Is your business being undercut by a three-pronged phoenix company?

Published 07 May 2013 08:46, Updated 09 May 2013 00:45

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Is your business being undercut by a three-pronged phoenix company?

The triple-company phoenix play is playing havoc with businesses who stick by the generally accepted rules of tax, IR and company structure. Photo: Rob Homer

A more sophisticated form of phoenix company is undercutting businesses across the construction, mining services and transport industries.

As these sectors are under extreme competitive pressure, the triple-company phoenix play is wreaking havoc with businesses who stick by the generally accepted rules of tax, IR and company structure.

And some major companies are effectively endorsing Phoenix 3 to get their own competitive advantage through lower sub-contractor and supplier costs.

Traditionally phoenix companies are those which are ditched with liabilities, in particular to small creditors and the Australian Taxation Office, but the operators start up soon after or in parallel with a similar-named business offering similar services with much the same crew.

The Australian Securities and Investments Commission and the ATO have run a public campaign against this type of phoenix company, which seems to have slightly dented their operation. Possibly a greater dent has come from the difficulty of having licences and approvals transferred from ditched to new entity.

The new phoenix structure solves this and adds sophistication. Generally three entities are used.

Commercial property goes into the self-managed super fund, often with some key machinery core to operational delivery. It could be the self-managed super funds of family members other than the principal. Property borrowing for SMSFs has better enabled this.

A second entity holds licences, approvals, government authorities and core accounting assets and operational data, sometimes in the name of a family member or key employee. This has few tangible assets, but is key to a smooth operation continuing. This is not easy for, as an example, building principals who have to show their assets to state authorities, but major contractors who often employ most of the site workers have looser regulatory controls so can hold licences in thinly capitalised entities.

A third entity holds certain operational contracts and employees and hires contractors and other suppliers. It has service agreements with the first two entities (which become creditors when the third is ditched). Often this entity will not have much or any bank facilities other than an operating account, which makes the ditching easier and better maintains the credit rating of the principals. And then also doesn’t have mortgages or guarantees from the first two entities.

The main losers are employees (other than the key ones who are in entity two), contractors, small creditors and federal and state-taxing authorities. At creditor meetings they can often be outvoted by entities one and two.

One recent example in the mining service industry saw entities one and two with barely 3 per cent more votes than the real creditors . . . so they just walked away from $270,000. The ATO and ASIC were, as with many of the thousands of these liquidations, not evident. That is especially because under the Phoenix 3, the clean-up can be quick because the core operational assets are still operating.

None of this is for the faint-hearted or ethically pure. Much is being driven by desperation as these sectors are hugely cost-challenged while losing much of their highest margin work such as state government capital works and mine development work.

But when operational managers in some large corporates point contractors complaining of tight pricing towards a few accounting firms who can lower their costs, it becomes accepted practice in highly competitive sectors.

One of the Phoenix 3 offerers in the Riverina district of NSW laughed at a legal threat. They had legals on how to tread carefully. And as for the authorities: “When you can move quickly, ATO is at least a year behind. And ASIC is like a firefighter that only ever turns up when the ashes are very cold and scattered.”

In some areas of construction, mine service and transport, Phoenix 3 companies are having significant impacts on pricing to the point that traditional “do the right thing” businesses are having to vacate the business space.

Entrepreneur Andrew Stewart consults on profitable growth to start up and substantial businesses in Australia and Europe.

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