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Business Lawyers are Uniquely Positioned to Recognize a Client’s Financial Distress

by Bill Porter


Business lawyers, whether they fall on the transactional or litigation side of the spectrum, are rightly considered by company owners and managers to be among their most valued professional relationships. In fact, surveys routinely show that when faced with a significant opportunity or challenge, executives turn first to the company’s business attorney for counsel. It follows then that business lawyers are in a unique position to both recognize the warning signs of financial distress and to help their client determine if the situation warrants advice from an attorney who specializes in insolvency and debt restructuring. Here are some common ways to recognize if your business client is struggling:


1. Stressed Out Management

Stress is a fact of life for most business managers. But, when ordinary business stress is combined with the pressure of financial distress, things can get truly harrowing. Owners of struggling companies often say they feel like they are drowning, and business stress can also lead to health and family problems. Solutions can’t be pursued until the difficulties are acknowledged, and often it takes a trusted advisor to start the conversation.

2. Borrowing to Cover Shortfalls

Borrowing money or injecting new capital as part of a well-reasoned business plan can be a critical ingredient in a successful venture. But propping up a struggling business through borrowing, capital infusions, or sales of assets is a different animal. Knowing whether such financing options are smart investments, or simply a last gasp, requires a determination of whether the business is viable in the long term. No one has a crystal ball, but making an informed assessment about viability can be the difference between success and disaster.

3. Management Infighting

Financial distress is often related to disputes among owners and managers. Sometimes financial distress is the cause, and other times the effect. When a dispute arises, an owner or manager will typically seek guidance from his or her business lawyer. The client may be asking for help only with the dispute, but an astute professional will also delve into the impact on the company's profitability.


4. Forbearance Agreements

Financial distress is the inability to meet obligations as they become due. So, if a business is negotiating a forbearance agreement with its lender, some hard questions must be asked. Lenders often use forbearance agreements to obtain concessions and waivers from borrowers in default, rather than moving straight to enforcement. Even if a business client is confident it can work its way out of trouble during a forbearance period, it should seek counsel from a restructuring lawyer before signing such an agreement.


5. Growing Payables

Nothing signals financial distress as plainly as slow-walking payables. If you, as the company’s attorney, are asked to defend collection actions (particularly if the company says it just needs to "buy time"), the subject of financial distress should be raised. Sometimes the unpaid bills are fees owed to your own law firm. This can undoubtedly strain the relationship and diminish communication, but non-payment of professional fees is a fundamental warning sign of financial distress and should invite serious inquiries.


6. Payroll and Sales Taxes

Failure to remit payroll or sales taxes is an obvious, but all too common, sign that a business is in trouble. Payroll withholding taxes, or 941s, are comprised of two parts. The "trust fund" portion is part of an employee's compensation that is withheld from the paycheck and remitted to the IRS by the company on the employee's behalf. The other part is the matching funds required to be paid by the company. Sales and hotel taxes are entirely trust fund taxes because the company is required to collect the taxes and remit them to the state department of revenue; the money never belongs to the company. Since trust fund taxes are not property of the business, failure to remit them to the appropriate taxing authority is a serious matter. In fact, the person responsible for collecting and remitting trust fund taxes can be assessed personally for the unpaid amount.


Conclusion

Financial distress can be a difficult subject to broach, but there are always strategies to maximize value. Encouraging a business client to seek help in the early stages of financial distress can greatly increase the chances for a return to profitability, or at the very least, a soft landing.

 

Bill Porter is a partner with EmergeLaw, PLLC based in the firm's Orlando, Florida office. For 25 years, Bill's practice has focused on bankruptcy, creditors’ rights, and commercial litigation. Bill earned his undergraduate and law degrees from Florida State University, and he is a former Trial Attorney with the U.S. Department of Justice, Office of the United States Trustee in Orlando and Jacksonville.