Trade credit insurance withdrawal signals serious danger for SME construction firms already battling financial distress

Across the years we have seen the pulling of trade credit cover mark the beginning of sharp downward spirals. Woolworths, Debenhams and Maplin are all examples of high-profile retail collapses that spiralled after cover was withdrawn. The cash that was left went on trying to pay suppliers and creditors.

The ripple effect of business distress at a large company is often discussed. However, rarely is it demonstrated so publicly that suppliers reliant on that company for most, if not all, of their revenue feel the stress rise.

In consumer-facing industries the sharp decline can be understood very visually. Empty shelves, closing down sales, shuttered high streets – all the usual widely-reported markers. These sectors are relatively resilient and with fluctuating spending and confidence from consumers, can quickly experience booms after busts.

Construction, however, has a different set of challenges and so the impact could be further reaching. And with the credit “canary” we have seen, construction could be at a significant tipping point.

Construction collapse

Construction is an inherently risky industry. BTG’s Red Flag Alert research, which provides a quarterly insight of UK businesses’ financial distress, consistently reports construction as one of the sectors with the highest number of distressed businesses.

Construction relies on trickling down of revenue from the larger players to the smaller contractors and one-man band subcontractors. When this works, firms across the supply chain enjoy healthy project pipelines, high demand, strong margins and new businesses established.

Unfortunately, construction has already been taking a beating over the last few years, which is why this recent sign of a potential downward spiral in the form of trade credit cover reduction is so concerning.

Despite significant demand and ambitious targets for housing, the market is still plagued by downward pressures on supply chains, materials, house buyers and a slow moving and expensive mortgage market to name a few. Some of the large developers are still able to deliver sales and margins but others are seeing their foothold begin to fall away.

This situation is worsening the gap in financial health between the SME companies and larger groups.

The often family-owned, multi-generational and owner-operated SME construction companies are sliding further towards collapse. These smaller firms often rely on one large client company for most of their revenue. This means the dominos can collapse fast and leave them in the lurch if the cash stops flowing

For the large housebuilders and developers, they have the means and leverage to survive tough times and batten the hatches until the market opens up or government support lands.

On the other side, the often family-owned, multi-generational and owner-operated SME construction companies are sliding further towards collapse. These smaller firms often rely on one large client company for most of their revenue. This means the dominos can collapse fast and leave them in the lurch if the cash stops flowing.

Shaking the tree

While this decision around credit insurance reduction is a serious warning flare, it also serves as the sign for smaller businesses to act. And it isn’t just about those companies in the Vistry supply chain that reports in the Financial Times say could be affected by a trade credit insurer’s decision to cut cover.

Early action is the best course of action and construction firms will have far more options if they can work with advisers and lenders at the first signs of distress.

Already, we are seeing several of these businesses seek refinance having taken on significant, short-term lending, which is often personally guaranteed, to prop up challenging trading conditions. These layers of debt can quickly get out of control when cashflow from clients starts to dry up. Working with lenders to agree terms and consolidate debt may be possible early on and could ease impact on personal finances.

Many are also looking for assistance to negotiate with HMRC on Time to Pay agreements. With winding-up petitions coming through at the fastest rate in three years – the majority of which are from HMRC – getting an agreement in place like this is a vital step in managing arrears.

An alternative route, and one we are seeing companies have to turn to, is persisting with chasing delayed payments from their clients. Yet, this is difficult for small suppliers to achieve given that larger groups hold the power to turn to new suppliers. Equally, though, main contractors need to help protect their supply chain of subcontractors.

The new government plans to drive more reliable, on-time payments to suppliers are honourable. However, small suppliers need these moves to be effective and immediate or to see a dramatic increase in future work and cash generation

The new government plans to drive more reliable, on-time payments to suppliers are honourable. However, small suppliers need these moves to be effective and immediate or to see a dramatic increase in future work and cash generation. Previous initiatives around this have not made a material difference to easing the money flow and new initiatives such as project-based accounts merit further attention.

If all these routes fail, then small suppliers feeding the industry will go out of business. The consequences could be further supply chain collapse. The industry is at a tipping point and if nothing is done to try and keep cash flowing and protect margins, it will be more than a quick repair job needed to get back on track and begin to meet housebuilding programmes under the new prime minister.

Julie Palmer is managing partner at BTG