Sep 282017
 

Consultation

The Treasury has today (28 September 2017) released a consultation paper on reforms to address illegal phoenix activity. The closing date for submissions by interested parties is 27 October 2017.

The paper is available for download from the Treasury website.

Below is the foreword to the paper, by the Hon Kelly O’Dwyer MP, Minister for Revenue and Financial Services:

Phoenixing involves the stripping and transfer of assets from one company to another to avoid paying liabilities. It hurts all Australians, including employees, creditors, competing businesses and taxpayers, and has been a problem for successive governments over many decades.

Phoenixing has a significant financial impact – in 2012, the Fair Work Ombudsman and PwC estimated the cost of phoenixing to the Australian economy to be as high as $3.2 billion annually. It also undermines business’ and the public’s confidence in the corporate and insolvency sectors and the broader economy.

Companies fail for many different reasons, and it can be difficult to distinguish between those who are engaging in illegal phoenix activity and those who are simply involved in a failed company.  We are committed to helping honest and diligent entrepreneurs who drive Australia’s productivity, but we won’t tolerate those who misuse the corporate form, to defeat creditors and rip off all Australians. Continue reading »

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Sep 202017
 

Ship entering harbour

 

From 18 September 2017 company directors will be able to seek shelter from liability for insolvent trading.

Previously, a director who caused a company to incur new debts (e.g., obtain goods and services on credit) at a time when the company was unable to pay its existing debts/liabilities, could – if the company was subsequently placed in liquidation –  be sued by the liquidator or by the creditor provider.

Now, the laws will “protect a director in relation to debts that a company incurs directly or indirectly  in connection with developing and taking a course of action that is reasonably likely to lead to a better outcome for the company than proceeding immediately to voluntary administration or winding up.” [Treasury Laws Amendment (2017 Enterprise Incentives No. 2) Bill 2017, Explanatory Memorandum, paragraph 1.32]

For the full history of this legislation – which encompasses “Safe Harbour for Insolvent Trading” laws and “ipso facto” clauses – and to see a discussion of the key issues (35 pages in all), click on this link: Parliamentary Library’s Bills Digest No. 33 of 11 September 2017.

TO BE CONTINUED …

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Sep 132017
 

Phoenix

Media release, the Minister for Revenue and Financial Services, the Hon Kelly O’Dwyer MP, 12 September 2017:

The Turnbull Government is taking action to crack down on illegal phoenixing activity that costs the economy up to $3.2 billion per year to ensure those involved face tougher penalties, the Minister for Revenue and Financial Services, the Hon Kelly O’Dwyer MP, announced today.

Phoenixing – the stripping and transfer of assets from one company to another by individuals or entities to avoid paying liabilities – has been a problem for successive governments over many decades. It hurts all Australians, including employees, creditors, competing businesses and taxpayers.

The Government’s comprehensive package of reforms will include the introduction of a Director Identification Number (DIN) and a range of other measures to both deter and penalise phoenix activity.

The DIN will identify directors with a unique number, but it will be much more than just a number. The DIN will interface with other government agencies and databases to allow regulators to map the relationships between individuals and entities and individuals and other people.

In addition to the DIN, the Government will consult on implementing a range of other measures to deter and disrupt the core behaviours of phoenix operators, including non-directors such as facilitators and advisers. These include: Continue reading »

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Penalties for White Collar Crime: Senate Report of March 2017

 ASIC, Offences, Regulation, White collar crime  Comments Off on Penalties for White Collar Crime: Senate Report of March 2017
May 292017
 

crime-cloud

Inquiries by Parliamentary committees can be a waste of everyone’s time. The Senate’s Inquiry into criminal, civil and administrative penalties for white collar crimes is a good example.

It began in November 2015 and ended in March 2017 (after pausing for 5 months because of the  election). It received 139 submissions, 2 lots of “additional information”, and had a public hearing at which 23 witnesses appeared. It’s report, which carries the grandiose title “Lifting the fear and suppressing the greed” (23 March 2017), runs to 108 pages. The committee said:

“A clear message to the committee from inquiry participants was that white-
collar crime and misconduct can cause serious harms, both at the individual level and
in the community as a whole.”

But despite this statement and the enormous amount of work that went into making submissions, conducting the inquiry and writing the report, media coverage has been almost non-existent. Perhaps news editors thought the subject matter was fairly dry, and/or that the report’s  recommendations were not particularly noteworthy or inspiring or controversial.  Such a conclusion would be understandable. To which I would add, that the report is unlikely to have much of an impact on how we deal with white collar crime.

 THE COMMITTEE’S RECOMMENDATIONS
Recommendation 1 That the government consider reforms to provide greater clarity regarding the evidentiary standards and rules of procedure that apply in civil penalty proceedings involving white-collar offences. paragraph 3.52
Recommendation 2 That the Australian Securities and Investments Commission (ASIC) consider ways in which the accessibility and usability of the banned and disqualified register might be enhanced, in order to create greater transparency regarding banning and disqualification orders. paragraph 5.24
Recommendation 3 That the government consider making infringement notices available to the ASIC to respond to breaches of the financial services and managed investments provisions of the Corporations Act. paragraph 5.34
Recommendation 4 That the government amend the Corporations Act 2001 to increase the current level of civil penalties, both for individuals and bodies corporate, and that in doing so it should have regard to non-criminal penalty settings for similar offences in other jurisdictions. paragraph 6.55
Recommendation 5 That the government provide for civil penalties in respect of white-collar offences to be set as a multiple of the benefit gained or loss avoided. paragraph 6.56
Recommendation 6 That the government introduce disgorgement powers for the ASIC in relation to non-criminal matters. paragraph 6.57

The committee’s full report is available for viewing and download at the committee’s Parliament of Australia website.

Incidentally, insolvency practitioners will be disappointed that there are so few references in the report to insolvency and liquidation, although potentially recommendation 4 could have an impact in corporate insolvency.

The next part of this blog post contains extracts which reveal “The Committee’s Views”  and the “Table of Contents of Report”.

Continue reading »

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Feb 252017
 

Melb Uni
Researchers at Melbourne University have issued their third and final report on investigations into insolvency fraud committed through the use of phoenix companies.

The 162 page report, issued on 24 February 2017, is titled Phoenix Activity: Recommendations On Detection, Disruption And Enforcement.

In the Executive Summary the authors state:

Harmful phoenix activity, left unchecked, has the capacity to undermine Australia’s revenue base and the competitive ‘level playing field’. It is wrong that legitimate business operators, paying taxes, wages and other debts, might be driven out of business by those engaging in harmful phoenix activity. Minimising business distrust caused by harmful phoenix activity can lower the cost of finance and make it more widely available. If less tax revenue is fraudulently avoided, the economy and society as a whole benefit. If fewer employee entitlements are lost as a result of harmful phoenix activity, there is likely to be less reliance on the Fair Entitlements Guarantee, freeing up government resources for other purposes.

What was described in earlier reports as “fraudulent phoenix activity” is described in the final report as “harmful phoenix activity”.

CLICK HERE to read and/or download a copy of the report.

The authors are Professor Helen Anderson, Professor Ian Ramsay, Professor Michelle Welsh and research fellow Mr Jasper Hedges.

Their Phoenix Project (“Phoenix Activity: Regulating Fraudulent Use of the Corporate Form”) “seeks to enhance Australia’s economic stability by determining the best methods of addressing fraudulent use of the corporate form without unduly inhibiting its proper use”. The project was launched in 3 years ago.

Analysis and highlights of the report will be posted here in due course.


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Jan 192017
 

drawing-sorry

Boo Hoo

In March 2016 I lodged a submission with the Senate Standing Economics References Committee which is inquiring into penalties for white collar crime in Australia. However, for reasons which remain a mystery (probably just an administrative stuff-up), my submission did not make it to the committee, and so is not published on the Inquiry’s website with the other 139 submissions appearing there (at 19 Jan 2017).

The 139 submissions are listed (and publicly available) on two web pages:

Although my submission didn’t contain any astonishing revelations or brilliant insights, a considerable amount of thought and work went into creating it, and the facts and ideas it contains are probably worth considering. Therefore, I’ve decided to publish most of the submission here, just for the record.(The Senate Committee is due to report by 28 February 2017.)

OFFENCES IN CORPORATE INSOLVENCY

The committee is looking at penalties for white-collar crime in general. The focus of my submission was the field of corporate insolvency and the penalties for white collar crimes committed by directors of insolvent companies. Continue reading »

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Dec 042015
 

The Senate Economics References Committee has criticised the contempt that some directors show for company laws, the “mild” consequences of non-compliance and the low likelihood that unlawful conduct will be detected.

In its report “Insolvency in the Australian construction industry: I just want to be paid” – published 3 December 2015 – the Senate Committee states:

The committee considers that the estimates of the incidence of illegal phoenix activity detailed in this report suggest that construction industry is being beset by a growing culture among some company directors of disregard for the corporations law. This view is reinforced by the anecdotal evidence received by the committee which indicates that phoenixing is considered by some in the industry as merely the way business is done in order to make a profit.

The committee is particularly concerned at evidence that a culture has developed in sections of the industry in which some company directors consider compliance with the corporations law to be optional, because the consequences of non-compliance are so mild and the likelihood that unlawful conduct will be detected is so low.

This culture is reflected in the number of external administrator reports indicating possible breaches of civil and criminal misconduct by company directors in the construction industry. Over three thousand possible cases of civil misconduct and nearly 250 possible criminal offences under the Corporations Act 2001 were reported in a single year in the construction industry. This is a matter for serious concern. It suggests an industry in which company directors’ contempt for the rule of law is becoming all too common.

[from Executive summary, Phoenixing (page xix) and paragraph 5.100 (page 87)]
Continue reading »

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Nov 122015
 

Transcripts have now been published for all of the public hearings of the Senate inquiry into insolvencies in construction industry. Phoenixing of companies is the main topic discussed. Several insolvency practitioners have given evidence, and at the hearing in Sydney on 28th September the insolvency profession was criticised by the leading participant, Senator Doug Cameron. At the public hearing in Melbourne on 29th September the Walton Constructions case was discussed in detail by the insolvency practitioners initially appointed as external administrators.

A list of the public hearings and those who appeared as witnesses is provided below. Continue reading »

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Jul 312015
 

During the June 2015 hearing in Canberra of the Senate Economics References Committee’s inquiry into “Insolvency in the Australian construction industry”, Mr Dave Noonan, a national secretary in the Construction, Forestry, Mining and Energy Union (CFMEU), listed what he thought were the main causes of business failure in the construction industry. In doing so he was drawing largely on figures published by the Australian Securities and Investments Commission (ASIC), which gathers that information from liquidators and other external administrators.

It’s the latest example of these ASIC statistics being quoted as if they were accurate and credible. In the CFMEU’s case, Mr Noonan took delight in agreeing with a Dorothy Dixer from a friend in the Senate (Senator Doug Cameron) that “the CFMEU was not named as one of the major reasons for corporate failure in the construction industry”. The inference was, of course, that the statistics proved that the CFMEU was not a problem for the industry.

What some of those who quote these ASIC statistics may not know is that the categories of causes from which external administrators must choose are predetermined. In other words, in nominating causes of failure external administrators must select from a list of categories created by the ASIC. Also, one of those categories – one which gets a large number of ticks – is labelled merely “Other”.

Furthermore, and curiously, the information given to the ASIC by external administrators appears, on the face of it, to be at odds with the widespread belief amongst the insolvency community, unions and regulators that many business failures, especially in the construction industry, are the result of fraudulent phoenix activity. Which raises the question of whether the number of permitted categories of causes need to be increased, and/or whether the categories need to be modernised, broadened and clarified.

circle-of-confusion

Permitted categories of causes

The ASIC compiles its statistics on the causes of failure from information supplied by external administrators when they fill out their statutory reports online (Form EX01, Schedule B of ASIC Regulatory Guide 16). In filling out these reports – i.e., in nominating the causes of a particular corporate insolvency – external administrators must select from 13 categories of causes, which are shown below in the order established by the ASIC and using its exact words. This list of categories has existed for at least thirteen years. The only change since 2002 has been to alter the name of cause number 13, from  “None of the above” to “Other, please specify”.

Select from these causes of failure

1.  Under capitalisation
2.  Poor financial control, including lack of records
3.  Poor management of accounts receivable
4.  Poor strategic management of business
5.  Inadequate cash flow or high cash use
6.  Poor economic conditions
7.  Natural disaster
8.  Fraud
9.  DOCA (Deed of Company Arrangement) failed
10. Dispute among directors
11. Trading losses
12. Industry restructuring
13. Other, please specify

For those with business savvy, a rough definition of most of these ASIC categories can be deduced from their titles. (Which is just as well, because there is no official explanation.) But some categories – particularly “Fraud” (ASIC cause 8) – are vague and broad, and would benefit from the ASIC stating exactly what they mean.

Numbers for categories of ASIC causes

The ASIC’s latest report on this subject [1.] shows that in 2013-14 the “nominated causes of failure” – for all industry types, not just the construction industry – from highest to lowest, were:

Chart 1
CAUSES OF FAILURE
NUMBER
Inadequate cash flow or high cash use
4,031
Poor strategic management of business
3,975
Trading losses
3,078
Poor financial control including lack of records
2,908
Other
2,726
Poor economic conditions
2,312
Dispute among directors
1,743
Poor management of accounts receivable
1,017
Dispute among directors
271
Industry restructuring
222
Fraud
146
Natural disaster
122
Deed of Company Arrangement failed
55
TOTAL
22,606

Top nominated causes

An external administrator may nominate as many of the prescribed causes as he or she likes. According to the ASIC, external administrators nominated an average of between two and three causes of failure per report in 2013–14. So in its summary the ASIC highlights the top three nominated causes of failure for companies and provides figures on the percentage of reports by external administrator in which these nominated causes appear:

Chart 2
CAUSES OF FAILURE
2013-14
Inadequate cash flow or high cash use (ASIC cause 5)
in 42.6% of reports
Poor strategic management of business (ASIC cause 4)
in 42.0% of reports
Trading losses (ASIC cause 11)
in 32.5% of reports

These top three nominated causes have been the same for the past four years. It appears that “Other” (ASIC cause 13) may be a close fourth.

What is fraudulent phoenix activity?

The following explanation of phoenix activity comes from “Defining and Profiling Phoenix Activity”, a paper published in December 2014 as part of a research project (still going) by Associate Professor Helen Anderson, Professor Ann O’Connell, Professor Ian Ramsay, Associate Professor Michelle Welsh and Hannah Withers of the University of Melbourne Law School and the Monash Business School:  [2.]

“The concept of phoenix activity broadly centres on the idea of a second company, often newly incorporated, arising from the ashes of its failed predecessor where the second company’s controllers and business are essentially the same. It is important to note that phoenix activity can be legal as well as illegal. Legal phoenix activity covers situations where the previous controllers start another similar business when their earlier entity fails in order to rescue its business. Illegal phoenix activity involves similar activities, but the intention is to exploit the corporate form to the detriment of unsecured creditors, including employees and tax authorities.
In a typical phoenix activity scenario, a company in financial difficulties, ‘Oldco’, is placed into liquidation or voluntary administration, or is simply left dormant (and may then be deregistered). Prior to this occurring, Oldco’s assets may be transferred either to a newly incorporated entity, ‘Newco’, or to an existing entity, such as a related company in a corporate group. “

Losses incurred

Estimates of losses incurred by the Taxation Office, employees, the Fair Entitlements Guarantee (FEG) scheme, sub-contractors, trade creditors , etc. as a result of phoenix activity vary, but are in the hundred of millions. On its website the ASIC quotes from figures in a report published by Fair Work Australia in 2012 which put the cost to the Australian economy at potentially more than $3 billion annually. The FWA report, “Phoenix activity: sizing the problem and matching solutions”, estimates that the annual cost of illegal phoenix activity is:

  • up to $655 million for employees, in the form of unpaid wages and other entitlement
  • up to $1.93 billion for businesses, as a result of phoenix companies not paying debts, and for goods and services that have been paid for but not provided, and
  • up to $610 million for government revenue, mainly as a result of unpaid tax – but also due to payments made to employees under the General Employee Entitlements and Redundancy Scheme (GEERS) now the Fair Entitlement Guarantee (FEG).  [3.]

 

Phoenix perpetrators and phoenix victims

A phoenix transaction carried out by a company normally brings about the end of the company. If the company’s former suppliers or subcontractors cannot survive without the payments they were receiving from the company, they too may have to close down. Hence, where phoenix activity is involved a failed company might be a phoenix perpetrator or a phoenix victim (or perhaps a phoenix perpetrator as a result of being a phoenix victim!).

For simplicity’s sake, this article will focus upon companies/directors that are phoenix perpetrators.

To which category of ASIC causes of failure do phoenixing events belong?

When looking at a failed company an external administrator might conclude that the company is a phoenix perpetrator (or, to describe the event more accurately, that the directors caused the company to carry out a phoenix arrangement). However, the predetermined list of causes which the ASIC has created doesn’t provide a category that is clearly made for such cases, or a category into which such cases might logically fit.

“Fraud” (ASIC cause 8) might be an appropriate category. But if the phoenix activity was “legal” [4.] it may not.

Even if “Fraud” is the cause category into which external administrators should, and do, put fraudulent or illegal phoenix cases, then it appears that the commonly accepted extent of such activity is not being reflected in their reports to the ASIC.  As chart 1. shows, “Fraud” accounts for only 146 out of 22,606 causes.

Furthermore, anecdotal evidence suggests that “Fraud” is regarded by external administrators as referring to dishonesty by employees or outsiders – like the misappropriation of funds, or the abuse of position by employees, or wrongful or criminal deception by outsiders.

In a “legal phoenix” case the external administrator might select the cause category of “Other” (ASIC cause 13). The fact that this cause stands at an appreciable 2,726 out of 22,606 on the latest count (see chart 1.) adds weight to that possibility. But because the “please specify” descriptions that are requested and given in this category are not publicly disclosed by the ASIC (and probably not even analysed), we don’t know what is being included in this undefined, catch-all category.

In a “legal phoenix” case, and even in an “illegal phoenix” case, the external administrator might – for the purpose of reporting causes of failure – disregard the phoenix transaction, preferring the view that the company failed before implementation of the phoenix scheme as a result of other causes, such as “inadequate cash flow or high cash use”, “poor strategic management of business” and/or “poor financial control including lack of records”.

What we don’t know

There is so much we don’t know. For example:

  • We don’t know whether phoenixing is generally regarded by external administrators as a cause of failure of companies.
  • We don’t know how many phoenix cases – legal and illegal – external administrators encounter.
  • We don’t know whether illegally phoenixing is generally regarded by external administrators as either an offence or “misconduct” to be reported to the ASIC.

 

Possible misconduct

The above discussion of causes has drawn on information supplied by external administrators in a particular section of the statutory report form EX01. However, the main reason for this form’s existence is to report, as required by the Corporations Act, possible offences that the external administrator has noticed.

In Schedule B external administrators are asked to advise whether they are reporting “possible misconduct”.  It is possible, therefore, that reports of illegal phoenixing are contained in this main section of their reports.

But if this is so, the ASIC’s analysis of the statutory reports received – published in “Insolvency statistics: External administrators’ reports” – does not mention it. In fact, the word “phoenix” appears only once in the latest of those published reports, and then only in a passing manner. Perhaps this is to be expected, given that the word “phoenix” does not even appear in Schedules B and D nor in any other part of ASIC Regulatory Guide 16.

It’s possible that the word’s absence from the offences/misconduct section of the Regulatory Guide may be due to the fact that “there is no express ‘phoenix offence’”. [4.] 

However, as “Defining and Profiling Phoenix Activity” explains, acts carried out during conduct of an “illegal phoenix scheme” are likely to be offences under one or more of several sections in the Corporations Act.  Also, the acts are likely to breach provisions of the Tax Assessment Act, the Criminal Code Act and/or the Fair Work Act.  [4.] .

Winding up

At this point we arrive at the same questions presented by the earlier analysis of the causes of failure. Is the phoenix activity observed by “the front-line investigators of insolvent corporations”  [5.]  being officially reported to the ASIC? If it is, how does the ASIC know it is, and how is the ASIC putting that information on the public record and before inquiries and researchers looking into phoenix activity?

Given the high level of interest in, and regulatory action to curb, the illegal phoenixing phenomenon, it is a pity that the store of the valuable knowledge derived from first-hand observations by external administrators is not being properly mined. The ASIC should give serious consideration to amending/expanding the Form EX01, Schedule B of Regulatory Guide 16 with simple changes to:

  •  include a category for corporate failures caused by phoenix schemes; and
  • include a question in the misconduct section asking whether the company was involved in a phoenix scheme.

FOOTNOTES:

  1. Insolvency statistics: External administrators’ reports 1 July 2013-30 June 2014: Report 412, 29 September 2014
  2. http://law.unimelb.edu.au/cclsr/centre-activities/research/major-research-projects/regulating-fraudulent-phoenix-activity
  3. http://asic.gov.au/for-business/your-business/small-business/compliance-for-small-business/small-business-illegal-phoenix-activity/
  4. “Defining and Profiling Phoenix Activity”, December 2014, Associate Professor Helen Anderson and others.
  5. The ASIC often refers to external administrators as “the front-line investigators of insolvent corporations”. See for example, “Regulatory Guide 16: External administrations: Reporting and lodging”, para. R16.4

Previous posts on this blog regarding this inquiry:

 

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Jun 192015
 

(19/6/2015) A lively public hearing before the Senate Committee looking into insolvency in the Australian construction industry has been told by several speakers that sub-contractors should be protected by requiring head contractors to place money in trust funds. The Committee also heard about debt collection methods, outlaw bikie gangs and new allegations concerning events leading up to the collapse of Walton Construction in October 2013.

Those appearing before the Committee on 12 June 2015 included Mr Dave Noonan, National Secretary of the Construction and General Division, Construction, Forestry, Mining and Energy Union (CFMEU), representatives of the Subcontractors Alliance, Project Resources, Masonry Contractors Association of NSW, EcoClassic Group Pty Ltd and Erincole Building Services Pty Ltd.

MORE TO COME: At the close of the day Senator Cameron said: “Chair, there might be other issues once we have a look at the Hansard. We might need to get some of this group back again further on. This inquiry is going to run for a bit of time yet, so we will need to have a look, see what you said and come back.”

The official Hansard transcript of the hearing on 12 June 2015 was recently published on the Parliament’s website. A PDF copy of the 56 page transcript may be downloaded from that site by clicking here.

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