Phoenix activity in a Company involves the incorporation of a second company from the remains of a failed company. Phoenix activity can either be legal or illegal. Legal phoenix activities can be a means of corporate restructuring. They may include reorganization methods such as transfer to a NewCo where the creditors of the old company may opt to either agree to take a debt in the new company, take up equity in the new company, or both.
On the other hand, illegal Phoenix activity occurs when directors of an insolvent company form another company with a similar directorship and transfer assets to the new company at a price below the market value, thereby prejudicing the interests of the creditors of the company. Often, such illegal activities are geared towards evading tax and avoiding debts legally owed to creditors by the company, which may also include claims by the company’s employees
Some of the ways through which regulators and stakeholders can identify illegal phoenix activities include the following:-
- Where businesses are conducted in complex corporate groups to avoid payment of debts and taxes;
- Controllers who have dealt with several failed businesses over a period of time;
- Operating business and accounts under the old company name to maintain customer goodwill;
Nevertheless, even in the above cases and in instances where there are multiple failures and a new company has retained the same directors and controllers, that in itself is not proof of illegal phoenix activity for the reasons that: –
- Where one is an expert in a specific field, and a business fails, they may tend to start another company in the exact location and perhaps retain some of the assets and employees from the old business; and
- Such a person may want to retain their customers and business goodwill to have a customer base for the new business.
What must be established in cases of suspected illegal phoenix activity is whether the intention of the directors and controllers of the company is to evade paying debts and taxes. For instance, where a business has incurred tax losses and debts, and such liabilities are not carried forward to ensure the
interests of the creditors and the tax man are catered for despite the reorganization of the business, an inference can be drawn that the formation of the new company was solely meant to evade such liabilities. The intention is the crux of differentiating between legal and illegal phoenix activity.
At Riskhouse International, we have a multidisciplinary team that consists of insolvency & restructuring lawyers, forensic auditors, and accountants who offer advisory services in company reorganizations and investigations into matters involving fraudulent activities in insolvent companies with the aim inter alia to provide support in Personal Bankruptcy and Corporate Insolvency Litigation.
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