The Australian Corporate Financing Climate
By John Poulsen and Mitch Reynolds
Posted: 14th May 2015 09:42
Following the global financial crisis, Australia resisted the global trend of declining corporate investment, experiencing strong investment gains buoyed by a strong resources industry and rising commodities prices. More recently, however, commodity prices have dramatically declined, suppressing companies’ appetite and ability to secure some traditional forms of financing, including traditional debt and project financing. In light of this, and the entry into the market of non-traditional financing platforms in Australia, companies have more recently been looking to alternative funding sources, including receivables financing, convertible securities and peer or crowd funding.
In addition to these trends, Australia’s financing community has also undergone significant change with the introduction of legislation governing personal property securities. The legislation, which centralises and simplifies previous common law and legislation on the subject, has been met with some criticism. In particular, users have found the law complex, costly, and many businesses are still largely unaware of the wide-reaching impact of the legislation. Having been implemented for three years, the legislation has now recently undergone an extensive reform process which will likely result in amendments being made in the near future.
Introduction of personal property securities legislation
The Personal Property Securities Act 2009 (Cth) (PPSA) commenced operation in Australia in January 2012 (though the transitional period did not end until January 2014). The PPSA – which is based on similar legislation from New Zealand, Canada and the USA – creates a unified system for perfecting a security interest by registration on the Personal Property Securities Register (PPSR). The PPSR is a centralised ‘notice board’ of security interests and generally the first registered interest has priority over competing interests.
Although the PPSA streamlined many processes, the legislation also introduced new concepts which the business community has been grappling with. The PPSA significantly widens the definition of a ‘security interest’ and includes interests such as retention of title sales, leases of goods, transfers of accounts and commercial consignments. Further, some of the concepts introduced by the PPSA have dramatic consequences if incorrectly applied. An unfortunate outcome of the PPSA is shown in this example (which has arisen in a few recent Australian cases):
ABC owns machinery which it leases to XYZ. XYZ takes possession of the machinery and obtains financing from Bank Co by providing security over ABC’s machinery (XYZ has rights in the machinery pursuant to the PPSA). Bank Co registers its security interest over the machinery on the PPSR. ABC does not register its security interest in its own machinery. XYZ is subsequently placed in administration. Since ABC has not registered its interest in the machinery, its interest vests in XYZ upon XYZ being placed in administration. XYZ therefore holds the machinery subject only to Bank Co’s registered security interest.
As illustrated, the PPSA departs from the long-standing common law principal of nemo dat quod non habet (‘no one gives what he does not have’) by permitting scenarios such as the above which result in the legal title of an asset becoming subordinate to a third party’s registered interest.
The PPSA has recently undergone an extensive review in which the Australian business community indicated that the PPSA and PPSR are too complex (the PPSA, for example, uses technical language, new terms, and terms used in unfamiliar contexts). One of the more concerning outcomes, however, is the indication that there is still a lack of awareness of both the PPSA and the requirement to register security interests on the PPSR, particularly amongst small businesses. This is particularly concerning in light of the above example scenario (which would be particularly detrimental for small businesses).
Receivables financing and convertible securities
Receivables financing has increased in popularity in Australia as an alternative source of funding, perhaps reflecting a desire for companies to avoid increasing their debt exposure in the current pessimistic environment. This method of financing allows a company to leverage the strength of its supply contracts and receivables by trading the cash-flow of those contracts and invoices for lump sum amounts. This improves the cash position of the fundraiser without adding further liabilities to the balance sheet. In Australia, an assignment of receivables is deemed a security interest and is therefore subject to the PPSA’s priority rules. The PPSA has therefore diminished the practical distinction which existed between equitable assignments and ‘true sales’ of receivables (which previously determined which party was the beneficial owner of the receivables).
Another form of corporate financing increasing in popularity in Australia is the issue of convertible securities. Traditionally used by companies as a quick cash-injection or a form of ‘bridge financing’, the increased popularity of the instrument reflects the volatility of equity capital markets (fuelled by recent commodity price movements), evidencing a difficulty for companies to secure traditional equity financing. For the investor, convertible securities are popular as they offer a debt-like return with the benefit of potential conversion to equity, allowing the investor to take on more risk than an ordinary debt-investment while still maintaining downside risk protection.
Peer lending and crowd-sourced equity funding
Peer to peer (P2P) and peer to business (P2B) lending has become big business in the UK and USA recently. The industry is merely embryonic in Australia, however, with only a few P2P platforms and one P2B platform operating in the market. Although the P2P business model appears to really only affect individual borrowers, the P2B model has the potential to impact SME financing in Australia if it is taken up by corporate borrowers and investors, particularly as an alternative to mezzanine and other non-bank financing facilities. With the weaker Australian dollar, the environment is ripe for further alternative financing platforms to enter Australia, creating further competition and a wider array of financing products in Australia.
Crowd-sourced equity funding (CSEF) is another innovative fundraising concept which has recently emerged and is particularly suited to SMEs. Like crowdfunding (which is facilitated through websites such as ‘Kickstarter’), CSEF is the process of raising finance from a large number of small-scale contributors; the difference being that CSEF contributors take equity in the fundraising company. The current regulatory framework creates barriers for CSEF in Australia – proprietary companies cannot have more than 50 non-employee shareholders and are prohibited from making public equity offers, and public companies have onerous and costly compliance requirements which may be prohibitive for companies seeking CSEF.
In looking to facilitate CSEF in Australia, the Corporations and Markets Advisory Committee (CAMAC) has sought to introduce a new regulatory framework to allow small enterprises (who are classed as ‘exempt public companies’) to raise up to AU$2 million in any 12-month period. An exempt public company would also be relieved from some of the ordinary compliance and reporting obligations. The proposed regime also intends to implement restrictions upon investors, placing an investment cap of $2,500 per investor per 12-month period for any CSEF issuer (and a $10,000 cap per investor for total CSEF investment).
These developments have resulted in an interesting corporate financing environment which may mark the beginning of a renewed and dynamic financing environment in Australia.
Mitch Reynolds is an Associate in the financial services team at Squire Patton Boggs (AU), working from the firm’s Perth office. Mitch has worked on a wide range of projects in relation to structured and property financing, receivables financing and securitisation, refinancing and other debt and equity financing arrangements. Mitch has also assisted clients in respect of a number of hotel redevelopment projects and has advised in respect of Personal Property Securities Act issues. Prior to joining the financial services team, Mitch gained experience as a commercial litigation lawyer where he advised and appeared in matters across a range of state and federal courts.
John Poulsen is the Australian Managing Partner of Squire Patton Boggs (AU), formerly Minter Ellison Perth. John is recognised as a leading finance lawyer in Western Australia and has acted for Australia's pre-eminent financiers such as the four major Australian banks, Macquarie Bank and Babcock & Brown. John also acts for project sponsors (such as Alcoa) in project finance transactions. He has been involved in the project financing of power stations, gas pipelines, oil and gas projects and mining projects in Western Australia and also has considerable experience in securitisation of different types of receivables.
Recently, John ranked in Australasian Lawyer’s Hot 40 private practice lawyers for 2014, was recognised by Best Lawyers Australia 2014 in Banking and Finance Law, Structured Finance Law and Leading Australian finance and commercial lawyer categories, was a finalist in the 2013 Lawyers Weekly Managing Partner of the Year Award, and was a finalist for Law Firm Leader of the Year in the 2015 Australasian Lawyer Awards.
Squire Patton Boggs is a top 20 global law firm with 44 offices in 21 countries.