ATO Credit Risk Due Diligence Risk Management
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Phoenixing: The Rise of Director Due Diligence

Learn about Director Due Diligence

CreditorWatch addresses illegal phoenix activity

For Australian businesses previously burnt by illegal phoenixing, it is welcome news the Australian Taxation Office (ATO) will roll out Director Identification Numbers (DINs) in 2021. The introduction of director IDs is part of a series of government reforms to address illegal phoenixing and protect honest businesses from unlawful director behaviour.

Introducing DINs is a long-awaited solution to a major problem. According to Senior Business Development Manager Caroline Smith and Key Account Manager Dominic D’Andrea from CreditorWatch, Australia’s most innovative commercial credit reporting bureau, phoenix activity is a fiery topic among their clients. 

“After speaking to small businesses like microbreweries, it’s obvious there is a growing awareness of dodgy director activity through phoenixing, but not so much of the ways to combat it, like Director Due Diligence.” says Caroline.

Dominic adds, “Phoenixing is especially prevalent in the construction industry and my customers question how and why directors can jump ship from one business and set up another in quick succession.” 

What is phoenixing?

Phoenix activity or phoenixing occurs when a commercial entity “rises from the ashes” of a company which has collapsed. It continues the operations of the initial company and engages in similar trading activities, giving off the appearance that nothing has changed.

It’s not commonly known that phoenix activity can be both legitimate and fraudulent.

What is the difference between legal and illegal phoenix activity?

Legal phoenix activity occurs when a business reaches doubtful solvency or becomes insolvent, and the owners use a new company to start a similar business, in order to rescue their business.

It is crucial to distinguish between the legitimate rebirth of a company and illegal phoenixing, so as to not deter genuine entrepreneurship in the Australian economy.

Illegal phoenixing can be difficult to define as it can manifest in different forms. According to the ATO, ‘Illegal phoenix activity is when a company is liquidated, wound up or abandoned to avoid paying its debts. A new company is then started to continue the same business activities without the debt.’

Phoenix activity is illegal when:

  1. A corporate trading entity is deliberately liquidated.
  2. The entity intends to violate the interests of its creditors and evade tax, employee entitlements, debts and other liabilities. 
  3. The entity continues to operate by setting up a new entity in its place (company property and assets are stripped from the first company and transferred to the new one).

The impacts of Illegal phoenixing activity can happen to both small businesses and corporate entities, but as Dominic explains, not all companies are aware it’s happening to them.

“Smaller businesses are usually the ones to notice phoenixing behaviour first because they find out who to avoid from others or simply remember the directors behind a business. They only have a limited number of customers to keep track of so it’s easier to do their due diligence.”

“Of course, phoenixing happens in bigger organisations, but because they have so many clients to onboard, it’s nearly impossible to remember a director’s name off by heart, and the ones that are showcasing risky behaviour can slip through the cracks.”

What are the warning signs of phoenixing?

For businesses looking to avoid illegal phoenix activity, the danger is in the details. 

“Pay attention to inconsistencies in company details,” advises Caroline. These include changes to a company’s name and its directors, especially if the team and structure of the business remains the same,” advises Caroline. If you notice a few businesses that are either active or deregistered share similar names, this is also a red flag.

Other signs to take notice of include:

  • Your customer asks to be invoiced in a new company name
  • A director steps down to have a spouse or relative take over the role (common in small family-run businesses)
  • A competitor offering goods or services well below market rates
  • A director with a history of failed businesses or bankruptcy. 

Director behaviour is a strong indicator of a business’s stability and future. According to CreditorWatch data:

  • A director with a payment default is 5 times more likely to experience another one
  • A director with a court action is 2 times as likely to have another one
  • A director with a failed business is 2 times more likely to fail again

How to avoid the impacts of illegal phoenixing

“As is the case with avoiding all forms of credit risk, prevention is better than cure,” says Caroline. 

“When assessing a new credit application, business owners need to take the time to verify who the director is with a driver licence and organise the signing of a director’s guarantee.”

Dominic adds, “Business owners can seek additional protection by registering security over their goods on the PPSR (Personal Property Securities Register). This entitles them to the invoice value of the goods or to take the goods back if they haven’t been used or sold.”

“It doesn’t have to be the goods or services you provide either – I know a client that registered security over a customer’s expensive vintage car on the PPSR. Because it had an emotional value to the director, they paid every bill on time. It’s all about making sure you’re as protected as possible in your trading relationships.”

Monitoring cross directorships is also vital, given the aforementioned points about director behaviour. A cross directorship is when a director sits on the board of more than one company at the same time. If an adverse action like a court judgment or insolvency occurs to one of these companies, it’s a warning it can occur again to the other.

Business owners can stay ahead of this risk by monitoring their customers and acting when notified of risky director behaviour. This is explained in the infographic below.          



The fight against phoenix activity

The passing of the ‘Combating Illegal Phoenixing Bill’ in 2020 reflects the Australian government’s increased efforts to address issues of corporate and financial crime and fraud. CreditorWatch explores what the government is doing to fight phoenixing in this white paper.

As a credit risk data and technology business, CreditorWatch has also developed a tool businesses can use to mitigate the risk of a harmful director: Director Due Diligence. 

CreditorWatch customers that use Director Due Diligence are able to identify bankrupt directors, spot inconsistencies with director names and addresses, and receive alerts when a director displays risky behaviour.

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