The latest ASIC figures on company failures show a progressive ten year increase in the number of reported insolvencies. Over the 2014/15 year 20,018 companies in Australia were declared insolvent. While this was down from the 2013/14 figure of 22,600, reported insolvencies in the Northern Territory actually increased 52% from 57 to 87. Lots of people are saying that poor economic conditions are damaging their business but this is not the whole story.
For the past four years the top four causes of company failure reported to ASIC by insolvency practitioners were:
Inadequate cashflow
Poor strategic management
Trading losses
Poor financial control, including lack of records
These are all things that can be actively managed and controlled by a business as can eight of the other nine causes of failure classified by ASIC. The one identified cause of failure that is beyond the control of management is poor economic conditions but, according to ASIC, that only contributes to 10% of all failures (and in the Northern Territory contributed to only 5%). If you think that poor economic conditions are threatening the viability of your business, take a moment and think what these statistics could mean.
I think they mean that many businesses fail because owners and managers don’t take time to invest adequately in good management practices. They don’t manage their cashflow, they are directionless or don’t have a clear strategy, they don’t manage their profitability and they neglect basic financial reporting. This means that when economic conditions do weaken, it will be those businesses that are most likely to suffer.
Using the categories reported by ASIC, here are some examples of how businesses can and do increase their risk of failure:
Inadequate cashflow:
Failing to invoice as soon as work is completed or failing to arrange for progress payments on longer/bigger jobs - and failure to manage working capital generally, including poor stock control
Entering into loan agreements without considering the impact that repayments will have on future cashflow
Failing to recognise seasonality in sales and not building sufficient cash reserves to cover the low season.
Investing in assets because they are “nice to have” rather than necessary or which could be hired much more cheaply on an occasional basis
Buying stuff with the primary intention to reduce a tax bill
Poor strategic management
Not having a plan or ignoring a plan and failing to implement it
Trying to be all things to all people and not focusing on what you are really good at
Not setting clear objectives and identifying and managing the risks of achieving them
Not communicating objectives and/or making people accountable
Ignoring the reality and facts of your own marketplace
Trading losses
Failure to understand the profitability of individual products or services
Inattention to changing profit margins
Poor management of overhead costs
Acceptance of process inefficiencies (“that’s the way we’ve always done it”)
Failure to fully utilise assets, including people
Insensitivity to changing customer demand
Poor financial control
This includes a raft of reasons mentioned above and a number of other specifically identified by ASIC. Neglecting your financial scorecard is invariably a recipe for disaster, especially if competition increases due to declining economic conditions. You should think carefully about the potential consequences to your business if you:
Do not understand basic financial reporting in particular your profit and loss statement, your balance sheet and basic cashflow indicators
Do not design management reports that provide you with more relevant information than a statutory accounts format
Do not regularly use the reports or information that are available to help inform management decisions
If you are worried about the current economic climate, go back to basics and focus on good management practice. If you pay attention to the things you can control, the likelihood of your business failing because of things you can’t control will be significantly less.
Get into the habit of managing things well and when the good times roll you could roll with them – all the way to the bank.
