Illegal Phoenix Activity – What is it?
The Australian insolvency system is designed to protect employees, and creditors if a businesses can no longer meet its financial obligations. Unfortunately, like any system there are loopholes that criminals and unethical operators can exploit. Phoenixing refers to the practice of a company deliberately closing down (via liquidation or administration) and starting up a new company in order to avoid debts, liabilities, or obligations. The new company then operates in the same market, with the same assets without paying the previous companies debts.
Phoenixing is particularly prevalent in the construction and transport/logistics industries because of the low margins. Whilst the practice is illegal, and those convicted can serve jail time it’s very challenging and costly to prosecute, meaning the cycle will continue.
Red Flags for Illegal Phoenix Activity
1) Same Directors or Shareholders
Businesses should always be vigilant and check director details via ASIC or credit bureau reports. Where directors have been involved with previously failed entities before, suppliers must operate with care as this can indicate previous phoenixing acitivity.
2) New Companies created for each new project
Setting up new companies for individual projects is a way organisations can protect themselves if things go bad on a particular job. Operators will move assets from unprofitable projects and entities to new projects and entities, leaving nothing behind other than unpaid suppliers.
3) Puppeteering of Directors
This refers to the practice of registering directors of companies that aren’t actually the real directors. This is done to circumvent the legal penalties that are imposed on directors of failed entities.
4) Not meeting Tax Obligations
Over the last couple of years, the ATO has started disclosing non-payments of tax liabilities to major credit bureaus. Large tax liabilities can be a sign that an operator is intending to liquidate without meeting all creditor obligations.
How Can Businesses Protect Themselves?
Suppliers must be thorough in doing their due diligence on their customers. This means checking the shareholdings and directors via reputable credit bureaus or directly with ASIC. Sadly though, not all phoenixing can be detected. Particularly when an operator phoenixes for the first time. Many suppliers and businesses in the construction and transport/logistic sectors use trade credit insurance to mitigate the risk of losses and bad debts.
Insurers will carry a significant database of historical and current financial information which can help detect potential phoenix activity before it happens. However if your business does suffer a loss because of unlawful customer practices an insured can claim up to 90% of what they are owed.
To discuss we can help you protect your own business from illegal phoenixing please get in contact with us.