Beyond the Numbers, Volume 1 Issue 3

Beyond the Numbers, Volume 1 Issue 3

In this issue:

What's at risk if a client claims bankruptcy, managing preference claim risk and simple steps to protect your company, and uncovering potential credit risks.


Bankruptcy Preference Claims—The Letter No One Wants To Receive

As the country continues to struggle with difficult economic times, some of our clients have expressed concerns about the financial strength of their own customers. A weak economy can lead to business failures—and when the businesses that fail are your customers, it can place your staffing company at risk.
When a business declares bankruptcy, a common misconception is that staffing companies have a priority status for any unpaid invoices because the invoices are for wages. This is not the case. Unless the claim is secured in some way, the invoices are considered a “fee for service” and are not given a priority status.
In addition to unpaid invoices, staffing companies are also at risk for having past invoice payments called back. This is known as a bankruptcy preference claim. The purpose of preference claims is to discourage a company from paying its “preferred” vendors or creditors just before the company declares bankruptcy. The preference claim helps ensure that all unsecured creditors are treated equally.
What this means for your staffing company, as an unsecured creditor, is that any invoice payments made within 90 days before the company declares bankruptcy are subject to be called back by the bankruptcy court.
The typical first step a bankruptcy court will take is to send a letter to all creditors who had received payments within 90 days of the company declaring bankruptcy. If your staffing company receives a letter asserting a preference claim, it’s vital that you call an attorney who specializes in creditors’ rights or bankruptcy. Never just submit the payment back, and don’t ignore the letter. Your next step should be to contact Tricom. We can provide documentation necessary to defend the claim as well as help minimize further losses.
Attorneys who specialize in creditors’ rights or bankruptcy are extremely familiar with the preference claim process. They are often able to settle the claim or have it dismissed entirely at a substantially lower cost than to defend a lawsuit in court. Choosing an attorney that specializes in this process is key—your regular counsel may not have the intricate knowledge of the bankruptcy court system necessary to obtain the best outcome in a way that’s cost effective.
I had the benefit of speaking with one such attorney while researching preference claims for this newsletter. Robert Zadek, Of Counsel with BuchalterNemer in San Francisco, focuses his practice on matters involving banking and finance, financial solutions, insolvency, loan workouts and bankruptcy.
Mr. Zadek explained common defenses against preference claims, specifically the arguments most critical to staffing companies. A frequent argument is the “ordinary course of business” defense. This involves providing documentation to demonstrate that the paid invoices were part of a pattern of payments extending prior to the 90-day window before the bankruptcy action. For example, if you sent an invoice every month for the past 12 months and the invoices were paid within 30 days each time, the payments you received within the last 90 days were part of the normal business process established long before the company declared bankruptcy.
Another defense is the “subsequent new value defense.” This argument involves outstanding invoices. If you have unpaid invoices when your customer declares bankruptcy and a preference claim is filed against other invoices paid within 90 days prior to their filing, the amount of the unpaid invoice is deducted from the amount of the preference claim. For example, you sent an invoice on January 1 for $100,000 and the invoice was paid on January 10. You then sent an invoice for new services totaling $50,000 on January 15, but on January 17 your customer declared bankruptcy. Instead of having an unpaid invoice of $50,000 and a preference claim for $100,000 for the payment made on January 10, the $50,000 unpaid invoice is subtracted from the $100,000 preference claim. Your staffing company is liable for only $100,000 as opposed to $150,000.
The key to any preference claim defense is whether or not you improved your financial position prior to your customer filing bankruptcy. If you know a customer is having financial problems, it is still in your best interest to try and speed up payment from this customer, even though you may have to subsequently disgorge the payment as a result of a successful preference attack. Since the attack on your payment may not be successful, aggressive collection tactics are still advised.
A preference claim does not automatically mean your staffing company forfeits the payments you received from your customer prior to them declaring bankruptcy. By contacting an attorney who specializes in creditors’ rights or bankruptcy, you place your staffing company in the best possible position. Your staffing company also has the complete support of Tricom—our staff will work to help you any way we can to successfully defend against a preference claim.

Managing Preference Claim Risk—
Simple Steps You Can Take To Protect Your Staffing Company 

Robert Zadek, Of Counsel with BuchalterNemer in San Francisco, is passionate about helping companies better manage risk. This is evident to anyone who has had the pleasure of hearing Mr. Zadek speak on the topic during a conference or workshop. Mr. Zadek shared with me three major steps that staffing companies can take to help manage credit risk:
  1. Improve your documents.  

    There is nothing from a legal standpoint you can include in your customer contracts to “draft away” the risk of a preference claims, but there are things you can do to minimize the risk. There are benefits to a creditor that you can include in your customer contracts that are non-contentious but can protect you if the risk turns out to be a bad one. Consider including clauses such as:

    • • Additional charges for overdue invoices (whether or not you actually charge the fee is up to you)
    • • Attorney’s fees reimbursed for any litigation your staffing company has to undertake because of the customer
    • • Jurisdiction in a court where your company is located (this can save you travel time, although in the case of bankruptcy, the venue is always the bankruptcy court in which your customer filed)

    An attorney who specializes in credit risk can inexpensively review your documents and make recommendations for changes that benefit and protect your staffing company.

  2. Credit Insurance.

    Credit insurance is similar to a homeowner’s policy or any other insurance that you may have. You pay a premium and your staffing company is insured against losses you could potentially incur by extending unsecured credit. You may choose to insure your entire portfolio or just large customers who represent a sizable portion of your credit risk. Credit insurance can be a smart investment to protect your overall financial well-being.

  3. Be intelligent in granting credit.

    This can sometimes feel counter intuitive when you’re trying to grow sales, but not all customers are a safe credit risk. Be wary of concentrating too much credit with one customer—if they fail, you could, too. With each customer (new and existing) think of the credit risk and make a conscious decision as to whether or not that risk is worth accepting. Risk is inherent in the staffing industry, but working to minimize it can only make your business stronger.

A very special thanks to: Robert Zadek, Of Counsel for BuchalterNemer in San Francisco, for sharing his expertise for the content of this newsletter. Mr. Zadek specializes in bankruptcy law, has a passion for helping businesses minimize their credit risk, and has worked extensively with the staffing industry. If your staffing company needs legal assistance regarding a bankruptcy preference claim, or if you would like to consult with him on ways to minimize your company’s credit risk, you can contact Mr. Zadek at: 333 Market Street, 25th FloorSan Francisco, CA 94105-2126 Direct Dial: (415) 227-3585 Cell Phone: (415) 699-2512

Red Flags: Things You Can Do To Uncover Potential Credit Risks & Tricom Services That Can Help

Some ways you can minimize your credit risk is to be on the lookout for red flags that indicate a problem. Here are some simple steps you can take:
  • Exclusivity—Be wary of customers who offer you exclusivity for extending terms. You may receive all of their business, but this could also mean the customer is having problems with other staffing companies.
  • Beware of customer requests to extend credit terms—Customers who ask for extensions from net 30 to net 60 or net 90 have a reason. Are they experiencing cash flow issues? Carefully review the request.
  • Google your customer’s name—Do your own online research to see if there are any accounts of problems they may have.
  • Invoice Payment Average—carefully monitor your IPA on your Aging Report from Tricom. If the current year-to-date average starts to increase over last year, that can be an indication of a cash flow problem.

Tricom also offers several free services for its full service and funding only clients that help monitor their customers’ business—and in turn, can reveal the start of credit problems:

  • Portfolio Management Team—We have a team of Tricom staff who closely monitor your receivables and work with your customer to ensure payments are made on time. When payments start to slow (as evidenced on your Aging Report), they will call the customer directly and ask a series of questions to uncover any cash flow issues. We help you keep this process separate from your sales function, and do so with the utmost respect and consideration for maintaining a positive customer relationship.
  • Credit Monitoring—As part of the Portfolio Management Team, we’ll also monitor how much credit is being extended to one customer. This helps keep your portfolio balanced and avoids over-extending credit and increasing your risk.
  • Free Dun & Bradstreet credit report summaries—Tricom can provide Dun & Bradstreet credit report summaries for your customers. These may not always reveal a problem, but if there are any major issues, you’ll know from this report.