Cash flow woes point to more insolvency in New Zealand

This article was current at the time of publication.

Amid plummeting business and consumer confidence, rising interest rates and inflation, broken supply chains, and geopolitical tensions, insolvencies are at a 20-year low.

The latest data from RITANZ, the Restructuring and Insolvency Turnaround Association, shows there were 216 winding up applications in the first six months of this year, down from 328 in the first half of 2021 and 450 in 2018.

Liquidations numbered 604, with a steady fall from 957 in 2018. Receiverships were just 17, down from 75 in the first half of 2020.

A recent report from Xero shows the cash flow position of small businesses, while still a cause for concern, has improved.

The average New Zealand small business responding to the survey experienced four months of negative cash flow in 2021, three months fewer than in 2019.

Even so, Xero notes that small business cash flow is “a persistent and systemic challenge”.

Cash flow woes

The XSBI (Xero Small Business Insights) special report Cash flow challenges facing small businesses published in July, shows 95 per cent of surveyed firms experienced at least one month of negative cash flow in 2021.

One in six (approximately 17 per cent) experienced more than six months of negative cash flow.

Xero’s spokesperson finds the relatively benign level of financial distress surprising but point out that the likely factors behind it have come – or are coming – to an end.

The end is nigh

Xero cites COVID-related government support and stimulus programs, such as wage subsidies.

Further, some businesses were able to cushion the cash flow effects of lockdowns by cutting expenses, such as reducing inventory and casual staff numbers.

Others changed their business models; for example, hospitality businesses moved to home delivery and contactless pickups. A few, such as home office and gym equipment suppliers, even increased sales.

Partner at advisory and restructuring firm McGrathNicol, Conor McElhinney, says one reason for low insolvencies is the “accommodative” stance of banks regarding defaults.

Another is the Inland Revenue Department’s (IRD) “continued unprecedented support” for tolerating overdue debt.

In normal times, McElhinney says the IRD accounts for around 60 per cent of winding up and liquidation applications. In the first half of 2022, it accounted for just 38 per cent.

IRD overdue debt was NZ$3.1 billion in June 2018 and NZ$4.5 billion in June 2021.

“When the figure comes in for June 2022, I suspect it will start with a five,” he predicts.

McElhinney believes some of the “cans that have been kicked down the road” will eventually stop.

For example, fixed-rate mortgages will taper off in a few months and IRD support will end.

“We’re [now] seeing financial distress in New Zealand more acute than pre-COVID,” McElhinney says. 

“The cases coming across our desks are more distressed than normal – they have quite significant IRD and other liabilities, and no shareholder funds.”

McElhinney notes that the key priorities for advisers faced with a struggling business are improving tracking and forecasting of cash flow and better debtor management.

How can practitioners help?

McElhinney returned to New Zealand after five years in London and says he was “astonished” by how bad New Zealand businesses are at cash flow management.

“It’s the adage – you can’t manage what you don’t measure,” he says. “Data analysis and information is the key thing we do with distressed businesses.”

Practitioners can help small businesses create a short-term cash flow forecast and a dashboard for key performance indicators.

He also recommends ensuring clients have cost escalation clauses in their contracts to pass on core costs that are beyond their control, such as fuel.

“And CPAs, at a higher level, should be aware of directors’ duties. If a customer’s distressed, advise them to seek legal advice, particularly on PAYE (pay as you earn) – not paying it is a criminal offence.”

Practitioners can also help clients pull together detailed business plans, which can be shared usefully with key stakeholders such as banks or the IRD.

Xero likewise says accountants and bookkeepers can help businesses to use their financial data to predict cash flow crunch periods and build up cash buffers ahead of time.

“For many of these businesses that regularly experience cash flow crunches, prompt invoice payments and more support in budget planning could unlock huge growth opportunities,” Chief Customer Officer Rachael Powell says in the XSBI report.

Debts need to be chased now

Angus Ogilvie FCPA, CPA Australia’s New Zealand President, says an “alarming” number of businesses simply send out invoices and don’t chase debt.

One thing that can help is a better use of technology to make payment as easy as possible.

“As credit starts to tighten across the economy, more payment methods rather than fewer is the way to go.”

Ogilvie says the most effective way of restructuring a struggling company is through an advisory board conducting monthly reviews.

“A big component is the monthly financial reports. Directors should be getting these and getting help in how to read them.”

Boards also review terms of trade and receivables management – and make the hard call on when to escalate unpaid debts to external collectors.

Ogilvie says that for businesses, including your accountant on an advisory board may not be a free exercise.

“But it’s an investment.”