A test case for creditor – defeating dispositions

The concept of a creditor-defeating disposition (CDD) was introduced through the Treasury Laws Amendment (Combating Illegal Phoenixing) Act 2020 and recently, we received the first test of the legislation in the case of Intellicomms Pty Ltd (in liq) [2022] VSC 228.

The CDD legislation gives a Liquidator a more rigid and objective framework upon which to test for phoenix activity. Until its introduction, Liquidators have relied on the existing uncommercial transaction legislation, which did not focus in on, in specific detail at least, the characteristics of phoenix activity.

Background facts of Intellicomms

Intellicomms was placed into liquidation on 8 September 2021 by resolution of the company’s members. Immediately prior to the company entering into liquidation, its director, Ms Rebecca Haynes, entered into a sale of business agreement to dispose of all of its assets, including intellectual property, goodwill and shares in a related entity, to a freshly incorporated company, of which her sister was the director and shareholder. It is worth mentioning that Ms Haynes’ sister was an employee of Intellicomms in charge of payroll.

When Intellicomms was placed into liquidation, it had debts of over $3M. The biggest debt of $1M was owed to a shareholder who had issued a Statutory Demand for payment, which expired the day after the company went into liquidation. The ATO was also a creditor owed $900K.

The Liquidators reviewed the sale agreement, which disclosed a purchase price of $102K, less deductions for non-transferring clients and employee entitlements, resulting in a net payment of $20K to the Intellicomms.  

Ms Haynes did obtain valuations of the assets of Intellicomms, which disclosed values between $11M (as at 3 February 2021) and $57K (as at 8 September 2021). Upon further investigation, the Liquidators determined that Ms Haynes altered the various forecasts upon which the valuations were based in order to reduce the valuation of the company’s assets.  

Naturally, the Liquidators were concerned that the assets had been sold at undervalue.

The Liquidators’ course of action

In light of the February 2021 valuation of $11M versus the $20K received for the assets, the Liquidators applied to have the transaction set aside under the CDD provisions.

The purchaser’s response  

The purchaser argued that market value had in fact been paid for the assets, using the September 2021 valuation as the relevant benchmark.

The court’s decision

The court did not require the Liquidators to pinpoint a specific figure for what they considered to be the ‘market value’ of the assets that were sold, but rather only required that the Liquidators prove that on the balance of probabilities, that less than market value was paid for the assets.

The transactions was overturned and in his judgment, His Honour said “…the sale agreement has all the features of what has become known as a phoenix transaction; indeed, it is a brazen and audacious example. 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, Ms Haynes.”

Sale by the Liquidators

Once the assets had been recovered from the purchaser, which was a complex process, the Liquidators embarked on a sale process, which yielded a price far in excess of the original amount of $20K.

Take-Aways

Though the process took several months and was costly, this decision serves as a timely warning to directors who engage in phoenix activity and an example of how the CDD provisions operate in practical terms.