Credit Risk Due Diligence Financial Risk Assessment
5 mins read

What are the credit risks associated with cross directorships?

When conducting business with a trading partner, any potential unknown conflict of interest can derail your operation and expose you to credit risk. The financial impact can be so severe that your business may enter insolvency territory by virtue of the malpractice, bad faith, and bad debt of partner businesses. Cross-directorships present a unique challenge to management, in that they can be difficult to identify without the right systems in place. This is why having the right tools in place can give you the forewarning you need.  

Understanding Cross Directorship and Credit Risks 

What is cross directorship? 

The term cross-directorship refers to an individual who is a director of multiple companies at the same time. As such, they have a duty of care and diligence to all companies independently. This entails that they act responsibly and carefully in the interests of both the company and customer, for each separate entity in its own right.  

While being the director of multiple companies simultaneously is not illegal in Australia, it has regularly factored into instances of conflict of interest or malpractice. Clearly, it presents challenges to such directors to avoid allowing the performance and decision-making of one particular business that they are on the board of, to affect the decisions of another.  

They additionally may find it hard to dedicate an even amount of time, attention and resources to each company fairly – impacting the ability to operate efficiently. For these reasons, and others, an individual may obscure their involvement with other companies, in order to hide a conflict of interest in dealings with you.  

It can be extremely difficult, without tools such as CreditorWatch’s Director Due Diligence, for your business to reveal this information if they are attempting to be willfully deceptive.   

What is an example of cross-directorship? 

Within the construction sector, cross-directorships can be hugely detrimental, as insolvency rates are already high by virtue of the high cost of raw materials and labour.  

Say you are the owner of a small construction company – you’ll be dealing with a high number of third party suppliers and subcontractors, each of which may pose risk. You subcontract to a carpentry service provider, however are unaware that the director of this company also sits on the board of a particular timber supply company.  

This has the potential to place you at a significant disadvantage, as the carpentry business may attempt to give preferential treatment to that timber supplier, especially if the supplier is experiencing revenue difficulties. They may order excessive amounts of material, or charge at a premium rate in order to mitigate credit issues you have no knowledge of. In essence, they are deceptively using the trading of one business to prop up the other, at the expense of acting in your best interests. 

Such practice could easily blow out the pricing and timeline on your projects, instantly raising the threat of credit risk and insolvency to your business. Without the appropriate director due diligence you may be already exposed without even knowing it. 

For any potential trading partner, it is absolutely essential that any cross-directorship information be transparent and communicated up front to your business. This especially applies if that individual retains a directorship for a third party business that is a competitor or supplier within your industry, however it should be admitted in any given instance.  

Not only does cross-directorship raise the risk of malpractice, it may also paint a picture of that director’s business history. If you are aware of credit or insolvency issues for another company that they’re on the board of, then this may be a predictor of future behaviour. As with credit history more generally speaking, a bad credit history check for a director has been shown to raise the likelihood of further credit risk moving into the future.  

Credit Risk Management Solutions 

To manage the hazards of cross-directorships, there are some clear frameworks and tools for your business to implement that may provide the necessary detail to mitigate risk: 

Director Due Diligence As a component of CreditorWatch’s credit reporting, Director Due Diligence utilises extensive company data to reveal the directorship history, and any associated cross-directorships, of the board of any partner business. The advantages to this are significant – from the early detection and flagging of conflict of interest risk, through to the identification of a history of bad credit, or phoenixing (declaring bankruptcy to then illegally establish a new company trading in the same way).   

The earlier you can identify these directorial red flags, the more time you have to proactively plan for your business – saving you time, stress and cost, as well as limiting your insolvency or credit risk.  

Investigate the other companiesIf any individual from a trading partner is associated with another company, the overall performance and reliability of that company has the potential to indirectly impact your business – through events such as bankruptcy or cash flow challenges. It also provides key insight into the future risk of your dealings.  

Thankfully, there are predictive monitoring tools, such as RiskScore by CreditorWatch, which utilises extensive credit data subsets and machine learning, to give a reliable indicator of the creditworthiness of a partner business as an entity. In coordination with the Director Due Diligence, it forms a safety net of corporate transparency, empowering you to make the most informed trading decisions for your business.  

Financial Risk Assessment If you are involved, or are likely to be, in especially high value or high volume transactions with a partner business, then some additional insight might be necessary in order to comprehensively identify and safeguard against credit risk and cross-directorship. A full Financial Risk Assessment by CreditorWatch utilises ASIC data, company financial records over two to three years, and exclusive trade payment data in order to provide an in-depth analysis, from a qualified CA or CPA, of any business in question. It is the most detailed assessment available in order to mitigate credit risk and directorial conflicts of interest.  

Access public data and observe regulatory safeguards There is a wealth of information also publicly available for the proactive business owner, however it is not fully comprehensive. ASIC holds a significant amount of company data that may assist in identifying director identities as well as other details. They have also now mandated a Director Identification Number (DIN) for each individual director, which can be used to assist in readily identifying any entities associated with that person.  

Additionally, frameworks such as KnowYourCustomer (KYC) identification or an Ultimate Beneficial Owner (UBO) check, have been put into place in order to further increase transparency in this regard. It is always worth knowing exactly which regulations and public data allow you greater insight into the companies and customers that you deal with. 

 

Whilst cross-directorships may pose an unseen risk to your business, it is a risk that can be clearly identified and managed with the right frameworks in place. Contact us today to hear more about how our suite of digital credit tools can help you protect and grow your business. 

cross directorships safeguard
Brendan Sherry
NSW Sales Manager
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