On 18 February 2020, the government amended the Corporations Act 2001 (Cth) (the Act) to introduce the new creditor-defeating disposition provisions. In effect, the new provisions created a new category of voidable transactions that can be set aside in liquidation. The amendments were done through the Treasury Laws Amendment (Combating Illegal Phoenixing) Act 2020.
The explanatory memorandum to the Amendment Act stated that the Act:
"introduces new phoenixing offences to prohibit creditor-defeating dispositions of company property, penalise those who engage in or facilitate such dispositions, and allow liquidators and ASIC to recover such property."
Due to the Covid-pandemic, it took a while before the new legislation was tested in court. The first case, Re Intellicomms Pty Ltd (in liq) [2022] VSC 228, was only decided by the Victoria Supreme Court in May 2022. The court declared a sale agreement voidable under the new section 588FE(6B) after declaring the transaction a creditor-defeating disposition within the meaning of section 558FDB(1) of the Act.
The sale agreement was entered into just hours before the company was placed into voluntary liquidation. The sale transaction was between Intellicomms Pty Ltd and a company, Technologie Fluenti Pty Ltd, incorporated just two weeks before the disposition. The sole director and shareholder of Technology Fluenti was the sister of the sole director of Intellicomms.
What is illegal phoenixing?
ASIC described illegal phoenixing as follows:
"…a new company, for little or no value, continues the business of an existing company that has been liquidated or otherwise abandoned to avoid paying outstanding debts, which can include taxes, creditors and employee entitlements".
In the Intellicomms case, Associate Justice Gardiner called the sale agreement "a brazen and audacious example" of illegal phoenixing. He said the sale had all the features of what has become known as a phoenix transaction. The effect of the sale agreement was to strip Intellicomms of what assets it had to satisfy the claims of its creditors and transfer them to an entity which was closely associated with its director.
What is a creditor-defeating disposition?
In layperson's terms, we talk about shifting assets to avoid creditors. Section 588FDB defines creditor-defeating dispositions as follows:
A creditor-defeating disposition is a disposition of company property:
• for less than its market value or the best price reasonably obtainable having regard to the circumstances existing at that time; or
• that has the effect of preventing, hindering or significantly delaying the property becoming available to meet the demands of the company's creditors in the winding-up.
The value is determined at the time the agreement was made or the time of disposition if there was no agreement.
A disposition of property includes:
· if a company does something that results in another person becoming the owner of property that did not previously exist; and
· if a company makes a disposition of property to another person and the other person gives some or all of the consideration for the disposition to a third party.
If the assets are no longer available for divisions between the creditors on winding up then further questions will likely be asked with these provisions in mind. However, this definition suggests that not all dispositions are creditor-defeating. It must be established that the consideration received for the asset was less than market value and less than the best price reasonably obtainable for the disposition to be voidable.
What does market value mean?
Market value is the price that a hypothetical, knowledgeable and willing, but not anxious, buyer would pay to a knowledgeable and willing, but not anxious, seller in a hypothetical transaction at arm's length.
The alternative test of 'the best price reasonably obtainable' recognises legitimate situations where a company may need to dispose of assets at less than market value. A company could, for example, be in urgent need of cash and may legitimately sell for less than market value. In such cases, the court will look at the circumstances around the disposition and whether the steps the company took to realise the asset's value were reasonable. If, for example, a company sells assets on public auction and gets the best available price, the disposition won't be creditor-defeating simply because it did not sell at market value.
Voidable transactions
Section 588FE(6B) declared creditor-defeating dispositions voidable transactions.
A transaction is voidable if, it is a creditor-defeating disposition of property of the company and at least one of the following situations must applies:
The transaction, or an act giving effect to it, happened-
• when the company was insolvent; or
• became insolvent because of the transaction (or an act giving effect to it) within 12 months before the relation-back day; or
• an external administration starts less than 12 months after the transaction as a direct or indirect result of the transaction or act.
Under certain circumstances, a credit-defeating transaction will NOT be voidable. For example, if the disposition was made-
• by an administrator of the company; or
• under a restructuring plan (such as a 'safe harbour' transaction) made by the company; or
• by a liquidator or provisional liquidator of the company; or
• under a deed of company arrangement executed by the company; or
• under a compromise or arrangement approved by the court under section 411 of the Act.
Who must prove value?
In the Intellicomms case, the court rejected the notion that the onus is on the liquidator to prove market value or the best price reasonably obtainable for the asset. The court held that liquidators only have to establish, on a balance of probability, the consideration paid was less than market value or the best price reasonably obtainable. Specifically, Associate Justice Austin stated as follows:
…the Liquidators are required to establish that, on the balance of probabilities, the consideration payable under the Sale Agreement was less than both of the limbs contained in s 588FDB”.
So, what must liquidators consider when clawing back assets?
The new provisions provide another avenue for liquidators to act against credit-defeating depositions and claw back the assets.
Liquidators must be satisfied that:
• The transaction is a creditor-defeating disposition that happened on or after 18 February 2020 (the creditor-defeating disposition provisions only commenced on that date).
• The transaction must have happened in the time frame (within 12 months)
stipulated by Section 588FE(6B).
• The application must be made within 3 years after the relation back date or 12 months after being appointed as a liquidator.
Liquidators must bear in mind that they must establish on a balance of probabilities the consideration paid or payable under the agreement was less than market value and the best price reasonably obtainable at the time of the transaction.
In Intellicomms, the court held it was not necessary to establish what those actual amounts (market value or best price reasonably obtainable), in fact, were. The surrounding circumstances were sufficient to show on a balance of probabilities that the consideration payable was less than market value or the best price reasonably obtainable.
The liquidators in Intellicomms did not undertake their own valuation of the assets in question. They submitted that the best price reasonably obtained for the assets having regard to the circumstances at the time of sale was not less than the market value. In that regard, the relevant circumstances included: relied on various other factors, including:
· there was no legitimate urgency to sell the assets without testing the market.
· the purchasing entity was a company owned by the sister of the sole director of Intellicoms and was incorporated only 2 weeks prior to when the sale agreement was entered into; and
· there was a knowledgeable entity willing to purchase the assets for an amount significantly higher than the purchase price under the sale agreement, which suggested the purchase price under the sale agreement was less than the best price reasonably obtainable (which supported the assertion that the assets could have been sold after undertaking a bidding process to ascertain their market value).
The liquidators also relied upon an expert report to dispute the valuation reports relied on by the company.
Of course, the surrounding circumstances will vary from case to case. Not all cases will be as clear-cut as Intellicomms.
Liquidators should consider factors such as:
• the relationship between the purchaser and the people in the company;
• steps taken to identify prospective buyers;
• actions taken by the company to establish market value; and
• the time between the disposition and liquidation.
Consistently with the Court’s comments, the Intellicom case serves as a great example of an illegal and voidable disposition and the factors that should be considered when deciding if a disposition is indeed a credit-defeating disposition.
Ultimately, to claw back assets, liquidators must provide sufficient evidence on which an amount can be calculated to represent the benefit the person received as a result of the voidable transaction.
Remedies available to liquidators and creditors
Once a liquidator can establish that a transaction is indeed a voidable credit-defeating transaction, several remedies are available to recover the assets.
The liquidator can approach the court to declare the disposition a voidable transaction. If the court is satisfied that it is a voidable transaction, the court can make orders under section 588FF of the Act, including orders to:
• recover the property;
• pay the company an amount, that in the court’s opinion, fairly represents some or all of the benefit received because of the transaction;
• transfer to the company property that in the court’s opinion, fairly represents the:
• money that the company has paid under the transaction; and/or
• the proceeds of property that the company has transferred under the transaction.
A liquidator can also approach ASIC for an administrative order to undo the transaction. Sec 588FGAA of the Corporations Act grants ASIC the power to make orders to undo the effect of a voidable creditor-defeating transaction by a company being wound up.
If ASIC is satisfied that:
• it is a creditor-defeating disposition; and
• it is voidable under the Act; and
• the person has received money or property as a result of the disposition; then
ASIC can make any of the following orders:
• Direct the person to transfer to the company the property that was the subject of the disposition.
• Require the person to pay to the company an amount to the creditors or liquidators that, in ASIC's opinion, fairly represents some or all of the benefits that the person obtained (directly or indirectly) from the disposition.
• Require the person to transfer property to the company that, in ASIC's opinion, fairly represents the application of proceeds of the property that was the subject of the disposition.
Conclusion
At the time of writing this article, we are unaware of any subsequent decisions since Re Intellicomms Pty Ltd (in liq) [2022] VSC 228 with similar facts. Since the facts in the case are almost a textbook example of a credit-defeating disposition and illegal phoenixing, it provides good guidance for liquidators when deciding what constitutes a credit-defeating disposition and how to claw back assets.
It remains to be seen how the law and penalties around creditor-defeating dispositions develop in the near future. Companies and their directors should proceed cautiously when disposing of assets since the new provisions also introduced offences for directors and advisors involved in facilitating creditor-defeating dispositions.