More must be done to stop a phoenix rising

Legislation aimed at businesses that leave their debt behind doesn't go far enough, writes Steve Harris.

Legislation aimed at businesses that leave their debt behind doesn't go far enough, writes Steve Harris.

IN DECEMBER, the Australian government introduced the Similar Names Bill as a means of targeting phoenix activity. An analysis of history shows that the reforms do not go far enough.

Sacrosanct in company law is the principle of limited liability, which excludes directors from personal liability for debts incurred by their companies. This is an indispensable privilege, but like all privileges, it is open to abuse.

Phoenix activity where a director abandons a failed company, sets up a new one, transfers the business and continues trading is done for the calculated purpose of escaping liabilities to creditors and employees of the failed company.

In response to the 1980s recession, the British government mooted a raft of reforms to insolvency law. One reform proposed to make directors of a phoenix company personally liable for its debts.

A decade later, British company law experts dubbed the reform an "unmitigated failure" because of its inability to curb phoenix activity.

Wind the clock forward another 10 years and the Australian government is proposing to introduce the same reform that failed in Britain.

The government is to be commended for taking steps to address phoenix activity estimated by the ATO to cost the Australian economy between $1 billion and $2.4 billion a year however, the Similar Names Bill is unlikely to ameliorate its impact.

Maurice Blackburn's first concern is that the bill only targets this activity where the phoenix company trades under the same or similar name.

It is true that a similar name may be used by directors who wish to surreptitiously transfer the business of a company, thereby retaining its customers, market share and goodwill.

But directors will often transfer the business to a company with a purposefully dissimilar name, in order to avoid the taint associated with the failed company's unpaid debts. Despite the different name, the business will employ the same staff, at the same premises, serving the same customers the same products. The only change is that it leaves behind its debts.

A recent case highlights the ease of that escape. In 2002, a company called Hot Metal started transferring its business to a new company called Bico Designs. Hot Metal had failed to pay its employees' superannuation to the tune of $76,731 and had a tax debt of $296,068. Its director was disqualified from managing companies for five years, but that did nothing to help Hot Metal's employees, or Australian taxpayers.

It is this type of abuse that the government needs to tackle and the Similar Names Bill won't do it.

The second limitation is that the Similar Names Bill provides creditors of the new, similarly named company with access to the directors' personal assets to satisfy their debts, but provides nothing to creditors and employees of the failed company those who are most often aggrieved by the phoenix activity. The hardest-hit creditors and employees are left hanging out to dry.

Take for example the directors of a printing business who told a pregnant worker that she had "caused an inconvenience" and gave her the sack (just before Christmas). The directors and their company, Wongtas, were hauled to court over this in 2010. Soon after, the directors put Wongtas into liquidation and registered a new company, Wangtas, which began the same operations from the same location.

The Federal Court held that the liquidation of Wongtas had been carried out for the purpose of avoiding financial penalties under the Fair Work Act. Nevertheless, the proceeding could not be maintained against Wongtas because the company no longer existed. The pregnant employee wasn't paid her wages and didn't get her job back.

As a consequence of the countless examples of clients suffering similar losses at the hands of dodgy directors, Maurice Blackburn made a submission to the Australian government about the proposed Similar Names Bill.

We recommended that the Australian government amend the bill so that it is aimed at all phoenix activity, regardless of whether the two companies have a similar name. We also believe that directors should be made personally liable for the debts of the failed company, in order to protect those most often left lamenting.

The Australian government has taken an important first step by recognising that the current legislation does not provide sufficient protection from phoenix activity.

The next step is for the government to take action that will protect those damaged by phoenix activity.

Steve Harris is general counsel at Maurice Blackburn Commercial.

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