there is evidence that the customer has tampered around with the product don’t give a refund or any other remedy. If it is in one piece, see if you can persuade the customer to accept a replacement instead of a refund. This gives you a second opportunity to make the sale.

We all know that without water we die. But without a regular supply of water we can’t function properly. Brain function deteriorates, energy levels dip, you become more prone to viruses and disease, and overall you become very sluggish.

It’s the same in business

Without cash, your business becomes sluggish. Instead of thinking about how to grow your business, you are worried about paying the bills. You are distracted. You can’t think properly. Your business suffers. These are the indirect costs but there is also a direct cost to your business.

How poor cash-flow costs you financially

The direct costs occur in two ways. First, if money is going out but not coming in, either you are paying interest or you are losing interest. Secondly, you have no money to reinvest in your business: so your business is stagnant. You can’t make any money without borrowing further, which is an additional cost. That’s why as soon as you have a negative cash-flow you need to take immediate steps to reverse the flow. Faced with that situation, most business owners simply chase the money that’s owed. Sure that’s really important, but stopping the cash-flow out of your business is equally as important.

How to get free credit

The first step is to get all the invoices that need paying and work out the last possible date they must be paid by in accordance with the supplier’s terms. Do not pay any invoice until it is due. This may sound obvious, but it is surprising how many people pay all of their invoices on a certain day, even if some are not actually due. By leaving your invoices to the last possible day for payment, you are effectively getting an interest free loan from your supplier. Use it wisely to prop up your own cash-flow. However, that alone may not work.

The biggest mistake made by business owners

If you still need credit, the next step is to negotiate extended credit terms with your suppliers. This means you actually have to ring and ask. However, most business owners fail to do this basic step. Instead, business owners allow the payment date to pass and wait to be chased by the supplier. Only then do they negotiate extended credit terms. This is a fatal mistake because if the supplier has had to chase you, it will be less sympathetic to your cause.

Why you are likely to get what you want

Suppliers understand cash-flow problems. After all, they are business owners just like you. If you ring up before the date for payment and ask for extended credit terms, there is a pretty good chance they will give them to you. In fact, most suppliers would find this very refreshing, because it means they won’t have to waste their time chasing you. Also, your suppliers would much rather give credit terms than risk not getting paid at all.

So, make this courtesy a regular practice in your business, and you make it more likely that you will negotiate similar and larger extensions in the future when you really need them. Miss a payment without alerting your supplier and your chances of negotiating future credit terms start to decrease. Do it too often and your credit will be taken away completely. That could be the nail in the coffin for your business.

What to do when you leave the post office

So, when you leave the Post Office clutching your invoices, immediately sit down and work out a strategy for how you will pay them. Don’t pay any until the final date and then take the largest and make a diary note two days prior to the payment date to call your supplier. Finally, get on the phone to your customer and get that money in.

Moses never argued with God

“The Lord said to Moses, ‘come up to me on the mountain and wait there; and I will give you the tables of stone, with the law and commandment, which I have written for their instruction’, and he gave to Moses, when he made an end of speaking with him on Mount Sinai, the two tables of his testimony, tables in stone, written with the finger of God. And Moses turned, and went down the mountain with the two tables of the testimony in his hands, tables that were written on both sides; on the one side and the other were they written” (Exodus, chapters 24, 31 and 32).

So what has that passage got to do with cashflow? The answer is that God understood the psychology of written terms.

The Psychology of Written Terms

Now God wasn’t seeking payment from his customers in a monetary sense. What he was seeking was far more important and valuable – mankind’s loyalty to the 10 Commandments. So what did he do? He wrote them down on tables of stone and on both sides! By writing down the 10 Commandments in stone he gave them a sense of permanency and urgency.

Now nowhere in the 10 Commandments story does it say that Moses negotiated with God. He didn’t get instructions from mankind and bargain (in good faith) an exception to the adultery commandment. No, he just accepted them.

Customers accept payment terms when they are written down

Think back to the last time you went into a restaurant. Next to each dish is its price. When was the last time you negotiated with the waiter a discount? Compare that to going to a market overseas where there are no prices on anything. You ask the price and are told. Do you think you would be tempted to haggle? Most would.

It is the same in a service business

If you operate a service business that provides an invoice to the customer after the work is carried out, then it is likely you will have experienced problems with some customers over payment. One reason is probably because you didn’t hand your customers your written payment terms before you did the work. If you can produce written payment terms to your customer at that stage of the transaction it is so much easier to get the customer to agree to them. That’s what the psychology of written terms says. Immediately, you take away the compulsion to negotiate when they receive the bill. That’s assuming, that you have written terms of business.

There is no excuse for not having written terms

Every business should have written terms. They form the foundation of your relationship with your customers. And your customers are the life blood of your business. Your terms of business will be specific to your business and should be tailored like a suit. Not having any at all, is like walking around the business world butt naked. Get a tailored suit and it will last for the eternity of your business.

God’s terms will last for eternity and so should yours

The 10 Commandments will last for eternity and are etched on most people’s minds. Your job as a business owner is to make sure your payment terms are etched on your customer’s minds. The best way to do that is to write them down, and hand them to the customer before you start the work – just as God did to Moses.

There is a legal test for solvency of a company, namely:

1. The company is able to pay its debts as they fall due in the normal course of its business; and
2. The company’s assets are greater than its liabilities (including contingent liabilities).

So if your company fails either one of these tests, then technically it is insolvent.

Does insolvency always lead to personal liability?

Not every company will be solvent on every given day of the year and during any given period companies will swing from being insolvent to solvent. So, if your company is insolvent on any particular day it doesn’t mean that you will be personally liable as a director for any debts incurred on that day, in the past or in the future. That would ignore the practicalities of running a modern day business.

However, when times are tough (as they presently are) it should put you on your guard to ensure that there is an immediate prospect that your company will return to solvency. If you don’t, you could be liable for reckless trading.

What is reckless trading?

The law says that directors can be personally liable where they allow their business to trade in circumstances which could create a substantial risk of serious loss to its creditors (otherwise known as reckless trading) or if directors enter into obligations which the director believes the company will not be able to perform.

When a company becomes insolvent there is a potential risk to creditors that they will not get paid. However, there always remains the possibility that the company can salvage the situation and trade out of its problems. The law recognises that, so personal liability will not attach to a director where steps are being taken to trade out of the situation. However, a company can’t be in a position of trading out of insolvency forever, and at some stage the directors must bite the bullet and put the company into liquidation. If they fail to do so, then the directors risk reckless trading.

How long can you trade out?

Generally, a company can trade insolvent for several months before personal liability could attach to the directors. However, that assumes that the directors are taking proactive steps to manage the situation and reduce the risk to creditors. So what steps can a director take to trade out of a company’s problems?

How to trade out

Essentially, there are two things a director can do: get more money in or reduce the amount of money going out. In terms of the latter, the challenge is to reduce overheads. Generally, the biggest overhead in any business will be the wage bill, so redundancies could be one strategy adopted for reducing the monthly outgoings. To get more money in, the first port of call should be to collect any outstanding debts. If debtors have been allowed to get out of control, factoring your aged debts or putting them into the hands of a debt collection agency should be a priority. An alternative option could be to arrange loan finance, but that will probably require either putting up some form of security or demonstrating future cashflow. An injection of capital by the shareholders would achieve the same result, although that in turn may require the shareholders obtaining personal finance.

An alternative approach is to generate more sales. This will favour the mindset of the entrepreneur. However, generating additional sales will often involve investing in additional cost e.g. marketing, advertising etc. This is where the entrepreneur needs to be very careful to ensure she stays the right side of the reckless trading line. An objective assessment of the risk will need to be undertaken to ensure that not only is there a good return on the initial investment, but the sales cycle is short enough to fund that investment without the company getting into further trouble. Alternatively, there must be shareholder funds available to meet the initial investment until a positive cashflow situation emerges. Any director contemplating this method of trading out of financial difficulties should also consider adopting one of the other strategies mentioned above to avoid an allegation of reckless trading e.g. redundancies, debt collection etc.

When risk must stop short of recklessness

Most successful business owners will say that their success was founded upon taking risk. However, there is a very thin dividing line between taking risk and being reckless, as some directors have found out to their cost. So, if your company is technically insolvent right now, the best advice I can give is to speak to your accountant who can prepare cashflow forecasts and advise you whether your entrepreneurial spirit could get you into further trouble or save your company from liquidation.

How Laura ended up in this mess

Laura and Sarah were advised against a legal partnership
Laura and Sarah took legal advice at the outset and were advised to set up a limited liability company rather than have a partnership arrangement. Each were to be Directors and equal shareholders.. The company was set up and started trading. At that stage everything looked rosy and both were looking forward to creating a sustainable business that would work for both of them.

Two years later Laura noticed that things weren’t right
After 2 years the company started to show some profit but Laura and Sarah were starting to have differing ideas of how to grow the business where once they were in complete unison. Laura started to notice a difference in Sarah as she appeared to become more detached from the business and her. She began to have suspicions.

Her suspicions were confirmed
Laura’s suspicions were confirmed when she received a letter from Sarah resigning as Director of the company. Legally this meant that Sarah no longer had a duty to act in the best interests of the company and paved the way for her to set up in competition. However, she remained a 50% shareholder.

Sarah wanted Laura to buy her out
Sarah wanted Laura to buy her shares in the company. Laura was angry. Not only had she lost her business partner and her IP, but now she was being asked to pay for the privilege. It seemed that Sarah was holding all the cards. Laura either had to buy Sarah out at an agreed value (which meant going through a valuation process), force a liquidation of the company or set up a new company again. None of those options were particularly attractive.

This all could have been avoided
Laura could have avoided all this hassle and cost if she had invested in a shareholders agreement when she and Sarah had first set the company up and started trading. A shareholders agreement is a private agreement between the shareholders of a company which sets out the basis upon which they will collaborate to make the business a success.

Had Laura and Sarah had a shareholders agreement they could have included clauses which prevented either one of them going off and setting up in competition to the company. This is especially important where two shareholders are bringing separate IP to the company and collaborating on the development of new IP, including building a customer base.

The agreement could also have determined what would happen if one party resigned as Director and how that person’s shares were to be treated. For example, could such shares be sold to a third party and what would be the agreed method of valuation? Unfortunately, Laura had none of these safeguards in place.
But we will never fall out!

When most people set up a business they never anticipate falling out. If you did you wouldn’t go into business in the first place. However, we all know that people do sometimes fall out. This includes instances when the shareholders are long term friends or even family members. It is in these particular instances when a shareholders agreement can be of most effect since such disputes can turn very acrimonious.
So even if your business partner is a long term friend or a family member make sure you have a shareholders agreement in place at the outset.

Do you have a shareholders agreement that will protect you if you fall out with your business partners? If not then I can prepare one for you. Simply drop me an email (Michael@sportscounsel.com) or give me a call (09 358 2725).

The characters and events in this case study are fictional.