As a business owner or adviser, you know when the business is in trouble. Stress levels rise and sleep is harder to come by. Sales might start to slow and the bills begin to mount. Then your bank starts to ask some probing questions.
Banks are highly active in managing their risk exposure. If your business performance or prospects deteriorate, and these factors persist, your business could end up in the bank’s bad books.
This deterioration can happen slowly and might be underestimated by the business owner. But a bank won’t miss anything as their systems record and flag every incident. If these incidents accumulate and your business comes under the bank’s spotlight, you could be subject to costly operational reviews and the risk that your bank could withdraw funding altogether.
There may be a road back, but it is costly and potentially stressful. Instead, at the first sign of distress, you should undertake your own comprehensive business review, including examining your mix of lenders. By intervening early, you can avoid a bank review process, save your business money and create a more robust operation.
Is your business considered high risk?
Banks are constantly assessing the risk levels of their clients. They are on the lookout for factors such as businesses recording ongoing losses, regularly missing payments or reporting requirements, and incurring tax debts. In addition, if a business is deemed to operate in a relatively risky industry, such as mining services or solar energy, your bank may rate it a higher risk.
In response to changes in your business’s performance or behaviour, your bank might ask for more detailed financial information (including up-to-date accounts and cash flow statements), seek additional security or increase pricing. While some owners may see this as interference, banks are simply managing risk levels.
But even if your bank is taking a keen interest in your business, you’re not necessarily in the bad books – yet.
What happens if I enter the bank’s bad books?
If the issues listed above persist, your bank could take further action. Specifically, it could transfer the management of your account from the front office (the domain of low-risk businesses) to the back office (the home to riskier businesses). Now you’ve entered the bank’s bad books.
First, your relationship manager will change. Typically, the bankers looking after high-risk businesses give a lot less leeway on issues and offer little room for negotiation. Second, when a business enters the back office, the bank will conduct its own review to determine the true risk position of the business. At this point, the bank will appoint an external accounting or legal practice to thoroughly examine your business – at your expense.
This external review can present a number of challenges for business owners, including:
- working to short time frames;
- a lack of experience in dealing with small to medium-sized enterprises (SMEs);
- relatively expensive services (which the business owner, and not the bank, is liable for);
- operating under a scope provided by the bank; and
- a perceived lack of independence.
As a result of this review, your file can be classified as an “exit”, where the bank will look to end your finance arrangements and recoup its debts. In the case of an exit, the bank can give notice to your business that it must repay its debts, either through refinancing or selling assets. If it is a secured creditor, the bank can also step in and force the sale of assets to collect its funds. Such situations can lead to the business entering into receivership
What can I do to avoid a bank review?
Ideally, businesses should do everything in their power to avoid entering the bank review process. At the earliest sign of distress, it’s time to act. Such signs could include:
- late lodgement of business activity statements;
- missed statutory payments, such as superannuation;
- inability to prepare and present financial reports on time; and
- shortfalls in cash flow.
In response to such signs, the business owner and their advisers should undertake a comprehensive business review. The goal of this process is to either improve your current banking relationship (by enhancing your business’s processes and structures), or seek more suitable financing arrangements.
To help drive a successful business review, you and your advisers will collectively need the following attributes:
- in-depth business knowledge;
- lending and securitisation expertise;
- detailed understanding of the lending marketplace;
- insolvency experience; and
- a strong track record in working with SMEs and family businesses.
The review should examine all the financing arrangements held by your business, which may involve several banks and other financiers. You should analyse the position of these arrangements and how they affect risk levels for business owners and guarantors. In addition, you should look at ways to improve your current banking relationship, including through restructuring your operations and financing arrangements, and by addressing any cash flow challenges.
This review process should also be used to assess your mix of lenders. In some cases, businesses can benefit from seeking refinancing options outside of the big four banks, where other institutions can offer more flexible and tailored solutions.
