Who am I Dealing With? Due Diligence & Credit Checks

Who am I dealing with? Due Diligence & Credit Checks

As a supplier you should always check out the companies/people you are dealing with. The best way is to carry out a search at the UK Companies House – www.companieshouse.gov.uk. The Companies House WebCheck service offers a searchable Company Names and Address index free of charge for over 2 million companies

You can also run a check on individuals on the Register of Disqualified Directors on the Companies House website or you can carry out a search for individual bankruptcies at the Insolvency Register

You should also carry out a check on the financial soundness of your customers.

Why you should do a credit check on customers

Sometimes businesses cannot afford to take on work for customers that might renege on payment at a later date and therefore you should carry a check on your potential customer.

It is advisable to have a process in place.

Create a form and send it to potential customers to complete, authorising you to get bank, credit and trade references.

The form should include the following fields for the customer to fill in:

  • The full name of the customer’s business and whether it also trades under any other names.
  • Details of who owns – and who runs – the business.
  • The legal status of the business, e.g. sole trader, partnership, limited liability partnership, public limited company.
  • Registration number – if it’s a limited company.
  • How much credit is being asked for.
  • Full contact details of the person responsible for payment queries.
  • Delivery and invoice address if different.
  • Bank account details.
  • A request for consent to make bank reference checks.
  • A request for consent to get a credit check from a credit reference agency.
  • A request for consent to get at least two trade references – make sure that you, not your customer, choose which to approach in order to get an independent view.

 Making the necessary checks:

  • Contact the customer’s bank for a reference
  • Contact a credit reference agency
  • Contact some of their suppliers.

If you think that a customer may renege on payment

Stay constantly in touch with the customer so that you are aware of what is really going on with the business and payment to you for your goods or services.

Insist credit limits are maintained – your accounts team needs to be strict about this.

Use your leverage – if you supply an essential service or materials, then use the leverage this gives you.

In an extreme case do not be afraid to threaten winding-up for undisputed amounts to ensure you get paid. A threat of winding-up can improve your chances of payment dramatically, but do not use this tactic if there is any question or dispute about the amount due.

If the worst happens and insolvency practitioners take charge of a customer, do not deal with them or negotiate without understanding your position. Although administrators and liquidators have real power, you may still have a chance of mitigating your position if you understand the rules.

For example, administrators cannot:

Expect creditors to continue to supply goods or services without being paid for those new supplies;

Unilaterally alter the terms of long-term contracts if they wish to continue with them;

Unfairly prejudice the position of a particular creditor or group of creditors;

In general terms disregard set-off rights;

Disregard the rights of the suppliers who have valid reservation of title clauses (as considered in section 2) in their contracts.

Credit Insurance or Bonds

In our first section we mentioned retention of title clauses but further consideration needs to be given as to how you protect yourself when acting as a supplier.

Not only should you run your credit checks but you should also consider:

  • Reducing the period of credit allowed to the buyer, or the amount of credit, or both
  • Taking alternative forms of security, such as a bank guarantee or letter of credit
  • Obtaining credit insurance

Security is not always easy to arrange when you are dealing with a small business as you supplier – or customer – but it is certainly worth thinking about.  The types of security that might be requested are set out below.

Parent Company Guarantee.  If you are dealing with a company that is part of a larger group, you might want a parent company guarantee, whereby the parent undertakes with you to take on responsibility for the contract if your supplier, its subsidiary, defaults.  Commonly required in the construction industry, a pcg has its uses but if the subsidiary becomes insolvent it is always possible that the parent will fail as well, in which case the value of the guarantee could be somewhat illusory.Click on the link for  more information and a sample parent company guarantee

Payment Guarantee.  Designed to protect the supplier, this is a unilateral undertaking from a third party to pay the supplier amounts due to him under the contract if the customer fails to do so.  If you are a supplier dealing with an individual client, a payment guarantee might sometimes be appropriate –e.g. if you are refurbishing a house for a 21 year old whose father is giving her the money for the property, you may want him to guarantee payment of your invoices if he is not entering into the contract with you. Click on the link  for more information and a sample payment guarantee

Performance Bond.  Designed to protect the client or customer, this is an undertaking from a bank or insurance company to pay the client a certain amount – usually 10-20% of the contract price – if the supplier fails to perform the services or becomes insolvent before the work is completed.   These bonds are common in the construction industry. Some are in an ‘on demand’ form – i.e. the bank has to pay immediately it is requested; others are ‘conditional’ and only have to be paid when the client’s loss due to the supplier’s failure has been established. Click on the link for more information and a sample performance bond.

Advance Payment Guarantee.  A client who is asked to pay a substantial amount of the price up front,, say 25%, usually to enable the supplier to procure materials or equipment, sometimes requires an advance payment guarantee, and this would be issued by the supplier’s bank.  As the project progresses, the advance payment is normally recovered out of stage payments under the contract so the value of the guarantee is reduced to nil.

Our next piece will be on debt recovery.