A person contacted me to say he planned to purchase a new horse truck: A new cab chassis (unusual, as many so-called new horse trucks in fact use a 2nd hand cab chassis) plus horse box to be manufactured for the chassis. The purchase was costly. The client worried that, as the manufacturing process would take nearly a year, where would he stand if the seller went broke? It was a good, forward looking, question from a person keenly aware of financial risk.
Suppliers of expensive, manufactured goods, like horse boxes, require milestone (periodic) payments. This is normal and reasonable because the seller has to maintain cash flow and protect itself in case the customer itself defaults or experiences financial difficulties. The payments usually, not always, reflect the accrued cost of materials and labour plus a profit margin. House builders commonly use staged payments too.
Horse truck businesses need the assistance of bankers or financiers. These businesses usually give directors guarantees supported by mortgages in addition to a charge over the companies’ assets and goodwill to secure debts. If the business defaults under the terms of its loans or accommodation, the lender will call in its securities to recover the debt. If that happens, there is a risk that, in a competition with the lender enforcing its charge, the horse truck buyer will lose its money paid to that date because the incomplete truck, as property of the business, is part of the lender’s secured property under the charge. If the receiver and manager appointed by the secured lender is unable to sell the business or the contract to another business to complete the build, the buyer becomes merely an unsecured creditor of the business.
While a business might appear successful, it is difficult to know its true financial position. Private companies in Australia do not have to publicise financial statements, unlike such companies in the United Kingdom. So what should someone do, like my client, before engaging a business to build a horse truck, gooseneck, float or other high value item? Here are some options:
- Due diligence – Conduct a company search (acquired from ASIC) on the company to establish its current status; establish how long it has been in business; Google the name; obtain a credit reference report from someone with access; visit the business premises to see how busy it is; ask the director questions about the financial position of the firm; request a copy of the company’s approved financial statements for the last financial year; request a letter of comfort from the business’ accountant or banker.
- Pay for the cab chassis, whether new or used, directly to the seller of the vehicle, not the horse box manufacturer, and register it in the buyer’s name. This way, the vehicle never becomes as asset of the horse box manufacturer.
- Structure the milestone payments so that they relate solely to the horse box and the majority of the money is paid towards the end of the build. That way financial exposure is reduced for a shortened period.
- Ask the directors of the business to give advance payment guarantees. These stipulate that in defined events (for example, an event of insolvency), the buyer can cancel the contract and demand the directors refund all money paid. But such a guarantee is only as good as the guarantor has the means (and willingness) to pay under it. If not, the guarantee is valueless unless it is supported itself by a bank guarantee.
- Insert a special clause in the contract that says the partially completed box and all loose materials belong to the buyer and no title to them passes to the manufacturer at any stage. Such a clause has to be expertly prepared to surmount the accounting and legal challenges that such an arrangement poses in the face of an existing registered company charge.
Given the significant financial outlay, legal guidance and advice should be obtained to review the horse box manufacturer’s terms of sale and to structure the transaction in a way that protects the buyer’s financial investment.
10 February 2020
© Michael Mackinnon, Solicitor & Independent Counsel