These are turbulent times, says James C. Bastian, Jr., a partner in the law firm of Shulman Hodges & Bastian LLP. “Bankruptcy is back in a big way.”
According to a report in the Los Angeles Times, more than 90,000 bankruptcy filings were made in March of this year, the highest since insolvency laws became more restrictive in October 2005. Filings in March were 30 percent above those of March 2007. And California led the nation with a 42 percent increase in bankruptcy filings at an annual pace in the first quarter.
The sad fact is that one or more of your customers may be in financial trouble at this very moment. Financial trouble that could result in a bankruptcy filing, affecting your own company’s near-term cash flow.
“Evaluate the situation,” Bastian says. “If you feel you’re getting the runaround, and if you’re hearing things you never heard before and if you’re dealing with an industry that is risk-laden, you can no longer assume that your customer can pay you. At the first sign of trouble, you need to be aggressive. Even the companies with the best intentions will string you along and put you in a worse position.”
Smart Business talked to Bastian about the steps you can take to avoid getting burned by deadbeat customers.
What are the first signs that a customer may be in the initial stages of filing for bankruptcy?
Industries like automotive, food service, restaurants, real estate and certain segments of the retail market are struggling. So are any industries that are more sensitive to the recent dramatic changes in fuel costs.
If your business is related to an industry that is generally in trouble or on the edge, you need to be more aware of possible bankruptcies than you have ever been, monitor your receivables and not deviate from your normal collection schedule.
When a good, long-time customer pays late or doesn’t pay at all, should you assume the worst?
There is always that balance between wanting to accommodate your customers and clients versus not getting extended to the point where your company’s economic health is being affected.
For a long-time customer, you might extend payment terms , but you still must maintain a normal collection schedule. In this economic climate, you cannot take for granted that customers will be able to keep payments current. You have to assume that there is always a possibility greater now than ever that the company you are dealing with will end up in bankruptcy.
You also cannot let any personal relationships with customers interfere with smart business decisions and some companies struggle with that.
When are you at risk to have to return payments made from a company that ends up in bankruptcy?
When a company files bankruptcy, any payments you have received within the 90 days before the bankruptcy can possibly be recaptured by either the trustee or the company in bankruptcy through a preference avoidance action. Bankruptcy law allows creditors to be sued to bring that money back under many circumstances and spread it evenly among all the claimants. There are some things you can do that may give you a defense, including reaching a written agreement for new payment terms or language in your initial agreement that allows you to change payment terms.
It can even pay to sue a customer whose payments have fallen behind. If you obtain a judgment lien and it’s in place for more than 90 days before the bankruptcy filing, you can jump ahead of other creditors and possibly be first in line for any distribution.
If bankruptcy seems inevitable, you may be better off pursuing collection and getting a judgment to put yourself in a better position. Even if you get a judgment, you need to be flexible enough to accept less than that full amount because that may be all you get. Recovery for unsecured creditors may be very, very minimal, so it may be far better to get 30 or 40 cents on the dollar than pursue litigation and obtain a worthless judgment.
What happens after a customer files for bankruptcy?
Creditors receive notice of the bankruptcy filing in the mail. When that happens, you need to gather all invoices, file a simple one-page proof of claim with the bankruptcy court and attach your documentation. That puts the court, other creditors and the company on notice that you have a claim.
Then you must closely monitor the bankruptcy case. You do not necessarily need to hire an attorney in every case because you can incur a lot of fees. If the bankruptcy distribution amounts to practically nothing, you don’t want to throw good money after bad.
Creditors in bankruptcy receive notices with language possibly veiled in legalese that will affect your legal rights. If you consult a lawyer, he or she might see something that needs attention and deal with it as necessary. But good lawyers will only charge for acting on your behalf on issues that really affect you and should not nickel and dime you on every piece of paper that comes across their desk.
JAMES C. BASTIAN, JR. is a partner in Shulman Hodges & Bastian LLP. Reach him at firstname.lastname@example.org or (949) 340-3400.