A S I C

A S I C

Australian Securities & Investments Commission

Australian Securities & Investments Commission

Submission to the Parliamentary Joint Committee on Corporations and Financial Services Inquiry into Australia’s Insolvency Laws
February 2003

CONTENTS
1	Overview
2	ASIC involvement in the insolvency industry
3	Statistics on corporate insolvency
3.1	Corporate insolvencies
3.2	Registered liquidators
4	Law reform and Other Initiatives
4.1	CLERP
4.2	Reports and papers
4.3	Other insolvency initiatives
5	tHE CURRENT INQUIRY
5.1	Terms of reference
5.2	Appointment, removal and functions of administrators and liquidators
5.3	Directors' duties
5.4	Rights of creditors
5.5	Cost of external administrations
5.6	Treatment of employee entitlements
5.7	Reporting and consequences of suspected breaches of the Corporations Act
5.8	Compliance with, and effectiveness of, deeds of company arrangement
5.9	Whether special provision should be made regarding use of phoenix companies
6	Concluding Remarks
7	Annexure a: ASIc's Insolvency Related Policy Statements and Practice Notes
7.1	Policy Statements
7.2	Practice Notes
7.3	Policy in development
8	annexure b: insolvency statistics jan 2002 to Dec 2002

1	Overview
This submission outlines ASIC's role in the administration of Australian and international insolvency law and practice. It highlights aspects of corporate insolvency practice in Australia. 

2	ASIC involvement in the insolvency industry
One of ASIC's regulatory responsibilities is the administration of the Corporations Act 2001 (the Act) provisions relating to insolvency.  
This responsibility is wide, and includes:
•	Provision of assistance in the conduct of external company administrations by insolvency practitioners (voluntary administrations, receiverships and liquidations).  ASIC prosecutes directors who do not provide books and records or reports to liquidators.  Relevant sections of the Act with which directors are required to comply include ss429 and 475;
•	Assessing external administrators' reports lodged with ASIC as part of their statutory responsibilities to investigate corporate failure and report findings to ASIC.  These reports are required to be lodged pursuant to various sections of the Act including ss422, 438D and 533;
•	Investigation of potential misconduct associated with the collapse of a company, including the duty of a director to prevent insolvent trading under s588G;
•	The deregistration of companies under the provisions of ss601AA to 601AH;
•	The registration of liquidators under Part 9 Division 2 of the Act, particularly s1282;
•	Investigation of potential misconduct by insolvency practitioners in their conduct of external company administrations, and referral of the conduct to the court or to the Companies Auditors and Liquidators Disciplinary Board (CALDB). These actions are taken under ss423, 536 and 1292 of the Act. ASIC is the only body that can refer the conduct of a liquidator to the CALDB; 
•	Disqualifying directors of failed companies under s206F of the Act;
•	Developing ASIC policy and guidance on the insolvency provisions of the Act.  There are a number of Policy Statements and Practice Notes issued by ASIC to assist with interpretation of insolvency provisions.  These are listed in Annexure A. 
3	
Statistics on corporate insolvency
3.1	Corporate insolvencies
ASIC records and publishes on its web site statistics on corporate insolvencies in Australia.
During the twelve months to 31 December 2002 there were 6,208 companies that came under the control of a liquidator for the first time (referred to as new appointments).   A detailed breakdown of these is attached at Annexure B.  Annexure B reveals:
•	Voluntary Administrations accounted for 37.3 % of all new appointments;
•	Court appointed liquidations accounted for 35.3% of all new appointments;
•	Creditors Voluntary liquidations accounted for 16.5% of all new appointments (these do not include companies that were previously in Voluntary Administration);
•	Other types of external administrations accounted for 10.8% of all new appointments (receiverships, controllers, schemes of arrangements, provisional liquidations).
A review of the 6,634 appointments made in 2001 indicates a similar breakdown.
3.2	Registered liquidators
Liquidators in Australia are registered by ASIC.  In Australia:
•	There are 836 registered liquidators;
•	Of the registered liquidators 361 are also official liquidators;  
•	Only official liquidators can undertake Court appointed corporate insolvencies in Australia.   

4	Law reform and Other Initiatives
4.1	CLERP
Australia has seen significant corporate law reform developed through The Corporate Law Economic Reform Program (CLERP).  The CLERP reform process has included extensive consultation with industry on corporate law reform initiatives.  The CLERP process to date has been:
CLERP 1 – Accounting Standards
CLERP 2 – Fundraising
CLERP 3 – Directors Duties and Corporate Governance
CLERP 4 – Takeovers
CLERP 5 – Electronic Commerce
CLERP 6 – Financial Products, Service Providers and Markets
CLERP 7 – Simplified Lodgements and Compliance
CLERP 8 – Cross Border Insolvency 
CLERP 9 – Corporate Disclosure
4.2	Reports and papers
With the development of corporate law, in particular corporate insolvency law, there have been a number of reports and specific inquiries into aspects of insolvency and phoenix activity.  These include:
•	1997 Working party report into the insolvency profession (Working Party Report). 
•	1998 Legal Committee of the Companies and Securities Advisory Committee (CASAC) report into Voluntary Administrations (CASAC report). 
•	ASC research paper 98/01 "A Study of Voluntary Administrations in NSW".  This study dealt with compliance with the voluntary administration regime in NSW.  A copy of this paper is enclosed separately with this submission.
•	Three Parliament of Victoria Law Reform Committee reports "Curbing the Phoenix Company" 1994 and 1995. (Law Reform Committee - Parliament of Victoria).
•	In May 2000 the Legal Committee of CASAC published its final report on corporate groups (Corporate Groups).  Included in this report are four areas relating to insolvency.  
4.3	Other insolvency initiatives
There have also been recent government initiatives in certain areas relating to insolvency.  

•	Part 5.8A of the Corporations Act, which commenced on 30 June 2000, prohibits the entry into one or more agreements and/or transactions with the intention of preventing or significantly reducing the amount of entitlements that employees of the company may recover.  "Entitlements" will include superannuation contributions payable by the company in respect of services rendered to the company by the employee.  In the relatively short time since its introduction, there has been little opportunity to date to determine the practical effect of Part 5.8A.
•	Government is currently considering a discussion paper on the ranking of employee entitlements and mortgage securities.  
•	The Senate Economics Committee is considering draft legislation on the claw back of certain payments to directors in corporate insolvencies.  This is the Corporations Amendment (Repayment of Directors’ Bonuses) Bill 2002.
•	CAMAC is currently considering in detail the Restructuring of Large Enterprises under the Voluntary Administration Regime (CAMAC review).
•	CLERP 8 "Cross Border Insolvency Promoting International Cooperation and Coordination".  This recognises the need for an international uniform code of legislation that assists with the practical aspects of cross border insolvencies.  CLERP 8 is recommending the adoption of the UNCITRAL model law on cross border insolvency developed by United Nations member nations.
These inquiries, reviews or papers have addressed various aspects of what is being considered by the Inquiry and are listed for the benefit of the committee members.

5	
tHE CURRENT INQUIRY
5.1	Terms of reference
The terms of reference for the current Inquiry are: 
•	the appointment, removal and functions of administrators and liquidators;
•	the duties of directors;
•	the rights of creditors;
•	the cost of external administrations;
•	the treatment of employee entitlements;
•	the reporting and consequences of suspected breaches of the Corporations Act 2001;
•	compliance with, and effectiveness of, deeds of company arrangement; and
•	whether special provision should be made regarding the use of phoenix companies. 
5.2	Appointment, removal and functions of administrators and liquidators
There are currently two forms of liquidator registration granted by ASIC.  They are official liquidator and registered liquidator status.  ASIC provides guidance for intending liquidator applicants in its practice notes, specifically:
•	Practice Note 24 - Registration of Official Liquidators; and
•	Practice Note 40 – Registration of Liquidators.
5.3	Directors' duties
Directors are required under the Act to assist liquidators in the conduct of insolvency administrations.  This assistance includes:
•	handing over the books and records of the relevant company as required under ss434B and 474; 
•	preparing Reports as to Affairs (RATAs) setting out the assets and liabilities of a company as required pursuant to ss429, 438B and 475.  
When directors do not comply with their obligations ASIC works closely with liquidators by initiating enforcement action to secure compliance by directors. This is discussed further in section 5.7.
5.4	Rights of creditors
Prior to the introduction of the voluntary administration regime, in the vast majority of corporate failures, creditors initiated liquidations and nominated the insolvency practitioner to act.
Since 1993 the use and popularity of the voluntary administration has grown to where today it is a common type of insolvency appointment.
In most cases under the voluntary administration regime the directors (rather than creditors) initiate the appointment of an insolvency practitioner.  
Pursuant to s436E of the Act creditors are able, with sufficient voting entitlements, to remove a director appointed Administrator.  Creditors are also able to apply to the court in various circumstances to have an Administrator removed.  
5.5	Cost of external administrations
The professional fee of external administrators is determined by resolution of the creditors.  These procedures are set out by ss449E and 473 of the Act.  Generally creditors approve remuneration of liquidators on the basis of hourly charge rates for the work undertaken by different classifications of staff.  The general practice is for remuneration to be approved by either:
•	resolution at a meeting by the general body of creditors by resolution;
•	a committee of creditors on behalf of the general body of creditors, or
•	by the court.
ASIC has publicly stated that it expects the amount of fees subject to resolution to be capped to a limit, rather than open ended without a quantified amount.
Sections 449E and 473 of the Act deal with remuneration approval for voluntary administrators and liquidators respectively.  ASIC notes that unlike s473, ASIC is unable under s449E to challenge in court the quantum of fees in a voluntary administration.
If creditors disagree with the amount of remuneration sought by a practitioner the courts can be asked to review and approve fees by creditors.  
5.6	Treatment of employee entitlements
In recent history a safety net scheme for employee entitlements has been introduced under the GEER scheme.  Treasury is also currently considering draft legislation on employee entitlements ranking ahead of mortgage securities in certain circumstances.
5.7	Reporting and consequences of suspected breaches of the Corporations Act
5.7.1	ASIC's Complaints Management Program
The ASIC internal Complaints Management Program registers and processes complaints and pieces of information received or internally identified by ASIC as information to be recorded for assessment.  In the financial year ending 30 June 2002, ASIC recorded a total of 11,897 complaints and pieces of information, which included:
•	Complaints from the public about breaches of the law;
•	Reports from company liquidators, receivers, administrators and auditors;
•	Internally generated references sourced from intelligence reports, the media, referrals from other government agencies, surveillance and internal inquiries. 
To determine whether a matter should be resourced for formal investigation and possible enforcement action, the Complaints Management Program applies to each and every complaint and report of information, a detailed preliminary case assessment.  This assessment includes:
•	a review of all material constituting the complaint; and
•	if necessary, discussion with the complainant;
•	an examination of any relevant documentary material; and 
•	in some instances, the preliminary interview of relevant witnesses.
Upon the completion of this exercise, the material collated is further assessed against selection criteria, requiring, amongst other things an examination of:
•	ASIC's jurisdiction in the matter; 
•	the level of evidence; 
•	whether an achievable or appropriate remedy exists for ASIC to pursue,
•	whether the matter involves serious corporate wrongdoing or serious risk or detriment to consumers; and
•	whether the matter satisfies ASIC's regulatory and enforcement priorities. 
5.7.2	Reporting of suspected breaches
External administrators are generally required to make a report to ASIC on the results of their investigations into the affairs of the company.  This is a requirement under ss422, 438D and 533 of the Act.
To assist with the filing of these reports and to reduce the cost of compliance with these provisions, ASIC updated in December 2002 its guidance about reporting to ASIC contained in Practice Note 50 External Administrators – Reporting Matters and Lodging Documents.  This update is part of a major project by ASIC to enable insolvency practitioners to lodge documents with ASIC electronically.  This project is referred to as the EXAD (External Administration) Project.
The EXAD project has simplified the process for the provision of ss422, 438D and 533 reports (on results of investigations) by receivers, administrators and liquidators, respectively.  ASIC has simplified the form and information to be submitted to it and implemented efficiencies by making provision for electronic rather than paper lodgement of reports.  Since the introduction of this service in 2002, liquidators have supported this initiative, with reports received electronically by ASIC now approaching 50% of all reports received.
Reporting affects some 6,000 new corporate insolvency appointments each year and with the simplification of this process it is anticipated that a significant increase in the timely lodgement of reports will occur.
ASIC continues to seek to improve the processes associated with the reporting and investigation into liquidator referred matters.  As a part of our approach to improving our relationship with the profession we have regional insolvency liaison arrangements that include both insolvency lawyers and insolvency practitioners.  These meetings help us better understand the needs of the insolvency industry and improve delivery of our services and programs in this area.    
5.7.3	Consequences of reports of suspected breaches
Assistance for liquidators
A function of ASIC’s regulatory role is to enforce compliance of directors duties under the Act.  This includes assisting liquidators with their investigations into the failure of a company and reporting their findings to ASIC.
Over the last seven months, ASIC has taken the following action to assist liquidators secure assistance from directors:
•	Successfully prosecuted 150 company officers in regard to 229 offences under the Act relating to predominately non-compliance with requests by liquidators for RATA's and company books and records;
•	Filed with the Courts to prosecute a further 150 similar charges under the Act;
•	Obtained 44 civil orders pursuant to section 1274(11) of the Act requiring company officers to comply with liquidator’s requests.  
Insolvent trading prosecutions and civil penalty proceedings
ASIC also takes enforcement action after investigations into a failed company.  In the last two years, examples of enforcement results achieved by ASIC in relation to insolvent trading, and directors' duties offences where an insolvency was involved, include:
•	Successful criminal prosecutions (prosecution undertaken by Commonwealth DPP):
(i)	Farmer Furniture Pty Ltd (defendant directors' sentences ranged from three to five years suspended with $20,000 good behaviour bonds for insolvent trading);
(ii)	Twintara Pty Ltd (defendant director sentenced to two years and nine months jail wholly suspended upon entry of a three year $2,000 good behaviour bond for insolvent trading);
(iii)	Fosmeats Pty Ltd (director sentenced to two and a half years jail for improper use of his position and falsification of books and records);
•	Successful civil penalty proceedings in the matter of Snowdeli Pty Ltd (banning and pecuniary penalty orders obtained);
•	Successful civil penalty proceedings against Messrs Rodney Adler and Ray Williams (banning and pecuniary penalty orders obtained) ;
•	Assisting liquidator by obtaining orders against Allied Financial Pty Ltd, Wharton Partners Pty Ltd and others against dispersing monies in an alleged phoenix operation.

Current proceedings
Current proceedings include:
•	Civil penalty proceeding in the matter of Water Wheel Holdings Limited; 
•	Civil proceedings against company officers of OneTel Limited - Messrs Rich, Keeling, Silbermann and Greaves (banning and pecuniary penalty orders);
•	Fraud charges against Mark Anthony Johnstone, director of failed company DJF Pty Ltd.
5.8	Compliance with, and effectiveness of, deeds of company arrangement
A 1998 ASC study and the CASAC report into the Voluntary Administration regime consider the compliance and effectiveness of Deeds of Company Arrangement.  A link to the CASAC report is provided in section 4.2 and a copy of the 1998 ASC research paper is separately enclosed with this submission.
5.9	Whether special provision should be made regarding use of phoenix companies
The terms "phoenix company" and "phoenix activity" cover a range of entities and activities.  ASIC defines phoenix activities as those where an incorporated entity:
•	fails and is unable to pay its debts; and/or
•	acts in a manner which intentionally denies unsecured creditors equal access to the entity's assets in order to meet unpaid debts; and
•	within 12 months, another business commences which may use some or all of the assets of the former business, and is controlled by parties related to either the management or directors of the previous entity. 

The phoenix company phenomenon is a side-effect of the use of the corporate form and of limited liability, concepts that are fundamental to the global commercial system.  It is essential to the concept of limited liability that, when a company fails, the directors and the shareholders as a general rule are not held personally responsible for the debts of the company.
It follows that phoenix activity is not inherently unlawful.  There is no single offence provision that covers phoenix activity.  However, during the course of conducting phoenix activity, a company operator may, or may not, contravene a provision of the Act.  For example, it is possible, but by no means inevitable, that one or more of the following provisions may be triggered:
•	Section 206A (disqualified person not to manage corporation);
•	Sections 180-184 (directors' duties);
•	Section 588G (insolvent trading). 
ASIC's experience in matters involving phoenix company activity is that investigations to pursue individuals alleged to be managing whilst disqualified are resource intensive.  They achieve sentences or penalties that may be described as light or modest.  For example, over the last three years, sentences or penalties have ranged from a three-month jail sentence at best, to in most cases a suspended sentence supported by good behaviour bond, community service and payment of court costs, or fine of approximately $1000 to $1500. 
ASIC is aware of phoenix company activity in the community and has, from time to time, treated phoenix company activity as a priority.  One initiative to address it was the commissioning of the ASC Research Paper 95/01 entitled "Project One: Phoenix Activities and Insolvent Trading".  Following this report, ASIC conducted Project Westgate in ASIC's Victorian Office.  Project Westgate is an example of the use of a targeted public campaign to tackle an identified pattern of misconduct and encourage members of the community to step forward and make early reports of information to ASIC in relation to suspected phoenix-company activity.  
ASIC is currently conducting a campaign concentrating on directors’ duties to prevent insolvent trading in breach of s588G of the Act.

6	Concluding Remarks
ASIC's submission has referred to existing reviews and highlighted aspects of ASIC's regulatory work in the insolvency area.  
ASIC would welcome the opportunity to discuss further the issues raised in this submission.
7	Annexure a: ASIc's Insolvency Related Policy Statements and Practice Notes
7.1	Policy Statements
Policy Statement 24 – Registration of Official Liquidators
Policy Statement 33 – Security Deposits
Policy Statement 40 – Registration of Liquidators
Policy Statement 43 – Accounts and Audit Relief
Policy Statement 44 – Annual General Meeting – Extension of Time
Policy Statement 81 – Destruction of Books
Policy Statement 93 – Reimbursing Liquidation Costs
Policy Statement 95 – Disclosing Entity Provisions Relief
Policy Statement142 – Schemes of Arrangement and ASIC Review
7.2	Practice Notes
Practice Note 14 – Receivers – Retention of Company Records
Practice Note 50 – External Administrators – Reporting Matters and Lodging Documents
7.3	Policy in development
Discussion Paper on Financial reporting and AGM obligations for companies in external administration under Part 5.3A - September 2002

8	annexure b: insolvency statistics jan 2002 to Dec 2002
Please see separate Excel document attached.