Where a company trades with other companies, the latter may cause failure involuntarily: where, for example, they owe debts and fail to settle these before or after their own failures. The actions of a firm’s creditors or investors may also bring about a downfall. Mention has already been made of the effects that a bank’s withdrawal of an overdraft facility may have. Lenders may withdraw credit through lack of confidence in a firm’s management, or as a result of government action (a credit squeeze), or because of instability in the global financial system (a credit crunch), or for reasons internal to the creditor itself, such as a new policy of shifting from overdraft to fixed-term lending. Similarly, investors in a company may take precipitate action for a number of reasons. They may lose confidence in the firm’s business or its management and the shares may drop to a point that triggers a crisis of confidence in the company’s creditors who then start pressing their claims. This process may spiral and bring about a company’s collapse.88

Late payment of debts

Special mention should be made of the late payment issue. Many large firms use the process of delaying settling the invoices of small suppliers as a means of extracting credit from those suppliers.89 Indeed, the evidence suggests that the problem of late payment is predominantly one of larger debtor companies failing to pay smaller suppliers – with the worst payers being in the construction, manufacturing, pharmaceuticals and retail sectors.90 Late payments of this kind may present small firms with considerable cash flow problems91 and such firms tend to be both illequipped to absorb financial shocks and poorly positioned to chase large debtors.92 In 2007 three-quarters of respondents to a Forum of Private

88Pratten, Company Failure, p. 11.

89A 2004 survey by the Better Payment Practice Group suggested that more than one in ten companies were happy to pay their bills late: see J. Moules, ‘One in Ten Companies Happy to Pay Bills Late’, Financial Times, 13 October 2004.

90See DTI Consultation Paper, Improving the Payment Culture (DTI, July 1997) p. 11 and research by the Institute of Credit Management reported in D. Oakley, ‘Chart of Shame Lists Time Taken to Settle Bills’, Financial Times, 4 March 2008.

91Lloyds TSB figures released in 1998 suggested that delay in receiving payment was the single biggest worry for small businesses: Guardian, 27 October 1998. The Federation of Small Businesses suggested in 1997 that late payment accounted for 5,000 of the 40,000 small UK company failures of 1995 (Financial Times, 29 January 1997).

92SMEs in the UK have been said to spend in total over 11 million hours a week chasing unpaid invoices: see J. Moules, ‘Cheque in the Post Takes Up 11m Hours a Week’, Financial Times, 24 May 2005. An Institute of Directors survey of SME concerns found that late payment was the most frequently cited problem: see J. Eaglesham, ‘Labour’s “Fluffy Talk” on Business Problem’, Financial Times, 13 August 2007.

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Business survey cited late payment as a ‘considerable threat to my business’s viability’.93

In 1998 a statutory response to the problem of late payments came with the passing of the Late Payment of Commercial Debts (Interest) Act. This was added to by the Late Payment of Commercial Debts Regulations 2002 to make up a body of legislation that allows businesses and the public sector to claim interest (at reference rate plus 8 per cent)94 on payments more than thirty days late and owed by businesses, large or small, or other organisations.95 A right of pursuit in the courts is given to claimants, but the Act allows collection agents to be used or the sale of interest to a third party such as a factoring firm.

Such a statute was intended to assist in changing the commercial culture that endorses late payment as a means of obtaining credit from companies in weak bargaining positions,96 but has it worked?97 In 2004 a series of surveys suggested that the 1998 legislation had failed to curb the problem of late payments. In February 2004 Experian, the business information group, surveyed 30,000 firms and found that companies

93See Eaglesham, ‘Labour’s “Fluffy Talk” on Business Problem’.

94At the start of a six-month period the official dealing rate of the Bank of England (the base rate) will be made a fixed ‘reference rate’ for the subsequent six months. Thus for the period 1 July to 31 December 2008 the reference rate was 5.0% making the interest rate 13.0% (reference rate plus 8%).

95From 1 November 2000, small businesses have also been able to claim from other small businesses as well as from large businesses and the public sector. From 1 November 2002 all businesses and the public sector were entitled to claim on debts incurred after that date. See also the Council Directive on Late Payment of Commercial Debts (2000/35, 29 June 2000) published OJ 2000 No. L2000/35; G. McCormack, ‘Retention of Title and the EC Late Payment Directive’ [2001] 1 JCLS 501. On the 1998 Act see S. Baister, ‘Late Interest on Debts’ (1999) Insolvency Bulletin 5. Reasonable debt recovery costs have been claimable by all business owners and managers since 7 August 2002: Late Payment of Commercial Debt Regulations 2002. The compensation entitlement varies in accordance with the size of the debt: for unpaid debts of £10,000 and over the creditor pays £100.00; for unpaid debts of £1,000 to £9,999.99 the creditor pays £70.00 and for unpaid debts of up to £999.99 the creditor pays £40.00. The entitlement to compensation for debt recovery costs does not affect the claimant’s other rights and the claimant may still go to court to recover specific fees and charges paid to specialist firms or advisers if felt necessary: see Small Business Service, Users’ Guide to Late Payment (DTI, London, 2002).

96Under the revised legislation SMEs can ask a representative body to challenge grossly unfair contract terms used by their customers which do not provide a substantial remedy for late payment of commercial debts. A Code of Practice on payments was launched by BERR in December 2008.

97This section builds on V. Finch, ‘Late Payment of Debt: Re-thinking the Response’ (2005) 18 Insolvency Intelligence 38.

waited an average of fifty-eight days for settlement of invoices. This was half a day longer than in 1998, when the Late Payment of Commercial Debts (Interest) Act was passed. Payment delays in the UK averaged twenty-seven days beyond agreed payment terms, compared to ten days in France, seventeen in Germany and twenty-one in Italy. The payment record of larger companies had worsened markedly from 1998, with the average payment period increasing by six days to seventy-eight-and-a- half days. A month earlier, a survey by the Royal Bank of Scotland revealed that the cash flows of two-thirds of small businesses had been disrupted by late payment and two-fifths of these had taken legal action to recover money owed to them.98 Later research by MacIntyre Hudson in May 2004 was even more pessimistic about the impact of the 1998 Act. It reported that only 43 per cent of owner-managers were even aware of the 1998 legislation and only 3 per cent had actually used this against their debtors. A mere 2 per cent said that the Act had helped them to overcome the problem of bad debt. In 2007 there were further protests that the legislation and regulations had failed.99 A survey of 600 companies during that year suggested that, if anything, late payment had become a worse problem in the last ten years.100 An Intrum Justitia ranking of 2007 placed Britain as the fifth worst European country out of twenty-two for delays in commercial payments – with an average of over forty days to achieve payment in the UK compared to twenty-two in Norway.101 In early 2008 the average payment time for all plcs was fortyfour days and a series of interviewees told the Financial Times that the late payment problem had grown materially worse in the difficult trading conditions of 2007 onwards.102

Why has the Act been so muted in effect? A major reason is that many companies, especially small ones, have proved reluctant to be seen to be taking aggressive action against a powerful trading partner. As Eddie Morrison of Bank of Scotland Corporate Banking said: ‘Many

98See J. Guthrie, ‘Legislation Has Failed to Curb Late Payments’, Financial Times, 18 February 2004. In July 2004 Experian reported that the average payment period had risen again to fifty-nine-and-a-half days: see J. Moules, ‘Legislation Fails to Curb Late Payment Problems’, Financial Times, 28 July 2004.

99See J. Eaglesham, ‘Act Has Failed Say Credit Experts’, Financial Times, 13 August 2007.

100Ibid. See also A. Bounds, ‘Rise in Legal Action on Unpaid Bills’, Financial Times, 2 December 2008.

101In 2005 Intrum Justitia placed the UK seventh in Europe for promptness of payments: J. Moules, ‘Significant Fall in Late Payment Risk’, Financial Times, 23 June 2005.

102See Oakley, ‘Chart of Shame Lists Time Taken to Settle Bills’; ‘Stalling Tactics Help Companies Bolster Profits’, Financial Times, 4 March 2008.

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owner-managers would view levying a late payment charge on a client as commercial suicide.’103 A significant proportion of small businesses told MacIntyre Hudson that using the legislation ‘involved too much hassle’104 and many smaller businesses will fear the cost and disruption involved in formal enforcement action.

It might be argued that the Act could be made more effective by providing that statutory interest should be automatically applicable without going to court, that companies should be entitled to generous costs when they enforce105 or that the response to late payments could be reinforced by the institution of a new, cheap summary legal procedure for collecting late payments without the need to resort to using a lawyer. Such reforms may be desirable but they would not remove the fear of prejudicing business relationships that is the common inhibitor of enforcement.

What hope lies in other strategies? One possibility is a more effective information disclosure, or ‘naming and shaming’ strategy. Current arrangements here seem unnecessarily weak. All plcs and their large private subsidiaries have a statutory duty to disclose in their annual returns the average period they take to pay debts106 but such disclosures may be poor indicators of tardiness beyond creditors’, as opposed to debtors’, notions of agreed payment dates. (Some debtors, for instance, may see payments as being late from the time a reminder or final demand is sent. This contrasts with creditors who will look to agreed dates for payment.) It is, moreover, straying beyond agreed dates, as understood by creditors, that is so important to smaller firms since this is what creates crippling uncertainties regarding cash flows. Most companies, furthermore, do not comply with the rules and make the due disclosures in the annual accounts. The FSB has suggested that only around 30 per cent of plcs comply with the disclosure obligations107 and has called on Companies House to enforce such requirements more rigorously. Companies House, however, has been quoted as saying that: ‘It is up to the accounting bodies

103 See Financial Times, 21 January 2004. 104 See Financial Times, 31 May 2004.

105 Although the 2002 Regulations now allow all businesses to claim reasonable debt recovery costs there is an overall limit of £100 for each late payment, on a sliding scale. See p. 166 above.

106 See Companies Act 1985 (Directors’ Report) (Statement of Payment Practice) Regulations 1997 which amended CA 1985 s. 234 and Sch. 7, Part VI, requiring directors to report details of their payment practices to suppliers as well as the average time it takes them to pay their average debt.

107See J. Guthrie, ‘Small Businesses Take Swipe at Bad Payers’, Financial Times, 18 February 2004.

to enforce disclosure. It is nothing to do with us.’108 For its part, the then DTI, through its Better Payment Practice Group, reportedly brought pressure to bear on the accounting bodies and reminded auditors of the duty to disclose payment periods in their annual returns. More action on this front would be required not only to produce compliance with disclosure requirements but also to ensure that average settlement times are not distorted by debtor conceptions of due dates.109

Disclosure-based controls can also be brought into effect by nongovernmental bodies. The FSB, for instance, has been publishing a private-sector payment performance table since 1999.110 The compilers of the FSB league tables, however, have to rely on disclosures by late payers in annual returns to Companies House. Such disclosures are, as noted, patchy, though, and it is likely that the poorest payers will not rank amongst the most assiduous suppliers of this kind of information. A way forward would be for the FSB to co-ordinate a blacklist based not on debtor confessions with all the attendant dangers of distortion and nondisclosure, but on creditor-supplied information that is subjected to a verification process prior to publication. This could operate through recording of creditor complaints about debtor companies and assistance in funding such a regime might be provided by BERR.

An alternative approach would be to rely on factoring. In such a system, the creditor would sell the debt to an intermediary factoring firm that would offer an immediate cash advance on the value of the outstanding invoice.111 The factoring firm would then take advantage of the interest terms provided for in the 1998 Act and the sum passed on to the creditor would correspond to the interest-enhanced payment. The factoring firm’s fee might be chargeable, by law, to the debtor over and above the invoiced sum plus statutory interest. Such a system might

108Ibid.

109In June 2007 ministers decided effectively to disband the Better Payment Practice Group as part of the downgrading of the small business service. This ‘gives out the wrong signals to the business community. Late payment (is) the factor causing the most significant negative impact on smaller companies, yet government have withdrawn support and reduced funding on the very initiatives aimed at tackling this growing problem.’ Miles Templeman, director-general of the IOD, cited in Eaglesham, ‘Labour’s “Fluffy Talk” on Business Problem’.

110The FSB Payment League Tables are now compiled by the Credit Management Research Centre, Leeds University Business School.

111In a factoring arrangement money is released against unpaid sales invoices. Up to 90 per cent of the value of the outstanding customer payment is advanced to the business within twentyfour hours of the invoice being raised. See further ch. 3 above.

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improve recovery but, again, many small businesses might be reluctant to use this approach for fear of prejudicing a relationship with a supplier or powerful business partner.

A third possible way forward would be to take actions to encourage smaller companies to play the credit game more astutely. The routine use of prompt payment discounts might be put forward as a solution here but it may be difficult for many firms to use discounts productively because co-ordination between small firms would be required. Where such firms compete, the company offering an early payment discount to a powerful debtor may, in effect, be cutting its margins in the face of the large debtor company’s propensity to delay payment.

Similarly, it could be proposed that smaller companies should be encouraged to avoid dependency on a large creditor so that they can discontinue their trading relationships with late payers. This, however, may not be possible in many sectors and such a strategy might lead to a lack of competitiveness with firms that are willing to accept greater risks of late payment.

What, however, smaller firms can perhaps do at low cost is to state more routinely and clearly the date on which any invoice is payable.112 Such creditors, moreover, might be advised to research the creditworthiness of their debtors more thoroughly before advancing goods or funds. On this front there are growing opportunities. Increasingly, payment periods are being factored into company credit scores by credit ratings agencies. Thus, a Dun and Bradstreet (D & B) comprehensive reference will give data on a firm’s average payment behaviour (days beyond terms) that is based on an analysis of trade payment experiences post-invoicing.113 A company’s payment trend will be compared to the industry trend in a D & B report and a breakdown given of value bands of invoice against numbers of days late in settling. The effect of such data distribution may be that late payers will eventually all suffer from lower credit scores and the effects could be multiple. Their ability to obtain credit at lowest cost rates may be prejudiced and potential trade creditors will be able to identify poor payers – provided that they can afford to pay for a reference and the transaction justifies an investigation into payment records.

112Evidence also shows that more small businesses are stating at the time the contract is made that they will exercise their right if payment is late. This is usually emphasised on all invoices and letters seeking payment. Better Payment Practice Campaign, Late Payment Legislation and Interest Calculator (www.payontime.co.uk).

113D & B state that they collect and analyse more than a million trade payment experiences involving European businesses each year.