Let me tell you a story you may have heard before:
Your business overdraft is secured by your home. You also have a housing loan with the same bank of course – there isn’t any other way to do both. Your credit cards are there, including your business credit card. You have a lease or chattel mortgage with their Asset Finance division and for good measure you even sorted out your insurance with the same bank. Thank goodness it was all so easy.
But then, your revenues start to fall. Expenses don’t. You can’t afford to lay off your staff, they are making both the sales and the producing product. It’s as lean as it can be, and it seems to be getting better.
In the meantime, your clients are extending their payments from the usual 45 day payments out past 60 days. You soaked up all the equity in your house just to keep going and according to the valuers, real estate agents and banks, prices are not getting any better.
In order to make wages this week, you miss the house payment. Well, at least the employees are getting paid. Then the credit card and then the lease payment. Making all the payments puts you over your overdraft limit. Your business banker is far too busy to talk to you and besides, this one has been in the job only two months and apparently they are leaving next month on study leave, or something like that. Your payments start to bounce from the overdraft and now three departments are calling you. Next month the banker takes enough notice of your account to ensure that he or she puts all the bank house and car payments through and have them paid. In the meantime, they bounce your supplier payments and your rent. They then send you a reminder notice to ask that you ensure your overdraft is kept in order and if you go into default, they charge you an extra 4%.
Eventually, they tell you to sell your house.
They keep making their own payments from your overdraft to ensure all their facilities are in order and you will have to sort the rest out yourself. Of course this behaviour pattern results in them requesting financial statements whereupon you are told that you are not meeting your financial covenants and you need to pay the facility out. If you don’t, they will sell the house to do it themselves. They control all the cash in and all the cash out and you practically have to beg them to draw down any money for food.
You like them apples?
Small business owners can often have many fears that range from not achieving sales and revenues, getting orders wrong and costs increasing to employees leaving at critical times. Amongst these is the ever-present thought that should the business encounter rough waters, their current financier will take some type of pre-emptive action that not only shuts down their business, but also causes the loss of personal assets they have worked hard to build.
How can business owners protect against this situation? Well, unfortunately if the writing’s on the wall, then eventually you can’t. You can however take steps along the way to mitigate the risk of it happening to you, or at least delaying actions until you get a chance to take action yourself.
First of all, let’s break down a long and drawn out business life cycle to three basic phases. You can fill in the gaps for the rest and apply your own situations.
- Phase One: Start Up / Early Building
- Phase Two: Maturing / Growth
- Phase Three: Stability / Acquisitive
Also, let’s take stock of the three other parts to this equation:
- Personal Assets – houses, cars, savings etc.
- Business Fixed Assets – Vehicles and Equipment and Machines , Buildings
- Business Operating Capital – Cash, Debtors, Stock
In each of these phases you can take a look at your situation and re-design your current arrangements to protect yourself. The key will be ensuring you are up to date with the available facilities in the finance arena to help this along.
In Phase One, it’s likely that your bank will want your house as collateral for its loans to you. If your goal is to never provide your home as collateral, then you need to consider every other type of finance available to help you grow your business and improve cash-flow. Options such as Debtor Finance, Chattel Mortgage, Contract Funding, unsecured overdrafts, credit cards etc. should all be utilised to replace the traditional Overdraft facility that is often tied to personal assets.
Also, from a practical stand-point, you should place your personal banking with one financial institution and your business banking with another. I know this appears painful, but with internet banking available to just about everyone, it can’t be that complicated to arrange. If possible you should also have all personal debts, such as housing loans, credit cards etc. with the personal bank and not with your business bank.
The only reason you should place your personal assets with the same bank as your business is for maximum leverage. That is, you can more efficiently and effectively leverage your personal assets with this bank to help you achieve Phase Two much more quickly.
I know they tell you it’s easier to get a home loan via your business banker etc, but actually many of them go through the same processes as you would with a different bank. In fact many simply have their Residential Channel as it’s called, and your business banker applies for the home loan via that division. They use the same credit scoring techniques and servicing calculators as all the other banks – it just seems simpler. It’s also much more profitable for your business banker to have all your business.
By keeping your personal affairs separate, your business bank cannot ‘peek’ inside your personal situation and see where you are placed in terms of current payments etc. Nor can they unilaterally decide to freeze your personal accounts as a result of something that has happened with your business.
Phase Two: If your business is growing and you are creating profits, you might consider buying your own premises. You might also like to leverage your profitability into increased bank facilities for further expansion.
Your accountants will no doubt have shown you how to protect your assets from a litigation and taxation point of view, however there is very little that can protect you from a bankers grip. All the companies and trust structures in the world won’t save you if you get this wrong. You need to have already investigated holding significant assets in a spouses name or another trust etc. Once you have provided a Director or Personal Guarantee than all your assets are up for grabs – yes even the ones they don’t have a mortgage over.
So, if you haven’t already done so, ensure that your asset purchases are not in your personal name.
Keep your business and personal banking as separate as possible. Buy the building in a new entity as well – this might even be your Superannuation Fund is your accountants think it’s the best strategy.
Again, review the facilities that are in the market-place that will allow you to expand without providing security. These will be more expensive (but not always) and this is the price you pay for not having one financier that is in control of all of your accounts and loans.
Phase Three: If you haven’t completely separated your affairs by now you might well be in a lot of trouble should something go wrong in your business for a short period of time. Your best option is to start shifting facilities around as transferring of assets will cost you dearly. If you are making reasonable profits you probably won’t feel the need. That doesn’t mean it won’t happen to you by the way, you just think it won’t right now.
I know it might seem difficult. I know it might seem like it’s confusing. I know it will be a lot less painful than having your assets sold out from underneath you by one of the asset restructuring or asset management team in a bank. The point here is that you control your cash in these situations. If your payments are late etc. then at least you can choose what payments will be made now and in the future. This is not irresponsible, it’s giving you some control. Yes you should talk to your bankers if you are in trouble, I’m just suggesting that when you do, don’t give them all the cards in the game that’s all.