Ensuring that your business is soundly financed and keeping good control of your cash flow is very important. Maintaining a healthy cash flow is the lifeblood of any business.
Good relationships with your creditors, your bank and your customers is key. This will help in reducing the risk of legal proceedings being instigated. Keep them informed on a regular basis.
Choosing an appropriate business structure will help to reduce the potential consequences should you become insolvent in the future.
A limited company offers the most protection against personal bankruptcy should the business run into difficulty: as a director and/or shareholder you will not usually be personally liable for the company’s debts unless you have given a personal guarantee or you have acted improperly. This offers you much greater protection than operating as a partnership, as partners are personally liable for the debts of their partnership if things go wrong. Taking out Directors and Officers Liability insurance can provide a further degree of protection for directors of a limited company – although the limitations on the cover provided, and the cost of premiums, often make this unattractive for smaller companies.
Alternatively, if you wish to operate as you would in a partnership, but want the benefit of limited liability for the partners, trading as a limited liability partnership (‘LLP’) can help to reduce the degree of personal risk. An LLP is a corporate entity whose members only have to contribute a pre-determined, limited amount if the LLP is wound up, but the management of which can be organised so it ‘feels’ like a partnership – for example, so that all the owners have an equal right to participate in day-to-day management. It is a particularly appropriate trading vehicle for professional practices that are unable, or do not wish, to incorporate as a limited company.
You should also try to avoid giving personal guarantees to lenders such as banks and other third party institutions. These are contracts under which you promise, personally, to make up any shortfall if your company or LLP cannot itself repay the money it owes its bank. If you must give a personal guarantee, negotiate to limit the amount it covers and how long it will last. Where several people are giving guarantees, try to avoid ‘joint and several’ liability which could make guarantors liable for all of a debt rather than just their share. In practice, however, it may not be possible to raise bank finance without giving a personal guarantee, and banks may not be willing to vary their standard guarantee terms.
Finally, as a director it is essential to keep a close eye on the company’s financial position. As well as improving your chances of avoiding insolvency in the first place, this will reduce the likelihood that you will be held personally liable for wrongful trading, or be disqualified as a director, if the company does become insolvent.