Guide

Avoid the problems of overtrading

Example of overtrading

Emily's business is three years old. Her annual turnover is £200,000 and her annual profit is £18,000. She operates with a bank overdraft of up to £25,000. Her working capital is sufficient to steadily expand the business.

Emily succeeds in winning a contract to supply Business A. The order is for £40,000 a month for two years. She will be paid 75 days after delivery.

She rings her suppliers. She orders everything that she will need to fulfil the contract in the first few months. She tells them all to deliver everything as soon as possible.

The first month

Things go very well. All the suppliers start delivering as promised. The only problem is that she is short of space.

The second month

Things still look good. She has made the first delivery to Business A. She increases her overdraft.

The third month

Emily has problems. She has made more deliveries to Business A but her overdraft is at the limit. She is getting calls from unpaid suppliers.

The fourth month

Emily has a crisis. She cannot pay all her suppliers. Some have stopped delivering and are threatening legal action. She thinks that she will be fine because she is still supplying Business A.

The fifth month

Her overdraft is £4,000 over the limit. Three suppliers start legal action. The bank refuses to pay any more cheques. But her first payment from Business A arrives on time.

The sixth month

The next Business A payment does not arrive on the due day. She cannot fulfil any more orders. The bank demands that the overdraft be repaid within seven days.

Emily closes the business and blames the bank. However, if timings and payments of deliveries from suppliers and to customers had been negotiated and regulated more successfully beforehand and at the start, the closure may have been avoided.