AICM 2023 Risk Report

2023

AICM RISK REPORT 2023

Publisher: Nick Pilavidis FICM CCE

Chief Executive Officer

Australian Institute of Credit Management

Editor: Claire Kasses

General Manager

Australian Institute of Credit Management

Direct: 02 9174 5727

Mob: 0499 975 303

Design: Anthea Vandertouw

Ferncliff Productions

T: 0408 290 440

E: ferncliff1@bigpond.com

Australian Institute of Credit Management

Level 3, Suite 303, 1-9 Chandos Street St Leonards NSW 2065

T: 1300 560 996

E: aicm@aicm.com.au www.aicm.com.au

HOW

Julie McNamara MICM CCE National President

The fourth issue of our risk report documents how the growing pressures on individuals and businesses are flowing through to the results of credit professionals.

The report has continued to evolve since the inaugural report issued in early 2020 with each report providing a greater understanding of what has been experienced in the prior 12 months and how credit professionals should prepare for the coming 12 months.

Our 2023 report has evolved with greater insights provided from a survey of almost 100 credit professionals and contributions from respected thought leaders in our industry.

Our annual risk seminars and risk report are a clear example of how the AICM community supports credit professionals to manage credit risk in an increasingly complex environment.

Thank you to the AICM national office, division councillors and authors who have contributed to this report.

Nick Pilavidis FICM CCE Chief Executive Officer

Credit professionals play a crucial role in managing risk and ensuring that their businesses receive payment for sales and services delivered. They need to monitor customer behaviour, adjust to changing legislation and regulation, monitor economic trends, forecast future performance and use this information to make informed decisions to mitigate risks to contribute to their organisation’s financial health.

To inform the profession, the 2023 risk report draws on a survey of AICM members and Certified Credit Executives to provide insight on how recent and future economic conditions are impacting their ability to manage risk and ensure their business is paid promptly for their hard won sales.

Most credit professionals have managed the economic pressures of last year well with only 5% seeing deterioration in collections performance in 2022, however the proportion with improved results was significantly lower than 2021.

The predictions of many commentators of increased insolvency levels in 2023 are supported by AICM members, with 98% of members expecting insolvencies to continue at the same level as 2022 (20%) or rise (77%) as the pressures of interest rates and inflation the most relevant factors driving increase. Credit professionals are well prepared for this increase with only 34% expecting deterioration of results in 2023 indicating they are confident in their ability to mitigate risk.

Our 2023 SUPPORTERS

National partners

Divisional partners

Divisional supporting sponsors

Turbulent times calls for resilient credit professionals

Despite the challenging times faced by credit professionals, they continue to serve as the backbone of their organisation.

Credit professionals play a crucial role in managing risk and ensuring their businesses receive payment for the sales and services delivered. They draw on their unique information sources and experience to provide clarity on how economic conditions are impacting their customers. Although sales levels may provide a strong indicator, these can often be driven by optimistic assumptions. By closely monitoring customer trends and behaviour, credit professionals obtain a clearer view of their customers’ true health.

Credit professionals can gain insights into future developments by analysing both recent and historical trends. They use this analysis to reflect on their results and speculate on what to expect in the face of growing pressures. By considering a range of factors, credit professionals can make informed decisions to mitigate potential risks and ensure their organisation’s financial health in a period of uncertainty.

Signs risk is on the rise

When we surveyed AICM members for last year’s risk report, there was uniform agreement that payment times and bad debts remained at historical lows driven by the government financial

Graph 1: How did collections perform in 2022 compared to 2021?

Graph 2: How did collections perform in 2021 compared to 2020?

Sourced from a survey of AICM CCE’s conducted in March 2022.

Sourced from a survey of AICM CCE’s conducted in March 2022.

support, low or no ATO enforcements and supply constraints incentivising early payment to ensure continued supply.

With ATO action continuing to escalate and a cost-pressures growing exponentially, many may expect this year’s report would see the pressures start to impact customers and the performance of collections targets.

We have found through a survey of almost 100 members that collections have continued to perform very well with only 5% seeing collections performance deteriorate, a similar proportion to last year. However, the proportion to improve is much lower in 2022 at 36% compared to over 60% in 2021, as seen in graphs 1 and 2.

The survey also showed that investing in experienced and trained credit professionals leads to better performance, with CCE’s experiencing significantly less deterioration and greater improvement in results as seen in graph 3.

The drop in members able to improve performance is not surprising 2 years of record lows. While very few members experienced a deterioration in results during 2022 the number of companies entering insolvency increased 43% on 2021, in tight correlation to the rises in interest rates, as seen in graphs 3 and 4.

By month

Graph 3: How did your collections/DSO perform in 2022 compared to 2021? CCE’s v Non-CCE’s

Sourced from a survey of AICM CCE’s conducted in March 2022.

Graph 4: Corporate insolvencies v RBA Cash rate

Data sourced from Australian Securities and Investments Commission Insolvency statistics - Series 1 Insolvency appointments and Reserve Bank of Australia

“We have found through a survey of almost 100 members that collections have continued to perform very well with only 5% seeing collections performance deteriorate...”

By month

The result of the AICM members survey tracks inline with the levels of personal insolvencies which has seen record low levels continue as seen in graph 5 (see page 6). This is despite the survey responses being largely in the commercial sector.

The 2021-2022 ATO annual report provides some insight as to why corporate insolvencies are rising while personal insolvencies are not. The Total ATO debt which is mainly owed by businesses rather than individuals has continued to escalate through the COVID period with total debt increasing 13% and collectable debt increasing 16%. With small businesses making up the largest proportion of the debt, being $29.3bn of the $44.8bn collectable debt (i.e. debt not subject to insolvency, objection or appeal as seen in graphs 6 and 7).

This data supports the on the ground experiences of the surveyed members

“Credit professionals can gain insights into future developments by analysing both recent and historical trends. They use this analysis to reflect on their results and speculate on what to expect in the face of growing pressures. By considering a range of factors, credit professionals can make informed decisions to mitigate potential risks...”

Graph 5: Total Personal Insolvencies v RBA Cash Rate

Graph 6: Total ATO Debt 2015/16 to 2021/22

Sourced from Commissioner of Taxation annual report 2021–22

Data sourced from Australian Financial Security Authority monthly insolvency statistics and Reserve Bank of Australia

who reported that the majority of customers are still impacted by the impacts of the pandemic as seen in graph 8 (see page 7). Additionally small business groups report that the ATO debt accumulated during COVID is driving corporate insolvencies with many small businesses succumbing to the pressure of this debt despite being able to meet current trading obligations.

Analysing the factors that contributed to deterioration or improvement of results shows clearly that while most organisations have sought to implement technology, automation and AI the right team members continue to be the number one driver of achieving best results in credit management as seen in graphs 9 and 10 (see page 8).

What does the future hold?

AICM members are relatively optimistic on the future of their collections performance with only 34% expecting deterioration of results and 25% expecting improvement as seen in graph 11 (see page 8).

This view may indicate that credit professionals are well prepared to weather increasing levels of insolvency and risk that may be on the way.

On the other hand, Chief Executive Officer of The Australian Financial Securities Authority Tim Beresford, predicts a significant rise in personal insolvencies as seen the article on page 73.

Graph 8: Are the impacts of the pandemic still impacting your customers’ ability to pay or your assessment of their viability?

“

... small business groups report that the ATO debt accumulated during COVID is driving corporate insolvencies with many small businesses succumbing to the pressure of this debt despite being able to meet current trading obligations.”

Graph 7: ATO Collectable debt by type 2015/16 to 2021/22

Sourced from Commissioner of Taxation annual report 2021–22

Sourced from a survey of AICM CCE’s conducted in March 2023.

Graph 9: What factors contributed to deterioration in collections/DSO?

Graph 10: What factors contributed to improvement in collections/DSO?

Graph 11: How do you expect your

Graph 12: What is your prediction for

Additionally, on further examination of the number of companies entering insolvency compared to the RBA cash rate in graph 3, we can see levels are returning to those seen pre-pandemic however the trajectory of insolvencies to the RBA cash rate may indicate we are experiencing a lag and levels of insolvency

Sourced from a survey of AICM CCE’s conducted in March 2023.

Sourced from a survey of AICM CCE’s conducted in March 2023.

Sourced from a survey of AICM CCE’s conducted in March 2023.

Sourced from a survey of AICM CCE’s conducted in March 2023.

“AICM members are relatively optimistic on the future of their collections performance with only 34% expecting deterioration of results...”

may continue to rise sharply as cost pressures flow through the economy.

The predictions of increased insolvency levels are supported by AICM members, with 98% of members expecting insolvencies to continue at the same level as 2022 (20%) or rise (77%) as seen in graph 12.

The pressures of interest rates and inflation are the most relevant risk factors for many members, with several members as seen in graph 13. Additionally, members highlighted the prospect of the ATO taking a tougher stance on enforcement as the another factor causing significant concern.

The difference between credit professionals’ optimism for their own results and the pessimism over levels of insolvencies can be attributed to the fact credit professionals have an armoury of tools at their disposal to mitigate the growing insolvency risk. When comparing expectations of CCE’s in graph 14 and non-CCE’s it seems they are more confident in their abilities to mitigate the turbulent times, perhaps driven by a greater understanding of what methods and resources can be deployed.

As Blair Chapman, Director, Deloitte Access Economics shared during his update at the NSW Economic Breakfast “Now-casting, working out where the economy is now, is hard enough before economists start to forecast where we will be in 6-12 months”.

While credit professionals have greater insight on the now through the daily tracking of their customers, the future is just as tricky to predict. The one thing we do know is that credit professionals will continue to face new and increasing pressures to achieve the same or better results. By using their skills, knowledge, resources, and networks of peers they will remain the backbone of their organisation.

Graph 13: Factors that will most impact credit risk in 2023

COVID-19

Industrial relations changes

Environmental disasters

War in Ukraine

Australia’s

relationship with China

Property prices

Energy prices

Labour shortage/ the great resignation

Supply constraints

Inflation/Price rises

Interest rates

Sourced from a survey of AICM CCE’s conducted in March 2023.

Graph 14: How do you expect your collections/DSO to perform in 2023?

CCE’s non-CCE’s

Sourced from a survey of AICM CCE’s conducted in March 2023.

“While credit professionals have greater insight on the now through the daily tracking of their customers, the future is just as tricky to predict”

Mitigating the Risk of BNPL

Moses Samaha MICM Executive General Manager Equifax

As the Government flags new regulations for the buy now, pay later (BNPL) sector, the question of how to mitigate risk has been the cause of much conjecture.

While some argue that legislation stifles innovation, others believe reforms to BNPL arrangements are integral to strengthening consumer protections. While solid consumer demand for flexible payment options continues to

drive the popularity of BNPL, the tension between user experience and responsible lending must find common ground if this new wave of immediate, low-cost financing is to remain future-fit.

The merchant view of BNPL

With merchants fuelling BNPL’s success by supporting and normalising this payment option to their customers, the opinions of this stakeholder group are integral to this debate. We recently conducted a quantitative survey of Australian merchants 1 to determine what retailers think about BNPL and regulation. The results showed that BNPL is normalising as a payment option, with 44% of merchants expanding into BNPL in the last 12 months.

Here are some key findings: z 6 in 10 merchants believe reform of the BNPL market will positively impact consumers and businesses.

FIG 1: Merchant adoption of BNPL

z The usage of BNPL is as high as traditional credit cards but not as frequent: 65% of customers use BNPL regularly, while 80% regularly use credit cards.

z 48% have seen a growth in BNPL credit sales, and 57% have seen a growth in consumer usage in the past 12 months.

z 57% viewed the new legislation as positive.

z 59% believe reforms would protect younger consumers, and 63% believe it will encourage smaller businesses to adopt BNPL and use it as a line-of-credit solution.

z 53% believe BNPL will enable greater financial inclusion for consumers over the next 12 months.

Merchants see the positive potential of reforms, but they’re aware of the need to strike the right balance, with 48% of merchants concerned that proposed changes could increase customer barriers to using BNPL.

Over half the merchants anticipate competitive pressures brought about by reforms will put some BNPL providers out of business. And 57% believe

The perceptions merchants have about BNPL legislative reform

New legislation positive: 57% agree that new legislation is a positive move

Protect younger less savvy: 59% agree legislation will protect younger less savvy customers

Not impact sales: 41% remain neutral on legislation impact to sales

Force BNPL out of business: 54% agree some BNPL will be forced out of business

Smaller business adopt BNPL: 63% agree that more merchants will take up BNPL offering

that if a well-known or established international player enters the market, consumers will prefer a global brand over a local one.

Our survey shows that merchants use BNPL predominantly because it increases the value of sales and attracts new customers. They prioritise fees, reliability and value for money when selecting a BNPL provider, and they seek improvements in service, reliability and fee flexibility.

Only 24% of merchants view BNPL as strongly associated with safety and security (43% believe it is “somewhat associated”). Given this low trust perception, the new legislation is likely to bring an opportunity for BNPL to become synonymous with value and protection for both the consumer and merchant, especially in light of Australia’s recent high-profile data breaches.

BNPL demand slows down

Although the BNPL sector has seen rapid growth over the past few years, fueled by shoppers moving online during the pandemic, we already see some contraction in the market.

The challenges merchants believe BNPL reforms will encounter

Increase in barriers for consumers to use BNPL: 39% neutral, 48% agree

BNPL bought out by bigger companies/ banks: 53% agree that smaller BNPL providers will be bought out

Consumers will find it hard to get approval, BNPL usage to drop: 37% neutral, 51.5% agree

Equifax consumer credit demand data saw BNPL demand slowing over the second half of 2022 and marginally declining (-0.2%) year-on-year in Q4 2022. Additionally, the number of new BNPL entrants has slowed over the past six months, suggesting that the segment may be reaching saturation.

bridges the gap between consumer protection and user experience. A customer’s ability to shop instantly and cost-efficiently is core to BNPL’s appeal. The red tape of regulation must not hamper its popularity and growth by impeding its automated, lowfriction origination experience.

On the flip side, protecting Australians from bad debt and helping customers understand the implications of their spending habits is crucial to BNPL’s longterm survival.

The opportunity to shift BNPL perception

With BNPL products not regulated under Australia’s National Consumer Credit Protection (NCCP), Treasury is reviewing its options for regulating the sector. The first option incorporates an affordability assessment and strengthening the existing BNPL Industry Code of Practice. The second option includes a sliding unsuitability test and requires BNPL providers to obtain an Australian credit licence. Option three is the strictest model, bringing BNPL completely under the NCCP, requiring full compliance and rules as per other credit products.

This slowdown supports the case that legislative reform must aim for a win-win scenario that

Our merchant survey shows that legislative reform brings with it the opportunity to build trust with merchants and consumers, enabling BNPL to become synonymous with value and protection. Reforms aimed at strengthening oversight will likely benefit consumers, the

Better packages More flexibility in fees

Educate consumers Improved services Improve customer onboarding process

Improve merchant onboarding process

FIG 2: Improvements merchants would like to make to BNPL

FIG 3: Merchant perception of the safety and security of BNPL

financial services industry and the BNPL business model.

Just as other credit products are subject to oversight, there’s a case for ensuring a range of BNPL metrics are reported on and made available as government-published aggregated insights. Introducing a level playing field of credit reporting among all BNPL providers benefits the financial services industry by contributing to the 360-degree view of credit risk necessary to assess credit inquiries more accurately and reduce default risk. Ensuring credit decisions are aligned with a customer’s financial situation requires insights from a myriad of sources, of which BNPL repayment history data is one.

Tightening the regulatory gap may have the added advantage of encouraging financial inclusion. For those Australians not eligible for mainstream credit due to limited or non-existent credit history, BNPL represents a stepping stone into the credit system. Not needing to jump through hoops to get credit is an alluring prospect for many young Australians and those disenfranchised by traditional finance. With increased consumer trust, confidence, and inclusion comes greater spending potential.

Effective credit evaluation

While the industry awaits the government’s review, technology and innovation are already paving the way for BNPL providers to deliver fast, secure and responsible credit decisioning.

Data analytics coupled with technologies like machine learning and artificial intelligence provide greater visibility into customer risk and creditworthiness. Without sacrificing the user checkout experience, BNPL providers can enable real-time decisioning across the entire purchase journey to reduce default and fraud risk. This includes satisfying important risk mitigation

questions like ‘How do I check to ensure the applicant is who you say they are?’ ‘How do I reduce second pay default rates?’ ‘How do I optimise cross-sell opportunities’? ‘How can I forecast delinquencies?’

Be it using credit checks, alternative data sources, the analysis of data patterns, or the exploration of data linkages – BNPL providers who tap into data intelligence will be first out of the starting blocks to protect their customers and secure growth in a competitive market.

The expansion of BNPL services across the globe represents the evolution of innovation. Let’s not forget to pay attention to working together as an industry to ensure this spirit of invention carries forward.

Moses Samaha MICM Executive General Manager

Equifax

E: moses.samaha@equifax.com

FOOTNOTES:

1 Equifax Merchant BNPL Quantitative Research Insights Report, December 2022, n=315, respondents made up of 68% owners/directors, 65% mid-size business of 11-250 employees, 56% across health & lifestyle categories and 87% within the top three regions of NSW, VIC and QLD. All respondents offered BNPL and expanded offerings like E Wallets, with the value of transactions between $50-$500.

“While solid consumer demand for flexible payment options continues to drive the popularity of BNPL, the tension between user experience and responsible lending must find common ground if this new wave of immediate, low-cost financing is to remain future-fit.”

Understanding Australia’s personal insolvency system

The Australian Financial Security Authority (AFSA) plays a critical role in Australia’s $3.5 trillion credit system by overseeing the nation’s personal insolvency and personal property securities systems. We also preserve and manage assets from the proceeds of crime. This oversight delivers economic and social outcomes by supporting government in delivering a strong credit system for Australia.

AFSA helps Australians obtain a fresh start when in financial distress while also offering remedies to those who are owed money. With approximately $18 billion in liabilities held within our regulatory oversight, we play a significant role in supporting access to credit for individuals and business in Australia, whilst enabling confidence in Australia’s credit system through our regulatory actions.

Figure 1: Total personal insolvencies by financial year

COVID -19 economic response

Royal Commission commences

Tim Beresford Chief Executive and Inspector-General of Bankruptcy Australian Financial Security Authority

Likewise, the Personal Property Securities Register (PPSR) secures lending and promotes access to credit by providing a visible, online government register of interests held against a wide variety of collateral. The value on the PPSR is approximately $400 billion – 20% of GDP. This value alone signals lending confidence and makes access to finance easier, more secure and accessible.

Personal insolvencies expected to rise

The State of the Personal Insolvency report, published in February 2023, found personal insolvencies are expected to rise toward preCOVID levels over the next two years.

Australian households are currently experiencing financial stress. Unemployment remains low but the risk of insolvency is rising as household saving buffers decline and cost of living pressures increase. Other adverse macroeconomic factors,

such as rising interest rates, high inflation, ongoing supply chain pressures and rising energy prices will put vulnerable people under more financial stress.

Over the past 20 years, Australia has averaged more than 28,000 personal insolvencies each year. Volumes hit a high of 37,263 in 2009–10, two years after the Global Financial Crisis (GFC). Numbers have steadily declined since then, falling to historic lows, with 9,545 personal insolvencies recorded during 2021–22. Several factors are associated with the recent decline in numbers. These include debt agreement reforms, changes to creditor lending and recovery behaviours following the Hayne Royal Commission and the economic response to the COVID-19 pandemic.

Debt levels and concentrations in personal insolvencies

In 2021-22, most people who entered into personal insolvency had low levels of debt. More

Figure 2: Debtor concentration by liabilities in 2021 –22

Distribution of debtor liabilities by business-related personal insolvencies

than half of people (52.7%) had less than $50,000 in liabilities, with a quarter of people (25.2%) having debts totalling more than $100,000.

Just under a quarter of active personal insolvencies are business-related; however, these insolvencies contribute to nearly twothirds of tsotal system debt ($11.4 billion). The average debt for a business-related personal insolvency is $830,502 – 5.8 times larger than a non-business-related personal insolvency ($141,733).

The value of debt in the system is concentrated with a few large creditors, with the Australian Taxation Office and the ‘Big Four’ banks collectively owed $3.7 billion in business-related and $2.4 billion in non-business-related personal

insolvencies. This demonstrates the impact that the recovery and collection behaviours of large creditors can have on the insolvency system.

The complete State of Personal Insolvency report is available on the AFSA website: afsa.gov.au/ stateofpersonalinsolvency

Insights for creditors

From an insolvency perspective, creditors are encouraged to consider their practices and assess risks closely. We want to ensure creditors use formal insolvency as a last resort.

From the perspective of the Personal Property Securities Register, creditors should consider the potential benefits of the PPSR. Noting the high

“

From the perspective of the Personal Property Securities Register, creditors should consider the potential benefits of the PPSR. Noting the high level of business-related personal debt, a PPSR registration can provide valuable risk protection.”

Figure 3: Distribution of debtor liabilities by business-related personal insolvencies

Figure 4: Practitioner concentration by active personal insolvencies in 2021–22

Source: AFSA

Source: AFSA

Creditor concentration in active personal insolvencies in 2021-22

level of business-related personal debt, a PPSR registration can provide valuable risk protection. An invoice or contract, along with an effective PPSR registration, can create a secured debt which can put you ahead of unsecured creditors if your customer goes out of business.

Harms-based regulation and AFSA’s areas of interest

AFSA focuses on systemic risk, significant harms and their reduction.

Some harms have existing rules to guide AFSA’s response – for example, legislation or AFSA’s own practice guides and work instructions. Issues such as practitioner independence and conflicts of interest are known harms. Inspector-General practice directions and recognised standards of behaviour for professionals address these.

Other risks are not yet well understood, emerging on the system’s edges. They may not always be addressed in policy and legislation. For example,

the actions of untrustworthy pre-insolvency advisors erode trust and confidence in the personal insolvency system.

AFSA is directing resources to disrupt this activity and reduce risk, combining regulatory expertise with market surveillance and data analytics to respond to new and emerging harms while balancing debtor, practitioner and creditor interests. AFSA concentrates its harm mitigation efforts on the top 10 practitioners (Tier 1) which manage 80% of all activity.

Australia’s regulatory agencies also work together, sharing information to ensure those who seek to harm the system are brought to justice.

An example includes AFSA sharing information with ASIC. This saw A&M Group, trading as Debt Negotiators, convicted in the Federal Court of Australia of misleading or deceptive conduct relating to financial matters. The organisation was fined $650,000. AFSA identified the unlawful conduct while investigating an anonymous tip-off.

Figure 5: Creditor concentration in active personal insolvencies in 2021–22

The 'Big Four' banks are the Commonweath Bank of Australia, National Australia Bank Limited, W estpac Banking Corporation and Australia and New Zealand Banking Group Limited

A contemporary approach to regulation protects those experiencing vulnerability, ensures compliance is the easiest option and sees AFSA act decisively against deliberate harm. We are firm and fair.

The personal insolvency and personal property securities systems rely on people doing the right thing. We are committed to investigating and prosecuting anyone who deliberately misuses the system and fails to comply with their legal obligations.

How you can help mitigate risk in the system

One of the ways we identify misuse is through our tip-off process – this helps stop misconduct, reduces harm and improves behaviour. This information, combined with our own surveillance and intelligence monitoring, helps to ensure the strength of our systems. We all have a role to play in regulatory stewardship and building a strong credit system.

More information about making a tip-off is available on the AFSA website, afsa.gov.au

Tim Beresford Chief Executive and Inspector-General of Bankruptcy Australian Financial Security Authority www.afsa.gov.au

“

A contemporary approach to regulation protects those experiencing vulnerability, ensures compliance is the easiest option and sees AFSA act decisively against deliberate harm.”

The big squeeze – rising costs and falling demand pressuring businesses

Anneke Thompson MICM Chief Economist CreditorWatch

In February, we were able to get a guide on what listed Australian businesses are anticipating for the year ahead, as reporting season began. While most listed retailers reported strong earnings for the second half of 2022, many downgraded or emphasised caution in their outlook for sales across 2023.

Groups like Adairs, JB HiFi and Baby Bunting all highlighted that sales in the year ahead in many categories were likely to be lower. This year we will see the impact of many more consumers having less to spend each month, as up to 800,000 fixed rate loans on very low interest rates will convert to variable rate loans. We will also see the added impact of housing completions begin to trend down from about the middle of the year. This will affect sales in the furniture, white goods and electrical goods categories.

Business Risk Index points to higher insolvency risk

The CreditorWatch Business Risk Index continues to highlight the higher risk of insolvency for sectors reliant on discretionary spending, with the food and beverage sector topping the list of riskiest sectors at a 7.3% probability of default. This is supported by a recent survey by the Australian Financial Review (AFR), which asked survey respondents if they were cutting back on

their expenses, and if so in what categories. In total, 64% of respondents said they were already cutting back, with a further 17% saying they had plans to.

‘Dining out’ was the category top of the list of areas where people were cutting back, with 74% saying they have already reduced spending here. This emphasises the risk of this sector, as business owners will now not only be grappling with high costs, wages, interest payments and rents, but also lower demand.

Inflation the key focus

Inflation continues to be the key metric that the whole world is watching. While many economists believe inflation peaked in Australia in the December 2022 quarter, when it came in at 7.8%, it is still well above the RBA’s target rate of 2-3%, and may not get back to that level until 2025.

“

This year we will see the impact of many more consumers having less to spend each month, as up to 800,000 fixed rate loans on very low interest rates will convert to variable rate loans.”

“Inflation continues to be the key metric that the whole world is watching. While many economists believe inflation peaked in Australia in the December 2022 quarter, when it came in at 7.8%, it is still well above the RBA’s target rate of 2-3%, and may not get back to that level until 2025.”

Australian Gross Domestic Product (GDP) grew by 0.5 per cent over the Dec quarter, down from 0.7 per cent in September quarter and 0.9 per cent in the June quarter. Importantly, for both the inflation and cash rate outlook, growth in household spending rose by a moderate 0.3 per cent.

This will give the RBA comfort – among other important indicators like monthly retail trade and labour force – that its efforts to reduce inflation are working. Unfortunately, the flip side to this success is continued pain for the Australian consumer and, ultimately, businesses.

Inflation in other economies also seems to have peaked, but is still well above normal levels. This is partly because supply side factors, such as the

Ukraine War and bad weather affecting crop harvests, are out of the control of central banks.

Employment softening

In February the ABS also reported an increased in the January 2023 unemployment rate, rising to 3.7% from 3.5% on a seasonally adjusted basis. While there are still almost 400,000 more employed people in Australia in Jan 2023 than there were in Jan 2022 (or a 3% difference) it is likely that the strong gains in employment that were recorded in 2022 won’t be repeated this year. The ABS has recorded a drop in the number of employed people for two straight months now, suggesting we reached a peak in employment in November 2021.

Businesses will be far more cautious in hiring, although the good news is that at this stage there doesn’t seem to be any increase in mass redundancy announcements. While increasing unemployment is not great news for jobseekers, it is better news for the economy overall, as it greatly decreases the threat of a wage price spiral.

Seek Job ads data for Jan 2023 also show that on a year-on-year basis, almost all sectors have recorded a drop in the number of advertised roles. The biggest year on year drop was recorded in the Information and Communication Technology sector, which was down 24.1%, followed by Hospitality and Tourism, down by 13.8%. The only industries to have a higher

number of job ads in Jan 2023 versus Jan 2022 are Education and Training, Community Services and Development and Accounting.

Retail trade, one to watch

Retail trade data for January 2023 revealed a 1.9% seasonally adjusted increase month-on-month. This was after a large fall in December of 4%. On a total dollar value, retail trade in January 2023 was roughly the same as it was in September 2022.

Most industry turnover is quite volatile over the summer period, so it is difficult to draw any major conclusions on trends, however, household goods retailing is one sector where

Source: ABS Labour Force, January 2023

“Seek Job ads data for Jan 2023 also show that on a year-on-year basis, almost all sectors have recorded a drop in the number of advertised roles.”

trade is well below 2022 levels and is in fact trading at or about the level it was in October 2021. This is likely a result of households pulling back on large expenditure and also a flow on impact of many people making large purchases for their houses during lockdown periods. It is likely that as we see the peak of housing

completions reached in around mid 2023, that household goods trading will continue to remain flat or even trend down.

Payment times

Late payment rates for January were, on average, three times greater for small business relative to big business, reflecting differences in the ability of small businesses to enforce payment terms and collect on payment arrears, and the willingness of some businesses to treat smaller suppliers as an interest free bank.

Payment arrears have been slowly trending down across all industries but continue to be a problem in the construction industry due to inherent payment structures that incorporate delayed payments for projects. In January, 11.6% of small

“Late payment rates for January were, on average, three times greater for small business relative to big business, reflecting differences in the ability of small businesses to enforce payment terms and collect on payment arrears..”

Source: CreditorWatch payment arrears data by industry

Credit Enquiries

construction businesses had payments that were 60 days or more in arrears compared to just 2.3% of large businesses.

Credit enquiries

CreditorWatch’s Business Risk Index continues to point to businesses acting in an increasingly cautious manner. Data from February 2023 shows that credit enquiries in February 2023 were more than double those in February 2022. This is despite average trade receivables per data supplier decreasing by 10 per cent yearon-year in February 2023. Businesses are clearly more concerned about the financial stability of the businesses they are trading with, given the economic conditions and large decline in consumer sentiment.

The outlook

Overall, the picture for Australian businesses is looking increasingly more complicated as we move through 2023. While the Australian economy is certainly one of the brighter spots when we think about the global economy, there is no doubt that businesses will find trading conditions far more challenging this year than last. On the bright side, it does appear that inflation has peaked. This gives us confidence that pricing data coming through this year should, based on sentiment levels, show continued moderation in growth levels of inflation.

Anneke Thompson MICM Chief Economist, CreditorWatch www.creditorwatch.com.au

“

Businesses are clearly more concerned about the financial stability of the businesses they are trading with, given the economic conditions and large decline in consumer sentiment.

”

Source: CreditorWatch trade receivables data (accounting software integration)

Barbara Cestaro MICM Client Manager – Credit Solutions AON

In a recent Aon survey1 79% of C-suite leaders and senior executives expect a recession, though only 35% feel “very prepared” for it. In today’s liquidity crunch with rising interest rates and inflated commodity prices, the role of credit insurance has never felt more relevant.

Market overview

During the COVID-19 pandemic, there was a strong decline in insolvencies (globally, they fell by a cumulative 29% in 2020/20212) mainly due to changes to insolvency legislation (often temporary) to protect companies from going bankrupt and government economic and fiscal support for businesses. In 2021 we observed a partial adjustment to normal, pre-pandemic insolvency levels, a process that continued in 2022; this coincided with the phasing out of government support programs2

Following the tapering of this support and the economic headwinds and inflationary effects

brought about by the war in Ukraine, the energy crisis in Europe and now recessionary effects, we expect a significant increase in global insolvencies in 2023 that will happen in countries and trade sectors at different speeds and times.

As a result of the artificial economic environment created over the past couple of years, credit insurers have experienced extremely low levels of loss. Increased trade volumes combined with inflationary effects have seen overall premium levels increase throughout the past 12-24 months2. Therefore, financial reporting at the end of Q3 2022 showed Loss and Combined ratios that have continued at a lower than pre-pandemic level, although these are now starting to trend upwards2

Even though we do expect a future “normalisation” of loss ratios as insolvencies inevitably return, the impact and timing of these also remain so uncertain that it is unlikely to impact insurer results until well into 2023

In a context of intense geo-political and macro-economic volatility, which trends may affect businesses’ ability to trade and/or access finance?

“In a recent Aon survey 1 79% of C-suite leaders and senior executives expect a recession, though only 35% feel “very prepared” for it.”

Insolvency Growth Forecasts in 2022 and 2023

Source: Aon’s Credit Solutions Q4 2022 Insights, Aon, 2022

Loss Ratio evolution

at the earliest. Whilst these more favourable underwriting conditions exist, credit insurers have continued to adopt a much more pragmatic position on both their risk and commercial strategies, whilst attaining high levels of client portfolio retention and profitable growth.

It is important to understand an insurer’s performance when negotiating a renewal as differences in performances can drive differences in underwriting strategies and insurers’ competitiveness with either price or limits (or both) could slightly change year on year accordingly.

Credit Limits

In 2022 insurers’ appetite and capacity have continued to increase, reflecting higher commodity prices and inflation; the aggregate credit limit capacity now exceeds pre-pandemic levels with a rebound seen in all geographic regions and notably in the Americas, APAC and in trade sectors like

“

As a result of the artificial economic environment created over the past couple of years, credit insurers have experienced extremely low levels of loss. Increased trade volumes combined with inflationary effects have seen overall premium levels increase throughout the past 12-24 months 2 . ”

Source: Aon’s Credit Solutions Q4 2022 Insights, Aon, 2022

Combined Ratio evolution

Source: Aon’s Credit Solutions Q4 2022 Insights, Aon, 2022

electronics, chemicals, metals, construction, and transportation/ logistics.

While this upward trend might continue at a lower rate in the shortterm and maybe plateau during 2023, the market continues to innovate to provide capacity and solutions related to some of the more complex and larger risk exposures mainly through the adoption of new technologies to improve process and decision making2

Industry trends

Approval rates across all sectors except Agribusiness continue to linger behind December 2021 levels but are overall 400 basis points higher than pre-pandemic levels.

Retail/Wholesale and Food & Drink sectors both show a 200 basis points reduction in approval rates as input costs rise and consumer confidence is hit by inflationary pressures and higher interest rates2

Supply chain issues continue to impact the Automotive sector along with low consumer confidence and high fuel costs; this translates to approval rates increasing by 200 basis points

quarter on quarter but remaining 50 basis points behind December 2021 rates2

Manufacturing and Technology both declined in approval rates because of higher energy and wages costs combined with a fall in demand that has lowered confidence within the manufacturing sector, whilst supply chain issues and falling consumer confidence continue to stall progress in the technology sector.

We have observed approval rates stalling for the Steel and Construction sectors. Energy costs are negatively impacting the steel sector, driving up production costs, while demand for automotive, white, brown and yellow goods declines. Construction is also feeling the impact of a global slowdown, especially in the APAC region2

“

...the market continues to innovate to provide capacity and solutions related to some of the more complex and larger risk exposures mainly through the adoption of new technologies to improve process and decision making 2 . ”

Limit Capacity evolution

Source: Aon’s Credit Solutions Q4 2022 Insights, Aon, 2022

Sector Acceptance Rates

“Supply chain issues continue to impact the Automotive sector along with low consumer confidence and high fuel costs; this translates to approval rates increasing by 200 basis points quarter on quarter but remaining 50 basis points behind December 2021 rates 2 . ”

Australian trends

In Australia we have observed the approval rates return to 2019 levels; however, the overall amount of credit limits granted is higher, reflecting high commodity prices and inflation2

We read a lot about the construction sector woes in 2022 and the forecasts for insolvencies in this space in 2023 are not positive. One would think this would translate in lower acceptance rates, but we have seen the overall acceptance rate increase and exceed pre-pandemic times.

Source: Aon’s TradingDesk Insights, Aon’s Credit Solutions Q4 2022 Insights, Aon, 2022

Australia Acceptance Rates Australia – Construction Acceptance Rates

Aon’s TradingDesk provides our teams with access to an automated data interface with insurers’ buyer limits systems. It holds data for more than 1.5 million unique buyers, and it helps to identify possible capacity and maximise credit limit approvals. We can quickly identify and manage uninsured exposures, closing the gap between insured risk and uninsured risk for more comprehensive coverage.

How Aon helps businesses make better decisions

Now more than ever, senior executives are required to make enterprise-wide business decisions at speed, facing challenges that are complex and highly interconnected. From the pandemic and geo-political instability to hyperinflation and supply chain disruption, it seems volatility is becoming the norm. Luckily Aon’s periodic Market Insights Reports aim to help businesses navigate credit insurance market dynamics. Our reports enable us to support our

clients in seeking the best outcomes for their insurance program.

More reports and data are available on www. aoninsights.com.au. Feel free to visit to explore the latest information not only on trade credit insurance, but also on M&A, Cyber, Marine Cargo insurance.

Barbara Cestaro MICM Client Manager – Credit Solutions

E: barbara.cestaro@aon.com

1 Making Better Decisions in Uncertain Times: Aon’s 2022 Executive Risk Survey, Aon, October 2022

2 Aon’s Credit Solutions Q4 2022 Insights, Aon, 2022

© 2023 Aon Risk Services Australia Limited ABN 17 000 434 720 AFSL no. 241141 (Aon). The information provided in this document is current as at the date of publication and subject to any qualifications expressed. Whilst Aon has taken care in the production of this document and the information contained herein has been obtained from sources that Aon believes to be reliable, Aon does not make any representation as to the accuracy of information received from third parties and is unable to accept liability for any loss incurred by anyone who relies on it. The information contained herein is intended to provide general insurance related information only. It is not intended to be comprehensive, nor should it under any circumstances, be construed as constituting legal or professional advice. You should seek independent legal or other professional advice before acting or relying on the content of this information. Aon will not be responsible for any loss, damage, cost or expense you or anyone else incurs in reliance on or use of any information in this publication.

RISK Identifying

Things to watch 2023

Massive interest rate rises on business and home loans, high inflation, a tight labour market pushing higher staff costs, and long-term supply chain issues are some of the key drivers of an expected to be tough financial and economic landscape in 2023. The question then is – how are these pressures going to affect trading conditions in 2023? In this article, we discuss this and some recent developments in the law relevant to trade credit providers.

Insolvency trends

There are three major trends which will be impacting creditors in 2023. The first is that insolvency appointments are rising, the second is the increased use of the Small Business Restructuring Process and the third is the Federal Government’s Insolvency Inquiry.

First, some statistics. According to recent statistics published by ASIC 1:

1. In the first and second quarters of FY2023, corporate insolvency appointments increased by approximately 65% on the

same period last year. This brings corporate insolvency appointments much closer to prepandemic levels.

2. In the current financial year, for the period from July 2022 to December 2022, there were a total of 4840 formal insolvency appointments. This compares to 6,483 of all appointments in FY2022.

3. Of all industries, the construction industry is impacted the most.

4. Personal insolvencies remain lower than before the pandemic.

The rise in insolvency appointments can almost certainly be attributed to the double-whammy of worsening financial and economic conditions brought about by the reasons outlined above together with the withdrawal of government support which many businesses relied upon to stay above water during the pandemic.

Adding to the pressure is the ATO re-commencing its debt recovery action. According to the Commissioner of Taxation’s annual report, released recently, the Country’s undisputed tax debt has

Daniel Turk MICM Partner

Louise Nixon MICM Partner

Lucy Tindal MICM Senior Associate

increased from $26.5 billion on June 30, 2019, to $44.8 billion as of June 30, 2022. 2023 will see the ATO begin to action its large book debt in earnest.

We predict that 2023 will also see not only a rise in insolvency appointments overall, but also an increase in the Small Business Restructuring Process which we are already seeing is growing in popularity.

Small business restructuring

Small Business Restructuring was introduced in January 2021. So far this financial year there have been around 140 Small Business Restructuring Appointments which is more than there have been since its inception in January 2021.

Small Business Restructuring is intended to help small businesses restructure their debts and maximise their chances of trading out of financial

difficulties. Directors of insolvent companies are able to appoint a restructuring practitioner who will assess the company’s eligibility for Small Business Restructuring and help develop a restructuring plan to put to creditors, under which the company’s debts will be paid off in part or in full. If a majority of the creditors approve of the restructuring plan then the company can continue to trade under the control of the directors whilst the plan is implemented over a period of not more than 3 years at the end of which the company is released from its admissible debts.

“

Small Business Restructuring is intended to help small businesses restructure their debts and maximise their chances of trading out of financial difficulties.”

Despite the increase in popularity of Small Business Restructuring as of late, there is a general feeling in the industry that the regime has not been utilised to its full capacity.

The advantages of small business restructuring include:

1. Early intervention by a restructuring practitioner can avoid pitfalls in directors trying to avoid their trading problems.

2. Allows directors to retain control as opposed to the costs and loss of control which accompanies a voluntary administration. This can mean more ownership of the process.

3. The restructuring practitioner’s remuneration is capped meaning there may well be more funds in the pool for creditors.

4. The process is relatively timely.

The disadvantages of small business restructuring include:

1. Strict eligibility requirements mean that many businesses are not eligible. These include that the debt owing by the company cannot exceed $1 million and that all tax and superannuation obligations must have been met.

2. All creditors are bound to a restructuring plan if more than 50% of creditors vote in favour of it.

3. Once a restructuring plan has been voted on, all admissible debts are cleared.

4. Credit teams may need to reconfigure their credit management strategies to include

considering compromising on debt at an earlier stage than before.

5. The SBR Process may be used as a tactic to avoid wind ups. Companies with current wind up proceedings on foot are using the SBR process as a reason to seek an adjournment of a wind up hearing. This will no doubt become more common. The Court will adjourn the wind up if it is satisfied that it is in the best interest of creditor’s to continue under the restructuring plan.

The legal landscape of insolvency is changing in other ways as well. An inquiry report into Australia’s corporate insolvency regime amongst other things is due to be tabled to Parliament in May 2023. This is the first major review of our insolvency regime in 30 years since the Harmer Report.

The Inquiry provides a rare opportunity for a review of the whole industry and appears aimed at ensuring Australia’s corporate insolvency regime is fit for purpose. So watch this space for further developments.

Cyber fraud

News of recent high-profile data breaches has spurred individuals and organisations across the country to re-examine their cybersecurity.

Cyber-criminals commonly gain entry into systems by way of phishing, smishing, or a plethora of other types of scams and techniques.

“Directors of insolvent companies are able to appoint a restructuring practitioner who will assess the company’s eligibility for Small Business Restructuring and help develop a restructuring plan to put to creditors, under which the company’s debts will be paid off in part or in full.

Trade credit providers are not safe from this type of behavior either. Here at Turks, we recently assisted a client who had provided goods and services to persons they believed represented a well-known organisation. In reality they had been tricked by criminals who set up email accounts with a domain name very similar to the well-known organisation. The difference was, for example, as simple as using .org instead of .com.

The fraud did not come to light until after our client sought payment for the outstanding tax invoice.

Trade credit providers are especially at risk of this type of fraud as they often extend credit without ever having met their clients. Accordingly, trade

credit providers should revisit their practices and procedures. As a suggestion:

1. Establish a strict system for verifying and setting up new credit accounts.

2. Check everything – including the domain name from which emails are received.

3. Do not skip steps in the process merely because the brand name of the applicant seems familiar, fraudsters are more likely to disguise themselves as familiar brands as had happened to our client above.

4. Double check information. Legitimate and potential clients will not be offended if you do so – you are protecting their brand and your own bottom line.

“Cyber-criminals commonly gain entry into systems by way of phishing, smishing, or a plethora of other types of scams and techniques.”

Clients of trade credit providers are also at risk. They may be tricked into making payment to fraudsters believing them to be the trade credit provider. This puts payment to trade credit providers at risk which will be problematic to all parties concerned especially if the economic environment deteriorates. To minimise this risk, as a suggestion:

1. Encourage clients to adopt a two tier verification of payments system whereby they call you to confirm account payment details before payments are made.

2. Provide clients with examples of what your invoices will look like and make it clear to them that your invoices will not be attached to emails containing links to facilitate payment.

3. Notify clients of the steps you will take if your bank details change. For instance clients should know that you will send a letter, an updated client agreement or terms and conditions – not just an email with a link.

4. Advise your clients against using instant payment methods for a first payment. Clients should be able to transfer $1.00 first and wait for you to confirm its receipt before transferring a large sum of money.

It is also important to note that a client’s obligation to make payment to a trade credit provider is not affected if the client makes a mistaken payment to a fraudster. They still need to pay the trade credit provider. The relief in this kind of case would be against the fraudster in unjust enrichment or fraud. Trade credit providers may continue to press for payment although by reason of considerations of commerciality one may wish to be more lenient in such a case.

Debtors using court to delay payment

Creditors who have issued Court proceedings are often frustrated by well-informed debtors who utilise Court procedure and rules to delay the proceedings and avoid paying the debt when due.

We believe as more Court jurisdictions move to online court processes there will be more opportunities for well advised debtors to delay the proceedings. This is because there is less face to face time with a Court Registrar or Judge to explain delay.

In addition, debtors will sometimes file a Defence which gives little detail as to the reasons for nonpayment and potentially is in breach of the Court rules.

“

...debtors will sometimes file a Defence which gives little detail as to the reasons for non-payment and potentially is in breach of the Court rules.”

Each case must be assessed on its merits, however when met with such tactics creditors may wish to consider filing for summary judgment or using the Court rules to get the matter listed before a Judge or Registrar (as opposed to the Online Court). A summary judgment allows a claimant to be heard sooner and judgment awarded before proceeding to trial in circumstances where the other party’s case has no prospects of success.

Another technique employed by debtors in larger claims is making ad hoc payments during proceedings. This technique puts pressure on the plaintiff not to aggressively pursue a case as money is arriving and also a plaintiff may have concerns about the payments being an unfair preference. When ad hoc payments are made by a defendant, creditors may wish to negotiate

a deal with debtors which evidences a payment arrangement with a guillotine clause enabling instant judgment on any default.

Unfair preferences

When we presented our webinar to AICM members in December last year, two Federal Court decisions about the unfair preference regime were subject to appeal to the High Court of Australia. The High Court has now handed down its decision in both appeals, the result of which has unequivocally altered the unfair preference regime and provided certainty to creditors about the defences which may be used in an unfair preference claim.

The first is the decision of Metal Manufactures Pty Ltd v Morton [2023] HCA 1 (Morton).

“...creditors may no longer reduce their liability under an unfair preference claim by relying on statutory set off as this will unfairly diminish the distributable pool of assets to all creditors.”

The High Court in Morton upheld the Full Court of the Federal Court’s decision in Morton as liquidator of MJ Woodman Electrical Contractors Pty Ltd (in Liq) v Metal Manufacturers Pty Ltd [2021] FCAFC 228 and has abolished the set off defence.

The set off defence enabled creditors to set off the unfair preference claim against any debts still owing by a company in liquidation.

The High Court agreed with the Federal Court in that a set off under s533C of the Corporations Act 2001 (Cth) requires mutuality between the two claims such that the claims must be between the same parties and held by those parties for their own benefit and interest. As the right of action pursued by the liquidators was not for the benefit of the company in liquidation but for the benefit of unsecured creditors there was no mutuality.

The Morton decision means that creditors may no longer reduce their liability under an unfair preference claim by relying on statutory set off as this will unfairly diminish the distributable pool of assets to all creditors.

Running Account

The second decision is that of Bryant v Badenoch Integrated Logging Pty Ltd [2023] HCA 2 (Badenoch). This decision has changed the landscape of the running account defence to the benefit of creditors.

In Badenoch, the High Court again upheld the Full Court of the Federal Court’s decision in Badenoch Integrated Logging Pty Ltd v Bryant, in the matter of Gunns Limited (in Liq) (receivers and managers appointed) [2021] FCAFC 64 and held that the peak indebtedness rule is not the correct method for calculating a deemed unfair preference under a running account.

Instead, the New Zealand methodology has been followed whereby the net position of all transactions during the relevant period will be deemed the unfair preference amount.

The practical implication of this is that instead of the liquidator maximising their recovery by choosing the time when there was the greatest level of indebtedness for the purposes of a running account, the entire six month relation back period must be taken into account by deducting the indebtedness at the end of the period from that at the start of the period. This will result in a more favorable result to the creditor and can reduce the unfair preference to NIL if the final amount owing to the credit is greater than that at the start of the six month period.

The High Court has now put an end to two key uncertainties in Australia’s unfair preference regime, which should result in a reduction in a creditor’s time and costs in litigating an unfair preference claim.

Directors identification numbers

The final matter for discussion in this article is that of director identification numbers which all directors of ASIC and ACNC registered organisations were required to apply for and have by 30 November 2022. This includes directors of corporate trustees of self-managed superannuation funds.

“

In Badenoch, the High Court ... held that the peak indebtedness rule is not the correct method for calculating a deemed unfair preference under a running account.”

If you have not yet applied, an extension of time may be sought by accessing a form from the Australian Business Registry Service site at www.abrs.gov.au

You must provide your director identification number to the person in your company responsible for keeping records. This may be the company secretary or another director.

In the future, it is possible director identification numbers will be accessible for a fee, like other company information.

For trade credit providers, director identification numbers are another means to cross reference information. Each director only has one identification number regardless of how many positions he or she owns. A director identification number stays with a director for life and does not change.

By now, directors should have applied for and obtained their director identification numbers so it is open for trade credit providers to ask for this number from new clients when they apply for credit or existing clients.

“For trade credit providers, director identification numbers are another means to cross reference information. Each director only has one identification number regardless of how many positions he or she owns.”

Perhaps the best part of director identification numbers is the expected reduction in risks associated with Phoenixing and family businesses. In relation to family businesses it is open for guarantors to argue that security given in relation to family property was given without their knowledge or understanding. Director identification numbers, together with other systems, makes mounting such a defence much harder.

Daniel Turk MICM Partner

T: 02 8257 5727

E: Daniel.Turk@turkslegal.com.au

Louise Nixon MICM Partner

T: 07 3212 6716

E: Louise.Nixon@turkslegal.com.au

Lucy Tindal MICM Senior Associate

T: 02 8257 5714

E: Lucy.Tindal@turkslegal.com.au

FOOTNOTES:

1 Australian and Securities Investment Commission Corporate Insolvency Statistics, Series 2.

Credit in an increasing interest rate environment - is it too early to see what has changed?

Compiled by Peter Bignold MICM Business Development Manager Tasmanian Collection Service

What an interesting economic landscape we have been through over the past few years. A once in a century global pandemic that changed the face of the world in different ways and brought with it different economic responses and impacts. As the world adjusted to the post pandemic environment and coupled with a war in the Ukraine, many countries have been coming to grips with inflation caused from supply side constraints and pandemic related stimulus. Australia has not been immune to the inflation with soaring CPI resulting in the Reserve Bank of Australia (RBA) lifting rates in a sharp fashion with more on the way to combat the inflationary pressures. This represents the first time since 2010 where the Australian population has seen any increase in interest rates (certainly the first time the country has seen a steep rise in rates since back in the mid-nineties).

It could be said, its almost a generation since the economic environment has seen rates on the rise in a way it has occurred which ponders the question whether we have seen any changes in

the credit environment when the rates started to rise as well as the promise of more to come. In credit, it is difficult to change tact when the economy shifts but its far more considered in how to respond in terms of addressing collection techniques and strategies.

In our home state where we operate, Tasmania has enjoyed a comparatively stable economic landscape during the onset of Covid restrictions in early 2020. Often called the small island, Tasmania used its natural border to strictly restrict entry and departures from the island forcing the population to look within and focus on itself to generate a stable economic platform. It could be argued the stable nature of the Tasmanian economy offers a reasonable comparative data opportunity when compared to other states and territories in Australia when pondering the question of whether interest rates have made an impact.

As well as considering location for assessing the impact of an increasing interest rate market in the

“Australia has not been immune to the inflation with soaring CPI resulting in the Reserve Bank of Australia (RBA) lifting rates in a sharp fashion with more on the way to combat the inflationary pressures.”

Cash Rate Target

credit landscape, our analysis has compared like periods from July December 2021 (where the cash rate was set at 0.10%) to the same months in 2022 (where the cash rate had already moved to 1.35% over a very short period of time) with the Central Bank indicating more rates on the horizon. At the time of this article has reached 3.35% and several more rate rises are expected (some anticipating the height may be over 4.00%). This analysis will look at some key changes in credit collection as we see it over these two comparable periods, including debt lodgement, collection numbers, legal actions, and credit enquiries which may glean some insights into whether the rate changes have made any noticeable impacts.

RBA Cash Rate Tracking

The above graph is a reminder of where we have been and where we are now in the rate settings, more particularly since 2010 where the last rate

increments occurred and the long period of rate reductions until March 2022 when the worm turned.

What Did We Find?

Looking at the trends between the two periods between 2021 and 2022, it’s reasonable to suggest the data is mixed if looking for a concrete conclusion that rates have changed behaviours.

In the Tasmanian environment, there has been a 4.6% increase in the number of debts lodged but a small reduction in the dollar value of those lodged. A further look into the composition of lodgements over that period didn’t show much of a change in the types of debts being lodged (or via industry) noting the only real variability was timing (as each business or government entity came to grips with staffing challenges in administrative activity).

Interestingly, actual debts collected over the period were 10.7% higher which indicated debtors certainly have the means to meet their obligations (all be it, late) which is consistent with Tasmanian unemployment rates being sub-4.0% (the most recent December 2022 figures showing 3.8%).

We observed an increase in legal action by clients of 8.5% though it is anticipated the jump is not driven by the economic environment but rather a reversal of policy from larger clients who steered away from this during pandemic times.

Noting the mixed data as well as possible variables which can be explained, it is apparent that the effects of the interest rate changes will take some time to flow through the economy and into the credit landscape. The magnitude of the rate increases and the steep nature of these increases has received significant news coverage with pockets of the population to be expected to be hit harder than others. There is likely to be

an economic tipping point in various parts of Australia where stress will find its way towards debtors taking longer to meet their obligations though this will take time to flow through.

In the credit environment, there is little to suggest any tightening of credit terms whilst the economy remains in a period of robust growth and economic indicators, but all eyes remain firmly on the RBA. Monetary policy is rarely seen to time their changes to an exact science and can be prone to reversing track (particularly given the steep nature of the recent decisions).

Credit management will need to remain flexible to adapt to any environment that presents itself. A future is hard to predict, so the response to any shifts remains at the utmost importance.

This article has been compiled by Peter Bignold MICM, Business Development Manager – Tasmanian Collection Service – www.tascol.com.au using internal data analysis and RBA data.

“There is likely to be an economic tipping point in various parts of Australia where stress will find its way towards debtors taking longer to meet their obligations though this will take time to flow through.”

The power of three

Kirk Cheesman MICM Group Managing Director National Credit Insurance Brokers

There is an age old saying ‘good things come in threes’. The thought is if a fortunate event has already occurred twice, a third fortunate event is likely to occur.

But does the same apply to ‘bad events’?

I am sure as credit professionals, there have been times when you’ve considered the latter, via three insolvencies, three preference actions or three repayment plans.

Considering this theory, we’ve taken a look at the top three factors based on our statistics.

Given our close presence in the trade credit insurance arena, let’s first take a look at the top three industry sectors during 2022 by claim value:

First Place – Building and Construction – Not surprisingly, building and construction took the gold medal in the top three industries lodging credit insurance claims. Whilst a significant number of policyholders are related to the building and construction sector, many factors impacted the ability of end users to stay profitable during 2022.

No doubt the ‘stop-start’ environment during COVID made things more challenging for this sector. Labour shortages and increasing labour costs also played their influential parts. Product

delays and shortages as well as inflation added to their woes.

Government incentives to ensure residential home building stayed strong during the pandemic period led to the overall high level of new builds and growing pressure on global supply chain issues.

Second Place – Electrical – Silver medal went to the electrical sector. Altough a broadly spread industry, most failures surrounded subcontractors who struggled to stay afloat during 2022. In addition to the key elements impacting the building and construction sector, subcontractors live in a highly competitive environment. Long lead times on quoting jobs with fine margins means on many occasions, work is under quoted, and losses occur.

“Whilst a significant number of policyholders are related to the building and construction sector, many factors impacted the ability of end users to stay profitable during 2022. No doubt the ‘stop-start’ environment during COVID made things more challenging for this sector.”

Third place – Finance related losses – taking bronze medal was the finance sector in 2022. Finance related claims are generally made via a cross section of industries, whereby trade finance facilities are offered in support of early cash flow payments on debtor invoices. Increasing finance costs and banks tightening security requirements, lead to debtor finance being a good alternative. The number of businesses using debtor finance facilities has grown within Australia, which contributes to growth in credit insurance claims.

Companies entering external administration also returned to pre-pandemic levels mid-2022, the highest month being July with 717 company failures. August was the second highest month with 692 insolvencies and November coming in third at 655 insolvencies.

On the collections front, the top three months for collection actions were March, May and August.

The influx of credit insurance claims generally happens in March and April. Businesses after the holiday period continue to try to survive but eventually wave the white flag in February or March. This was no exception in 2022 with the highest claiming month being March and an influx also occurring in July after the financial year end and November just leading into the holiday period.

Despite activity increasing in both insolvency, collection actions and credit insurance claims, there is still much ground to make up for the low levels of insolvencies during the pandemic. Did the government incentive and support smooth the economy out during 2020 to 2022 only for hidden issues to appear during 2023?

The uptick in overdue reports and collection actions suggest there is normality returning to trade credit risk.

NCI Claims by Industry (01-01-2022 – 31-12-2022)

The NCI Trade Credit Risk Index is still much lower than in pre-pandemic times and has significantly dropped from the initial economic fears of March 2020. One of the contributing factors of the current trade credit risk rating is the level of cover available from trade credit insurers. The level of cover available continues to grow and the demand from policyholders is much higher than pre pandemic levels.

What are the top three economic factors that are going to impact businesses for the remainder of 2023?

NCI asked our expert economist for his top three factors:

1. The speed at which inflation falls and what this means for interest rate.

2. Slower economic growth, especially from the consumer sector, as interest rate hikes fully kick in.

3. Labour market costs/wages. The skills and labour shortage will likely be addressed by a surge in immigration and a broader economic slowdown. By year end, there is likely to be some emerging slack in the labour market.

I hope there are more good things that come in threes for our sector over the next 12 months. But one eye is closely on the impending risks and the unknown potential risks.

“The uptick in overdue reports and collection actions suggest there is normality returning to trade credit risk.”

Financial data: The new opportunities it brings

David Johnson MICM CEO Talefin

In Australia, the view on credit reporting has shifted in recent years. What was a predominantly negatively driven industry, is now embracing comprehensive credit reporting (CCR) to help lenders more accurately assess credit applications and make better-informed decisions.

The Australian government has also implemented several measures to protect consumers against unfair credit scoring practices, such as giving individuals the right to check their credit score annually and dispute and amend any errors on their report.

These changes have been welcomed by consumer groups and the financial services industry alike, as they help to ensure that credit reporting is fair and beneficial for all involved parties. CCR has been seen as a positive step in improving the accuracy of credit reporting in Australia.

With the increased uptake of CCR the credit industry in Australia is in a period of transition, undergoing an overhaul with introduction of new regulations and reforms designed to better protect consumers. In the wake of the Royal Commission into banking and financial services,

the industry has come under increased scrutiny from government regulators, with a focus on reducing the risks associated with lending and borrowing.

In addition to the introduction of CCR, the commission recommended additional measures such as the banning of unsolicited credit card offers and the introduction of new rules for lenders which require them to assess a borrower’s ability to repay before approving a loan.

Australia is planning a digital economy by 2030. New technologies have emerged which could potentially revolutionise the way that credit is offered and accessed. This creates both opportunities and challenges for lenders, borrowers, and regulators alike.

Risky business

With the multi-faceted changes to the Australian financial sector, credit providers are now tasked with additional checks prior to approving any credit. The new rules for providing credit to consumers requires more insights to ascertain suitability of the product. Non-compliance to new

“

In Australia, responsible lending regulations have come a long way in the past decade, with recent changes in legislation introducing stronger consumer credit protection regulations.”

regulations may result in increased risk to both the credit provider and the consumer.

Responsible Lending

Let’s begin with responsible lending. In Australia, responsible lending regulations have come a long way in the past decade, with recent changes in legislation introducing stronger consumer credit protection regulations. For lenders, these new rules not only provide consumer protection, but also open opportunities to engage with customers in a responsible and motivating way.

The National Consumer Credit Protection Act 2009 (NCCP) established the concept of responsible lending in Australia, aiming to provide consumers with credit that is appropriate for their needs and repayment capacity.

In 2012, the NCCP was amended to include additional consumer protection measures, such as mandating that lenders conduct reasonable inquiries into a consumer’s financial situation and verify provided information. Additionally, a

new ‘not unsuitable lending’ test was introduced, requiring lenders to evaluate whether the credit provided is unsuitable for the consumer’s financial circumstances and needs.

Since 2012, further amendments have been implemented to strengthen responsible lending obligations for lenders. The new rules require lenders to conduct more comprehensive inquiries into a consumer’s financial situation and to obtain and evaluate more information regarding their requirements and objectives.

Moreover, the ‘not unsuitable lending’ test now encompasses a wider range of credit, obliging lenders to take reasonable measures to ensure borrowers can repay their loans without hardship.

“Since 2012, further amendments have been implemented to strengthen responsible lending obligations for lenders.”

These changes aim to ensure that consumers are better protected when seeking credit and are provided with products that are genuinely suitable for their circumstances.

DDO

2021 saw the introduction of the Design and Distribution Obligations. This began the shift away from relying solely on disclosure as a form of consumer protection, and instead introduces measures to ensure products are distributed to their intended target market.

Credit providers must meet the distribution obligations in relation to their ‘retail product distribution conduct’, such as giving financial advice, providing a PDS or disclosure document and arranging for someone to apply or acquire a financial product.

The application of DDO often causes considerable consternation among the businesses we interact with. This confusion primarily stems from uncertainty about who should be subject to DDO requirements and how these requirements should be applied. While the intent of DDO is generally well understood, many individuals

feel that the rules are too subjective, making it difficult to confidently interpret how they should be applied in practice.

BNPL

BNPL is currently one of the most discussed topics in the industry, with a variety of opinions and perspectives on the matter. However, many personal finance lenders are finding it challenging to provide credit responsibly to consumers who use BNPL. As BNPL is not required to have suitability tests, often the result from one participant not assessing credit risk, other credit providers will inevitably be at a disadvantage. Especially in the case of BNPL, where a different set of rules applies, the sector is exempted under NCCPA due to interest rate of 5% or less per annum. The BNPL sector argues that most of their customers make payments on time (virtually true of all credit products) and argue for the status quo to remain.

The introduction of Buy Now Pay Later (BNPL) legislation in Australia is likely to have a significant impact on the industry. The new laws will require providers to assess the ability of customers to repay their debts and provide greater protection against irresponsible lending.

This will impact low-income consumer who utilise BNPL services. They will be assessed on their ability to make all repayments, not just the initial repayment and whether they can service multiple BNPL products at the one time.

Additionally, the legislation could lead to stricter regulations regarding fees and other charges associated with BNPL services. These changes could mean fewer incentives for customers to use BNPL products and services, and this could have a negative effect on businesses in the sector.

On the other hand, the new laws could also lead to increased consumer confidence in

“

...many personal finance lenders are finding it challenging to provide credit responsibly to consumers who use BNPL.”

BNPL services, which will result in more people using them. Overall, the implications of the new legislation are yet to be seen, but it is certain to have a major impact on the BNPL industry, in addition to the entire credit industry in Australia.

Change is inevitable

The industry is at precipice of change, facing the possibility of significant shifts due to forthcoming legislative reforms. As a result, some sectors may experience a decline while others may undergo an evolution. Reform is inevitable, technological advancements and changing consumer demands propel the industry into the new areas of opportunity. While some may see risk, the reality is that the credit industry and financial sectors now have the potential to excel and enhance their offerings to better serve their customers’ needs.

By embracing these changes and adopting innovative solutions, the industry can not only survive but thrive in the current economic landscape. In addition, regulatory reforms can help to establish a more robust and transparent industry that protects both consumers and businesses. Therefore, the industry should view this period of change as a chance to reinvigorate and improve its practices, ultimately creating a more prosperous and sustainable future.

The success of a credit provider is increasingly dependent on obtaining nuanced insights into their customers. Actively engaging in comprehensive credit reporting can provide detailed feedback that can be used to capitalise on changes in the market. Armed with the right financial insights, credit providers can make better decisions faster, increasing their returns, and lowering their arrears.

With the changing landscape, simply denying credit to those who appear to be a risk should

no longer be the default option. Instead, credit providers should leverage comprehensive data to understand the nuances associated with potential customers. By doing so, they can identify positive financial behaviours in a client’s history, determining that they are not actually a risk but potentially experienced financial difficulties in the past.

Real-time financial insights can provide critical indicators to identify points where proactive assistance may be necessary to prevent customers from entering financial hardship. Having additional data points to monitor changes in financial behaviour and financial situations can help credit providers work with clients to promote continuous, albeit amended, payments.

The industry is currently undergoing rapid evolution. Identifying and classifying risk when determining credit eligibility is more than just a yes or no. With accurate insights, credit providers can instead focus on finding the ideal product for each consumer that is sustainable in the long term for both parties. By leveraging technology and innovative solutions, the credit industry can evolve to meet the changing demands of the market and better serve its customers.

CCR and real-time financial data will only help bolster your business, have you considered the risk of not engaging in it?

David Johnson MICM CEO Talefin www.talefin.com

“With the changing landscape, simply denying credit to those who appear to be a risk should no longer be the default option.”

Cyber risk impact on cash flow: how credit managers can take action

Mark Luckin

Increased interconnectivity and interdependence of systems, brought on by digitalisation and globalisation, have created an environment where an organisation’s cyber risk maturity and vulnerability can impact debt serviceability.

In partnership with Longitude, a Financial Times company, in Q1 and Q3 2022, Lockton surveyed 475 CFOs and senior finance leaders. As the stewards of the financial health of their businesses, CFOs and finance teams including credit managers are responsible for the current approaches, and sentiments, to strategic risk management.

The CFOs’ concerns regarding risk velocity have exponentially increased particularly across technology and cybersecurity, and for good reason.

Last year, one of Australia’s largest telecoms experienced an enormous data breach with up to 10 million of their users’ personal details stolen. The hacker threatened to release 10,000 records every day unless they were paid A$1 million in

CFOs are the most concerned with the velocity of the following risks (Q1 to Q3 2022)

cryptocurrency. The company set aside A$140 million as an exceptional expense following a massive data breach that affected 10 million customers.

Lockton Cyber Practice Leader

“Increased interconnectivity and interdependence of systems, brought on by digitalisation and globalisation, have created an environment where an organisation’s cyber risk maturity and vulnerability can impact debt serviceability.”

Only a month later, one of Australia’s large health insurers also came under fire from a huge cyber-attack with personal data –including private health records leaked to the dark web – this was in retaliation to the company refusing to pay the ransom of A$15 million.

Medibank could face a A$1 billion compensation bill from the damaging cyberattack that has affected 10 million customers, as hackers targeting the company released the biggest tranche of sensitive data yet in another attempt to pressure it into paying a ransom.

These are both timely examples of how a cyber-attack can impact the cash flow and credit risk of a company. In 2023, credit managers must understand the impact cyber

risk management can have on the cashflows of a company. It is important that credit managers start assessing the vulnerability of customers to a cyber-attack, which can have significant financial ramifications.

How can credit managers integrate cyber risks in the credit evaluation/assessment framework?

Traditionally the 5 Cs of Credit is a framework credit managers may use to help understand, measure and mitigate credit risk. The 5 Cs of Credit: character, capacity, capital, collateral, conditions. Lockton believes there should be an additional C when assessing customers: cyber risk. So, what are the top questions to ask customers?

“The CFOs’ concerns regarding risk velocity have exponentially increased particularly across technology and cybersecurity, and for good reason.”

Examples of questions to ask customers:

1. How and why do you collect, use, store and delete Personal Identifiable Information (PII)?

A top risk for organisations is the re-consideration around how and why they collect, use, store and delete Personal Identifiable Information (PII). The Australian Privacy Principles (APP), specifically APP 11, already put an onus on organisations to take reasonable steps to destroy PII or ensure that it is de-identified, where it is no longer needed for its intended purpose. We can expect this to be a significant area of focus from regulators moving forward.

2. How are you mitigating cyber risk?

For example, organisations can invest in procedures to reduce the likelihood of an incident through mitigation. Vulnerability scanning is an automated process that can help identify security flaws that could be exploited by cyber attackers aiming to take control of a business’ systems or steal its data. Weaknesses can include unpatched software or open ports. The process is purely internal facing. Attackers will consider exploiting weaknesses in key software components in networks. The majority of successful attacks occur in systems where patches have not yet been applied. In general, it is important to have controls in place and stress test the network on a regular basis.

Desktop sharing software is still the most common attack vector. Small components can create great risks. It is therefore crucial to understand the software used in the business and using their support function to understand their ability to respond to a cyber-attack. For larger companies, phishing – essentially tricking victims to open attachments or links that contain malicious files – is a quite successful tactic.

3. How are you detecting attacks?

The average attacker will spend three months testing vulnerabilities and updates around a company’s systems. Businesses should aim to identify potential threats through device scanning, dark web monitoring and threat intelligence feeds, and remove them before they can harm the business.

Cyber threat intelligence looks at risks outside the company to understand what threats are on the horizon. It can offer insight about potential cyber-attacks and the threat actors operating at any given time. This information can be analysed and used to determine the threat level for a company and the actions needed to address the risk. Such intelligence combines information

“

Vulnerability scanning is an automated process that can help identify security flaws that could be exploited by cyber attackers aiming to take control of a business’ systems or steal its data.”

from the dark web, governments, and other third-party cyber security sources. This can be combined with cyber claims data to identify the most likely types of attacks, actors, and potential victims.

The combination of threat intelligence and vulnerability scanning can more effectively predict cyber-attacks and help prioritise the vulnerabilities to remediate, ultimately preventing losses and disruption to the business.

Many businesses are now using cloud providers to store their data and for the technology platforms they use. The downside to this is that the business loses control over the risk exposure and that it reduces a company’s options to react. If there is a big outage at a cloud provider, clients will need to rely on the service providers’ management of the situation and hope for a quick resolution. Cloud providers are unlikely to sign any liability requirements.

4. Do you have an incident response plan and scenario testing in place?

Developing a response plan and testing it regularly against different scenarios will boost the management’s confidence to be able to take the right decision in a stressful situation. These plans need to be designed carefully and need to be updated and tested on a regular basis. The management will need to rely on it for decisions such as whether the police should be called or whether ransom should be paid.

In addition, and as part of the plan, incidence response services can offer immediate technical support to a real or suspected cyber event. Such services usually include a team of forensic analysts, cyber security engineers, ransom negotiators and business resumption specialists that triage the incident. These services can help contain the threat and repair systems and get the business back online.

Good IT hygiene also requires training and educating employees. It can also involve engaging with third parties to conduct war gaming exercises or developing and testing business continuity and disaster recovery plans. A crisis management plan should include a list of experts to inform in case of an event.

5. Do you have cyber insurance?

Organisations often have contractual obligations with third parties to carry a minimum level of cyber insurance. The hardening cyber insurance market has rightfully forced a rethink on the merits of cyber insurance for organisations, however insurance is the last line of defence in a catastrophic cyber event and can directly impact debt serviceability.

Credit managers can lead the way

Finance teams are responsible for the financial health of any business. Credit managers have an evolving role to play to help build organisational resilience and ensure the organisation is protected from vulnerable customers. As the world changes and cyber risks evolve, openly discussing cyber risks and asking the right questions of customers is key when assessing credit.

Mark

Luckin Cyber Practice Leader Lockton Australia www.global.lockton.com

“Developing a response plan and testing it regularly against different scenarios will boost the management’s confidence to be able to take the right decision in a stressful situation.”

IN FOCUS Construction

Choppy waters ahead for the residential construction industry – this is a time to be vigilant!

Wayne Clark MICM, MAICD Executive Director, Building Industry Credit Bureau

As they say, ‘what goes up must come down’ and this is certainly true, at the moment, for the residential construction sector.

What a difference a year makes! This time last year, and despite a number of high-profile company collapses which sent shockwaves

through the industry, overall insolvency numbers remained relatively low. Insolvency numbers fell quite sharply from June 2020 and remained relatively low until the second half of 2022. (see graph below). However, insolvency experts were warning that the construction industry was a “bubble waiting to burst”

Construction Insolvencies Average per Month

Factors contributing to this elevated risk

Over the last two years builders have had to deal with a broad range of issues, from Covid-19 lockdowns, supply chain issues, severe weather events, rising material and wages costs and low profitability.

These issues have caused substantial blowouts in construction completion times, in many cases by as much as three months or more. Also, many builders on fixed-price contracts have made substantial losses. There is no doubt these issues are putting many businesses at risk. These factors have all contributed to what has been widely described as the “profitless boom”.

Overview of current risk in the building & construction Industry

According to a recent HIA media release, the number of detached houses commencing construction is set to decline this year to its lowest level since 2012. This will see the number of detached housing starts fall below 100,000

starts per year for the first time in a decade to just 96,300 in 2024. This is a very rapid slowdown from the 149,000 starts in 2021. (HIA Media Release 21 February 2023)

This decline in the number of detached housing starts will generate a competitive pricing environment, particularly among the volume builders, in order to win work. This will ultimately impact their profit margins.

Construction industry insolvencies as a percentage of all insolvencies have increased by almost 12% (11.88%) during the Covid era. We expect to see that trend continue to increase over the next twelve months.

“

Over the last two years builders have had to deal with a broad range of issues, from Covid-19 lockdowns, supply chain issues, severe weather events, rising material and wages costs and low profitability.”

“Construction industry insolvencies as a percentage of all insolvencies have increased by almost 12% (11.88%) during the Covid era. We expect to see that trend continue to increase over the next twelve months.”

CONSTRUCTION IN FOCUS

Construction industry insolvency forecast

As can be seen in the graph below, insolvencies declined sharply during the Covid era. However, insolvency numbers for the current financial

year are forecast by BICB to be the highest in ten years. (2022/2023 YTD to 31 Jan 2023).

BICB recorded liquidations for five of the past eight months, for entities reported in our database, have also been breaking records.

National ASIC Insolvency Statistics

Construction Industry

BICB Reported Liquidations

BICB Total Consolidated Debt Above 60 Days Comparison

What is actually happening?

Debt Above 60 Days Trend

BICB’s data clearly shows how the debt percentage above 60 days decreased during the Covid era. However, recent feed-back from BICB members suggests that payments are beginning to slow down. This anecdotal information is reflected in the payment data for December 2022 and January 2023, above.

The value of data for successful risk mitigation

We live in a world where data is king. And with so much information available, the most effective risk mitigation systems will pull data from

multiple different sources as no single source is able to provide the complete picture.

However, for data to be useful in managing risk it needs to be accurate, comprehensive and, most importantly, early enough to provide advanced warning so you can be on the front foot to mitigate your risk in real-time. Some data sources are retrospective in nature and provide great clarity after the fact, but these have limited value as situations evolve. Fortunately, there are a number of other excellent tools available to credit managers that can identify deteriorating trends and potential red flags months in advance of eventual business failures. Use of these tools within your credit management processes can add significant value to your business.

“...for data to be useful in managing risk it needs to be accurate, comprehensive and, most importantly, early enough to provide advanced warning so you can be on the front foot to mitigate your risk in real-time.”

Source: Building Industry Credit Bureau Payment Trend Data

This is a time to be vigilant

Know Your Customer – Front and centre of managing your risk is having a strong understanding of your customers. This is essential for any business looking to succeed in creating reliable credit risk management processes.

Assessing any customers’ credit risk profile is only possible with access to data that is comprehensive, accurate and up-to-date. ‘Credit Risk Management’ techniques and models that are supplied with rich data sets will help significantly improve credit risk processes.

Assessing Risk – Whether onboarding new customers or, reviewing existing customers, access to meaningful data is critical. This information is generally sourced through Credit Reporting Agencies and Industry Trade Bureaus that provide online access to current

and historical trading data, comprehensive Court action reports and alerts, ASIC data, Licencing Regulators and Trade References from other suppliers. Both of these sources provide their own unique valuable data to feed into a comprehensive risk management process that enables the credit team to make the most informed decisions.

As an example BICB members have the advantage of having access to large sets of trading data which enables them to monitor payment trends.

Wayne Clark MICM, MAICD Executive Director, Building Industry Credit Bureau

E:

T:

wayne@bicb.com.au

0402 244515

Acknowledgements

(a) Graphs supplied by Building Industry Credit Bureau

“Assessing any customers’ credit risk profile is only possible with access to data that is comprehensive, accurate and up-to-date. ‘Credit Risk Management’ techniques and models that are supplied with rich data sets will help significantly improve credit risk processes.”

MANAGE RISK How to

5 Tips to light up your AR performance when the outlook is gloomy

Eric Maisonhaute MICM Director – Accounts Receivable Solutions Esker Australia Pty Ltd

Introduction

Supply chain disruptions, inflation, geopolitical upheavals and the non-stop warnings about economic slowdown: These are the things that keep Finance leaders up at night. Unfortunately, there’s no escaping the reality that these disruptions are not just transitory, but very likely just the “new normal”.

Yet, businesses are operated by humans, and one of the most human traits is having hope. When faced with difficulties, our minds often create a vision of a better future, however faint that vision

might be. Hoping does not mean wishful thinking. Instead, it provides a goal to work towards, which, in turn, creates a path forward to reach that goal. When you devise a plan, and begin implementing the individual steps, you will most likely start seeing successes. Continuously measuring the progress and celebrating these little successes will reinforce the determination to reach that goal and eventually establish new goals.

The solution to the problem

Businesses that face adversities can convert this approach into optimising their operations to reduce or even prevent credit risk by focusing on an efficient order-to-cash (O2C) process and implementing a solid collections effort that includes all departments: Sales, Finance and Logistics, among others.

Concerning market indicators have businesses turning to automation solutions to improve credit risk assessment and cash collections processes. Research shows that the interest in solutions that connect currently siloed processes – both

internally (multiple ERPs, CRM) and externally (AP/customer and regulatory agency portals) – is high.

Additionally, given the context of the current labour market and the need for qualified talent, it is becoming increasingly difficult to hire staff for positions that come with a high degree of repetitive, manual tasks that – let’s be honest –can be frustrating, to say the least.

To give you an assist on this journey, we’ve compiled 5 tips to help AR managers assess their company’s cash collections process and be ready for whatever is coming next.

#1. Reinforce your credit risk management

A recent European Payment report reveals that 41% of businesses interviewed say that late payments from customers prohibit growth of their company, and 26% state that late payments threaten the business’ survival.1

Continually assessing (and re-assessing) your customers’ credit risk enables you to adjust the collections process and other business decisions accordingly.

This can involve:

z Making the customer onboarding process smooth and simple with easy credit application and review processes

z Staying up-to-date with risk status through alerts and regular assessments.

How can AR automation help?

z With tools that automate the credit review process such as scorecards and approval workflows

z Through credit reviews that are triggered by pre-defined, customisable events, such as alerts from credit bureaus, blocked orders, exceeded credit limits or for new customers

z By fully digitalising the credit application and customer onboarding processes to help you understand your customers better and prioritise and control next steps.

“When you devise a plan, and begin implementing the individual steps, you will most likely start seeing successes.”

#2. Be pragmatic with payment collections

Comparative global analyses show that, on average, 43% of invoices are paid late, and nearly 7% of invoice balances are written off completely. This means that only 50% of invoices are paid on time and in full.2

Enhance your collections with fact-based, measured figures to stay flexible and in alignment with your strategy when circumstances change for your customers or your receivables situation.

Keep an eye on factors such as:

z The credit risk status of the customer

z Payment behaviours

z Flexibility of your collections procedures

How can AR automation help?

z Categorising customers allows AR teams to use the best collections strategy for each type of customer, work smarter and more strategically

z AI-supported to-do lists prioritise steps and action items such as collections calls

z Visibility over the entire process, available resources and milestones, lets you keep an eye on the goals and adjust them when necessary

z Enabling management of collections groups based on risk category, with customers automatically (re-)assigned to the appropriate collections group/strategy if their risk category changes.

#3. Connect the AR team to the business environment

Making sure that the money keeps coming in should be everyone’s mission. To ensure that both internal and external communications are effective, the right infrastructure needs to be in place.

Connecting all information flows – from all internal teams involved in the O2C process, customers and external stakeholders such as credit bureaus, insurers and the greater business ecosystem – creates effortless collaboration as well as internal visibility.

How can AR automation help?

z Internally, by:

Enhancing cross-departmental visibility (e.g., ensuring that promise-to-pays are correctly logged and viewable in the cash application solution, and displaying blocked orders and suggesting collections calls for blocked customers)

Facilitating communications and issue resolution with internal conversations, task management and approval workflows

“Comparative global analyses show that, on average, 43% of invoices are paid late, and nearly 7% of invoice balances are written off completely.”

Promoting collaboration between Sales and Finance departments by integrating various tools like credit risk assessment, Salesforce, and mobile applications

Streamlining the entire customer management process.

z Externally, by:

Ensuring connectivity with other IT and business applications that can post and retrieve information and documents from portals of credit companies, customers, governments, etc.

Providing accurate information from the customer and the ERP, such as credit limits, blocked orders, disputes and received payments

Enhancing communications with customers through preferred channels like portals, collaborative tools and other features that promote a better customer experience.

#4. Attention to detail: Small things matter

Generally, a few low-amount invoices or short payments are not a big deal.

However: small + small + small = big

It’s not uncommon that bad habits creep in, such as letting a few late or short payments slide. But then, these bad habits have a tendency to stick. Add to that a case of increasing inflation and a side of market volatility and it becomes imperative to actually collect on outstanding invoices no matter the amount, rather than just writing them off ...

To break any financially unhealthy habits you should:

z Track invalid deductions

z Be mindful of even small receivables amounts

z Monitor payment behaviours and trends.

How can AR automation help?

By offering a solution that enables:

z Configuration of rules to manage deductions such as early payment discounts and shortpayment tolerances so that exceptions can be quickly identified

z Root cause analysis keeps track of “small things” that can lead to big problems

z Human error and inaccuracies are taken out of the equation

z Automated reminders address small receivables amounts “touchlessly”.

Automatic reminders made it possible for leading manufacturer of energy-efficient climate-control solutions Lennox to halve the number of overdue receivables on small accounts, which generated a reduction in working capital requirement (WCR) of approximately 500,000 euros.3

“Making sure that the money keeps coming in should be everyone’s mission.”

HOW TO MANAGE RISK

#5. Keep your staff happy

It can’t be said often enough: The employees are a company’s greatest asset. Attracting good people and keeping them needs to be an absolute priority. By providing them with tools that offer visibility and efficiency and removing stressors such as confusion and repetitive manual tasks, your business will have an easier time retaining and recruiting talent.

Providing your people with a sense of accomplishment and motivation creates a positive feedback loop that reduces turnover and allows the business to focus on its mission.

AR automation enables team members to focus on those things that make a business grow successfully, with risk analysis, customer relationships, exceptions management, and growing business opportunities.

z Dashboards, KPI tracking and predictive analytics promote proactive practices and prevent errors

z Connectivity boosts efficiency and effectiveness when collaborating with other teams and stakeholders

z AR team members spend less time chasing down customers and doing rote data entry, and more time doing work that matters and that they enjoy more.

Conclusion

When was the last time you heard someone say that managing data with spreadsheets and phone calls was crazy efficient? Just as we no longer use hourglasses and sundials to tell time, efficient cash collection requires present-day tools.

When a company makes strategic and well-considered investments in its digital

infrastructure it can provide ease-of-use, visibility and flexibility into its key business processes. Invoice-to-cash (I2C) automation solutions strengthened by AI enable effective risk planning and will play a key role in addressing the enormous shifts currently underway in how business is done.

So, don’t give up hope, and start taking some solid steps towards a future in which you have the right tools that help you weather whatever storms come next.

Eric Maisonhaute MICM Director – Accounts Receivable Solutions, Esker

Australia Pty Ltd

T: 02 8596 5126, M: 0479 089 668

E: eric.maisonhaute@esker.com.au www.esker.com.au

FOOTNOTE:

1 European Payment Report, Intrum, June 2022

2 Payment Practices Barometer (WE/USMCA /Asia), Atradius, 2022

3 Trebaul, Anaïs: “Lennox digitalise ses processus clients et fournisseurs”. Option Finance, January 14, 2022.

“Attracting good people and keeping them needs to be an absolute priority.”

The PPSA’s role in risk management

Xander van der Merwe Co-Founder

PPSR Cloud

An appropriate risk mitigation strategy must include consideration of the Personal Property Securities Act (PPSA), if not, the strategy is not complete.

Credit risk is a critical issue for all businesses. To reduce their exposure to credit risk, suppliers, lenders and equipment owners often employ a variety of strategies and tools to protect their interests and ensure they are compensated in the event of default.

The Personal Property Securities Register (PPSR) can be an effective tool for managing credit risk. The PPSR is a national online database in Australia and New Zealand that allows individuals and businesses to register and search for interests in personal property, such as vehicles, boats, aircraft, artwork, and other movable goods.

The PPSR is an important resource for managing credit risk in personal property transactions. It helps to reduce risk for lenders, creditors, and

equipment owners, while also providing useful information for borrowers to make informed decisions. By utilising the resources and capabilities of the PPSR, businesses can take steps to protect their interests and reduce their exposure to credit risk.

An established way to mitigate risk is to secure against it. A bank will take security against the risk their borrower defaults, why don’t more businesses require security for payment?

Security for Payment

What better way to mitigate risk than secure against it?

z If you lend money, take security over the borrowers’ assets.

z If you sell goods on credit, take security over the goods themselves and/or over the customer’s assets.

z If you provide services, take security over the output of your service and/or over the customer’s assets.

And if you have security you must comply with the PPSA if you want to use it when your counterparty collapses into insolvency. Think of compliance with the PPSA as simply ‘turning on’ your security. By registering your security on the

“

By utilising the resources and capabilities of the PPSR, businesses can take steps to protect their interests and reduce their exposure to credit risk.”

PPSR you ensure you can use it in the event of your customer’s insolvency.

Registration preserves your security and your ability to enforce it. Fail to register or register correctly, and you lose your security on your customer’s insolvency, the very moment you really want to enforce it.

Types of Security

The type of security you take depends on the nature of your business:

z Whenever money is lent, take security over the borrower’s assets.

z If you sell goods on credit, retain title to those goods until you receive payment (simple, traditional retention of title).

z If you provide a service think of how you could secure payment over the product of your service (e.g., design plans if you’re an architect or engineer).

z If you hire out equipment as a PPS Lease, you’re deemed to have a security interest in the equipment (so you better register it if you want to keep your gear).

z No matter what your business is, you may consider taking security over your customer’s assets.

Securing against credit risk is an essential element of any businesses credit mitigation strategy. Correctly registering your security on the PPSR Register is another essential element, often overlooked.

“Registration preserves your security and your ability to enforce it. Fail to register or register correctly, and you lose your security on your customer’s insolvency, the very moment you really want to enforce it.”

HOW TO MANAGE RISK

The role of the PPS Register (PPSR)

The PPSR helps mitigate credit and general risk in several ways:

z Correctly registering your security ensures you can enforce it on the insolvency of your customer;

z Searching your counterparty on the register can provide an insight on their debt structuring; and,

z Searching a vendor (particularly when acquiring motor vehicles or boats) is critical to ensure you obtain good title to the equipment.

The PPSR has been criticised for its role in facilitating registration errors, sometimes with fatal outcomes for the secured party. For this reason, many choose to use third party registration software to perform their registrations and searches.

Just as there are many grades of diamonds, there are many grades of registration software, make sure you’re using the best. At a minimum your software should:

z Use ‘wizards’ to assist in developing your PPSR policy and registration practices;

z Utilise templates to ensure all your registrations are consistent with your registration policy;

z Enable bulk registrations, amendments and searches;

z Validate your Grantor details and alert you to any issues;

z Not allow a Grantor ABN registration where an ACN exists;

z Monitor your Grantor status and alert you to any changes;

z Provide lots of notice of upcoming renewals and enable auto renewal;

z Monitor and alert you to PPSR registrations performed against you;

z Provide a useful dashboard of all key information;

z Provide comprehensive reporting; and,

z Ideally, provide access to AFSA in Australia and MBIE in New Zealand for a consistent user experience across both registries.

Businesses often spend time and effort creating security to mitigate credit risk, going the ‘extra yard’ to correctly register the security can be forgotten, yet it is the only way to protect the security against insolvent customers.

Xander van der Merwe

Co-Founder PPSR Cloud

E: xander@ppsrcloud.com

T: +64 21 862 555, ppsrcloud.com

• PPSR policy and registration ‘wizards’

• Registration templates

• Bulk registrations, amendments, renewals, and searches.

• Grantor Validation

• Automatic correction to Grantor ACN

• Grantor monitoring and alerts

• Automatic renewals and alerts

• Notification when PPSR registrations are performed against you

• Brilliant dashboard

• Comprehensive reporting

• Single platform access to Australia and New Zealand PPSR

PPSR registration, search and data management software, featuring:

Navigating Credit Risk: A legal perspective on dealing with liquidator unfair preference claims

Christopher Hadley MICM Partner

Andrew Tanna MICM Special Counsel

AICM

NSW Legal Representative of the Year 2022

Holman Webb

For the unacquainted, unfair preference claims can be brought by a liquidator against an unsecured creditor in circumstances where that creditor has received payment from the company in preference to other unsecured creditors. It is often the case that when a company is in financial distress, it makes payments to certain creditors in preference to others, leading to an arguably unfair distribution of payments to preferred creditors.

The Corporations Act 2001 includes provisions that allow liquidators to “claw back” such payments, to the intent that the liquidator may ultimately distribute assets of the company equally amongst creditors by way of a dividend.

Most credit managers loathe (to put it mildly) the thought of having to deal with a demand from a liquidator to make payment of an alleged unfair preference. In Holman Webb’s experience, this is particularly the case when credit managers have acted diligently in the recovery of outstanding amounts by customers, only to

have a liquidator seek to claw back those hardfought monies.

The past three years have been marked by significant economic disruption and uncertainty. The COVID-19 pandemic has led to financial distress for businesses across many industries, resulting in new challenges for credit professionals.

The most recent insolvency statistics published by ASIC1 have confirmed an increase in insolvencies in Australia. A significant number of those insolvencies (circa 30%) are in the building and construction industry.

In an article published in AICM’s 2022 Risk Report, Holman Webb highlighted concerns over the emergence of unfair preference claims off the back of ‘zombie companies’. Some of those concerns have certainly been confirmed (at least anecdotally), as we have seen an uptick in instances of insolvency which have led to liquidators being appointed, particularly within the construction industry.

Christopher Hadley MICM Andrew Tanna MICM

As credit professionals, navigating the risk landscape in this uncertain economic environment can be a real challenge. In order to make informed credit decisions, and minimise risk exposure from trading with customers on credit terms, it is critical to have a clear understanding of the legal framework underpinning the unfair preference payment regime.

As lawyers who have worked extensively in the field of credit and insolvency law, we have seen first-hand the impact that litigation commenced by a liquidator seeking to recover an allegedly unfair preference payment can have on a business.

It is critical for credit professionals to be aware of the unfair preference payment regime set out in the Corporations Act, and the various strategies and defences available to defeat such claims.

In this article, we will provide practical insights and observations relevant to credit professionals looking to navigate the current risk environment concerning unfair preference claims. We will set out the legal tools available to help creditors manage risk and protect their interests in the event of an insolvent customer and a claim brought by a liquidator.

Additionally, we will explore the impact of recent High Court decisions that have clarified the law concerning two common defences deployed by creditors in response to unfair preference claims.

Through a better understanding the legal framework, credit professionals can make informed decisions and take steps to minimise risk.

“Most credit managers loathe (to put it mildly) the thought of having to deal with a demand from a liquidator to make payment of an alleged unfair preference.”

Regrettably for credit managers, preference claims are an inevitable part of the credit function.

It is often the case that the available defences do not act as “silver bullets” in completely defeating preference claims. However, there are measures that credit professionals can adopt to mitigate the risk of a liquidator being successful in an unfair preference claim.

We set out recent developments in the law concerning available defences to creditors facing an unfair preference claim below.

Availability of set-off under Section 533C of the Corporations Act?

S. 533C of the Corporations Act provides that where there have been mutual credits, mutual debts or other mutual dealings between an insolvent company that is being wound up and a person who wants to have a debt or claim admitted against the company:

z an account is to be taken of what is due from the one party to the other in respect of those mutual dealings;

z the sum due from the one party is to be set off against any sum due from the other party; and

z only the balance of the account is admissible to proof against the company, or is payable to the company, as the case may be.

The main exception to the above provision in that a creditor is not entitled under this section to claim the benefit of a set-off if, at the time of giving credit to the company, or at the time of receiving credit from the company, the creditor had notice of the fact that the company was insolvent.

For a number of years, some creditors have sought to defend, or otherwise limit the quantum of unfair preference claims brought by liquidators on the basis of s 533C.

By way of example: at the time of a liquidator being appointed to a customer company, let us assume that the creditor had received payments of $80,000 from the company during the 6 months preceding the relevant relation back period and was separately owed $100,000 by the company as at the date of liquidation. Within the relevant limitation period, the liquidator then brings an unfair preference claim against the creditor seeking to recover the payments of $80,000.

A 2015 decision of the District Court of Queensland 2 and a 2018 decision of the Federal Court 3 were often relied upon by creditors to argue that s 533C of the Corporations Act ought to be applied in dealing with an unfair preference claim.

Using the example referred to above, if such a defence was available the claim brought by the liquidator would be defeated (that is the sum of $100,000 against the alleged preferential payments of $80,000).

The application of the set-off under s 533C in the above circumstances resulted in objections from

“It is often the case that the available defences do not act as “silver bullets” in completely defeating preference claims.”

liquidators who did not accept that a set-off of this type was available at all, including because of a lack of mutuality of dealings between the parties involved.

The uncertainty ultimately came to a head in 2021 where, in a decision of the Federal Court, the primary judge reserved the following question for consideration by the Full Court of the Federal Court:

“Is statutory set-off, under section 553C(1) of the [Act], available to the [appellant] in this proceeding against the [first respondent’s] claim as liquidator for the recovery of an unfair preference under section 588FA of the Act?”

The Full Court said that the question posed should be answered “No”. In response, the creditor appealed to the High Court.

Availability of ‘Peak Indebtedness’ and the Doctrine of Ultimate Effect

Where there has been ongoing (uninterrupted) trade with a customer company during the relevant period, a creditor may use the running account calculation to argue a reduced exposure to an unfair preference claim.

Until recently, many liquidators had adopted the calculation based on the difference between the so-called ‘peak indebtedness’ during the relevant period, and the amount owed to the creditor at the time that the liquidator was appointed.

By way of example, let us assume that in the 6-month period immediately prior to the liquidation there was ongoing trade between the company and the creditor such that the balance

In Metal Manufactures Pty Limited v Morton [2023] HCA 1, the High Court dismissed the appeal and held that any liability of a creditor to a liquidator’s unfair preference claim was not eligible to be set off against the debt owed to the creditor by the company in liquidation under s 533C.

In the finding, the High Court considered that the lack of mutuality of dealings and the lack of a liability to claw back the preference payment prior to the liquidation were fatal to the creditor’s argument.

The decision has been endorsed by liquidators and has no doubt disappointed many credit managers. In all events, the decision of the High Court has provided much-needed clarity with respect to the availability of set-off in the circumstances of an unfair preference claim brought by a liquidator and the argument is now resolved on a final basis.

“

...the decision of the High Court has provided much-needed clarity with respect to the availability of set-off in the circumstances of an unfair preference claim brought by a liquidator and the argument is now resolved on a final basis.”

outstanding fluctuated from time to time, and that at the end of the period an amount of $100,000 was outstanding to the creditor. Let us further assume that at the beginning of the 6-month period, the amount outstanding was $150,000 and the peak indebtedness during the 6-month period was $500,000.

The application of the “peak indebtedness rule” would permit the liquidator to select the $500,000 peak as the starting point for the analysis of the account, such that in the above example, the unfair preference claim would be $400,000.

Many in the credit industry were critical of the approach taken by liquidators in effectively “cherry-picking” an artificial peak point in the relevant period, and not having regard for all transactions forming part of the relationship.

In 2021, the Full Court of the Federal Court delivered judgment in the matter of Badenoch Integrated Logging Pty Ltd v Bryant, in the matter of Gunns Limited (in liq) (receivers and managers appointed) [2021] FCAFC 64.

The appeal considered whether the primary judge had erred in finding that the peak indebtedness rule applied to claims made in respect of section 588FA of the Corporations Act.

The Full Court considered the history of the rule and competing decisions and ultimately found that the language in section 588FA(3) (c) points against the application of the peak indebtedness rule.

The Full Court of the Federal Court of Australia held that:

1. The ultimate effect doctrine requires the Court to look to all payments (both impugned and non-impugned) and all supply (both past

and future) forming part of the continuing business relationship, and otherwise falling within the relevant statutory period.

If value provided to the company, and a subsequent payment against accrued debt are viewed as part of an arrangement which has the effect of giving the company valuable goods and services, there is no depletion of assets (and no preference).

It is impossible to reconcile the peak indebtedness rule with the ultimate effect doctrine (at [117]-[118]).

2. The peak indebtedness rule does not apply in the context of section 588FA(3) being the running account defence.

Section 588FA(3) requires the running account to be taken as a single transaction encompassing within it all payments and

“

The appeal considered whether the primary judge had erred in finding that the peak indebtedness rule applied to claims made in respect of section 588FA of the Corporations Act.”

all supplies forming a part of the continuing business relationship. The Court considered that single transaction so as to determine whether or not the single transaction constitutes a preference.

To apply a peak indebtedness rule is to impermissibly sever the single transaction into two parts, and there is no room for the implication of a rule that is inconsistent with the express language of the statute. The peak indebtedness rule is abolished (at [112] and [119]).

In short, the Full Court disagreed with the Primary Judge’s conclusion that the liquidators had been entitled to apply the peak indebtedness rule for the purpose of determining whether there was an unfair preference under section 588FA(1), and upheld the creditor’s appeal on this ground. Following the Full Court’s decision, the liquidator brought a High Court appeal.

In February 2023, the High Court undertook a thorough review of the history of the “peak indebtedness rule” and found that:

“cases which concluded that the ‘peak indebtedness rule’ is to be read into s 588FA(3) of the Corporations Act wrongly assumed that the ‘running account principle’ included the ‘peak indebtedness rule’, did not involve full argument on or reasoning about the issue, or must now be considered to be wrong in that respect 4.”

The High Court findings effectively mean an end to the “peak indebtedness rule” in the context of an unfair preference claim alleged by a liquidator.

Using the example above, the abolition of the “peak indebtedness rule” would require the liquidator to consider all of the transactions in the

relevant period. As a practical matter, a liquidator/ creditor should undertake a reconciliation to consider the total of all payments received in the relation-back period against all invoices/goods supplied in the same period.

The relevant question concerns whether the effect of the payments was to give the creditor a preference over other creditors because their objective purpose was merely to discharge existing debts; or, whether their purpose was to facilitate the company buying further goods, as well as to discharge its existing indebtedness5

All is not lost

Although the recent High Court decisions will put an end to arguments involving set-off and the application of the “peak indebtedness rule”,

“

The relevant question concerns whether the effect of the payments was to give the creditor a preference over other creditors because their objective purpose was merely to discharge existing debts...”

HOW TO MANAGE RISK

there is no change to the various other defences available to creditors, which include:

1. Good faith – a creditor is entitled to assert that it had no reasonable grounds (and did not suspect) that the customer company was insolvent during the relevant period. If a creditor is successful in proving this defence, it can be a complete defence to a preference claim.

2. Secured creditor – liquidators may only claw back unfair preference payments for debts that were “unsecured” during the relevant period. Noting that this can be a complete defence to a preference claim, as a creditor may assert that the debt owed to it (the subject of the payments) was secured by virtue of:

(a) a retention of title clause in the credit agreement; and

(b) a security interest/PPS Registration with respect to the goods supplied to the customer company.

3. Ultimate effect – the relevant question is whether the effect of the payments was to give a creditor a preference over other creditors because their objective purpose was merely to discharge existing debts; or, whether their purpose was to facilitate the company buying further goods as well as to discharge its existing indebtedness.

If this dual purpose is established by a creditor, there is a strong argument against there being an unfair preference.

Conclusion

Holman Webb’s Commercial Recovery and Insolvency Team has dealt with scores of claims brought by liquidators, and we know that successfully opposing unfair preference claims can turn on a number of overlapping matters

– including timing, availability of defences, negotiation, and strategy.

Having an effective credit function is critical to maintaining successful business and cashflow. However, it is an area fraught with risk – as credit professionals must balance the needs of the business to generate sales against the risk of non-payment and default.

While it is not possible to completely eliminate risk within the context of a possible preference claim brought by liquidators, it is imperative that credit professionals:

z continue to be vigilant;

z implement appropriate preventative strategies and technologies; and

z promptly collaborate with lawyers to mitigate that risk.

Christopher

Hadley

MICM, Partner

Andrew Tanna MICM,

Special Counsel

Holman Webb Lawyers www.holmanwebb.com.au

FOOTNOTES:

1 ASIC: Insolvency statistics (current)

2 Morton & Anor v Rexel Electrical Supplies Pty Ltd

3 Stone (in their capacities as joint and several liquidators of Cardinal Projects Services Pty Ltd v Melrose Cranes & Rigging Pty Ltd [2018] FCA 530

4 Bryant v Badenoch Integrated Logging Pty Ltd [2023] HCA 2 (8 February 2023)

5 Beveridge v Whitton [2001] NSWCA 6

“Having an effective credit function is critical to maintaining successful business and cashflow. However, it is an area fraught with risk ...”

Safeguarding the security of your financial data

Eugene Ostapenko Head of Information Security at financial data and analytics provider illion

Are you playing catch up with your IT security? As the digital revolution marches on, managing data security has never been more important. Here, Eugene outlines five important steps to take towards better data security.

STEP 1. Begin with the end in mind

Any good IT security plan is built on a solid understanding of your operating environment, your customers’ needs and the data you manage. Once you’ve done your due diligence and have a good handle on these three areas, you can start to develop your plan – and don’t forget to include a realistic budget before seeking the necessary approvals.

In my own organisation, the customer lens quickly became one of the key drivers behind our information security strategy.

To reduce the effort and expense for customers, we invested heavily in obtaining a number of independent attestations and certifications confirming our strong security posture.

These include ISO 27001, SOC2 Type 2, PCI DSS and IRAP. They are all independent, industryrecognised certifications that will reduce the need to undertake security audits, and where still required, greatly reduce the time your customers need to spend on their own security assessments.

“

Any good IT security plan is built on a solid understanding of your operating environment, your customers’ needs and the data you manage.

STEP 2: Make it easier for your customers

IT security is complex and difficult in any environment. In addition to improving internal protection, strive to make interactions with your customers as simple and safe as possible.

One of the effective ways to do this is to invest in a self-service capability to provide transparency to prospective and current customers on your information security posture. This should allow customers to actually see and evaluate your security implementation procedures.

For example, illion is planning a portal where our customers can register to get access to the most commonly asked questions about information security. In addition, we will enable access to the full versions of our reports for customers to download as we renew them.

STEP 3: Keep one step ahead

My team and I are continually monitoring information security threats. One of the prominent threats at the moment is credentials compromise, where malicious actors try to guess or steal a username and/or password.

A typical response to these attacks in the past has been to keep making passwords longer, adding special characters, and changing them frequently. These measures make access to our systems increasingly complex and bring limited protection.

To find the right balance between ease of use and security, however, illion is now building a single sign-on capability for access to our products. In the near future, we will deploy technology to enable our customers to have the option to use the same username/password/token they use for their internal systems when accessing illion. This access will be controlled by their own technology and security teams meeting agreed security policies.

“One of the prominent threats at the moment is credentials compromise...”

“... invest in a self-service capability to provide transparency to prospective and current customers on your information security posture.”

STEP 4: Think carefully about your culture

You’ve no doubt heard the term ‘culture eats strategy for breakfast’. While I’m not advocating that here, I am saying is it is important that you don’t just blindly follow your plan – you need a strong process in place to review a good plan to ensure it’s still valid when the next raft of big changes comes along.

And of course, company culture is critical when it comes to building and maintaining a strong security culture. You are only as good as your weakest link.

If data and analytics is a key focus for your organisation, you may even want to consider building its protection into your company values and behaviours so your team can live it on a daily basis.

STEP 5: Think: what if?

Finally, always be prepared for security breaches. It’s a little bit like home safety – by putting locks on doors, your risk goes down, but there’s still a chance for people to get in – so you have to understand and be prepared to fight against new threats that may be emerging.

I often tell the story of a neighbour who had his push bike stolen. It was a $5000 bike, protected by $30 chain that someone broke after jumping his fence. After that he realised the inadequacy of this protection, reassessed the value of his property – and the actual investment he needed to protect his asset. The bottom line is, if you have multi-million-dollar data assets, you have to have an appropriate budget to protect them – typically about 10% of your IT budget.

Eugene Ostapenko

Head of Information Security illion

E: eugene.ostapenko@illion.com.au

“

...if you have multi-million-dollar data assets, you have to have an appropriate budget to protect them...”

“

... it is important that you don’t just blindly follow your plan – you need a strong process in place to review a good plan to ensure it’s still valid when the next raft of big changes comes along.”

Data encryption – benefits and risks in business

Daniel Hains Director, Forensic Technology Vincents

Understanding data – modern

Businesses operating in modern IT environments typically store vast quantities of unstructured and structured databases comprised not only of their own files and records, but those of their clients, employees, referrers and marketing contacts. The data can be located almost anywhere, including in the cloud, and often is for information which is no longer required and dating back decades.

Recent breaches of Australian organisations, which have occurred on an enterprise level (Medibank, Optus, Woolworths, even the AFP), have upset markets and caused large-scale disruption to individuals and other businesses alike.

In almost all cases of incidents where organisations are subject to a data breach (or ‘hack’), this is not due to “007-style” sophisticated coding techniques enacted by skivvy-wearing spies parked in a van outside headquarters.

Modern day hacking is simply inducing normal people to hand over their passwords so that their intellectual property can be stolen – this is often referred to as ‘social engineering’.

When a hacker is allowed into the victim’s IT network, they usually either:

z Inject code to encrypt the computer/IT network and then sell the decryption key to the victim, or

z Steal anything of value and sell it to the highest bidder (usually back to the victim themselves).

What is encryption?

Encryption is the process of encoding a message or information in such a way that only authorised parties can access it by using an encryption key. The concept being that encryption protects your information, because it becomes impossible to ‘unlock’ it without the decryption key.

The encryption process takes the information (called plaintext) and by using an algorithm, transforms the information into a ‘cipher’. This makes the content unintelligible to anyone without the key, but the data can still be easily stored and transmitted publicly.

“Modern day hacking is simply inducing normal people to hand over their passwords so that their intellectual property can be stolen...”

Therefore, your data is protected by the encryption and safeguards it against potential threats. While in principle it could be possible to decrypt the message without possessing the key, for a well-designed encryption scheme this can only be achieved by applying massive computational resources, technical skills and not to mention, a near immortal lifespan.

Many organisations are now storing data under encryption algorithms which are provided increasingly by standard operating systems (Windows Bitlocker, Apple FileVault) and popular document management systems (Sharepoint, Docuware, OnlyOffice etc).

Benefits of encryption

Encryption creates a major obstacle for investigators, hackers or anyone wanting to access files without authority, even employees wishing to remove files for their own use. For example, SharePoint has a feature which allows files to be accessed or exported from the system. Those files, however, remain encrypted unless they are being viewed on a device which has the necessary certificates installed.

The benefit of encrypted data is that the data is impossible to access without authority from users. Even if an organisation has been breached

“

Encryption creates a major obstacle for investigators, hackers or anyone wanting to access files without authority, even employees wishing to remove files for their own use.

”

and files removed, when properly implemented, the content of the encrypted files is protected and inaccessible.

This benefit extends itself to the Australian Privacy Legislation for Notifiable Breaches, where an organisation must notify individuals of a data breach when it is likely to result in serious harm to the individual whose information was compromised.

With encrypted data, however, if an organisation has suffered a data breach, there may be no harm to individuals because any personally identifiable information was protected. Therefore, benefiting the organisation as this assurance reduces both cost and damages by a significant amount.

More information from the Office of the Australian Information Commissioner is available here.

Risks of encryption

While encryption can provide definite benefits to an organisation, it is important to be aware of the risks.

Lost encryption keys: The benefit of encryption is also the principal risk. That is, without the password decryption key, files are completely unrecoverable. Any recovery solution reverts

to the requirements for an extremely powerful computer and the time needed to try to ‘break in’. This means ensuring the encryption key is not lost is crucial.

Data deletion: Systems are normally designed with redundancies, such as a backup of the data and a separate backup of the encryption keys. However, if segregation of duties is not maintained, it may be possible for a malicious employee to destroy the primary data, backups and encryption keys all at once.

Applications and document management systems endeavour overcome this risk through use of secure certificates and hidden keys.

Increased load on systems: Older systems may struggle with the increased processing demands of encrypted data and this means the potential for lost files.

Loss/disclosure of data in transit: Although a more remote risk, with the use of cloud storage, the network and server infrastructure are not under your control and there is therefore a risk of data interception. While many applications use Transport Layer Security (TLS) to encrypt traffic, there are many other communications that cannot use TLS.

In conclusion, although the use of encryption does not guarantee that your data is impossible to infiltrate, it is a recommended safety mechanism. If your business considers how they can minimise the possible risks involved prior to implementation, it significantly reduces the likelihood of your data being accessed by malicious persons.

Daniel Hains Director, Forensic Technology Vincents

“The benefit of encrypted data is that the data is impossible to access without authority from users. Even if an organisation has been breached and files removed, when properly implemented, the content of the encrypted files is protected and inaccessible.”

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