In the last two blogs, I’ve written about the issues presented in a bankruptcy case when a small business faces financial difficulty. And I’ve concentrated on the business, not the business owner, in writing about these issues. In the last two blogs, I’ve spent some time looking at the issue of whether a business should remain open - it’s a critical first issue for business owners with money problems. This week, let’s look at the issues that business owners face when the owners have decided to close the business and wind up the financial affairs of the business.
When to close?
Once the closing decision has been made, the next question is when should the business close. That decision isn’t as easy as it might seem. Can the business meet payroll if it stays open for another pay period? Have customers made advance deposits or purchased gift certificates that have not yet been redeemed? Are there state, local and/or federal tax obligations that are challenging to meet? All these questions are important, and unfortunately the answer to the questions rarely if ever “line up” in a way that makes for easy planning.
Telling the lender
One simple way of approaching this question is to have the business owner consult with the main credit supplier prior to closing the business to let the lender know that a closing, in fact, is in the near future. The lender - particularly a lender with secured debt - will likely have instructions for the debtor to begin a orderly liquidation of the business.
Communication with lenders is key to surviving the wind-up of the business. There are nothing but problems if a lender finds out after the fact that a business has closed without giving the lender the ability to repossess collateral or liquidate assets. While lenders are certainly going to look out for themselves in the orderly liquidation, the lender also has an significant interest in making sure that local, state and federal taxes have been paid, since taking over property from a business that had tax debt can, under some circumstances, trigger an attempt by taxing authorities to reclaim property that the lender may have repossessed to pay tax debt.
No matter how well a business owner has communicated with a lender, or how much effort the owner has put into assisting the lender with an orderly liquidation, business owners must understand that, after the orderly liquidation is completed, the lender will, if the lender is able, contact the business owner to pay on any loan deficiency for which the owner has signed a personal guarantee - and in small businesses, almost every lawyer has done that.
Many small businesses are family owned and family operated; in most cases involving small business such as these, the extended family involved in the business knows what is going on financially. And in most cases, family members will continue to work the jobs they have until the business closes. But this level of loyalty should not be expected from non-relative employees. If a business is in trouble, employees’ hours get cut and wages stagnate. In other words, most employees can sense when a business is in trouble. And when businesses start getting in trouble, even loyal employees start looking out for themselves - checking other employment opportunities and sharing that information with fellow employees.
All of the above is a roundabout way of saying that whether it’s uncomfortable to delay communicating with employees about the imminent closing of the business (and the loss of the employees’ income), it is, in most cases, wise to wait to let employees know that the business will be closing until immediately before the business closes. The risk of letting employees know about the closing ahead of time is that employees will quit the job with a business that is going out of business in favor of being hired by a more stable business.
Ideally, all vendors to whom a business owes money have their accounts paid prior to the business closing. Unfortunately, that is a rare occurrence. So, in most cases, vendors will have to be told to stop delivery and shipment to the business that’s closing. My advice to my clients is to do this by letter for vendors who are not critical vendors, but to reach out to critical vendors personally. It’s not easy to do this with suppliers who have helped keep a business afloat - often by deferring payments, etc. But it must be done, and business owners are well-reminded that in almost every case, trade accounts are not the personal liability of the business owner.
That’s enough for this week. Next week we’ll look at what the business owner with significant personal business-related liability needs to know about bankruptcy.