FS Private Wealth journal vol09 is04

The Journal of Family Office Investment

Volume 09 Issue 04

Balance in family business Pitcher Partners

Succession planning Townsends Business & Corporate Lawyers

LEGACY WITH A VIEW

Anthea Hammon Hammons Holdings Pty Ltd

Published by

Debt and COVID-19 Philanthropy mistakes Starting a charity fund

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Contents

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

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COVER STORY

LEGACY WITH A VIEW Anthea Hammon Hammons Holdings Pty Ltd

16 VANTAGE

POINT

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Australia’s pandemic debt is eye-popping but still a fair way off from the 77% debt-to-GDP ratio that a World Bank study identified as being detrimental to economic growth, Financial Standard chief economist Benjamin Ong writes.

HIGHLIGHTS Featurette Father knows best

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IN THIS ISSUE FARMLAND VALUES HOLD UP

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The median price of Australian farmland increased by 13.5% in 2019, marking the sixth

Whitepaper Balance in family business

consecutive year of growth and defying bushfires and ongoing drought.

EUROPEAN CENTRAL BANK HOLDS

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25

At its October governing council meeting, the ECB decided to wait for year-end macroeconomic

Whitepaper Succession planning

projections before touching the monetary policy settings.

US FED ALSO ON HOLD The US Fed expects monetary policy setting a the November meeting will be appropriate to

25

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maintain its target range until the labour market matches its expectations.

FS Private Wealth

THE JOURNAL OF FAMILY OFFICE INVESTMENT•

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KEEPING IT PROFESSIONAL Christopher Page, managing director, Financial Standard What can we learn from mistakes? Top philanthropy adviser David Knowles and third-generation family business owner Anthea Hammon share.

Published by a Rainmaker Information company.

A: Level 7, 55 Clarence Street, Sydney, NSW, 2000, Australia T: +61 2 8234 7500 F: +61 2 8234 7599 W: www.financialstandard.com.au

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Associate Editor Kanika Sood kanika.sood@financialstandard.com.au Production Manager Samantha Sherry samantha.sherry@financialstandard.com.au Graphic Designer

Roger Marshman roger.marshman@rainmaker.com.au Advertising Stephanie Antonis stephanie.antonis@financialstandard.com.au Director of Media and Publishing Michelle Baltazar michelle.baltazar@financialstandard.com.au Managing Director Christopher Page christopher.page@financialstandard.com.au

FS Private Wealth

The Journal of Family Office Investment ISSN 2200-4971

News

HEINE FAMILY’S NETWEALTH PAYDAY SUPER CHIEF TURNS TO ADVICE NEW GENDER DIVERSITY GOAL FOR ASX

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News

NEW INCOME TAX RATES MORGAN STANLEY ADVISERS START FIRM ESG RETURN CLAIMS IN COVID FLAWED

Jessica Beaver jessica.beaver@financialstandard.com.au Technical Services

Welcome note

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All editorial is copyright and may not be reproduced without consent. Opinions expressed in FS Private Wealth are not necessarily those of Financial Standard or Rainmaker Information. Financial Standard is a Rainmaker Information company.

News

TOM WATERHOUSE’S GAMBLING FUND FORMER ABERDEEN DUO START BOUTIQUE

News

IS YOUR CHIEF SMART OR JUST LUCKY? IMPACT BOUTIQUE ATTRACTS CRESTONE

Cover story

LEGACY WITH A VIEW Anthea Hammon, Hammons Holdings Pty Ltd What can the next generation learn from a not-so-smooth succession?

Hammons Holdings joint managing director Anthea Hammon shares her family’s journey.

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Contents

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

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WHITE PAPERS Family Office Management

FINDING BALANCE IN THE FAMILY BUSINESS

By Gavin Debono, Pitcher Partners Canvassing 400 family-owned businesses, this research shares insights on their relationship with innovation, growth and employees.

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Philanthropy

GIVING WELL BY AVOIDING BIG MISTAKES

By David Knowles, Koda Capital In an entertaining read, Knowles lists mistakes philanthropists make. Top of his list: thinking you know it all and can fix it all.

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Philanthropy

HOW TO SET UP A CHARITY GIVING FUND

By Dan Saunders, Sharrock Pitman Legal A handy guide to private and public ancillary funds, including their obligations and establishment processes.

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Taxation & Estate Planning

SUCCESSION PLANNING FOR PRIVATE COMPANIES

By Peter Townsend, Townsends Business & Corporate Lawyers What can a director do to ensure their chosen person gets the directorship after them?

The author suggests a modus operandi.

Investment

BONDED TO A BENCHMARK: WHY AN ACTIVE FIXED INCOME APPROACH MAY PAY OFF

By Justin Tyler, Daintree Capital Indexed funds are stock market darlings, but they have limited utility in chasing risk-adjusted returns in the fixed income universe.

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Ethics & Governance

COMBATTING CORPORATE CRIME

By Guy Humble, Tim Case, and Peter Stokes, McCullough Robertson Legislation under consideration could vastly expand the scope of bribery and corruption by corporates. The authors give a heads up on the changes.

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Ethics & Governance

DIRECTORS’ DUTIES AND OBLIGATIONS WHEN SOLE SHAREHOLDERS

By Chris McCaffery, Bartier Perry Storm Financial’s collapse saw the courts decide on an important question – if the directors are the only shareholders, are they exonerated from breaching their directors’ duties.

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THE JOURNAL OF FAMILY OFFICE INVESTMENT•

Ethics & Governance

THE DEBT CLIFF: IS YOUR BUSINESS PREPARED?

By Andrew Sallway and Shaun McKinnon, BDO What’s your business plan when the government pulls the plug on its COVID-19 support programs? The authors list key dates and events to watch out for.

FS Private Wealth

Welcome note

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

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Christopher Page managing director Financial Standard

Keeping it professional rowing a family business is tricky.

G Owners want to keep the ownership within the family but they also must delegate to external talent to bring in skills the family members don’t possess.

This edition dives into the theme. Our cover profile Anthea Hammon (pg. 16), the third generation of the family that owns Scenic World in the Blue Mountains, shares her experience in succession and governance.

Anthea’s grandfather refused to retire, never took distributions out of the business, and eventually left a murky will.

Her father looked to it as a lesson and gave Anthea and David much more freedom in the business.

They in turn did their part, finding their retiring father hobbies and making sure he got a good farewell party.

In a few decades the family will rinse and repeat, with succession to the fourth generation.

Conversations with family can be challenging, she says. And so they bring an emotional facilitator to family meetings.

Speaking of hard conversations, we

round up consulting minds (pg. 14) to put together a starter guide for family-owned businesses looking to scale up.

Their collective advice? Ditch the suburban accountant, have clean reporting lines for staff and don’t be afraid to give external talent shares (you can still keep the voting rights!).

In other people who share their knowledge with our readers in this edition is Koda Capital’s David Knowles.

In an entertaining read, Knowles points out four mistakes philanthropists make (pg.

34). As a teaser, he warns philanthropists to stay away from sunscreen philanthropy, teenage philanthropy, zombie philanthropy and drone philanthropy.

Lastly, this note wouldn’t be complete without the pandemic. The year is over but the pandemic is not.

The pandemic has taught us how to adapt and innovate in ways we could not have imagined otherwise.

Thank you for supporting this journal and we look forward to bringing you the latest in private wealth trends and investment research in 2021 and beyond. fs

Conversations with family can be challenging.

Christopher Page managing director, Financial Standard

FS Private Wealth

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News

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

Heine family’s Netwealth payday

A worthy goal Annabelle Dickson

Nine large Australian investors are backing a campaign to increase women’s share of senior roles in ASX 200 companies to 40%.

Industry superannuation fund HESTA has launched an initiative to increase gender diversity in the executive teams of the ASX200 companies and already has the support of industry heavyweights.

HESTA’s 40:40 Vision campaign launched with eight prominent investor signatories who are pledging to see women fill 40% of C-suite roles by 2030.

Aberdeen Standard Investments, BlackRock Australia, Ellerston Capital, Fidelity International, First Sentier Investors, IFM Investors, Pendal Group and WaveStone Capital will engage with ASX200 companies to encourage them to sign up to HESTA’s initiative.

HESTA chief executive, and chair of the 40:40 Vision Steering Group, Debby Blakey said investors are concerned that just 30 ASX200 companies have at least 40% women in executive leadership.

“It’s concerning progress has been so slow, and at this rate it will be another 80 years before we see equal representation of men and women at CEO level – and similarly in executive leadership – unless action is taken now,” she said.

Investors joining 40:40 Vision will pledge to achieve 40% women, 40% men and 20% any gender and declare medium and longterm targets for 2023 and 2027.

Annual progress will be shared with employees and shareholders.

Another initiative 30% Club campaigned for 30% women on ASX 200 boards by 2018, and is now targeting 30% women on ASX 300 boards by 2021 end. It supports the HESTA initiative.

“Investors have real power to engage with ASX200 companies on the gender diversity...and influence change,” Blakey said. fs

Kanika Sood

T The numbers

135m Netwealth shares owned by Heine family after they sold $76 million worth of their holding in August.

he Heine family took advantage of Netwealth’s strong results and buoyant share price in late August to sell down about $76 million worth of shares in the company – a tiny sliver of their expansive holding.

The sale of 5.5 million shares was across two private investment companies: Heine Brothers Pty Ltd, where Michael Heine and his two sons are the shareholders, and Leslie Heine Pty Ltd where Leslie Heine is the only shareholder.

The family still has over 135 million shares in Netwealth after the sale.

The August 26 sell down translates into payouts of about $24.3 million for Michael Heine and about $12 million for Matt Heine, who work together as joint managing directors of Netwealth.

The share of Michael Heine’s other son, Nick Heine, who is not involved in the business, will also have been about $12 million, according to ASIC docu-

ments for Heine Brothers Pty Ltd. Leslie Heine, meanwhile, is the only shareholder in his private investment company and would have received about $27.8 million from the sale of two million (of the 5.5 million) NWL shares attributed to him in company filings.

“There is nothing untoward in the sale. The stock has done incredibly well since the IPO, they are still big believers in the business, they still have a very significant shareholding, and they sold it post results where they are allowed a window to sell some stock,” IFM Investors investment director, active equities Reuben De Barros said.

Netwealth posted underlying NPAT of $43.8 million for FY20 and gave guidance for $8 billion (or about 25% higher) funds under administration for FY21.

The stock rallied strongly, rising over 8% after the results. It continued to rise the next day, closing at $14.24. fs

Former superannuation fund investment chief turns to advice firm Elizabeth McArthur

Former Christian Super chief investment officer Tim Macready joined the investment committee of a private wealth firm in late September, after leaving his superannuation role in August.

Macready led the $3 billion industry fund’s investments for 15 years and on August 4 was succeeded by ANZ wealth and private banking chief investment officer Mark Rider.

He has since joined the investment committee of Paua Wealth Management, a boutique wealth advisory firm.

He departed the $1.5 billion fund to focus on the impact investment firm he founded, Brightlight, where he is still chief investment officer.

“I believe in the integrity and independence of advice and the disruption Paua is creating in the market,” Macready said.

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“The more I get to know the team, the more excited I am by their desire to align values and portfolios with integrity.”

Paua Wealth Management is based in New Zealand and provides wealth management advisory services to wholesale investor clients including highnet-worth individuals, family offices, select not-forprofit foundations and trusts.

Paua chief executive and founder Donna Nicolof welcomed Macready to the investment committee, saying it is a significant appointment for the firm.

“Given our focus on environmental, social and governance factors in how we manage money, we are absolutely delighted to have someone of Tim’s calibre and pedigree joining the Paua team,” Nicolof said.

“It’s a real coup for us and we couldn’t be more excited about the opportunity this creates.” fs

FS Private Wealth

News

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

SMSF changes on the horizon

Wealthy Aussies panic buy life insurance

Allowing more members in SMSFs is unlikely to spur their establishment rates, according to a submission by University of Sydney’s Susan Thorp.

In October, a bill to increase the maximum number of SMSF members from four to six was reintroduced to the Senate, and the government has asked submissions on questions about it.

To the question of whether raising the maximum number of members is likely to change the net establishment rates of SMSFs, Thorp said they are unlikely to increase rapidly if the membership is expanded to six.

Thorp says even though four members have been allowed, so far majority of SMSFs (93%) only had two or fewer members in 2017-18 according to Australian Taxation Office.

“This pattern of membership, where 7% of funds or fewer have more than two members, has been constant over the at least the past four years,” she said in the submission.

“Further the observation that fewer than 4% of the funds at are the maximum four members indicates that while the current maximum could be limiting to some current or potential members, it appears not to be a constraint on the overwhelming majority.”

On the consultation’s question if housing more assets in SMSFs is beneficial, Thorp said it warrants “close consideration” because academic research shows SMSF members: tend to be over-confident in their abilities, over-optimistic of their funds’ performance, don’t carefully monitor performance relative to other superannuation vehicles and are not more financial sophisticated than general super members. fs

H

FS Private Wealth

Annabelle Dickson

The numbers

88% Share of wealth managers who say demand for life insurance increased in COVID-19.

igh-net-worth investors resorted to panic buying life insurance products as a result of the COVID-19 pandemic despite low trust in the providers, according to research from GlobalData.

The analytics and data firm’s 2020 Global Wealth Managers Survey found 88% of wealth managers reported heightened demand for life insurance products which was the highest among the 19 countries surveyed.

It comes as GlobalData’s COVID-19 Tracker Survey highlighted that 83% of Australians were quite or extremely concerned about the outbreak of the pandemic, with only 5% who were not concerned.

“Panic buying does not end with food. In the face of growing concerns surrounding infections, Australian HNW investors are looking for ways to care for their families GlobalData senior wealth management analyst Heike van den Hoevel said.

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Despite the panic buying, 96% of wealth managers agreed that customers lost confidence in the life insurance industry as a result of the COVID-19 pandemic.

“This is a worrying statistic – the reputation of insurers has taken a battering amidst COVID-19 and HNW investors will be more likely to buy insurance products via a third party they already have a well-established relationship and trust. This means now is clearly the time for wealth managers to review their life insurance proposition,” he said.

In addition, 61.5% of Australian believed that the COVID-19 situation will get ‘a bit’ or ‘a lot worse’ over the next month. This compares to only 28.7%, who expected the situation to deteriorate at the beginning of May. van den Hoevel said half of wealth managers surveyed expect an increase and almost none expect demand to fall. fs

British billionaire backs Queensland boutique started by former employees Eliza Bavin

British hedge fund billionaire Alan Howard is now a shareholder in a Queensland boutique started by his former employees.

Wheelhouse Partners in August completed its transition to its new independent structure after agreeing to acquire Bennelong Funds Management’s stake in its business, naming a new chief operating officer, co-investor and distribution partner.

The revised structure includes a new co-investor in Wheelhouse, Alan Howard who is a co-founder of UK hedge fund Brevan Howard Asset Management.

Wheelhouse portfolio manager Andrew MacLeod and chief information officer Sam Jacob previously worked at the hedge fund across several markets.

Howard will replace Bennelong in the capital structure of the business.

Wheelhouse managing director Alastair MacLeod said Howard’s investment represents a tremendous vote of confidence for the business which began

operating under Bennelong’s structure over three years ago.

“While volatile market conditions have played to our strengths, we remain steadfastly committed to the core objectives on which Wheelhouse is founded; to generate a reliable, consistent income stream whilst preserving investor capital from market downturns,” MacLeod said.

“For the first time in decades, investors are facing falling dividends, fewer traditional income yielding options and inflated asset prices across the board, which is transferring more risk to capital bases.”

MacLeod said the global strategy seeks to address those concerns, targeting a high-income yield whilst safeguarding our investors’ capital.

“The time is right for a differentiated investment approach and we are excited to be in a position to invest in our business and create solutions for investors to help navigate this challenging environment,” he said. fs

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News

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

Sweeping tax cuts in budget, brackets raised

ESG returns hyped: Research ESG funds tallied up record inflows and touted better-than-market returns in the COVID-19 downturn but new academic research says there is no evidence that ESG scores contributed anything beyond traditional models.

In ESG Didn’t Immunize Stocks Against the Covid-19 Market Crash, four academics led by Elizabeth Demers from University of Waterloo, investigated the claim that ESG scores indicated share price resilience during the COVID-19 crisis.

Among firms that have made the claim are Morningstar, BlackRock and MSCI. The researchers found, once the firm’s industry affiliation and risk measures (accounting and market based) have been properly controlled for, ESG scores can’t explain the returns during COVID-19.

The researchers also used GFC data to explain winners (top decile performers) and losers (bottom decile). They then used it to predict COVID-19 losers and winners.

They found accounting- and market-based models performed well, both for GFC and COVID19 periods. But ESG did not meaningfully add to the combined model’s performance.

In a third test, they developed hedge strategies that go long/ short in stocks during COVID-19 based on their predicted winners/ losers from GFC-based models.

The predictions yielded abnormal returns and again, ESG offered no enhancement.

“We conclude that celebrations of ESG as an important resilience factor in times of crisis are, at best, premature,” they said.

In August, Morningstar said sustainable funds outperformed non-ESG counterparts after March sell off, based on 3432 sustainable open-end funds and ETFs. fs

Annabelle Dickson

T The numbers

$120,000

The new threshold for the 32.5% tax bracket.

he federal government at the October 6 budget announced tax relief measures for individuals and businesses in the 2020/21 budget in an effort to boost consumption in the economy and support business investment.

Over 99% of businesses will be able to write off the full value of any eligible depreciable asset up to $150,000 in the first year they are installed or used from 6 October 2020 until 30 June 2022.

The incentive will apply to small to medium businesses with turnover of up to $5 billion and is expected to apply to around $200 billion of investment and deliver $26.7 billion in tax relief.

It also provided $4.9 billion of relief for temporary loss carry-back for companies with the same criteria (turnover up to $5 billion) to offset tax losses that have been paid to generate a profit.

Businesses will receive a tax refund until 2022 against losses incurred in 2018 and 2019 to assist companies that were profitable prior to the pandemic.

This measure will help companies that were profitable and tax-paying but now find themselves in a loss position due to the COVID-19 pandemic.

A further measure is cutting red tape for businesses by allowing employers to use existing corporate records to complete their fringe benefits tax (FBT) return.

Employers providing retraining activities will also be exempt from FBT. As indicated earlier this week, small to medium businesses like financial advice firms will be able to access up to 10 tax concessions as the aggregated annual turnover threshold has lifted to $50 million from $10 million.

The government has brought forward $17.8 billion of personal tax cuts to over 11 million individuals and backdated them to July 1.

The stage two tax cuts increases the low income tax offset from $455 to $700, increases the 19% tax bracket from $37,000 to $45,000 and lifts the 32.5% threshold from $90,000 to $120,000.

The second stage of tax cuts will see tax relief up to $2745 for singles, and up to $5490 for dual income families compared with 2017/18.

The third stage of the Personal Income Tax Plan is slated for 2024/25 with 95% of tax payers facing a tax rate of 30% of less. fs

Former Morgan Stanley advisers start new private wealth firm Kanika Sood

Two former Morgan Stanley financial advisers have started a new private wealth firm focused on HNW and UHNW clients.

Craig Emanuel and Tim Whybourne worked together for 10 years, at UBS and more recently, Morgan Stanley Private Wealth Management.

Their new private wealth firm called Emanuel Whybourne, is touting bespoke wealth management to rich families and is already advising on $750 million of client assets.

Emanuel is the more experienced of the two, with 28 years of experience and multiple appearances on the Barron’s list of top financial advisers.

The duo is joined by Ryan Loehr, who worked as

THE JOURNAL OF FAMILY OFFICE INVESTMENT•

an associate adviser initially at Morgan Stanley with the two.

The firm will use HNW-focused platform provider Powerwrap for platform administration and reporting services. Powerwrap will also provide access to traditional assets, model portfolios and alternative assets.

“Both Tim and I are passionate about helping our clients achieve their investment goals. Our views are aligned in terms of the service we want to deliver and how we can help our clients protect and build their wealth,” Emanuel said.

“We selected Powerwrap as our platform provider largely due to their ability to manage the complexity of or client portfolios.” fs

FS Private Wealth

News

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Tom Waterhouse now a fund manager Kanika Sood

Trawalla Capital hires sales head The investment management arm of Alan and Carol Schwartz’s family office has enlisted BMO’s local head of institutional to drum up investors for a boutique it backs.

Jonathan Goll will lead the local distribution for Trawalla-backed Asian equities boutique Stonehorn Capital Partners, which was set up by former Macquarie investors.

Stonehorn currently manages about $300 million, most of which is from overseas investors.

Goll started in the role on September 1, and reports to Trawalla Group as well as Stonehorn chief executive Sam Lecornu.

Hailing from Canada, Goll has worked in the Asia Pacific region for the last 22 years.

In his most recent role, he was BMO Global’s director for institutional business for Australia, New Zealand and South East Asia. BMO’s local intermediary business is led by Michael Angwin.

Trawalla Capital currently has stakes in two other boutiques, Qualitas and Armitage Associates, which manage their distribution themselves.

Stonehorn’s partners are three founding members of Macquarie’s Asian listed equities business.

Their first fund launched in 2019 invest in about 30 Asian stocks (except Japan) without constraints of the benchmark, sector, country and market-caps. fs

FS Private Wealth

T The quote

The family’s experience, reputation and capital give it access to deals in the market that a normal fund manager would not appreciate or have access to.

he horse racing scion is touting a managed fund that invests in gambling companies to wholesale investors.

Waterhouse VC’s gambling fund takes long-term stakes in listed and unlisted businesses related to gambling, focusing on three themes: dominant scale operators in regulated markets, service providers to gambling businesses and ancillary businesses (like media and video gaming) that overlap with gambling.

It is priced at 2% p.a. in management fees and 20% in performance fees above a high watermark (set for individual investors) and a buy/sell spread of +/- 1% of the net asset value, according a memorandum of information.

Minimum investment size is listed as $100,000. Investors are allowed one redemption each quarter, gated at 25% of their investment in the fund.

The website lists Waterhouse as the chief investment officer, with investment analysts Michael Donohue and Rey Vakili.

A monthly update touted returns of nearly 223% since its inception to July end, saying a $100,000 return would have grown to $322,570.

Waterhouse is a cornerstone investor in the fund and the MOI boasts being able to “invest on the same terms as the Waterhouse family” as one of its attractions.

“Tom Waterhouse will be a cornerstone investor in the fund. To this end, Investors would be putting money into deals that Tom is going into and at the same rate.” “...The family’s experience, reputation and capital give it access to deals in the market that a normal fund manager would not appreciate or have access to.” fs

Former Aberdeen duo back with Sydney credit advisory boutique Need a second pair of eyes for a debt investment in the COVID madness? Two former fixed income bosses from Aberdeen Standard Investments are offering their services from their newly-setup consultancy.

Nicholas Bishop and Stephen Fang worked at Aberdeen together for about a decade. The duo is now going 50-50 on a new consulting and advisory business called Bishop & Fang.

Bishop is the former head of Australian fixed income at Aberdeen Standard Investments and left the role in February 2019. Fang is a corporate lawyer who started at Clayton Utz, worked overseas and was ASI’s global head of restructuring for seven years until December, 2019.

Between the two of them, the duo has 40 years of experience in investing, legal and financial services.

Their new firm will work with corporates looking to optimise their capital structure, public sector clients and local and overseas credit funds looking for expertise in special situations.

“We are looking to provide institutional caliber

service in a nimble fashion than you would get from the big four style firms,” Bishop said.

“We are doing some specialist work for a public sector client. We can also help our credit funds or lenders in special situations, for example when [an asset] is exhibiting some distress and those lenders want to be prepared for the potential outcomes.”

Bishop said now was a great time to start the business, as Australia faces its first recession in 28 years and many corporates face difficulties, perhaps for the first time.

COVID has also opened an additional albeit temporary opportunity set for the firm.

“We can help overseas lenders that want on ground due diligence capability when they can’t travel and kick the tyres figuratively and literally...For example Canadian, US [like CalSTRS or CalPERS], Dutch pension funds or GIC [Singapore sovereign wealth fund], if they have commercial real estate or infrastructure portfolio assets or prospects, where we can take instructions from those funds and be their eyes and ears.”

It will use its network to develop a panel of experts to tap into as subject matter experts. fs

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News

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

Citi hires new banking, wealth lead

Is your chief smart or just lucky?

Ally Selby

N

Citi Australia appointed a new head of its banking and wealth management distribution business.

After more than 10 years with the bank, Gofran Chowdhury nabbed the role, and will now lead the sales and distribution division within Citi Australia’s retail banking and wealth management business, including the bank’s high-net-worth unit, mortgage distribution and specialist teams.

Citi Australia head of retail banking Kate Luft said she was thrilled for the appointment.

“His breadth of experience across different facets of the business is a strong asset that will be instrumental in driving a strategic approach to growth,” she said.

Chowdhury has held a diverse range of roles during his decade with the bank, having started with Citi as a relationship manager in its high-net-worth business in 2010, and worked his way up the corporate ladder to later become the head of wealth management advice in 2017.

Most recently, Chowdhury served as the bank’s head of investment specialists, where he was responsible for the bank’s wealth management business in Australia.

Prior to his tenure with Citi Australia, Chowdhury briefly worked with Future Assist as a financial adviser.

The bank also said it has hired 14 new relationship managers within its wealth management business within the last 12 months.

“It’s an exciting time to take on this role, as Citi is poised for growth across its wealth management and mortgage business,” he said. fs

Kanika Sood

The quote

...CEOs who are managing those firms are rewarded power for luck, but are not punished equally for bad luck.

ew academic research says chief executives gain more power for strokes of luck, especially if the boards watching them have weak governance.

University of North Carolina academic Turk Al-Sabah probed the question in recently published research titled CEO Power and Luck: Impact of Stock Markets on Building Powerful CEOs. Al-Sabah said while economic theory predicts that boards filter out luck from performance, the reality is far from the theory. He defined ‘luck’ as exogenous shocks to performance, such as market-wide conditions that are outside of the chief executive’s control.

The academic says, chief executives are rewarded for market luck but

not penalised as heavily for bad luck.

“In the baseline specification, a one standard deviation increase in firm performance due to luck leads to a 3% increase in CEO-power relative to the median,” Al-Sabah said in a preliminary draft of the report published on August 21.

The findings are primarily driven by companies that have weaker governance and institutional ownership.

“We also find some evidence suggesting that CEOs who are managing those firms are rewarded power for luck, but are not punished equally for bad luck,” he writes.

The academic goes on to argue that the above may suggest that departing chief executives may try to time their entrenchments to a period where the markets as well as the firm have performed well. fs

Crestone allocates to Melbourne real assets boutique with impact focus Crestone Wealth Management has allocated to a Melbourne boutique’s real assets fund that targets 7-11% per year in returns while aiming for a measurable social impact.

The HNW advice firm will use Conscious Investment Management’s impact fund, which invests in property and infrastructure like specialist disability accommodation, affordable housing, community rooftop solar and social impact bonds.

Crestone said it expects 7-11% per year in returns from the fund, with current cash yield at 6%.

Conscious was started by former Goldman Sachs investor Matthew Tominc in December 2019, with Channel Capital as its distribution partner.

The Crestone allocation comes on the heels of the Conscious tie up with a consortium of investors including the influential Ramsay Foundation to pour $48 million into 60 disability accommodation apartments.

Conscious’ advisory board this year added former Escala Partners and JBWere chief investment officer Giselle Roux and Kate Temby, who previously

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worked as Goldman Sachs Asset Management’s Australia Pacific institutional sales and is now a partner at social bond investor Affirmative Investment Management.

The rest of the advisory committee includes Paul Sundberg, a former chief financial officer and chief risk officer at JBWere and Goldman Sachs, Richard Price who was an executive director in Macquarie’s investment banking group and Adam Gregory as the chair, appointed in 2019 It follows an “impact partner model”, partnering with charities and similarly-minded enterprises to identify investments and assist with the management.

It has about seven impact partners.

Conscious currently manages $40 million in the impact fund and $85 million in total. Crestone has about $20 billion in funds under advice.

Crestone’s manager lineup for other sustainable and impact strategies includes Affirmative Investment Management, Altius Asset Management, Ethical Partners and AllianceBernstein. fs

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New York fund backs Thorney

New wholesale fund for unlisted infra

Alex Waislitz’s Thorney Technologies LIC which invests in tech companies has attracted investment from New York’s Woodson Capital Management.

TEK conducted a $27 million placement to institutional, professional and sophisticated investors, as a part of which Woodson came on board as substantial shareholder. It was priced at 35 cents a share, compared to 39.8 cent in pre-tax NTA for October.

Woodson is a New York based fund that invests in global consumer and technology. It launched in 2010, with backing from Tiger Management which is the hedge fund and family office of US billionaire Julian Robertson.

Woodson is a cornerstone investor in the fund and will have a substantial shareholding.

Thorney Group will invest $2.4 million in the placement.

“The proceeds of the capital raising will be used primarily to invest in technology-related companies in both Australia and overseas across the investment life-cycle with a continuing focus on pre-IPO opportunities,” TEK said in filings.

“We are delighted with the support shown by new and existing investors, with bids received well in excess of amounts raised under the placement.

We are pleased to welcome Woodson Capital Management as a substantial shareholder in TEK,” Waislitz said.

Thorney companies walked with $22 million from OneVue’s sale to Iress, after trying to block it unsuccessfully.

TEK had a market cap of $92.6 million at November 11 close. It also had a 15% stake in Iselect on August 3. fs

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Kanika Sood

The quote

As well as infrastructure project construction being accelerated by government, we are also seeing a surge in investment opportunities.

astings Funds Management’s founder Mike Fitzpatrick has launched a new wholesale fund that will invest in unlisted infrastructure.

The TRUE Infrastructure Fund will use a fund-of-fund structure to invest in funds from two managers, ATLAS Infrastructure that was founded by former RARE Infrastructure investors and the Infrastructure Capital Group (ICG) where Fitzpatrick is a shareholder and director.

It is offered via a new boutique, TRUE Infrastructure Management.

It has also hired former Goldman Sachs JBWere head of infrastructure and utilities Peter McGregor as its chief executive and Charter Hall Fund manager Miriam Patterson as nonexecutive director.

TRUE is aiming to raise $200 million over the next six months, with an overall target set for $500 million for the next two to three years.

Fitzpatrick is putting in $10 million, he said in the memorandum of information.

The fund is targeting annual postfee return of 8% and over, with 4% gross dividend yield. It will start with investments in 11 underlying investments in four sectors.

This includes renewables (four wind

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farms across South Australia and Victoria), utilities (Tas Gas and Western Australia’s Esperance Energy), energy (Western Australia’s Kwinana Power and Neerabup Power) and transport (South Australia’s Flinders Port and NSW’s Port of Newcastle Export Terminal).

“As well as infrastructure project construction being accelerated by government, we are also seeing a surge in investment opportunities,” Fitzpatrick said.

Minimum investment size is set at $50,000, and $10,000 for subsequent investments. There is a lockup period of roughly two years (until 31 December 2022) following which the fund will do quarterly redemptions capped at 2.5% of the total units on issue.

Fees are 45 bps in base fees and 15% in performance fee above a benchmark of CPI plus 4%.

Hastings Funds Management was formerly owned by Westpac. It was bought by British asset manager Northill Capital in late 2017, who rebranded it to Vantage Infrastructure in April 2018.

The fund-of-fund structure was popularised by Nicole Connolly’s Infrastructure Partners Investment, which recently rebranded to Invest Unlisted. fs

Magellan chief backs health startup When it comes to investing his own money, Magellan’s chief executive Brett Cairns likes to go back to his roots in science.

Cairns was paid $1.5 million in FY20, not including variable remuneration of $772,500, which he was eligible for but waived. At July 28, he owned 1.1 million shares in MFG and units in Magellan-owned funds.

“I’ve invested my own money for some time as well...So I’ve got a range of stocks and I’ve got to be a little careful in that because obviously conflicts start to creep in. So a lot of what I have been doing

recently is back into the funds,” he said. Cairns has a post doctorate in chemical engineering from University of Sydney.

He invests in some unlisted companies, within and outside financial services.

One example is a startup called HealthMatch, which connects patients with drug trials for treatment.

The investment is via Tempus Partners, a venture capital firm focused on technology-driven companies, where Cairn sits on the board as a nonexecutive director. fs

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RBA rates again at historic low

New fixed income boutique in Sydney

The Reserve Bank of Australia (RBA) on November 3 dropped the cash rate to 0.10%, the fourth cut in 12 months and a new record low.

The central bank reduced the target for the yield on the three-year Australian government bond to around 0.1%, interest rate on new drawings under the Term Funding Facility to 0.1% and interest rate on Exchange Settlement balances to 0.

It said it would but $100 billion worth of government bonds of maturities of five to ten years over next 6 months, representing about 5% of the GDP. The split was 80:20 to federal and state issued bonds.

RBA said the above measures would assist recovery in three ways: cheaper borrowing costs, a lower exchange rate than otherwise, and supporting asset prices.

On the bright side, RBA expected unemployment to peak at under 8% compared to 10% it expected previously. It has also previously reported two consecutive quarters of positive GDP growth.

On the flipside, inflation will be only 1% to 1.5% in 2022.

RBA governor Phillip Lowe also reminded that Australia is still in recession despite the two quarters of positive GDP growth.

“Given the outlook for both employment and inflation, monetary and fiscal support will be required for some time,” Lowe said.

“For its part, the board will not increase the cash rate until actual inflation is sustainably within the 2 to 3 per cent target range. For this to occur, wages growth will have to be materially higher than it is currently.

This will require significant gains in employment and a return to a tight labour market.

“Given the outlook, the board is not expecting to increase the cash rate for at least three years,” he said. fs

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Kanika Sood

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In the current low interest rate environment, the performance of a fixed income manager is more important than ever.

ormer UBS fund manager Chris Baylis, billionaire investor Alex Waislitz and ASX-listed cash platform Cashwerkz have teamed up to launch a new funds management businesses.

Fortlake Asset Management is offering four funds, across retail, wholesale and institutional.

Alex Waislitz’s Thorney is major shareholder.

“We are excited by the opportunity to be working with Christian and his team. He is a best in class manager with a clearly demonstrable track record. In the current low interest rate environment, the performance of a fixed income manager is more important than ever,” Waislitz said.

The investment team includes Chris Baylis, formerly the lead portfolio manager for the UBS Cash Plus Fund and the Insurance and ALM book, as founder and chief investment officer.

Kylie-Anne Richards, formerly a portfolio manager at prop trading firm QTR Capital, is the head of ESG. Peter Higgs, founder of Brisbanebased specialist global derivative and currency overlay asset management

firm TGM, is the chair of the board and the investment committee. All three have post doctorates, Baylis in econometrics, Higgs in economics and Richards in mathematics.

In operations, former FIIG Securities head of client services Andrew Kidd is Fortlake’s chief operating office, while former Prodigy Investment Partners head of distribution Guy Ballard is the head of distribution.

Cahwerkz’s fund incubation business via Trustees Australia Limited will launch the business. Its chief executive Jon Lechte also has a non-executive directorship, and Cashwerkz also has a stake in Fortlake.

Fortlake will use J.P. Morgan, Tactical Global Management Limited (TGM) and Link Fund Solutions.

The four funds are: Fortlake RealIncome Fund (for retail investors targeting 3% over RBA cash rate), Fortlake Real-Higher Income Fund (for retail investors targeting 5% over RBA cash rate), Fortlake Real Opportunities Fund (wholesale investors, absolute return) and Fortlake Sigma Opportunities Fund (wholesale, targeting 8-11% above the RBA cash rate). fs

Citi expands fixed income offering for wholesale clients, high-yield in focus Citi Australia is offering wholesale clients access to high-yield bonds, hybrids and capital notes, as it expands its fixed income services.

It said it will also offer access to the instruments via the primary market, adding potential or preferential pricing before they start trading on the secondary market.

High-yield bonds on offer will have BB- to BB+ rating and researched by Citi’s global team.

Hybrids offered by Citi are over-the-counter hybrids available via the global market.

The launch comes on the back of record-fixed income transactions in September at Citi.

“Australian investors face a dual challenge this year: seeking returns in a low rate environment

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and protecting their portfolios from the ongoing volatility associated with COVID-19. Hybrids, high yield bonds and capital notes can offer real value, as they sit somewhere in between equities and traditional bonds on the risk curve,” Citi Australia head of wealth management product Marcus Christoe said.

“Access to hybrids is a problem for Australian investors to date, with our limited local market often centred on the financial sectors. For investors looking for diverse options, the global over the counter market is a much larger and more liquid market than the ASX-listed hybrids offering.”

Citi said it offers 2200 bonds to customers. The service is only for wholesale investors. fs

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Attention philanthropists: Aged care is still underfunded Ally Selby

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reasurer Josh Frydenberg on October 6 announced the government will commit more than $1.6 billion to provide support to the country’s ageing Australians, but experts say the measures don’t go far enough.

The Treasurer announced the record funding would go towards an additional 23,000 at-home care packages, with further investment set to be announced following the final recommendations of the Royal Commission into Aged Care Quality and Safety in February 2021.

“This brings the total to more than 180,000 places, three times the number of home care packages than when we came to government,” he said.

“99% of all those seeking an in-home aged care package now have access to some form of in-home support.”

But Aged Care Gurus principal Rachel Lane told Financial Standard it just isn’t good enough.

“Only 2000 of the new packages are at level four, which is the highest level of care and the level that’s needed to keep people out of residential aged care,” Lane said.

“The Royal Commission has already heard that 16,000 people died last year waiting for their home care package. Who knows how many end up in residential aged care? There are more than 100,000 waiting for a home care package. It’s just pathetic.”

Similarly, Grattan Institute director of health programs Stephen Duckett said the newly announced funding was a drop in the ocean.

“It’s about a quarter of what is necessary,” Duckett told Financial Standard.

“There are around 75,000 people on waiting lists, and there are about 25,000 people on a lower level of package than what they require. It’s less than half of what the aged care lobby groups asked for.”

Frydenberg also announced the

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government would provide an additional $11.3 million in funding to help improve workforce skills in the aged care sector.

This funding would help train and support aged care providers and carers of dementia sufferers, Frydenberg said.

Lane noted that there were around 370,000 aged care workers operating across the residential and community care sector in Australia.

The training spending announced today, divided equally across these workers, comes in at $30.54 per person, she said.

And with around 3000 nursing homes across the country, Duckett said the funding didn’t go far enough.

“They need to fundamentally reform the aged care system and they haven’t actually started doing that in this year’s budget,” he said.

Lane agrees, arguing the government has avoided the issue of aged care funding for far too long.

“What they’ve done with aged care is kick this funding issue into the long grass of a Royal Commission, but eventually, we’re going to have to have some really tough conversations about what the government will fund, what they won’t fund and what people will have to pay towards the cost of their aged care,” she said.

“But fundamentally, we need to agree, as a society, that people waiting more than 12 months for their home care package shouldn’t be the standard.”

The government also said it would move to improve oversight and the investigation into serious incidents of misconduct in the aged care sector through a serious incident response scheme, with additional funding of $29.8 million.

It also promised $10.6 million to connect younger people living in residential aged care to aged appropriate accommodation.

“This will support the government’s

The quote

There are more than 100,000 waiting for a home care package.

It’s just pathetic.

target to have no people under the age of 65 living in residential aged care by 2025,” it said.

“From March 2019 to June 2020, there has been a 39% reduction in the number of people under the age of 65 entering residential aged care.”

The Morrison government said it was continuing to develop an alternative aged care funding tool – the Australian National Aged Care Classification. The budget, it said, included $91.6 million in funding for a new independent assessment workforce for the funding tool.

To support aged pensioners, the government announced they would receive two economic support payments, the first of which would be a $250 payment in December and further $250 payment in March 2021.

It comes after the government provided a $750 payment in April and July this year, to support aged pensioners during the crisis.

Also on a positive note, the government committed to older Australians and their families by getting a targeted capital gains tax (CGT) exemption for formal granny flat arrangements. It also applies for people with disabilities.

Prior to the exemption, families faced a significant CGT liability in creating a formal or legally enforceable granny flat arrangement. This may have led them to opt for informal arrangements, which can leave families open to financial risk and exploitation.

There are currently around 3.9 million pensioners and approximately four million Australians with a disability who will be eligible for the fresh exemption. fs

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Father knows best Family businesses – nearly 89% of which are led by male owners – are typically reluctant to change. But scaling up needs tapping into expertise they don’t have, Kanika Sood writes. fish-and-chip shop or an ASXA listed giant – businesses owned by families span the economy.

They are often innovative but must look outside their expertise to grow.

For Robyn Langsford, who is a partner in KPMG’s family business enterprise division, most of her family-business clients operate in property, construction, retail and hospitality. Many of them are from Western Sydney, including Parramatta and Penrith where KPMG keeps offices.

The firm traditionally offered them accounting and tax services, before moving into an advisory role in recent years.

“Businesses typically come to Big Four when they are looking for finance from the banks and need an audit, have a complex tax problem,

or are looking to expand overseas in a multi-jurisdiction market and need someone with an international network,” she says.

“Interestingly, when businesses come to us with their primary concerns, they are not necessarily what they actually need.”

Langsford says, the trigger for them is usually a particular piece of regulatory action, like the Australian Taxation Office’s expansion of its scrutiny on private groups from the top 500 to the top 5000.

“When we look at their business, we often find that the smaller accountants have been unable to keep up with all the legislative changes at an ATO level and often a number of tax risks are identified.”

Among common findings are out-

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The quote

By the time you get to a certain level of revenue, you really need to be taking investment in technology quite seriously...

dated back-office systems, with little heed to cyber risks.

“It’s not uncommon, for family businesses that may have grown through acquisition for example, to have a whole mix of IT systems and inefficiency in procedures.” she says.

“By the time you get to a certain level of revenue, you really need to be taking investment in technology quite seriously, and often these businesses also haven’t looked at cyber risk properly.”

Skill and governance A 2008 survey from Family Business Australia found only one in three family businesses had a formal board structure.

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When it came to succession planning for the chief executive role, only one in five had a plan.

On the family level, 28% had a family council [turn to pg. 16 on how the Hammon family does this] while 12% had a family constitution.

“The reason to bring in external talent ranges widely,” Langsford says.

“Whether there’s a more formal board governance aspect to it, where you get external directors onto your family board to bring you extra insights and knowledge. Or we see businesses growing to a point where they need to engage somebody like a nonfamily chief executive officer.”

Businesses may not cede key positions until they look to list via an Initial Public Offering.

On the other side of the table, working in a family-owned business can be tricky for an outsider, with its deeply entrenched relationships. And so rewarding them is important for retention.

“Just paying a salary is one thing.

But if as a family you are willing to share some equity or a bonus scheme [with an employee] if they can then drive the business growth to a particular level, they can get the recognition the individual deserves and that can be quite successful,” she says.

Langsford says her clients often create a different class of shares for employees that may entitle them to proceeds on the eventual disposal of the company or dividends over a time period. Meanwhile voting rights are often kept within the company.

“The family members then perceive that they retain ultimate control of the company. They’re not giving away everything, but they’re giving away enough that the person who’s receiving the incentivised.”

Readying your children Some family-owned businesses involve heirs early, others ask them to complete university and work externally before coming in. How do you know your child is ready to step up in the business?

HLB Mann Judd’s Tom Roberts offers a handy two-point criteria: ability and credibility.

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“Ability means they need to be objectively capable of fulfilling the role: What type of experience do they have, what type of education, do they have the skills required,” Roberts says.

“Then there is credibility. You see in family businesses all the time, the heir apparent jumps to the top of the queue and that can be perceived as a free ride by others in the business.”

He says good succession takes years, and the current generation should make sure they help the next generation build both their capability and credibility before they are allowed to step into positions of power.

Among Roberts’ suggestions are making sure performance reviews of family employees are done by an outsider, and that when they make mistakes, they are dealt with via clear processes to avoid nepotism.

Embrace technology Technology is not just about getting your house in order and ready to scale, it can also provide a significant edge.

Roberts cites an example.

One of his clients, a family-owned construction business, started tracking all their tender data which can have a lead-time of up to 12 months from when the tender is requested until the start of construction.

“They started to see that the value and number of tenders was declining nearly six months before their competitors, and that allowed them to act swiftly,” he says.

As a result, the business was able to expand its market share during the period.

“Even in the COVID environment, you will be surprised how many businesses don’t have forecasts.

Businesses that have the insights and visibility over their key performance metrics can take well-informed, decisive action quickly and stay ahead of the game,” he says.

Watch the cash High cash burn rates are often associated with newer companies. Names that spring to mind are Uber and the other investment-intensive startups.

But watching the till is important for

The quote

Even in the COVID environment, you will be surprised how many businesses don’t have forecasts.

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family-owned businesses too; more so because they can’t fall back on another series of funding from venture capital or private equity backers.

EY Oceania private clients leader Justin Howse says the biggest risk that ambitious family-owned businesses face is to ensure they enough cash both for legacy business, and the future one.

“One of the biggest risks that I find is understanding that difference between profit and cash. There is a phrase profit is like food – you can live without food for three days but cash is like oxygen – you can’t live without it,” Howse says.

He says family businesses have to be mindful to not overinvest in an opportunity to the detriment of the remainder of their business.

“Make sure you’ve done your research on the new product that the market is ready for. Understanding production costs and supply chain costs if you are ramping up production in some area.

“It can become a cash strain if the opportunity doesn’t live up to your expectations, it can take the oxygen out of the remainder of your otherwise very successful business.”

Lastly, put it in action Everything the interviewee mention is easier listed than done.

How do you make a stubborn owner consider advice outside their experience?

According to Langsford the key to bending them to the business’s benefit is this.

“The point is selling them the dream and the vision, rather than focusing on talking about the family having limited experience,” she says.

“What works is rather than focusing on the potential deficiency, focusing on the vision of where they could get to.” fs

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LEGACY WITH A VIEW The Hammon family has owned the Blue Mountains’ popular tourist attraction Scenic World for 75 years. Anthea Hammon, the latest of the clan to co-run the business, talks about how the family got its succession planning right.

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or many Sydneysiders, the Blue Mountains is a goto getaway.

It’s hard to believe you’re only about an hour away from the the city, amid sweeping valleys and mountains.

The best seat in the house to it is Scenic World, which is synonymous with its steep railway (steepest in the world, according to its website) but also has the Scenic Cableway which offers magnificent views of Wentworth Falls and a walkway through dense foliage.

For all its beauty, the Scenic World site was originally used to haul coal and shale mined in the Jamison Valley below.

The year was 1878 and the owner was John Britty North, who established Katoomba Coal Mine and would go on to sell the lease of the colliery in 1945 to Harry Hammon, who with his wife Mary had three children named Peta, Julie and Phillip.

The middle child, Phillip took over from his father in 1994 and ran the business for nearly 17 years before passing the baton to two of his five children, Anthea and David.

For Anthea Hammon, the love for the family’s asset – and the engineering that is its backbone – took root early.

“I used to follow my dad [Phillip Hammon] around because he always worked Sundays,” she says.

“I loved watching it all and thought, ‘Wow it must be cool to build those’. The steepest train in the world is a pretty amazing piece of machinery and it’s way bigger than you and pretty cool to be looking at.”

As she got older, she worked in front-of-house areas such as ticket-

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ing and retail. In 1993, as she was starting high school, Scenic World undertook a major overhaul of the Scenic Railway.

“I remember I got the day off to come and watch them craning the big winch into the winch room. They had to take the roof off [it to put in the new one]. And getting to watch those really big engineering feats felt just fascinating,” she says.

Her love for engineering held and when it was time to pick a university course, Hammon gravitated to mechanical engineering at University of New South Wales.

She finished with a first-class honours, a co-op scholarship and about 18 months of work experience across four other businesses.

At that point in time, her father needed help in the business with maintenance. She returned in 2003 hasn’t left since.

“At the end of that [university] I said ‘Well, I don’t really want to go work in a car manufacturing plant or fast-moving consumer goods’.

I was happy to come back to the family business and help dad work out some of the engineering and maintenance challenges he was having,” Hammon says.

The decision was a return to familiar territory. As a child, she spent a lot of time in the bush the family home backed on to, with her three sisters Arabella, Emily, Lydia and brother David.

David also returned to the family business after studying economics and commerce at Australian National University.

In the years since, Hammon Holdings has expanded its holdings beyond Scenic World. In 2018, it acquired the rights to operate BridgeClimb which lets tourists scale Sydney’s Harbour Bridge and it also has stakes in Western Sydney Zoo and a Melbourne surf park.

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Amusement parks, the general category in which the family’s holdings sit, have been hit hard by COVID-19, the ban on foreign travel and the general increase in unemployment.

IBISWorld which estimates the $1.5 billion industry (in revenue terms) is growing at 2.3% per year and running a profit margin of 12.7%.

In a normal year, Scenic World would welcome an average of one million visitors, making it the largest privately-owned attraction in Australia.

How long it takes for the industry to return to these long-term assumptions is the billion-dollar question.

And one that is impossible to answer without a crystal ball, Hammon says.

Meanwhile, the family has looked to diversify outside of its recreational assets in recent years, including buying some properties near Scenic World, which Hammon hopes will be of strategic value to the park down the road.

It is one of the fruits of a stronger governance structure that the operating company’s board has tilted towards in recent years.

On the family side, in about 2006 they added a family council that looks after the human elements of the family business, and is separate from the board of the operating company, Hammons Holdings.

The family council has seven members: Phillip Hammon, his wife and five children.

“The family council meets every six months. Their role is to oversee the family side of the business. They get a business update [and] we might talk about succession planning, next generation, philanthropy – stuff that is not business strategy because obviously that is the board role but our family-related business,” she says.

“We got to a point where we had a couple of family members sitting on the board. And we decided that [it was] the best thing to do and our accountant [Grant Thornton] has been an excellent advisor through that process and also about that time we connected with the Family Business Australia.”

The family also invites a consultant to act as an emotional facilitator to its biannual meetings.

“At a family level, those things [philanthropy and succession planning] can be more heated. So we have someone that just keeps tabs on us all and if there’s an emotional issue that comes up, then will debrief with us, or brief us before or debrief with us afterwards and can, sort of call timeout at the meeting to just help us,” Hammon explains.

“We’re getting better at doing it ourselves. But it’s a journey, especially because there’s so many, with seven people on the family council.”

The idea was born on the back of the handover from Harry Hammon to Phillip Hammon, Anthea’s father.

“My grandfather was a typical first-generation dictator,” she says.

The council also administers the family constitution, which lays out the modus operandi for decisions. In one

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example, the earnings are held in a discretionary trust and the distributions go seven ways but if a family member is in immediate need of funds, such as for a medical emergency, the council steps in.

“Thought he was never going to die, never wanted to hand it over, never gave my father any opportunity to grow the business. He ended up getting dementia and we had to get a carer for him because he was still trying to come to work every day – he refused to retire.”

Eventually, Harry Hammon did pass away and left a fuzzy Will, leaving his children to decide among themselves on the ownership of the assets. It was also a lesson for his son, Phillip, who wanted the next intergenerational transfer to be more orderly.

“Dad very much said, ‘Okay right, that’s not going to happen to this next generation, there’s five of you, it could turn into a very big mess. We’re going to make sure that we’re managing this properly’,” she says.

When it came time for Phillip to retire, Anthea and David were already working in the business with strikingly complementary skill sets. The brother studied economics while the sister had studied engineering.

“Interestingly, dad sort of said ‘Oh, I’m gonna write a book about the history of the site with another guy. You

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The quote

We’re getting better at doing it ourselves.

But it’s a journey, especially because there’s so many, with seven people on the family council.

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The quote

I think one of the challenges in a family businesses is that you can get NEDs onto the board, and then the family members just overrule them.

guys look after the place. If any questions, I am here, come see me’,” she says.

They went from being mere employees to running the business, with weekly catchups with the patriarch.

The result was a smoother transition to the next leadership, and in 2011 the duo took over as joint managing directors as their father retired.

“We had a couple of facilitated conversations with dad to make sure that his exit out of the business was done in a really respectful and really great way,” Hammon says.

“He was a little bit hesitant to go. But I think one of the things that we talked about as a sibling group was what is he going to do next because we’re all very much of the philosophy in our family that you need something to retire to, not to retire for.”

The siblings had to scrounge up hobbies for their father.

“He always loved dancing but that wasn’t going to be enough. So we bought him a drum kit and a train set and built up what he was really going to do when he retired,” she says.

“By the time he retired…he actually was so busy outside of work, he really didn’t want to be at work anymore.”

And then they threw him a big party. The black tie affair was to thank him for his contributions to the business for nearly four decades – again something that was missing from the first generation handover.

In another governance change, the family invited outsiders to sit on its operating company Hammons Holdings’ board as independent, non-executive directors.

The board now has five members: Phillip, Anthea, David and two non-executive directors who were added in 2016.

She says the family discussed what is best practice and what skills the board needs for the future. It then did a skills matrix and recruitment drive to find talent.

They decided what they were looking for in the directors was experience with family businesses, some tourism services experience and a strong financial background.

It found two people who fit the bill – former Electrolux executive Owen Morgan, whose skill set Hammon describes as “diverse”, and former Qantas and Avis executive Gordon Howard, who has also worked in a family business.

While skills are great, the family also wanted someone with gumption to stand up to the family directors when needed.

“I think one of the challenges in a family businesses is that you can get NEDs onto the board, and then the family members just overrule them…But we wanted someone with the strength of character to be able to push back and challenge us because the business is only going to get better through that diversity of thought,” she says.

“David and I appreciated having that questioning

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voice and that challenging voice coming from the directors.”

On the way, Hammon started a family of her own. She met her now-husband in high school initially and reconnected with him later. The couple have two children, five-year-old Hazel and one-year-old Hamilton.

For her first child, she says, her brother thought she would be out of the business for six months but she came back in six weeks. For her second child, she was back less than a week later.

“I guess the real privilege of being in the family business and being the leader…is you can make up [your] own rules a little. So, the baby just came to work with me. The first three months with my daughter and five months with my son, they just traipsed around with me,” she says.

She eventually got a nanny, but her son Hamilton was invited to dinners with the tourism minister and board meetings for the Western Sydney Airport board, on which his mother sits – all before his first birthday.

Her own distributions from the family business, Hammon laughs that she invests in her mortgage.

Switzerland, with its cable cars similar to Scenic World and ski slopes is a favourite holiday spot, while Disneyland with its large revenues and amazing customer service is a favourite amusement park.

For all its work on governance, the family business’s goal is to generate long-term wealth – for hundred years or more, as Hammon puts it.

She says the family gets regularly approached for potential suitors for its assets. But it has no plans to change ownership.

And so, succession is something they will have to revisit again in a few decades.

While Hammon’s generation only had five heirs, those five now have 13 children. The youngest is her son at a year old and the oldest is a 13 year old.

“Mine particularly, do I want them in the family business? If it’s something you’re passionate about. I don’t want them to feel like they have to work in the business. There’s a lot of cousins that can do it,” she says, adding her own five-year-old daughter wants to be a ballerina at the moment.

“There’s some emerging leaders that will want to help drive the business forward, but that doesn’t have to be my children, if it’s not what they want to do.”

Meanwhile, the Hammon family council is on an education journey with the fourth generation.

“We are working on that next generation plan of how to keep them engaged in the business, how to get them interested and then how to build their experience…because no matter what, they will end up being owners of the business,” she says.

“So, they will need to know something about it and will need to know enough to be able to make appropriate decisions for it at an ownership level, [if] not necessarily at a board level.” fs

FS Private Wealth

22

News

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

Ares readies second credit fund for ANZ

Channel Capital in management buyout

Ares’s joint venture with Fidante Partners planned to launch a second credit fund in 2020.

The Ares Diversified Credit Fund will use an open-ended structure, similar to Revolution Asset Management’s last private debt fund.

It will invest in private and public credit assets, and mainly directly originated loans, syndicated loans, corporate bonds, asset-backed securities, commercial real estate loans and other types of credit instruments.

It has daily applications and quarterly redemptions. And will pass all income components, including origination fees on directly-originated loans.

Ares Credit Group partner and co-head Mitch Goldstein is the lead portfolio manager on the fund.

“As a pioneer in private credit globally, Ares has developed a trusted reputation of investing through market cycles,” said Ares SSG ANZ chair John Knox.

Los Angeles’s Ares Management Corporation last October set up a joint venture with Challenger’s Fidante Partners.

Separately, Ares in November bid $1.85 per share (indicative) to acquire AMP. “At its core, the fund provides access to Ares’ scaled credit platform, including its differentiated self-origination capabilities,” head of Ares Australia Management Teiki Benveniste said.

“We believe this further distinguishes our product from other offerings in the Australian market today.”

“As a pioneer in private credit globally, Ares has developed a trusted reputation of investing through market cycles,” said Ares SSG ANZ chair John Knox. fs

T

Kanika Sood

The quote

One option was to IPO the business which we didn’t want to do, we wanted to stay independent and employee owned.

he Sydney multi-boutique bid farewell to its minority equity partner Highbury Partnership, as it enlists a new passive investor to bring ownership back to the management.

Highbury invested about $15 million in Channel Capital in 2017 when the business was three years old, in lieu of a minority stake in the business.

Channel has now bought back the Highbury stake with financing from New York’s Kudu Investment Management who has a business similar to Channel’s. The introduction was made via Berkshire Global Advisors.

In return Kudu will get a share of Channel’s revenues. It will not have any ownership or board positions at Channel in a “passive stake”.

Channel Capital managing director and co-founder Glen Holding said the buyout and access to Kudu’s capital positions the business for future growth.

“We were majority staff owned [after Highbury investment] and will be more so after this,” he said.

“One option was to IPO the busi-

ness which we didn’t want to do, we wanted to stay independent and employee owned. The access to capital is greater with Kudu [which is backed by NYSE-listed White Mountains Insurance Group] than with Highbury as we keep growing.”

Holding identified three areas of future growth or Channel: fundraising for the remaining capacity in its existing eight managers, many of whom are additions in recent years; growing its responsible entity business to add a few external institutional clients, and expanding into overseas markets.

“There are a few things that we are working on. Most of the existing managers are still in early stages of growth with a lot of lot of capacity left,” Holding said.

“We don’t want to be an RE [responsible entity] for hire but we may act as RE for some institutional third parties.”

In expanding overseas, Chanel sees opportunity to offer infrastructure and services to other investment managers, with distribution potentially down the line – similar to how it started in 2013. fs

Generation flags Ascalon closure Annabelle Dickson

ASX-listed Generation Development Group flagged its intention to wind up Ascalon Capital Managers, just two years after acquiring it from Westpac.

Generation has announced it will cease its investment in Ascalon Capital Managers, which it acquired after Westpac offloaded it in 2018.

Generation chief financial officer Terence Wong told Financial Standard that unless another option comes up, the group will dissolve Ascalon.

“This has been a successful investment from a shareholders’ perspective in that we will have made a profit of over $1 million after taking into account the investment made in the business,” Generation chair Rob Coombe said.

Despite this, he cited the political disruption in Hong Kong along with COVID-19 as to why it was unable to execute its growth plans.

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“This derailed capital raising efforts and we have decided to self-cease,” Wong added.

Under the acquisition, Ascalon retained interests in Morphic Asset Management and Deepwater Capital. In June 2019, Morphic was sold to Ellerston Capital.

Coombe also revealed its plans to launch the Generation Life Equity Income Fund – a tax-effective income fund for high net worth investors to take advantage of its existing bond business structure with added income.

Generation said the search for yield appears “unstoppable” and the market opportunity for income producing products with less risk is around $800 billion.

The fund will have a tax rate of less than 10% and targeting flows outside the traditional investment bond space. It will commence its bookbuild in December and will launch to retail investors in April 2021.

The Generation Life Market Linked Annuity is due to launch at the end of FY2021. fs

FS Private Wealth

Gift Guide

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23

The joy of giving The jury is still out on whether or not money can buy happiness. But when we asked three finance leaders, “What’s the best present you’ve ever received?” the gifts they recalled were of sentimental value above all.

Sue Dahn

executive director, Pitcher Partners

Her two cats It was two haughty, naughty, torties – tortoiseshell domestic medium haired felines – for my fortieth birthday. Barrels of fun. fs

David Orford

managing director, Optimum Pensions

A surprise getaway It was an unexpected long weekend away with my wife, a delayed birthday present for me.

I had to answer a series of instructions. What is the Royal Road out of Melbourne? Royal Parade of course! Wrong, it’s the Princess Highway.

After many wrong answers to questions we arrived at Mark’s cottage, owned by the parents of Lisa Gerrard, who is the Australian woman who wrote the extremely innovative and dramatic music for Gladiator.

We listened to her music and learned all about her. They gave us her CD. The cottage was located near the former ghost town of Walhalla near Victorian High country, which we drove through on our way back to Melbourne. fs

FS Private Wealth

Jun Bei Liu

portfolio manager, Tribeca Investment Partners

A gift from her children The best gift I ever received was a beautiful gold handmade ballerina bracelet. It was given to me one Mother’s Day from both of my children.

The reason it is the best because it is from my children and it made Mother’s Day all the more special and memorable. Every time I wear my stunning bracelet, I think of my children. fs

THE JOURNAL OF FAMILY OFFICE INVESTMENT•

24

Vantage point

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

Benjamin Ong director of economics and investments Financial Standard

Sector review Life after debt OVID-19 has been on everyone’s mask-covC ered lips since it was first detected in mid December 2019.

The Good Economics Guide Making sense of key economic data

Your definitive handbook to understanding the Australian economy

Edition

01

The guide Ben Ong is the author of the Financial Standard Good Economics Guide: Making sense of key economic data, a handy reference tool for investors, analysts, strategists and finance commentators, available in newsagents.

The Organisation for Economic Cooperation and Development (OECD) noted that the economies of its 37 developed nation members shrank by 9.8% in the June 2020 quarter.

The Center for Strategic and International Studies estimates that the G20 nations had spent around US$7 trillion (more than 10% of their combined 2019 GDP) in direct spending, tax relief and lending as at the end of May 2020.

Many governments have implemented more relief measures – wage subsidies, tax cuts or deferrals, health care services, unemployment benefits, credit guarantees etc – since then, creating further strain on individual country’s budgetary balance.

Australia’s case is a prime example. In the 2019/20 budget, the Federal Treasury estimated the country’s fiscal balance to return to a surplus (equivalent to 0.4% of GDP) in fiscal year 2019-20 after a decade of deficits.

These surpluses would be used to reduce net debt each year until it’s fully “eliminated by 2029-30”.

Just as the pandemic threw lives, loves and livelihood out of kilter, so has it on the government’s budget projections.

The 2019-20 surplus is no more. It has turned into an actual deficit amounting to around 4.3% of GDP before widening further to 11% of GDP in 2020-21.

The budget papers for 2020-21 show the budget shortfall remaining at 3.% of GDP by fiscal year 2023-24 (the last year available in the Treasury’s forecast).

Budget papers projects the country’s gross debt

THE JOURNAL OF FAMILY OFFICE INVESTMENT•

to rise over the next three years from 34.5% of GDP in 2019-20 to 51.6% of GDP. Unpalatable as the deterioration in the Australian government’s fiscal balances may be (nearly all governments for that matter), the economic cost of not doing so or not enough would be greater in terms of the likely potential of longer-term or even permanent damage to jobs and business investment.

Having said that, time will come when the piper needs to be paid.

The best outcome would be for economies to grow out of debt.

More likely though, policymakers would need to increase taxes – direct and/or indirect – implement austerity measures (such as slash welfare spending, cut government wages, raise the retirement age, reduce pension payouts), sell national assets, or all of the above … and then some.

But life after debt from pandemic spending in Australia would be better than countries with higher debt.

The Australian Federal Treasury’s projected debt-to-GDP ratio peak of 51.6% remain relatively lower than most of its counterparts suggesting that the government doesn’t need to urgently clawback the money it spent on COVID-19 support measures.

Capital markets would be more willing to lend more to Australia before they do other nations with higher debt and therefore, less ability to repay.

More importantly, the country’s current and projected debt levels remain below 77%, which is the debt-to-GDP ratio a World Bank study [published in 2010 by Mehmet Caner et al] found to exert downward pressure on economic growth.

Australians would be breathing easier than many other countries after the pandemic passes. fs

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www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

25

News bites

ECB steady The European Central Bank (ECB) kept monetary policy settings unchanged at its late October Governing Council meeting, opting to wait until the new round of macroeconomic projections in December. This “will allow a thorough reassessment of the economic outlook and the balance of risks. On the basis of this updated assessment, the Governing Council will recalibrate its instruments, as appropriate, to respond to the unfolding situation and to ensure that financing conditions remain favourable to support the economic recovery and counteract the negative impact of the pandemic on the projected inflation path”.

Property

Prepared by: Rainmaker Information Source: Cromwell Property Group

Jamie Williamson

he median price of Australian farmland T increased by 13.5% in 2019, marking the sixth consecutive year of growth and defying bushfires and ongoing drought.

According to Rural Bank’s annual Australian Farmland Values report for 2020, Australian farmland has emerged as a stable and consistent driver of agricultural value over the past decade, despite climate-related challenges.

On a median basis, one hectare of Australian farmland will set you back $5271, according to Rural Bank.

Queensland was one of only two states to

FS Private Wealth

US Fed on hold The US Federal Reserve kept its fed funds rate target unchanged at 0-0.25% at its November meeting and “expects it will be appropriate to maintain this target range until labor market conditions have reached levels consistent with the Committee’s assessments of maximum employment and inflation has risen to 2% and is on track to moderately exceed 2% for some time”. The Fed added that it will increase its holdings of Treasury securities and agency mortgage-backed securities at least at the current pace over coming months “to sustain smooth market functioning and help foster accommodative financial conditions, thereby supporting the flow of credit...”

BOJ stays Like the Fed and the ECB, the Bank of Japan (BOJ) also kept policy unchanged – target rate at -0.1% and target for the 10-year Japanese government bond yield at around 0% – at its October meeting. However, it stated that:“For the time being, the Bank will closely monitor the impact of the novel coronavirus (COVID19) and will not hesitate to take additional easing measures if necessary, and also it expects short- and long-term policy interest rates to remain at their present or lower levels.” The BOJ downgraded its fiscal year 2020/21 GDP forecast to a contraction of 5.5% from (July’s prediction for a 4.7% decline) but adjusted the following year’s projection to growth of 3.6% from 3.3%. fs

Farmland values defy bushfires, drought see a drop in values, with a 0.8% drop following an increase in 2018 of 15.8%. Here, one hectare of farmland would now cost $4650.

Tasmania also saw a decline in value, though far more pronounced than that of Queensland, with a drop of 53.9%. This followed an increase of 135.5% in 2018, however Rural Bank said this was more indicative of the mix of properties sold between the two distinct categories of land type – top end and cattle regions – and the low number of transactions (48.7% less than 2018) rather than a change in the market.

Meanwhile, Western Australia had a record year of growth at 28.2% ($2569), and South Australia recorded growth of 18.4% ($4943). New South Wales saw a 17.2% ($5066) increase while Victoria and Tasmania both recorded growth of 12.1%.

Farmland remains the most expensive in Victoria and Tasmania at $7587 and $10,930 a hectare, respectively. This also marks a re-

cord high for farmland values in Tasmania.

However, the growth in value was offset by a decline in transactions – down 13.2%.

For example, transactions in NSW were down 14.5% year on year and 12.9% in Victoria, while those in South Australia fell by 8.3% to 693 in 2019.

These are the lowest levels seen in 25 years, Rural Bank said.

That said, land with consistent access to water outperformed the market, showing climate risk and reliable rainfall is still driving investment and value.

Rural Bank chief executive Alexandra Gartmann said the findings show the remarkable consistency farmland offers as an asset class, particularly for those taking a long-term view.

“While land values change from year to year, Australian farmland has delivered an average compound annual growth of 7.5% over the past 20 years,” she said. fs

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Vantage point

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

Key indicators

Source:

Monthly Indicators

Oct-20 Sep-20 Aug-20

Jul-20 Jun-20

Consumption Retail Sales (%m/m)

-

-1.10

-3.99

3.18

2.72

Retail Sales (%y/y)

-

5.63

7.08

12.04

8.52

-1.50

-21.77

-28.78

-12.84

-6.44

Sales of New Motor Vehicles (%y/y)

Employment Employed, Persons (Chg, 000’s, sa) Job Advertisements (%m/m, sa) Unemployment Rate (sa)

-

-29.54

129.06

119.15

227.82

9.35

8.30

2.77

17.38

41.13

-

6.94

6.85

7.48 7.44

CPI (%y/y) headline

0.69

-0.35

2.19

1.84

1.67

CPI (%y/y) trimmed mean

1.20

1.20

1.70

1.60

1.50

CPI (%y/y) weighted median

1.30

1.30

1.60

1.20

1.20

Output Real GDP Growth (%q/q, sa)

-

-7.00

-0.26

0.55

0.51

Real GDP Growth (%y/y, sa)

-

-6.26

1.56

2.28

1.82

Industrial Production (%q/q, sa)

-

-3.42

0.19

0.48

0.67

-2.68

-1.33

Survey Data

Housing & Construction Dwellings approved, Tot, (%m/m, sa)

-

9.70

4.38

9.16

-5.00

Dwellings approved, Private Sector, (%m/m, sa)

-

15.44

-2.26

11.74

-3.74

Housing Finance Commitments, Number (%m/m, sa) - Housing Finance Commitments, Value (%m/m, sa)

Inflation

Private New Capex, Total, Chain, Vol, (%q/q, sa)

Financial Indicators

-

-5.89

-2.06

06-Nov Mth ago 3 mths ago 1Yr Ago 3 Yrs ago

Interest rates

-

Survey Data

RBA Cash Rate

0.25

0.25

0.25

0.75

1.50

Australian 10Y Government Bond Yield

0.76

0.84

0.86

1.25

2.57

Australian 10Y Corporate Bond Yield

1.42

1.58

1.63

2.07

3.06

Consumer Sentiment Index

105.02

93.85

79.53

87.92

93.65

AiG Manufacturing PMI Index

56.30

46.70

49.30

53.50

51.50

NAB Business Conditions Index

-

0.36

-6.19

-0.21

-7.68

Stockmarket

NAB Business Confidence Index

-

-3.82

-8.24

-14.28

0.50

All Ordinaries Index

6395.0

-

Exports (%y/y) Imports (%y/y)

Quarterly Indicators

6170.8

3.77%

2.71%

-6.79%

4.45%

6190.2

3.83%

2.45%

-7.06%

3.97%

-21.72

-16.75

S&P/ASX 100 Index

5100.1

3.94%

2.19%

-7.54%

3.89%

-16.76

-20.30

Small Ordinaries

2878.2

2.59%

6.82%

-0.75%

8.99%

60.00

64.90

4362.00

-

-19.73

-22.49

-

-22.27

-14.98

Dec-19 Sep-19

Balance of Payments Current Account Balance (Bil. AUD, sa)

-

17.74

9.02

2.18

% of GDP

-

3.79

1.78

0.43 1.49

7.53

Corporate Profits Company Gross Operating Profits (%q/q)

-

14.97

1.44

-3.47 -1.15

Employment Average Weekly Earnings (%y/y)

-

-

-

3.24

-

Wages Total All Industries (%q/q, sa)

-

0.08

0.53

0.53

0.53

Exchange rates A$ trade weighted index

59.50

A$/US$

0.7271 0.7163 0.7220 0.6892 0.7662

A$/Euro

0.6123 0.6074 0.6096 0.6223 0.6613

A$/Yen

75.11 75.65 76.18 75.13 87.44

60.70

61.90

Commodity Prices S&P GSCI - commodity index

349.62

353.74

349.28

416.93

429.44

Iron ore

117.63

121.84

118.89

82.98

62.70

1940.80 1913.40 2067.15 1486.05 1270.90 37.48

Wages Total Private Industries (%q/q, sa)

-

-0.08

0.38

0.45

0.92

Gold

Wages Total Public Industries (%q/q, sa)

-

0.00

0.45

0.45

0.83

WTI oil

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6.10%

S&P/ASX 200 Index

2618.00

Mar-20

-5.58%

S&P/ASX 300 Index

5630.00

Sep-20 Jun-20

3.47%

7826.00

Trade Trade Balance (Mil. AUD)

3.74%

40.52

41.93

56.15

57.34

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Family Office Management:

28

Finding balance in the family business

By Gavin Debono, Pitcher Partners

28

Family Office Management

www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: A recent report identified major challenges, concerns and perceptions in relation to family businesses at various stages of development. The results go against common assumptions and deliver a few surprises.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Finding balance in the family business

I

Gavin Debono

t is generally understood that a career will come with a range of strategic and emotional considerations. Do you get on with your boss and your co-workers? Do you have job satisfaction? Do you feel supported in your career progression?

These questions gain an added level of complexity when it comes to family businesses.

Family businesses can be incredibly successful and are generally well trusted by both consumers and investors. However, the most successful family businesses achieve this trust by taking an informed and mindful approach to their business structures, culture and succession planning.

For those that do not place emphasis on people, culture and planning, cracks can appear.

What does the research say?

This paper comprises key extracts and selected findings from the inaugural Pitcher Partners Business Radar: Understanding the businesses that drive Australia’s economy report published in August 2020. The first round of research was completed in October 2019 and refined between April and May 2020.

The report takes a particular interest in family businesses. It comprises independent research canvassing over 400 Australian private and family business owners and operators in Australia’s mid-market to further un-

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derstand the mindset and unique challenges of businesses in this space.

These are typically companies operating in that less often referenced space between ‘small business’ and ‘big business’. They usually employ between 20 and 200 people and have annual revenue of between $2 million and $500 million. Often described as the engine room of Australia’s economy, the mid-market produces just under 25% of Australia’s revenue ($625 billion) and contributes a fifth of the country’s net tax take.

While these metrics may help to define which businesses fit in this segment of the market, mid-market companies are defined by their attitude. Businesses in this sector typically have a growth mindset and can quickly adapt to change and capitalise on new opportunities.

Mid-market business owners normally have skin in the game.

They are confident with what they have to offer and are leaders within their industry.

Interestingly, despite the pervasiveness of the term ‘middle-market’, the research revealed the term has no real affinity for business owners in this space.

Preferring the terms ‘private business’ or ‘family business’, the respondents from the middle-market cohort shared many of the same characteristics: • Confidence: They are confident, bullish and know what they are offering to the market and why.

• Adaptability: Regardless of the challenges and changes their businesses face, they are confident in navigating tough times by be-

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www.fsprivatewealth.com.au Volume 09 Issue 04 | 2020

ing adaptable and agile to capitalise on opportunities.

• Growth-focus: They share a growth mindset, pushing their boundaries to grow and evolve their businesses.

• Self-drive: They feel a sense of control over what they are doing, how they do it, and how that may change in the future.

Purpose

The research also sought to understand the motivations of middle-market operators and why they started their businesses.

The top three reasons respondents started their businesses included: • Work-life balance (47%) • To follow a passion (46%) • To have control over their destiny (37%).

Did you know?

Despite succession being a common challenge, particularly among ageing business owners, over a third of respondents did not have a succession or exit plan in place.

The types of businesses examined included startups, family businesses, and private companies at various stages of maturity.

By comparing the responses that came from non-family members of family businesses with those from within the family, the report paints a picture of the key emotions and challenges at play. Business owners, managers and operators need to be aware of these factors when planning for the future of the business.

The business lifecycle

The report identified four stages of the business lifecycle, summarised as follows.

Seed The seed stage of business is broadly defined as those companies with a turnover of $2 million or less and in operation for less than two years. During this formative stage, businesses experience many challenges and opportunities. Among the challenges facing seed-stage businesses are factors associated with establishing their businesses and gaining traction in the market; noting marketing, cash flow, regulation and capital raising as the most challenging areas.

Conversely, opportunities involved entering new markets and experiencing growth, with digital marketing acknowledged as an important opportunity to expedite growth.

Growth Growth-stage businesses are organisations that continue to evolve and expand either in revenue, profit, size, product lines/service offerings or markets. These companies have typically gained traction in their market and

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29

are now facing issues of diversification. Business owners and leaders at this stage see immediate opportunities for growth in their current markets and expansion into new markets, supported by investment in technology.

Mature Loosely, these organisations are self-sustaining, have peaked in terms of size, revenue and markets, and risk entering a decline cycle. While this cohort had established stable revenue streams, the research revealed businesses at this stage continued to pursue opportunities for sustained growth in existing markets while also seeking operational efficiencies.

Expanding to new markets, particularly international ones, can be challenging, but it is still a significant opportunity for businesses at all stages. The research showed this cohort experienced challenges with entering new markets, and in some cases expended capital on rushed attempts to market, particularly when expanding into foreign markets.

Businesses that sought assistance to establish the right foundations early on experienced greater success. Leveraging external knowledge and expertise provides access to critical information, networks and resources. Additionally, respondents demonstrated a reluctance to admit being in a mature stage of business, instead preferring the definition of ‘growth’. This is consistent with the segment’s growth mindset and the perceived negativity of the term ‘maturity’ among the cohort.

Transition Transition-stage businesses are those with an existing business model looking to diversify or pivot, or those going through a change of management or ownership. This includes both family-owned and non-family-owned private businesses.

The most immediate challenges faced by this segment related to pivoting an existing business model, specifically in relation to identifying and funding new growth ventures. For those considering an exit strategy, challenges are different and relate to transitions of management or ownership of the business.

Interestingly, the search for new sources of growth was considered both a challenge and an opportunity, while technology and digital marketing were considered enablers to harness efficiencies and access new markets.

Confidence throughout the business lifecycle

The research showed confidence in business strength and future growth over the business lifecycle is highest and most stable from the seed stage to the growth stage.

However, this trended downward at the mature and transition stages as growth began to slow or regress.

Further, the key drivers of business growth aspirations were to: • Expand into new opportunities for growth (44%) • Increase profitability (42%).

Gavin Debono, Pitcher Partners Debono is a partner in the private business and family advisory division of Pitcher Partners and a member of the firm’s property and development industry group.

He specialises in providing advice and assistance to private businesses, working closely with ownermanagers. He also provides accounting and taxation services to a range of clients, including regular consultation on reporting issues, performance measurement, financial analysis, and general business and taxation advice.

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30

Tip Steady growth can be a precursor to complacency. Create a team of advisers to gain access to the right advice and review your plans periodically to keep growing and improving.

Innovation and technology Businesses need to constantly look ahead, making sure they can see around corners and anticipate their next move. Interestingly, the report found that companies are highly attuned to the micro trends that affected their businesses but are less likely to pay heed to macro events.

Events such as the COVID-19 pandemic and the bushfires earlier in the year strongly align with the findings of the report. They hammer home how important it is to have a plan in place so that a business is prepared to respond to the unpredictable.

One surprising result from the report was that mid-market business owners did not consider themselves as ‘innovative’. This is despite the fact that many of them had created and developed solutions either directly for their customers, or internally to produce greater value and realise efficiencies.

However, what the report showed is that mid-market businesses are practising “innovation-in-action”. Rather than sitting back to think about being innovative, many of these businesses are simply forging ahead and creating solutions, many of which could easily be white labelled and commercialised.

Consider Innovation has been increasingly associated with tech disruptors or businesses that create an entirely new market. However, innovation is multidimensional and is not simply defined as total industry disruption or founding of a new industry. It is about problem solving and continually seeking more efficient and effective ways of doing business.

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Human resources and relations The report showed that business owners generally understood and appreciated the direct correlation between finding the right people and the success of the business. Attracting and retaining talent was seen as one of the most challenging parts of being in business.

Another key challenge was proactively up-skilling and crossskilling employees to keep a business competitive in the future, especially as emerging technologies drive change in supply chains and processes.

Even though human resource management was one of the key issues that kept business owners up at night, only 28% of respondents had sought HR advice in the last five years. Even less (26%) indicated that they would consider seeking advice on the subject in the future.

Consider Unfortunately, interviews conducted for the report showed a discrepancy in the satisfaction experienced by family and nonfamily employees in their experience working for a family business.

This pointed to a specific need for strategic human resource planning.

In interviews with non-family employees, there were repeated references to the challenges caused by working alongside family members, including perceptions of nepotism and the suitability of people for roles. In emotional terms, family members reported feeling more secure and optimistic than non-family members, who felt significantly more frustrated.

Making sure the right culture exists is critical to ensuring a business can retain its top talent. While it may be an uncomfortable discussion, it is better for businesses to be aware of any issues and address them quickly to eradicate excessive tension between family and non-family employees.

Consider In the absence of formal human resource management advice, it

Mature-stage business expressed a desire to “find internal efficiencies to cut costs” in the near term, and “gain access to new markets” over the next 12 months. However, many companies are not using business intelligence, such as data and analytics, to their full capability to further improve and grow.

To do this, businesses must be able to access the right information.

With the fast-paced nature of commerce, informed, data-driven decision making can be the difference between success and complacency.

is critical to consider the following factors when it comes to people and culture: • The right culture is critical to the success of a business. Invest in the right people and processes to create a culture that matches your organisation's values.

• Attracting and retaining the best talent does not happen by accident. Formulate a talent strategy that supports your broader business goals, including a mix of hard and soft skills.

Consider Businesses might not commercialise solutions for reasons such as:

It’s all relative

• Failure to identify the commerciality of a solution

There were some unexpected results from the report. Both family and non-family members believed family dynamics impacted the business culture, especially the day-to-day decision making of the management team. However, non-family members of the business did not perceive the reverse. That is, the business might also impact family dynamics.

• Lack of resources, expertise and know-how to commercialise a solution • Disinterest in commercialising and scaling a solution.

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In contrast, family members felt strongly that the business did impact their family dynamics. This dissonance in understanding is likely a result of the family prioritising their privacy by not being candid with their employees about the strain that running a business can have on a family.

Consider It can be incredibly beneficial for the business to cultivate a culture where open and honest conversations can occur. Suppose both groups remain aware of the complex interrelationships between family and business dynamics. In that case, the negative feelings of non-family employees may be assuaged before they have a material impact on the business.

Although 36% of respondents reported that business challenges had a positive impact on family dynamics, around 26% of respondents reported stress and family disagreements. Some interviews even revealed a partial regret for mixing the two worlds. One respondent referenced the strain that operating a business had on his marriage, especially in the early stages.

Succession planning Succession planning is not just about who will take over the business when its owner(s) depart. It is also about ensuring the earmarked legacy is able to be executed in the right way and at the right time.

Consider Rather than thinking of succession as having an exit plan, businesses should think about being ‘opportunity ready’. Even if you are not looking to pass down or sell your business in the near term, you should be prepared for things to change, both within the family or across the broader market.

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in their markets and operations. Qualitative feedback revealed operators of mature-stage businesses reportedly faced lower levels of stress. This feedback was bolstered by the feeling that companies of such scale ran almost autonomously with fewer challenges in contrast to those at the seed, growth or transition stage where constant critical attention may be required.

Reasons for sleepless nights differed from individual to individual, including: • Financial security and cashflow issues (26%) • Market and economic uncertainty (10%) • Government and tax regulation changes (8%) • Human resource or staffing issues (7%).

Stress associated with human resource management largely related to staff retention, partly as owners often needed to step in and take on the role of the outgoing staff member while also actively recruiting.

Where professional services were concerned, loss of staff also carried with it the risk of losing clients, as staff often hold the client relationship, adding further stress regarding financial security and cashflow.

Other respondents referenced the challenge of meeting the changing demands of the modern workforce, creating a requirement for increased awareness regarding mental health and workplace flexibility.

Economic levers While Australian businesses survived the global financial crisis relatively unscathed, we are currently experiencing a low-growth, lowinterest-rate environment, rendering business more susceptible to both local and global impacts.

Organisations with adaptable business models and those with supply chain contingency have a higher probability of success during times of disruption, but also during normal business conditions.

This has been particularly apparent with recent challenges such as the drought, summer bushfires and the COVID-19 pandemic where the ability to pivot business models, fill gaps in the market or alter production capability enabled businesses to not only survive but thrive. Those businesses that looked beyond the horizon, and sought expert assistance and advice, have emerged stronger.

The impact of macro and micro trends The complex nature of family structures is a major consideration when undertaking succession planning. Challenges can arise if business owners assume the next generation is interested in taking over the business without serious consultation. The prevalence of divorce and blended families, and interrelations between family dynamics and financial structures – such as investment holding trusts and superannuation – are also at play when businesses look to plan their succession.

It is incredibly important to proactively prepare for the different scenarios that may arise as leadership and responsibility within the business shifts to new people. In the case where several family members are vying for the same leadership position in the company, its owners can feel incredibly stressed. Early succession planning can mitigate this tension.

While business owners acknowledged other macro trends such as the decline of the Australian dollar and escalating economic tensions between the US and China, this did not affect their confidence, unless directly impacting their business. For instance a business dependent on imports or exports.

The research revealed micro or industrial trends had greater impact and relevance for mid-market businesses, thus affecting general business confidence. In line with this, 40% of mid-market operators believed consumer preferences were among the most impactful factors on their business, expounding the middle market’s focus on industry-specific trends. It is, however, important for business owners to remember what influences consumer preferences in the first place, which is typically the broader macro environment.

Sleepless nights

Qualitative interviews revealed middle-market businesses displayed a siloed mentality, seeing their viability separately to the Australian economy and almost in isolation, to macroeconomic factors.

Sleepless nights were common among business owners, but to a lesser extent in mature-stage businesses that were well-established

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Middle-market confidence levels

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CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. In terms of innovation, the research found that mid-market businesses: a) Didn’t see themselves as ‘innovative’ b) Wanted to be seen as ‘disruptors’ c) Relied heavily on white labelling d) Focused greatly on macro events 2. What did the research find regarding business confidence? a) Transition-stage business were on an upward trajectory b) Seed-stage businesses expressed trepidation c) Middle-market businesses saw their viability as separate to the economy d) Growth-stage businesses had plateaued

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Confidence in one’s business strength and future growth was stronger than that in the economy, be it at a national or global level. This pattern was consistent across Australian regions.

As mentioned, this research occurred before the summer bushfires and COVID-19 pandemic, events that have had varying degrees of impact on local businesses. It remains to be seen if these factors have impacted the confidence levels of middle-market business operators.

Finding balance A key mistake that mid-market business owners tend to make is not taking the time to discuss their business with like-minded leaders or advisers.

Moreover, the report found business owners often experienced professional loneliness. They believed their business required a full focus, leaving little time to make connections with leaders facing similar challenges.

Consider Support networks of like-minded people are critical. They provide a forum through which to share information, ideas, challenges and opportunities. Understandably, joining a ‘mastermind group’ or attending events can feel like another thing to add to an already

3. The report found that business owners often experienced: a) Frustration b) Uncertainty c) Professional loneliness d) All of the above 4. What did the research find in terms of HR and workplace dynamics? a) F amily-business members denied that the business adversely affected their dynamics b) Attracting and retaining the right staff was a major issue c) Family-business members were too candid with employees about the strains of running a business d) An unfounded belief by business owners that HR advice would be a cure-all 5. According to the research, mature-stage businesses were highly adept at entering new markets. a) True b) False 6. The research found the primary reason for mid-market operators starting a business was work-life balance. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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busy schedule, but making time to connect with other business owners can be energising, inspiring and offer fresh perspectives.

The research found the most commonly referenced emotions experienced by business owners and operators were frustration and uncertainty, much of which stemmed from navigating the red tape of government regulation and managing personnel within the organisation.

Look ahead and be opportunity ready To put a spin on Leo Tolstoy’s famous phrase, “All happy family businesses are alike; each unhappy family business is unhappy in its way.”

Recognising and addressing the dynamics between family and non-family members in business is crucial to maintaining success.

Family dynamics will play a part in influencing the culture and future of the company. So, if business owners do not clearly and candidly outline their culture, mission and values, employees will be left to ‘fill in the gaps’, often to a negative effect.

Maintaining harmony across family and non-family employees, while building a strategy to protect the legacy of the company for the next 10, 20, and 50 years is critical. Businesses should always be opportunity-ready and planning to lay the groundwork for generations of success. fs

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Philanthropy:

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Giving well by avoiding big mistakes

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By David Knowles, Koda Capital

How to set up a charity giving fund

By Dan Saunders, Sharrock Pitman Legal

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: Effective philanthropy is more than good intentions and idealistic pursuits. It’s about knowing oneself and being able to recognise traits and behaviours that can undermine how and why we give. This paper scrutinises some often deep-seated perceptions in this area.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Giving well by avoiding big mistakes

W David Knowles

hat do zombies, sunscreen and drones have to do with philanthropy? To find out, read this list of five mistakes to avoid if you want to give and give well.

Learning from and avoiding mistakes

Mistakes are valuable because we learn from them. This is as true when it comes to charitable giving as it is in other areas of life.

So, what has Koda Capital’s philanthropic advisory team and years of helping people give, learnt that might benefit someone looking to give and give well?

At a basic level, it is this.

To give well and enjoy giving you do not need to serve a 20-year apprenticeship or develop a Jedi-like ability to master complicated methodologies. You just need to avoid making some pretty common mistakes. If you can do this, you will not only give well, you will be more likely to stick at it long enough to become pretty good at it.

With that idea in mind, this paper presents the five main mistakes we have seen people make, in the hope that readers can avoid them.

1. Sunscreen philanthropy: Trying to cover everything You cannot fix everything, and sooner or later this will become ap-

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parent. There are not enough philanthropic dollars in the world to fix our social and environmental problems. So, as a general rule, it is best to focus on a need where you can make a real difference, even if that difference does not solve the problem entirely.

As with sunscreen, it is best not to spread yourself too thinly. It is tempting to try and give something to everyone. Don’t. Instead, spend more time working out what you really care about, what you can realistically achieve and then try a few different ways of doing it.

Test and learn. Testing need not be seen as a mistake – view it as deliberate learning, by trial and error.

Remember, you are not trying to find what works. If it was that simple, the approach would be laid out for you already. You are trying to find out what works for you.

Further, do not feel you have to do this alone. You can waste a lot of time, energy and money trying to reinvent the wheel. Find others (preferably wise others) who share your passion for philanthropy.

Learn, share and collaborate as much as possible. To find your tribe, start with collective giving groups like The Funding Network.

2. Teenage philanthropy: Assuming you know everything Teenage philanthropy involves believing that you can fix problems that everybody else has failed to solve. It also involves an assumption that you come to the practice of giving knowing all you need to know.

At its worst, it involves inflicting preconceived ideas on people who

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David Knowles, Koda Capital

feel the need to accept your world-view in order to secure much-needed funding.

The best philanthropists are usually the most openminded ones.

If we were to single out two of the biggest teenage philanthropy crimes, it would be selecting charities on the basis of their overhead ratios and attaching too many conditions to funding. Many people continue to talk about charities that spend money on administration rather than their purpose, as if the two were mutually exclusive. The problem is they are not. Administration can sometimes be a waste, but it can also underpin the difference an organisation makes in the community.

Selecting charities merely because they spend the least on administration is an unreliable and dangerous approach. As the Reverend Tim Costello said, “If my wife is ill, I won’t ring surgeries and ask about their overheads, I’ll ask about the survival rates of their patients.1” When it comes to imposing conditions, the danger is the risk of undue interference. A good remedy is to ask a charity what it needs most. They know, and if you cannot trust them to tell you, then you have to question why you are thinking of funding them at all.

Even seasoned givers look to adapt and learn. Dr John Baxter, chairman of the Percy Baxter Charitable Trust, has been practising philanthropy for decades. He said he is “always looking for great projects from quality organisations”.

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His son Chris Baxter added that: “Since 2017 our family has started taking what might be described as a more modern, data-driven approach.

We have updated our application forms to capture additional quantitative data so that we can make some calculations, and in some case inferences, about the impact, efficiency and risk of the project. These calculations also help to highlight any cognitive biases that might otherwise result in us making best endeavours but sub-optimal grant distributions. Using these calculations, we now have a second layer of information to assist us in making grant decisions that maximise social impact.”

3. Zombie philanthropy: Not thinking things through Something strange can happen when people start to give. It’s almost like they switch off the thought process that made them successful in life or business. Emotion and trust play such an important role in philanthropic decision-making that they can sometimes eclipse critical thinking. This is not what you want.

Good philanthropy requires good thinking. As a philanthropist, you are always trying to ask the right questions: • What do I really care about?

• How can I add value?

• Am I giving or investing?

• Do I want to be the fence at the top of the cliff or the ambulance at the bottom?

• Will intentions be matched by ability?

Knowles is a partner and head of philanthropy and social capital at Koda Capital.

He is responsible for Koda’s non-profit and philanthropic client business and the firm’s impact investing service.

Previously, he led philanthropic businesses at Perpetual and JBWere. He currently serves on several charity boards and advisory councils. He is a professionally qualified trustee with significant experience in establishing, managing, investing and distributing trusts and foundations.

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Philanthropy

These are deceptively simple questions where the value of the answers depends on the effort applied to obtain them.

If, like many, you favour strategic, outcomes-based philanthropy that measures impact, realise that measuring impact is actually hard and not always reliable. To use a saying often credited to Albert Einstein, “Not everything that counts can be counted, and not everything that can be counted counts.” And remember, someone has to pay for measurement. If not you, who?

The aim of all this thinking is to get to the point where you know what you want to achieve, why you want to achieve it, how you want to achieve it and how that approach will work in practice.

To get closer to this point, invest time and effort developing your own giving charter, to set out your very own giving philosophy.

The result of this kind of thinking can be seen in guidelines published by the English Family Foundation, which detail how the family uses the concept of ‘depth and span’ when making decisions about whom to support.

4. Cryptic philanthropy: Not being clear with those you support This is a tough one. Understandably, being open and transparent can leave people feeling a little exposed. But, really, if you are going to be fair to those who devote considerable time, energy and money trying to win your support, it is the only way to go. Too many funders leave charities guessing about their real aims, priorities and intentions. This often leads to mismatched

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expectations, disappointment and a waste of time and effort.

Ask yourself, would it be helpful to all involved to confirm simple things like whether you see your funding as a one-off, or whether your funding is conditional on certain outcomes being achieved? Would it help everyone to confirm in advance why you’re providing support? Is it, for example, the people, the place or the program that got you involved? Being clear at the start helps everybody proceed accordingly.

One area you might think about being clearer with is your attitude to risk. Many funders define themselves by the cause they care about. Few define themselves by the level of risk they are prepared to take with their funding. This makes it easy for charities to pitch themselves to you, but very difficult for them to know which funding opportunities to present. And that can make all the difference. Why leave them guessing?

Think about your funding in terms of risk appetite, and develop a risk appetite statement. Share this with prospective beneficiaries. Let them know whether you are interested in funding proven programs, innovative trials, or both. And instead of thinking just about what you will do, think about what you cannot, will not and do not do. Then work out how you might communicate your approach to people in need of your support.

Have a look at GlassPockets, a US-based initiative that encourages foundations to be more open in their communications. Closer to home, take a look at the R E Ross Trust for an example of a foundation trying to be clear about its approach to giving.

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5. Drone philanthropy: Not getting personally involved Drone philanthropy is the practice of solving somebody else’s problem from a distance by remote control. Not only is this approach to giving potentially dangerous and misguided, it is almost guaranteed to leave you feeling disconnected and disappointed.

To give really is to receive, and the warm glow of a cheque written soon wears off. The people we have known who have got the most satisfaction and enlightenment out of their philanthropic experience have been those who got down into the trenches and got their hands dirty. Volunteering, visiting, meeting real people – this is where it is at.

It is the intersection between money, intention and real life where the learning happens and the connection is made.

So, embrace the opportunity to get up-close and personal. Live your philanthropy. You will not regret it – at least not as much as you would regret doing it from a distance, with a grant application, via electronic bank transfer.

And think beyond yourself. If you have kids, think about getting them involved as early as possible. It can turn out to be a real investment in them, your family unit and the society they are going to be a part of. fs Notes 1. Griffin, M. ‘Lunch with Tim Costello’, The Sydney Morning Herald, 17 December 17 2011 [https://www.smh.com.au/entertainment/lunch-with--tim-costello20111215-1ovfj.html].

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CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. A client wishes to donate to as many social and environmental causes as possible. As an adviser, what would you suggest? a) Focus on where it could make a difference b) Avoid involving others, as this may lead to a lack of direction c) Trial and error is too cumbersome for such a high-level goal d) Ration resources so that everyone receives something 2. According to the author, the best philanthropists are usually: a) Strongly opinionated b) Open-minded c) Brave enough to set conditions d) Sceptical of charity administration costs 3. A funder may leave a charitable organisation due to: a) Lack of clarity on priorities b) Unclear direction c) Mismatched expectations d) All of the above 4. The practice of solving somebody else’s problem from distance is: a) Drone philanthropy b) Cryptic philanthropy c) Teenage philanthropy d) Zombie philanthropy 5. T he author believes that emotion and trust may eclipse critical thinking in philanthropic decision-making. a) True b) False 6. The author recommends outcomes-based philanthropy as the clearest way to quantify impact. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: Ancillary funds provide a link between people who want to give and recipient organisations. This paper explains the key differences between public and private ancillary funds, highlights their common features, and examines the establishment steps and regulatory obligations.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

How to set up a charity giving fund

A Dan Saunders

charity giving fund, also known as an ‘ancillary fund’, is a vehicle for public and private philanthropy. It is a type of charitable trust designed to provide an investment structure for philanthropic giving purposes. Simple and quick to set up, they offer tax deductions to donors and tax exemptions for income earned

by the fund.

This paper addresses the following questions: • What is an ancillary fund?

• What is the difference between a public and a private ancillary fund?

• Why establish a giving fund?

• What are the main features of an ancillary fund?

• What are the ongoing obligations?

• What steps are involved in setting up an ancillary fund?

What is an ancillary fund?

Ancillary funds are philanthropic ‘giving’ funds that provide a link between people who want to give (donors) and organisations (not other ancillary funds) that can receive tax-deductible donations as deductible gift recipients (DGRs).

An ancillary fund does not undertake charitable work itself, but can be used as a collection point or funnel to pool donations and

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then distribute them to other DGR charities and causes, as decided by the trustees.

There are two types of ancillary funds, namely: • Private ancillary funds • Public ancillary funds.

An ancillary fund is itself registered as a DGR, and so donors can receive a tax deduction for donations made to the fund. Further, ancillary funds will usually be registered with the Australian Charities and Not-for-profits Commission (ACNC) as a charity so they can be endorsed as income tax exempt by the Australian Taxation Office (ATO).

What is the difference between a public and a private ancillary fund?

In a basic sense, a private ancillary fund is used by family groups to undertake private philanthropy by pooling resources and distributing donations to chosen DGR organisations. Donors do not necessarily all need to be from the same family, but they usually share some form of common interest or close relationship. Private ancillary funds cannot solicit donations from the general public.

In contrast, a public ancillary fund is used for fundraising purposes to collect donations from the public.

There are other differences in establishment, administration and the required minimum annual distributions, which are set out in the following section.

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Dan Saunders, Sharrock Pitman Legal

Why establish a giving fund?

An ancillary fund, (that is, a giving foundation) may be suitable for those: • Wishing to establish a charity foundation that will keep on giving after their death.

• Wanting a structured way to involve their children or family in giving.

• Who have recently disposed of an asset and wish to obtain a tax deduction in the year of sale (however, keep in mind that once a gift is made to the trust it cannot be revoked).

• Wishing to devote a considerable amount of time and money to charity and philanthropy into the future.

• Who see themselves in a philanthropic, financial, supportive role rather than wanting to establish an organisation that provides charitable services or activities itself.

• Wanting to establish a tax-deductible vehicle for investing and accumulating assets for philanthropic and charitable purposes.

• Who are an organisation that wants to establish a public foundation for more efficient fundraising and to give to DGR entities connected to the organisation.

An ancillary fund is not necessary where someone is happy to give to charity on an ad hoc basis in response to requests or needs. There are costs in establishing and maintaining an ancillary fund (for instance, costs of auditor review of financial statements and the lodgement of an income tax return), so whether or not it is worthwhile establishing a fund usually depends on the amount being invested. We recommend an ancillary fund should start with around $500,000.

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What are the main features of an ancillary fund?

Ancillary funds have the following additional features and requirements: • The fund must have an Australian Business Number and be established and operated from Australia.

• The fund must comply with various rules and guidelines, have the required clauses in its trust deed and operate as a ‘not-for-profit’ entity.

• A public ancillary fund must invite the public to make donations, and the public must in fact contribute (this is not a requirement of private ancillary funds).

• The fund must meet what is known as the ‘minimum annual distribution’ requirements.

Generally, for a public ancillary fund, every year the fund must distribute at least 4% of the fund’s net assets (5% for a private ancillary fund). If the expenses of the fund are paid out of the fund, the fund must distribute at least $8,800 (or $11,000 for a private ancillary fund). Depending on the trust deed, no distribution is required during the year of establishment or the next four financial years.

• The fund must have its financial statements audited or reviewed each year (an audit is required if revenue and assets are less than $1 million).

• The fund must have a formal investment strategy.

Generally, public ancillary funds cannot borrow money, must maintain investments on an arm’s-length basis, and must not provide assistance to related parties or acquire assets from them (other than by way of gift).

• A private ancillary fund must have a corporate trustee,

Saunders is a lawyer in Sharrock Pitman Legal’s charity and not-for-profit team. He has worked for some of Australia’s top charity law firms and the Australian Charities and Not-for-profits Commission.

He has founded his own charity, and volunteered on numerous charity boards.

He advises NFPs, charities and philanthropists on all areas of establishment, constitutions, income tax exemption and tax deductibility, and provides guidance on best practice for governance, compliance, fundraising and reporting.

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CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. An ancillary fund: a) Does not undertake charitable work itself b) Is necessary for large ad hoc donations c) Can undertake charitable work itself d) Must distribute at least 8% of its net assets p.a.

2. A public ancillary fund: a) Cannot receive gifts from related parties b) Is unable to borrow money c) Does not require an Australian Business Number d) Need not apply to the ATO for DGR endorsement 3. A private ancillary fund: a) Is not required to have a formal investment strategy b) Allows a major donor to be the ‘responsible person’ c) Must have a corporate trustee, with at least one director as the ‘responsible person’ d) Must have a corporate trustee, with at least two directors as ‘responsible persons’ 4. Setting up an ancillary fund requires: a) Preparing and signing a trust deed b) Incorporating the trustee company with ASIC c) Choosing a name for the fund d) All of the above

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with at least one director meeting the ATO’s ‘responsible person’ test. This person cannot also be the founder or a major donor to the private ancillary fund.

For a public ancillary fund, a majority of directors of the corporate trustee must meet the responsible person test.

What are the ongoing obligations?

Private and public ancillary funds registered with the ACNC have ongoing obligations to both the ACNC and the ATO. These obligations include: • Notifying the ACNC of certain changes • Keeping records • Providing annual reports to the ACNC (by submitting an Annual Information Statement and financial reports where required) • Submitting audited or reviewed accounts and income tax returns to the ATO • Complying with the ACNC’s governance standards.

What steps are involved in setting up an ancillary fund?

There are six main steps for establishing an ancillary fund: 1. Choose whether one wants to establish a public or private ancillary fund.

2. Identify the individuals that will be ‘in control’ of the fund. These individuals will most likely become the directors of the trustee company. It is necessary to be sure that the founding directors meet the applicable responsible person requirements.

3. Choose a name for the fund. This could be one’s own surname (for a private fund) or the name of the organisation establishing the fund (for a public fund).

4. Incorporate a trustee company with the Australian Securities and Investments Commission.

5. Establish the ancillary fund by preparing and signing a trust deed.

6. Apply to the ACNC for registration as a charity (for income tax exemption) and to the ATO for DGR endorsement. fs

5. Donors can receive a tax deduction for donations to an ancillary fund. a) True b) False 6. Private ancillary funds can still solicit donations from the general public. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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Taxation & Estate Planning:

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Succession planning for private companies

By Peter Townsend, Townsends Business & Corporate Lawyers

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: A company director may assume that their chosen successor will take over when they pass away, however, this is not a given. Protecting a chosen appointee is complex, as there are many ways to stymie a director’s wishes. This paper sheds light on how to address this concern.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Succession planning for private companies or those wanting to ensure that a particular family member or a person they have specifically chosen becomes the director of a family company when the current director passes away, it can be a minefield.

You have a private company (that is, one with ‘Pty Ltd’ after its name). It might be the trustee of your family trust or your self-managed superannuation fund (SMSF) or it might simply be the company that operates your small business.

You are a director of the company. You might be the only director or your spouse or some of your kids or even your business partner might be the other director(s).

You control, or at the very least have a material say in the company through the shares in the company that you own because in a standard company constitution, the shareholders control the appointment and removal of directors.

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It might be someone you have chosen as part of your specific estate planning arrangements. Or it might just be that you want to protect your family and do not want your business partner to have complete control of the company after you have gone.

Whatever the reason, and there are many, you want that person to become the director in your place.

Seems easy enough? Actually, no. It is probably more complex than you would think.

The problem is that directorship and the right to be a director of a company is not ‘property’. It is not an ‘asset’, a thing that can be owned. It is an office to which a person is appointed rather than property which can be owned and transferred.

So, you can’t just say in your Will, “I give my directorship in my company to …” That is like saying, “I give my presidency of the Rotary Club to my son” or “I give my chairmanship of the P&C to my daughter”. There is nothing to give because these things are not property, and on your death you cease to hold those offices.

Directorships are not ‘property’

Company shares as protection

Now, let us suppose that you want a particular person to become the director of the company when you pass away. You may want to make your spouse a director of the company to protect their interests against attack by your children from an earlier marriage. Or you might want a particular child to take the directorship, again to protect them against being besieged by their siblings or half-siblings.

If you want to appoint your successor director, you have to work out firstly how to do that within the scope of the laws and rules that apply to the operation of companies and, second, how to ensure that the other shareholders and directors in the company will not undermine your wishes when the time comes.

The laws and the rules that apply are the easy part. The law is

Peter Townsend

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the Corporations Act 2001 (Corporations Act), and the rules are set out in the company’s constitution. It is those sources that you need to satisfy in protecting your chosen appointee.

The fundamental protection comes with the shares in the company. The constitutions of most private companies permit the shareholders to appoint the directors by majority vote (though this may not be the case if you have a shareholders’ agreement that says something to the contrary).

If you give your chosen appointee your shares, then they can vote those shares to appoint themselves. What rights they have then, as directors, is governed by a raft of laws, but is also dependent on what share of the directors’ vote they have at a board meeting. You will need to fully understand your strategy in appointing your ‘anointed’ person and be sure it is appropriate.

In the case of a one-director/one-shareholder company, things are a lot easier, though there are still things to consider.

In such a situation, you give the shares in that company to the person you want to become the director, and they vote the shares to appoint themselves as director.

Applications of Corporations Act section 201F

Further, section 201F of the Corporations Act is relevant here and, depending on the circumstances, could be either positive or negative. That section allows the executor of a deceased director in a one-director company to appoint the successor director, including themselves.

The section could work in your favour if the executor is doing what you wish. However, what if the executor is your spouse and you want them to appoint your son from your first marriage as the director? This could lead to problems.

The section 201F power would only be of any use if the shareholders of the company agreed to your appointment or were prevented from appointing someone else. It is therefore a good idea to ensure that you give the shares in the company to the person you want to appoint.

That way, you will not leave it up to others to decide what will happen to the shares and therefore the directorship of the company.

Companies with multiple directors and shareholders In companies where there is more than one director and more than one shareholder, things become more interesting.

Simple statements in the constitution of the company or the trust deeds of the family trust or the superannuation fund do not have the necessary power at law to ensure that the person you have chosen to take over your role as director will in fact be appointed.

For example, if you do not give that person a majority shareholding, then the remaining shareholder(s) can change the constitution to take out any such direction.

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Taxation & Estate Planning

Generally, this is the same with any trust deed, including a superannuation fund deed.

And in any case, the trust deed is the rule book for the trust or the fund. It does not have the power to deal with the corporate issues relating to the trustee any more than the constitution of the company can dictate the terms of any trust for which the company takes control. These are separate structures with different roles and separate constituent documents not capable of dealing with one another’s issues.

One solution that suggests itself is for the directors to pass a resolution now appointing the person you want to be a director, but delaying that appointment until your death. Although it looks good at first glance, it is dangerous because there is nothing to stop the directors from passing a different resolution later.

The law on boards of directors binding themselves in the future by passing irrevocable resolutions is scant indeed. However, it seems that boards are not able to do this because it could fetter their future and might jeopardise their ability to comply with their considerable statutory and common law directors’ duties.

Then there is the problem of what happens if the board changes in any way. Will the new director(s) have a different view and argue that they cannot be bound by a previous resolution?

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Peter Townsend, Townsends Business & Corporate Lawyers Townsend is principal of Townsends Business & Corporate Lawyers and managing director of self-managed superannuation compliance business, SuperCentral Pty Ltd. He has over 30 years of experience providing legal advice to businesses, accountants and participants in the wealth management industry. He is a regular commentator on legal issues relating to business, self-managed superannuation, estate planning and financial services.

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Steps to secure future wishes

CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. The fundamental protection for the appointment of a desired successor director comes from? a) Section 210F of the Corporations Act b) The company shares c) The executor d) Fellow directors 2. Bec’s private company has multiple directors and shareholders. What is a watertight way to appoint her chosen director successor? a) Use the company constitution to dictate terms b) Get the directors to pass a resolution now appointing the person Bec wants, but delayed until her death c) Rely on strong legal precedents for a binding and irrevocable resolution d) None of the above 3. Which of the following actions will help Zac ensure his chosen private-company successor director is appointed? a) Have his successor sign a consent to act as a director now b) Execute a deed saying that he will give effect to the appointment when the time comes c) Pass a self-directed resolution appointing his successor at the time of Zac’s death d) Ensure he pays the shareholders to pass a resolution to uphold his wishes 4. The executor of a deceased private company director: a) Can appoint themselves as a successor director in certain circumstances b) Must be a spouse to make any contrary decisions c) Cannot contravene the deceased director’s wishes d) Must have the shareholders’ endorsement

Although the idea of action now that binds the future may be fraught with danger, as long as you are careful and thorough in your arrangements, the following steps can help to achieve what you want.

First, amend your company’s constitution (via a shareholders’ meeting) permitting the passing of irrevocable resolutions by shareholders, giving only to your shares the power of appointment of your successor director and appointing your appointee (by name or description, for instance, ‘My first-born son’) as the successor to your board position. Do you need a substitute appointment in case the successor director is unavailable at the time?

Avoid the trap of later updating your company’s constitution by adopting a whole new constitution and not remembering the successor director clause. You may be able to cover this with wording that says the clause carries over into any new constitution, and any attempt to amend, revoke or delete it is invalid.

Ensure the successor director signs a consent to act as director in the appropriate form now. If the company is the trustee of an SMSF, ensure the successor director signs all the necessary Australian Taxation Office forms and declarations to become a director of an SMSF trustee, and is not a disqualified person.

In an SMSF context, a non-member can only be a director if there is no surviving member or if the non-member is a deceased member’s legal personal representative (executor) and is arranging for the deceased member’s death benefits to be paid out from the fund as soon as possible.

Second, pass a shareholders resolution appointing your appointee as a director of the company at the time of your death. Ensure the resolution is stated to be irrevocable without your consent, and which the right to consent dies with you (so your executor cannot consent to a change in order to stymie your appointment).

Third, if you can, have the other shareholders execute a deed declaring that they will give effect to your appointment when the time comes. They do not have to be paid or receive any benefit (what is called ‘consideration’) to bind themselves in a deed.

If shareholders change before the appointment takes place, you may need to renew the deed with the new shareholders.

This process is clearly cumbersome, but it may be the only way to have any chance of stopping the other shareholder directors from blocking or refusing to implement the appointment of your chosen successor for whatever reasons they may have. fs

5. Private company directorship is essentially an asset which can be owned and transferred. a) True b) False 6. In an SMSF context, a non-member can be a director even if there is a surviving member. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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Ethics & Governance:

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Combatting corporate crime

By Guy Humble, Tim Case and Peter Stokes, McCullough Robertson

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Directors’ duties and obligations when sole shareholders

By Chris McCaffery, Bartier Perry

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The debt cliff: Is your business prepared?

By Andrew Sallway and Shaun McKinnon, BDO

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: Bribery and corruption are white-collar crimes that court reputational damage, pecuniary sanctions and criminal prosecutions. If passed, pending legislation will greatly widen the scope of bribery and corruption activities for prosecution. This paper provides a heads up for organisations.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Combatting corporate crime Protecting your business against the consequences of bribery and corruption

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Guy Humble, Tim Case, and Peter Stokes

n 2 December 2019, the Crimes Legislation Amendment (Combatting Corporate Crime) Bill 2019 was introduced into the Senate by the federal government. If passed, the scope of bribery and corruption activities that may be captured and criminally prosecuted will be significantly extended.

‘White-collar’ crimes are fundamentally different to the popular conception of crimes and involve financially motivated and non-violent crime, typically relating to corporate and financial misconduct.

Bribery and corruption are two examples of so-called ‘white-collar’ crimes which can present significant risks to all organisations in Australia, ranging from not-for-profit organisations and small businesses, to government entities and listed companies. Reputational damage, substantial pecuniary sanctions and criminal prosecutions are all potential consequences where a ‘white-collar’ crime, such as bribery or corruption, is found to have occurred.

The law Under state and Commonwealth laws, bribery occurs when a person dishonestly or corruptly provides a benefit or advantage to: • Influence how a person exercises their office or duties, or

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• Induce a person to act in a particular way in relation to their business affairs.

A bribe can take many different forms, including gifts, loans, fees, kickbacks, rewards or reciprocal favours, and can even include donations.

Corruption, on the other hand, is the misuse of office, power or influence for private or personal gain.

In line with a global trend towards greater regulation and compliance, the legislative framework governing bribery and corruption in Australia has become much more strict and complex. Regulators are targeting companies, and companies are increasingly being held vicariously liable for the actions of their officers, employees and agents.

It is for that reason that many forward-thinking companies have started taking the necessary steps for mitigating the risk of bribery and corruption. The simplest way for a company to begin that process is to implement, or update, formal policies and procedures within the organisation which not only seek to prevent such conduct from occurring in the first place, but plan for and manage the process appropriately if it does occur.

When can a company be liable?

Under Commonwealth law, a company may be liable for the actions or conduct of its officers, employees and agents when that person is

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acting within the scope of their actual or apparent authority.

A company can also be held liable for a bribery or corruption offence if the board of directors, or certain senior officers within the organisation intentionally, knowingly or recklessly carry out the relevant conduct.

Further, it is sufficient, for the purposes of attributing liability to the company, if the conduct was expressly or impliedly authorised or permitted prior to the commission of the offence. To that end, there have been instances where companies have attracted liability on the basis of their corporate culture. That is, if the corporate culture encouraged or tolerated the non-compliance, or if the company failed to create and maintain a corporate culture that required compliance with anti-bribery or corruption laws.

Directors of a company in which bribery or corrupt conduct occurs may face criminal liability in their personal capacity if it can be proven that they aided, abetted, counselled or procured the bribery or corruption.

Alternatively, failing to prevent such conduct occurring can also expose directors to liability, as that failure may be found to be in breach of a number of their statutory duties under the Corporations Act 2001 (Corporations Act), including failing to exercise care and diligence, or failing to exercise their duties in good faith and for a proper purpose.

What are the potential penalties?

Unsurprisingly, the penalties for bribery and corruption offences are significant.

Under Commonwealth law, corporate entities may be liable for fines of up to $21 million per offence, or three times the value of the benefit gained. If the precise benefit cannot be quantified, it may be the greater of $21 million or 10% of the company’s annual turnover.

An individual can face imprisonment for up to 10 years, or a fine of up to $2.1 million.

Additionally, the maximum civil penalties for a breach of statutory duties under the Corporations Act for company directors were recently increased from $200,000 to $1.05 million, or three times the benefit derived by the individual as a result of the contravention. In extreme cases, where the offending conduct involves recklessness or dishonesty, offences under this Act may also attract criminal liability which can result in directors facing imprisonment for a period of up to 15 years.

Penalties under state and territory laws for bribery and corruption offences are also substantial, and prosecutions under these provisions regularly result in significant financial penalties and imprisonment for company officers.

High-profile bribery, corruption cases Businesses, local governments and unions are frequently plagued by the consequences of bribery and corruption.

With regard to bribery, warnings for companies and their directors and officers can be found in the series of high-profile cases in which Note Printing Australia Ltd, a wholly-owned company of the Reserve Bank of Aus-

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tralia (RBA), and Securency International Pty Ltd (Securency) pleaded guilty to charges of conspiring to bribe foreign public officials.

Both companies were found to have engaged foreign agents who made payments to members of reserve banks in Malaysia, Indonesia and Vietnam in an attempt to secure contracts to supply bank notes. They received substantial penalties of over $2 million and $20 million respectively. Several individuals, including the chief executive and chief financial officer of Securency, were also convicted of criminal offences and given suspended prison sentences.

The case of Elomar v R [2018] NSWCCA 224 further demonstrates that Australian courts will not shy away from imposing custodial sentences for bribery and corruption offences. In this case, two directors of Lifese Pty Ltd engaged a consultant to assist with establishing the business in Iraq. The consultant convinced the directors to make a payment to foreign public officials in Iraq in an attempt to secure government infrastructure contracts. Notwithstanding their guilty pleas, both directors received a prison sentence of three years and four months with minimum non-parole periods, and fines of $250,000.

With regard to corruption, many readers will be aware of the recent controversies surrounding Ipswich City Council (Council). ‘Operation Windage’, the Queensland Crime and Corruption Commission’s investigation into alleged corruption in the Council, resulted in a total of 91 criminal charges against 16 individuals (including two former mayors and two former chief executives).

So far, convictions from Operation Windage include that of former mayor Paul Pisasale, who was sentenced to two years’ imprisonment in July 2019. The severity of the corruption in that case prompted the Queensland Government to remove the Council from office in August 2019 and appoint an administrator on an interim basis until the 2020 local government elections.

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Guy Humble, McCullough Robertson Humble is the head of McCullough Robertson’s litigation and dispute resolution practice.

Tim Case, McCullough Robertson Case is a partner in McCullough Robertson’s litigation and dispute resolution group.

Other considerations Businesses may also need to consider the impact of such conduct on their taxation and audit reporting obligations.

For example, if a business discovers that an employee has given a bribe to an external party, care needs to be taken to ensure that the business has not itself inappropriately claimed the payment as a deduction in its accounts for the purposes of reporting to the Australian Taxation Office. In addition, corrections may be required to annual reporting documents lodged with the Australian Securities and Investments Commission (ASIC).

Corrupt conduct may also give rise to liability under an array of other legislation. By way of example, bribery and corruption offences can fall within the ambit of the anti-money laundering and proceeds of crime legislation, or even the market-sharing and price-fixing provisions of the Competition and Consumer Act 2010.

Peter Stokes, McCullough Robertson Stokes is a partner, practising in commercial litigation and dispute resolution.

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Minimising the risk

CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. Jo needs to ‘win’ a tender, and makes it known that her company will be donating to the tender issuer’s favourite charity. Which of the following statements is most correct? a) It will not be seen as a bribe because neither party is making a monetary gain b) It will not be seen as a bribe because it is a donation c) It could be seen as an inducement to act in a certain way, and therefore a bribe d) It could be seen as having less influence than a gift, so probably not a bribe 2. What does the commentary say about corporate culture and the law? a) It is an ethical issue, not a legal one b) It is a compliance issue for which a company may be liable c) Its positive aspects are welcome, but it is too subjective to regulate d) It is confined to civil liability 3. Cy misuses his position as a political candidate for personal gain. How will the proposed corporate crime legislation view this? a) His behaviour is outside the spirit of the law, but not illegal b) He did not obtain a business advantage, so cannot be prosecuted c) He is not a public official, so is immune from prosecution d) He may now be subject to criminal prosecution 4. Di hires a consultant to help her do business overseas.

They advise her that paying decision-makers is ‘expected’.

What does Australian case law say about this? a) If convicted, Di in all likelihood would be prosecuted b) If such behaviour is a cultural norm, Di is acting legitimately c) Di should rely on her moral compass to make the best decision d) Though illegal, she cannot be prosecuted in Australia 5. A company’s senior executives’ belief in a zero tolerance approach to bribery and corruption will not meet regulatory obligations on its own. a) True b) False

In the current regulatory environment, it is crucial for businesses to establish and maintain a corporate culture that requires compliance with bribery and anti-corruption laws. A formal anti-bribery and corruption policy is an important first step in communicating a company’s attitude to bribery and corruption.

While senior executives may believe that their organisation has a zero tolerance approach to bribery and corruption, the lack of a policy, or even an inadequate policy, may be taken into account when a court determines whether a company is responsible for the actions of its officers, employees and agents.

Certain organisations are also obliged to implement a whistleblowing policy (that is, a policy providing for protection for employees who make anonymous disclosures about illegal or unethical conduct). The federal government has enacted legislation that required public corporations, large proprietary corporations, and proprietary corporations that are trustees of registrable superannuation entities, to have had in place a whistleblower policy by no later than 1 January 2020.

Crimes Legislation Amendment (Combatting Corporate Crime) Bill 2019 In line with the prevailing unforgiving attitude towards corporate crime, the Crimes Legislation Amendment (Combatting Corporate Crime) Bill 2019 was introduced into the Senate on 2 December 2019. It is still under consideration [at the time of writing]. If passed, the scope of bribery and corruption activities that may be captured and criminally prosecuted will be significantly extended.

For instance: • A new offence will be created whereby the only way for a body corporate to escape liability for failing to prevent foreign bribery by an officer, employee, agent or contractor will be to prove it had adequate procedures in place to prevent the bribery (yet another reason to ensure corporate housekeeping is up-to-date).

• The bill will extend a number of definitions and remove or change certain requirements in the Criminal Code (extending the definition of public official to include candidates for office, as well as those already in power).

• Obtaining of a personal advantage, rather than a business advantage, may also now be subject to criminal liability in this space.

Perhaps the only ‘forgiving’ amendment in the Bill is the creation of a regime in which companies are afforded the opportunity of avoiding prosecution for a serious corporate crime via entry into a ‘deferred prosecution agreement’ (DPA) with the Commonwealth Director of Public Prosecutions in which the company, among other things, must make appropriate financial restitution. However, subsequent prosecution will not be prevented if the company breaches the DPA. fs

6. Company liability is based on employees and agents acting outside their actual or apparent authority. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: The much-publicised case against Storm Financial found that directors’ duties are not necessarily diluted if they are a company’s sole shareholders. However, it appears this issue is not clear cut, even though many clients suffered substantial losses.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Directors' duties and obligations when sole shareholders

O Chris McCaffery

ne of the core obligations which exist in company law concerns the duties which directors have to their companies. These duties arise both out of the general law and legislation.

Section 180(1) of the Corporations Act 2001 (Corporations Act) requires a director to act with reasonable care and diligence. There has for some time been legal conjecture as to the extent of this ‘care and diligence’ in the circumstance where the directors are the sole shareholders of the company.

The recent decision of the Full Federal Court in Cassimatis v Australian Securities and Investments Commission [2020] FCAFC 52 appears to be authority for the proposition that, even where the directors are the company’s sole shareholders, the directors will still have obligations pursuant to section 180(1) of care and diligence towards the company.

This decision is significant, in that it suggests that the duties imposed upon directors by section 180(1) will not necessarily be diluted by the fact that the directors are the sole shareholders of the company. This will particularly be so where directors’ actions cause the company to act illegally.

The facts of the case and the judgment are set out in the following sections of this paper. It will be seen that, given the clear dissent on

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the issue from one of the three judges, Justice Rares, it is very possible that the issue is not completely resolved.

The issue may await further determination by the High Court.

Facts The case arose out of the collapse in 2008 of Storm Financial. The Storm Financial “model” involved investors borrowing against their assets, and investing the borrowings in various financial derivatives, being principally Storm Financial indexed trusts.

Many of the investors following the Storm Financial model were people over 50 years old, retired or approaching retirement, had little or limited income and few assets, and had little or no prospect of rebuilding their financial position in the event of suffering significant loss.

When the global financial crisis (GFC) occurred, the Storm Financial group collapsed and many investors, particularly those who were not financially sophisticated, sustained significant losses.

The Australian Securities and Investments Commission (ASIC) prosecuted Storm Financial pursuant to the provisions in the then section 945A of the Corporations Act, claiming that Storm Financial had failed to provide appropriate financial advice to its investors, in that it had failed to: a) determine the personal relevant circumstances of its clients b) investigate the information provided to it by the clients c) ensure that, in the light of such information provided to it, by its investors, it gave advice to the clients which was financially appropriate.

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Chris McCaffery, Bartier Perry McCaffery is a special counsel at Bartier Perry and has over 40 years’ experience in corporate and commercial law.

He provides advice on compliance and governance, directors’ duties, shareholder relations, corporate reorganisation, commercial agreements, mergers and acquisitions, sale of companies, trusts, and succession planning for families and businesses.

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Storm Financial was duly convicted of breaching section 945A, and with the advent of the great financial crash subsequently went into liquidation. The trial judge found that a reasonable director in the position of Mr Emmanuel Cassimatis and Mrs Julie Cassimatis, would have realised that the application of the Storm Financial model to the circumstances of very unsophisticated investors was likely to involve inappropriate advice. They, as directors, should have taken some alleviating precautions to prevent the giving of that inappropriate advice.

In addition, however, to prosecuting the company, ASIC also prosecuted the two directors of Storm Financial, being Emmanuel Cassimatis and Julie Cassimatis, who were also its sole shareholders, for breach of their duties of care and diligence under section 180(1) of the Corporations Act. In their defence, Mr and Mrs Cassimatis pleaded that they were the sole shareholders of Storm Financial, and that their personal interests therefore were virtually identical with those of the company. It followed by implication that any actions by them as directors could prejudice only their own interests in the company, and that therefore, even though their actions may have caused Storm Financial to be in breach of section 945A, this did not necessarily mean that they personally had breached their duties of care and diligence prescribed by section 180(1).

In the primary proceedings, Justice Edelman (as he then was) noted the complete control which Mr and Mrs Cassimatis had over every aspect of the operations of Storm Financial, including devising the Storm Financial model for client investment.

He further noted that the contraventions by the company of section 945A of the Corporations Act represented a criminal offence. He found that by their actions in controlling the way Storm Financial operated (particularly with regard to the way unsophisticated investors were left exposed to significant financial detriment), they had breached the required directors’ duty of care and diligence mandated by section180(1).

Mr and Mrs Cassimatis appealed to the Full Federal Court.

Judgment In a split decision of the Full Federal Court, the appeal was dismissed. The court found that by permitting Storm Financial to breach section 945A of the Corporations Act, Mr and Mrs Cassimatis had themselves breached section 180(1).

The plurality of the judges (Justices Greenwood and Thawley) found that section 180(1) operated in addition to, and not in derogation of, any similar rule in common law or equity; it imposes on directors specific duties in a multitude of instances.

Significantly, the majority judges found that the fact that the subject directors were the sole shareholders of the company did not preclude them from being guilty of breaching section 180(1).

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CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. Section 180(1) requires directors to exercise their powers and discharge their duties: a) With care and diligence to the company b) With care and diligence to sole shareholders c) In a manner appropriate to their clients d) With the right degree of business acumen 2. ASIC’s case against Storm Financial was based on the company failing to: a) Determine its clients’ relevant personal circumstances b) Investigate the information provided to it by the clients c) Ensure the advice to its clients was financially appropriate d) All of the above

Justice Thawley in particular emphasised that a company’s interests are not exclusively those of its shareholders. Even where there might be complete identity of interests between the directors and its shareholders, the interests of both are not necessarily identical. Fundamentally, he found that shareholders cannot release directors from statutory duties such as those imposed by section 180(1).

His Honour quoted and affirmed the remarks made by the primary judge, that a reasonable director in the position of Mr and Mrs Cassimatis would have known that the Storm investment model was being applied to vulnerable clients virtually on “a one size fits all” basis, and that these clients were being given inappropriate financial advice. It would have been clear to any reasonable director that the consequences of that inappropriate advice would be “catastrophic” for Storm Financial, and for the investors in the event of a financial crisis like the GFC. Directly or indirectly, the model and the consequent breach of section 945A of the Corporations Act caused Storm Financial to lose its Australian financial services (AFS) licence and to go into liquidation. The further consequence was that some vulnerable clients lost all their investments and were left with large debts.

Interestingly, in his minority judgment, Justice Rares found that the conduct of Mr and Mrs Cassimatis did not constitute a breach of section 180(1), even though they were responsible for Storm Financial’s contraventions of section 945A. He was not satisfied that a reasonable director, in their position and in all the circumstances, came under a duty pursuant to section 180(1) to prevent those contraventions.

It was not the case that such a reasonable director should have seen that the consequences of the financial advice given to vulnerable investors would be catastrophic for Storm Financial and for the investors. He did not believe that directors in that position should have perceived a risk that the company’s conduct would prompt ASIC to take action to suspend or cancel Storm’s AFS licence or to impose a banning order. fs

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3. What defence did Mr and Mrs Cassimatis use against their prosecution? a) Their duties as directors were diluted because they were company shareholders b) Their personal interests were virtually identical with the company’s c) They did not breach section 945(A) as their advice was general d) All their investors were sophisticated enough to understand the risks 4. In the appeal case, the minority judgment found that: a) Sections 180(1) and 945A are always mutually breached by default b) Company interests are exclusively those of its shareholders c) Company and shareholder interests need not be identical d) Mr and Mrs Cassimatis were gridlocked when they lost their AFS licence 5. T he appeal decision was unanimous that Mr and Mrs Cassimatis, as directors, should have known that their conduct would result in action by ASIC. a) True b) False 6. The Federal Court decisions found that it is unethical to have company directors who are also sole shareholders. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: The easing of government support measures for businesses contending with the effects of COVID-19 will place the economy at the peak of a debt cliff. This paper suggests ways to manage the impending impact and speculates on how businesses will fare along the way.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

The debt cliff Is your business prepared?

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Andrew Sallway and Shaun McKinnon

undamental changes to the Australian business environment in a short period as a result of the coronavirus (COVID-19) pandemic are clearly evident, with many business owners asking what’s next.

COVID-19 has resulted in a great deal of uncertainty. Depending on geographic location, businesses have had to remain agile in their response. After nationwide lockdowns in March, we saw an easing of restrictions by June, only to see a new and even more rigid lockdown for Victoria in July when a second wave of COVID-19 infections impacted the state.

The situation around the rest of the nation has been mixed, with several localised clusters emerging in New South Wales and Queensland which have so far been contained. Nevertheless, restrictions on free movement and pre-COVID-19 economic and social activity remain in many parts of the country.

Globally, we have seen the situation escalate, with Europe experiencing a third wave in many geographic regions, with France and the UK recently re-entering lockdown situations. While COVID-19 remains active globally and nationally, it is difficult to determine what will happen next. With this, it is evident that for businesses, risk will remain for some time – especially within high-risk industries.

The sudden change to the business environment in March and then again in July for Victoria, does not quite work in reverse. With

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restrictions being eased, green shoots began to appear as businesses started reopening. However, as indicated by the disastrous outbreak in Victoria and ongoing uncertainty in New South Wales, a return to normal may be further away than once thought. We will likely see sluggish economic activity as a result of the current recession, coinciding with the concern surrounding the second or even potential third wave of infections.

As many relief packages – both public and private – were originally planned to end in September, there was a growing concern that without a transition plan, many Australian businesses deferring payments would face a ‘debt (or fiscal) cliff’ and, if unprepared, would not survive.

As a result, on 21 July 2020, the federal government (government) announced the extension of the JobKeeper relief packages until 28 March 2021 for eligible businesses, with JobSeeker also being extended to 31 December 2020 [Editorial note: this has since been extended to 31 March 2021. BDO last updated this paper at 26 October 2020]. With this extension, eligible businesses will see their ‘debt cliff’ pushed to March 2021.

However, in light of the worsening situation in Victoria, on 7 August 2020 the Federal Treasurer (Treasurer) announced the easing of the tougher eligibility rules for the second phase of the JobKeeper scheme.

Now, employers will only have to demonstrate a reduction in turnover in the quarters ending in September and December 2020.

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From 3 August 2020, the test date of employment moved from 1 March 2020 to 1 July 2020.

Further, on 7 September 2020, the Treasurer extended the ‘safe harbour’ protections for directors from insolvent trading to 31 December 2020 (previously expiring 30 September). At the same time as extending the safe harbour protections, the Treasurer announced radical changes to Australia’s insolvency and restructuring laws, due to take effect from 1 January 2021 (the day safe harbour protections expire).

In addition to the above measures, banks initially gave borrowers the ability to take a six-month holiday from repayments. Various legislative provisions passed by the states in accordance with the government’s Code of Conduct for Commercial Tenancies gave tenants relief from paying the full value of rent for up to six months or more in some instances.

These support measures began expiring from September, with many borrowers and commercial tenants having started to repay loans and leases again at normal rates as early as October 2020.

Therefore, we now have a three-tiered ‘cliff’ emerging as follows: 1. October 2020: Repayment of loans and leases recommenced and JobKeeper reduced or expired for many businesses.

2. January 2021: Expiry of the safe harbour protection for directors from insolvent trading (and implementation of new restructuring laws) while JobKeeper payments further reduce.

3. April 2021: JobKeeper expiry.

While it is true that directors need to be planning for the here and now, they must also plan to deal with their accrued debts and assess whether they will make it past the tiered debt cliff. As mentioned, although the JobKeeper and JobSeeker schemes and safe harbour protections have been extended, the safe harbour for directors is set to expire on 1 January 2021. Therefore, it is critical that businesses are checking their solvency to prevent directors from being held personally liable in a breach of their duty to prevent insolvent trading.

Over the past few months, many businesses have gone from panic to information overload to an understanding of how they will make it through COVID-19. Yet, while businesses have begun to acclimatise, many are not thinking too far into the future.

This paper provides a recap on what has happened, analyses the impending debt cliff, and encourages businesses to rethink a way forward to come out the other side.

A quick recap It’s important to understand what has happened so as to understand what is coming.

1. The panic phase: 12 March to 22 March

As COVID-19 cases started growing, the government responded by enacting social distancing measures, restricting the movement of its citizens and enforcing closures of certain businesses.

As this unfolded, the response from our clients and businesses generally was of concern and even contained a

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Andrew Sallway Sallway is a partner, business restructuring at BDO He has over 20 years’ advisory experience, and is a regular presenter on technical accounting and insolvency topics. He assists financially distressed businesses with operational, restructuring and turnaround issues.

Shaun McKinnon McKinnon is an advisory partner at BDO, specialising in corporate finance and restructuring services. His experience ranges from business acquisitions, divestments and private capital raisings, to turnaround and restructuring advice, to the agribusiness and food sectors.

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hint of panic. By mid-March, our clients started to see revenues falling and many businesses were forced to close. The rising cases of COVID-19, the rapid slowdown in economic activity and uncertainty of the situation was causing a lot of concern. This was reflected on the Australian Securities Exchange, with the All Ordinaries bottoming in March (after a peak only a month earlier).

At this time, we were advising our partners and clients on the use of the safe harbour, risks of insolvent trading and restructuring options. There was genuine concern for the solvency of many clients and contacts with whom we spoke. Those in tourism, retail, hospitality, sports, entertainment, hotels, accommodation and education were most impacted.

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revenue. Businesses went from panic to a holding stage with cautious optimism as new measures were explained. The discussions we were having around safe harbour and insolvency were no longer critical, with the announcement of the suspension of insolvency laws until September.

During this time, our conversations were around understanding support measures, encouraging clients to build cashflows and understand their runway [the amount of time a business can remain solvent]. As more measures were announced and understood, many businesses came back from the brink – but only in terms of shortterm cashflow.

3. The realisation phase: 28 April

2. The information overload phase: 22 March to 7 April

As COVID-19 cases were rising and the economic impacts were rapidly emerging, the government (and other stakeholders) announced new support measures almost every other day. We were beginning to see the evidence the pandemic was having on trading

As the government announced plans to ease restrictions, and government and other stakeholder support measures now released, some businesses were starting to see revenues stabilise and new norms understood – with the ability to now comprehend and forecast for the immediate future.

This was the first time businesses were able to forecast with some level of confidence since COVID-19 swept Australia. Most businesses were able to trade through on a cashflow basis for six months because of liability deferrals and JobKeeper assistance. However, there were exceptions, with COVID-19 being the impetus for corporate collapses, seeing business failures including Virgin, Tigerlily, Techfront, and Colette, which all went into voluntary administration.

4. Up to mid-year fiscal update: 21 July

The government announced that economic support packages (JobKeeper, JobSeeker) would continue past the originally planned end date of 28 September2020, albeit with newly determined rates and eligibility requirements for applicants.

Shortly afterwards on 7 September, the government announced an extension of the safe harbour protections from insolvent trading for directors to 31 December 2020 with the intent that new restructuring laws would commence from 1 January 2021. (These new laws have not yet been finalised.)

A debt cliff coming 5. The next phase: 28 September 2020 to March 2021

With public and private institutions pumping money into businesses and households to reduce the financial impact of COVID-19, many businesses have found they can carry on. However, with the recent extension and adjustments to the economic relief packages currently available to businesses, it is important to stay informed of these changes to avoid unfavourable surprises.

As of 7 August 2020, the eligibility requirements for the JobKeeper payment were as follows: • From 28 September 2020 to 3 January 2021, employers must reassess their eligibility with reference to actual goods and services tax (GST) turnover in the September quarter 2020 compared with the actual GST in the September quarter in 2019.

• From 4 January 2021 to 28 March 2021, reassessment of eligibility will be in reference to actual GST turnover in the December quarter 2020 compared with the actual GST in the December quarter in 2019.

• Employers no longer need to show a relevant decline in turnover in the June and September 2020 quarters.

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In addition to the above, the date of employment has also been expanded. From 3 August 2020, the relevant date of employment will move from 1 March 2020 to 1 July 2020. Other conditions for eligibility have not changed.

Some economists believe that Australia is in a position to be government-supported through a long, slow recovery, stating that a sudden cessation to government support could be detrimental to the economy.

At the same time, business debts are ballooning. Debts such as Australian Taxation Office debt, rent, payroll tax and loan repayments have continued to accrue during 2020, as many businesses were given payment holidays but not permanent debt relief from these liabilities.

There is a security blanket that is slowly being removed (from October to March) as this economic relief ceases – can all businesses trade out to the other side?

What other factors will impact recovery?

At the peak of the debt cliff are the various economic scenarios that are interdependent to Australia’s recovery. These include: • Consumer behaviour • The recession • The health and safety of the population • The risk of further ‘waves’ as seen in other countries and the resultant shutdowns to all, or parts of, industry and community.

Such an economic scenario has already occurred in Victoria as positive case numbers increase drastically. Victoria accounts for around 25% of Australia’s gross domestic product (GDP) and employment. The lockdown that came into force from midnight 8 July 2020 is estimated to have wiped out $6 billion in third-quarter national GDP. The lockdown is also likely to cripple consumer spending and be the final ‘nail in the coffin’ for many small businesses – both of which will further add to the deterioration of Australia’s economic prospects.

With Australia now in its first recession for 29 years, we are seeing higher unemployment rates – it is predicted these figures will increase before sitting at around 7%. We saw house prices initially decrease. This, coupled with COVID-19 concerns, will likely drive lower consumer spending and economic activity.

While the threat of COVID-19 remains in the community, there is also a material risk for individual businesses. For specific businesses that require close person-to-person contact – such as manufacturing, real estate and construction – extra precautions to keep people safe will impact efficiency, but limit the risk of more shutdowns.

For businesses, there may be periodic shutdowns if cases occur among staff, or clusters emerge in the local community. Worse still, if a second or third wave community outbreak were to occur – as seen in Victoria – it is likely to result in a ‘w’ shaped economy return, rather than a ‘v’.

These considerations need to be factored into scenario plans alongside the debt cliff.

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Table 1. How various industries have fared

Low risk: industries which have benefited

Medium risk: impacted but expected to bounce back in reasonable time

• F ood and essentials: Grocery stores, convenience stores, bakeries, bottle shops and newsagents

• H ealthcare: Medical, physiotherapy, etc.

•S tationery and electronics: Working from home requirements, home entertainment

• Professional services

•M edical supplies: Pharmacies and personal protective equipment providers •O utdoors and fitness (i.e. bike shops) • O nline service delivery models:Food, clothing, etc.

• L andlords (although some pain will come)

High risk: longer-term issues expected

• Retail • Hospitality: Pubs, clubs restaurants or businesses that support them • Entertainment: Cinemas, concerts, music, and theatre venues • Tourism operators • Hotels and short-term accommodation • Transport: Airlines, buses, taxis, etc.

• Education • Property and construction

• Logistics

Source: BDO Australia

An industry perspective It is expected that while the shutdowns caused widespread pain for many industries, others have fared better. Table 1 looks at industries which have benefited, those which will bounce back and those at most risk of longer-term pain.

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Rethink: Preparing for the debt cliff

CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. Which of the following are debt-cliff tiers? a) End of loan repayment holidays b) JobKeeper expiry c) Director’s safe harbour expiry d) All of the above 2. According to data cited, which industry has done well during COVID-19? a) Education b) Property c) Retail d) Logistics 3. What factors do the authors think will affect recovery from the debt cliff? a) Complacency over further COVID-19 waves b) Consumer behaviour c) Overconfidence that the recession can be readily overcome d) Government timidity 4. What do the authors suggest to help businesses ride out the debt cliff? a) Engage with stakeholders once ‘the dust has settled’ b) Assess macro, rather than micro, impacts c) Check solvency/directors’ duties d) Avoid ‘chopping and changing’ business models 5. The authors found that in the COVID-19 environment, many businesses are not thinking too far into the future. a) True b) False 6. The authors believe a COVD-19 third wave would likely see a w-shaped recovery. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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Businesses need to be planning now for the debt cliff and looking ahead to profitability or solvency once support measures expire. It is also important to consider the other factors impacting recovery. This will mean a rethink on the way businesses do business.

There are several considerations businesses should be looking at to avoid falling from the debt cliff, including: • Considering if the business will be able to access the JobKeeper program in future periods, with eligibility continually assessed along the extend two quarters • Undertaking cash-flow modelling for the next 8 to 9 months • Structuring the business for when stimulus packages end • Testing the business for solvency and the implications for directors’ duties • Examining availability of other related cash flow stimulus measures • Considering other actions beyond stimulus, such as: • The rental mandatory code of conduct relief measures • Banking relief measures.

The top five things that can be done now Businesses must look at strategies that will see them through, some of which are as follows: 1. Accept and understand the debt cliff and begin pre-planning. Some businesses will fail if they are not planning for the repayment of their deferred liabilities.

2. Engage with stakeholders early and assess options. Stakeholders are more receptive to early intervention over late intervention and will look more favourably on businesses which take action early.

3. Constantly review business models. As we move forward, some businesses will need to restructure to survive.

4. Continually assess macro and micro impacts. This aspect is critical, as there is still a high level of uncertainty. This includes the global impact which has the ability to affect local businesses.

5. Check solvency/directors’ duties. With the cessation of the temporary safe harbour for directors’ duties to prevent insolvent trading set to occur on 31 December 2020, it is critical that businesses check their solvency to avoid the risk of directors being held personally liable for breaches of duty.

With the extension of relief measures, there is newfound hope in the business environment. To ensure businesses put themselves in the best position beyond recovery, it is important they plan beyond the debt cliff, be it September 2020, December 2020 or March 2021, depending on eligibility. fs

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Bonded to a benchmark: Why an active fixed income approach may pay off

By Justin Tyler, Daintree Capital

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: Using benchmarks to gauge performance may be problematic in fixed income investing. This paper argues that benchmarks are flawed constructs, suggests ways for investors to counter tracking issues, and examines fund manager motivations and investor expectations in this area.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Bonded to a benchmark?

Why an active approach to fixed income may pay off

B Justin Tyler

enchmarks are commonly used to measure performance. However, this paper explains why this approach may be problematic in fixed income investing and how to track performance and find returns when investing in bonds.

Does indexing work?

The investment industry has many ways of defining success. However, outperforming a given benchmark is widely considered a key indicator.

In fixed income, the Bloomberg Barclays Global-Aggregate Total Return Index is one such benchmark. It contains a wide variety of bonds including those issued by governments, sovereign agencies and municipalities, and corporates. Each bond is weighted by its size, which means the largest bond issuers are those with the largest index representation.

Passively tracking the benchmark in fixed income means investing in the largest issuers, which may expose investors to unnecessary risks. In terms of the country of risk grouping in the Bloomberg Barclays Global-Aggregate Total Return Index, the US and Japan, two of the largest issuers of sovereign bonds, are predominant.

There are several issues with taking a passive approach to fixed income investing and using the benchmark to define success, and investors need to be aware of the following when tracking an index.

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Issue 1: Outsized investments in the largest issuers of debt

This is an important flaw of benchmarks in the fixed income universe.

An entity issuing a bond is, all else being equal, increasing its debt. The more bonds that a company or other bond issuer has outstanding, the greater the representation that issuer will have in the index.

Investors who follow fixed income benchmarks are often compelled to invest ever greater amounts of money in the bonds of issuers with large amounts of debt already outstanding, eschewing more attractive risk-adjusted expected returns elsewhere.

This clearly fails the common-sense test. In fact, the optimal approach to fixed income investing leads to the exact opposite situation, whereby investors allocate more cautiously to entities with more debt outstanding. Why? There are two main reasons that are best illustrated by comparing bonds to equities: 1. An equity manager may be rewarded for a concentrated position in a few stocks. A bond manager will not. In fixed income, upside returns beyond the income expected at the initiation of the investment are limited.

2. Both equity and bond investors face the total loss of capital in the event that something goes wrong.

Given the asymmetric risk profile of bonds, it makes no sense to make large, concentrated bond investments. There is simply no likelihood of this sort of substantial upside performance that might justify an investor taking this sort of risk. This is particularly the case where credit risk is heightened because an issuer already has a lot of debt outstanding.

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Issue 2: Opportunity costs

There is a huge diversity of issuers in the bond market for investors who are sufficiently resourced and incentivised to look for good risk-adjusted returns. This illustrates another problem with indices in bond markets. That is, indices have become less representative of the rich opportunity set available because increasingly they have become dominated by the issuance of large bond issuers, like governments. There is no single index that does a reasonable job of representing the very large investable universe, both locally and offshore.

Investors who use benchmark-focused approaches are suffering a meaningful opportunity cost. The index dictates investment decisions that should be dictated by careful research of whether risks are being adequately compensated.

Issue 3: Timing of investment

Bonds will typically be issued when an issuer considers the cost of doing so to be low. Lower cost issuance means lower expected returns for investors. When investors bid up the price of some new issues because of likely inclusion in an index, expected returns are reduced further.

Once a bond enters a benchmark index, this cycle of perverse behaviour can continue. Consider what an investor should do if a bond increases in price by more than similar bonds. Given the earlier comments about the significant breadth of opportunity in global fixed income markets, and the limits to upside potential in fixed income investing, common sense might dictate reducing exposure.

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An appropriately directed research effort is likely to uncover another bond with a similar risk profile that offers investors a better income stream. Is this the course of action a benchmark-hugging investor is likely to take?

Perhaps not. Such an investor may feel compelled to do the opposite because weightings in benchmarks increase with price.

An egregious example is the massive issuance of bonds by government issuers engaged in quantitative easing.

This has pushed the yields of an increasing basket of bonds into negative territory. Outside of official demand, much of the demand for these bonds is likely to come from investment managers who are beholden to market benchmarks.

Investors who follow market benchmarks are in some cases not even being paid an interest income by some bonds in their portfolio. Instead, they are paying bond issuers for the ‘privilege’ of holding their stock so that they can replicate their chosen benchmark as closely as possible.

Issue 4: Flawed manager incentives

The issue of flawed manager incentives among those who follow a traditional approach to the management of fixed income portfolios extends further. At a more basic level, this misalignment of incentives is at the heart of the rise of absolute return investment approaches.

What services should a fixed income fund manager be providing for their clients? A benchmark-focused manager aims to outperform the benchmark. Is this sufficient? If an index is down 2% and a fund manager is only

Justin Tyler, Daintree Capital Tyler is a director and founding partner at Daintree Capital where he is responsible for interest rate and currency decisions. He has over 16 years’ industry experience.

Previously, he was a senior investment manager at Aberdeen. Prior to Aberdeen, Justin spent over 10 years specialising in fixed income analysis and investment banking with RBC Capital Markets and Colonial First State Global Asset Management.

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down 1%, the fund manager will be pleased with their efforts, but will the end investor also be pleased?

Investors have many different risk/return preferences, time horizons, and so on, but many view losing money as a poor outcome, full stop. They will not be satisfied if a fund manager outperforms a benchmark, yet still loses money. The strong growth of absolute return fixed income funds over time shows that this mismatch between fund manager incentives and investor expectations remains an issue among the end users of fixed income.

Issue 5: Interest rate risk

Many fixed income indices are biased towards (and often exclusively focused on) fixed rate bonds.

For example, the Bloomberg/Barclays Global Aggregate Index mentioned earlier has seen its duration drift from 5.3 pre-global financial crisis to more than 7 at the time of writing. This is partly due to issuance patterns through time, but it is also reflective of the market environment because all else being equal, as interest rates fall, the duration of fixed rate bonds increases further.

Unconventional monetary policies in various jurisdictions have been the main culprit for lower yields globally.

Interest rate sensitivity for bond investors is now historically elevated and asymmetric. That is, further gains are unlikely because interest rates are unlikely to fall below zero in Australia, and there is a limit to the magnitude of negative rates that can be applied elsewhere. Meanwhile, the potential for increased loss is clear if interest rates rise.

This poses a problem for everyone involved in the construction of multisector investment portfolios. Indexaware investment approaches are used by many investors in large part because they expect this part of their portfolio to offset losses in their equity portfolios. HisFigure 1. Interest rates are at extraordinarily low levels

20%

Short-term rates

18% 16%

Long-term rates

torically, duration has been the most important driver of this defensive behaviour, causing fixed rate bonds to rise in value as interest rates and equity prices fall. But with bond yields at lows not seen for thousands of years (see Figure 1) bond prices do not have the same ability to rise as they once had.

Of course, central banks in some jurisdictions have resorted to negative interest rates to increase the scope for bond prices to rise. Even then, however, there are greater limits to bond price appreciation now than have been the case for some time. As Figure 1 shows, this has reduced the ability of a ‘traditional’, duration-heavy bond allocation to play the role of shock absorber in a multisector portfolio.

What is the solution?

To overcome the issues of tracking the benchmark, investors may consider two courses of action.

Smart beta

Several index providers have proposed changes to benchmark indices which are designed to address some of the above issues. Such approaches are commonly called ‘smart beta’ and involve altering the weighting methodology used to construct indices. In fixed income, one such change might be to weight bonds in an index according to metrics that impact issuers’ ability to repay debt. Sales, cash flow, or book value of assets are all metrics that come to mind.

For example, a corporate bond benchmark may be constructed with larger weights to companies with better cash flow generation. Such a benchmark would go some way to alleviating the issue mentioned above, whereby traditional benchmarks shepherd investors toward companies that have a large amount of bonds on issue.

As such, a smart beta approach represents a more logical choice than a traditional benchmark for a fixed income investor. But such an approach does nothing to address any of the other issues highlighted. This is why the best way to manage a fixed income portfolio is to remove benchmarks from the discussion entirely.

14% 12% 10% 8% 6% 4% 2% 0%

Sources: Bank of England, Global Financial Data, Homer and Sylla, A history of interest rates

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Absolute return: Benchmark agnostic

An investment in fixed income can be constructed in a very risk-aware way without the restrictions a benchmark introduces.

For example, a benchmark may lead an investor to certain biases (intended or unintended) in terms of interest rate exposure, sectoral exposure, and the like. If an investor does intend to bias a portfolio in a particular way, the manager can be directed to invest with the appropriate bias in mind – a benchmark index does not need to be in place to facilitate this. For instance, duration exposure could be tightly controlled without the need for a traditional benchmark to play that role in portfolio construction.

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The whole pitch to investors is therefore changed. Instead of outperforming a benchmark with minimal tracking error, success is defined as delivering the targeted return in the context of specifically targeted risk exposures that are tailored to bond investors, not to an index provider’s rules that may instead advantage bond issuers. The trade-off is that the manager has full access to global fixed income markets to construct portfolios that fulfil these goals.

This is what absolute return fixed income managers seek to achieve. Truly active management should mean managers are not beholden to arbitrary benchmarks. End investors can access a portfolio where expected returns and risk tolerances are carefully defined, and the following issues are ameliorated: • Investments are based solely on attractive risk-adjusted expected returns. Careful research is undertaken across the global investment universe to find assets that are likely to achieve the best riskadjusted returns, regardless of whether such assets are part of a given benchmark.

• Opportunity costs that result from restricting the investment opportunity set are avoided.

• Investments are made when risk-adjusted returns make sense to the investor, not when issuance suits the needs of the issuer.

• The focus is on achievement of a risk/return target that can be entirely customised to the needs of the end investor. The end investor does not instead have to adapt their requirements to a market benchmark.

• Interest rate risk can be reduced to appropriate levels, given current market conditions. There is no incentive to ‘hug’ a market benchmark that may incorporate excessive exposure to interest rates.

• Returns are positive in absolute terms, not relative terms.

So, how do you find value and performance in fixed income? Take an active, absolute returns approach to fixed income investing and ignore the benchmarks. Benchmarks are flawed constructs that do not allow for adequate risk management, do not account for the market environment or for client needs and objectives, and encourage perverse manager behaviour. Instead, assess performance by the ability to deliver target returns, while taking minimal risk. fs

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CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. What flaw does the author see in following fixed income benchmarks? a) Investors often must put greater amounts into bonds of issuers with large debt b) An investment may outperform a benchmark, but the investor suffers a loss c) A bond manager is not necessarily ‘rewarded’ for a concentrated position d) All of the above 2. What does the author recommend to counter benchmark-tracking issues? a) Remove benchmarks entirely b) Relegate benchmarks to bit-player status c) Avoid weighting metrics to construct indices d) Choose companies with large bond issuances 3. According to the author, a benchmark-agnostic investment approach: a) Requires investors to shelve their investment biases b) Gives the manager partial access to global fixed income markets c) Uses targeted risk exposures tailored to bond investors d) Makes it harder to control duration exposure 4. Cited data showed that ‘traditional’, duration-heavy bond allocations as a shock absorber in multisector portfolios has: a) Increased b) Reduced c) Stagnated d) Plateaued 5. T he largest bond issuers often forgo the greatest index representation. a) True b) False 6. The author believes an absolute return approach aligns investor-manager incentives. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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*Net distributions are variable each month and are quoted net of management fees, costs and assume no reinvestment. Past performance is not a reliable indicator of future performance. This advertisement is issued by Trilogy Funds Management Limited ACN 080 383 679 AFSL 261425 (Trilogy) and does not take into account your objectives, personal circumstances or needs, nor is it an offer of securities.

Application for investment can only be made on the application form accompanying the Product Disclosure Statement (PDS) dated 17 December 2018 for the Trilogy Monthly Income Trust ARSN 121 846 722 and 28 July 2020 for the Trilogy Enhanced Income Fund ARSN 614 682 469 and available www.trilogyfunds.com.au. The PDS contains full details of the terms and conditions of investment and should be read in full, particularly the risk section, prior to lodging any application or making a further investment. All investments, including those with Trilogy, involve risk which can lead to loss of part or all of your capital or diminished returns. Trilogy is licensed to provide only general financial product advice about its products and therefore recommends you seek personal advice on the suitability of this investment to your objectives, financial situation and needs from a licensed financial adviser. Investments with Trilogy are not bank deposits and are not government guaranteed.

This material is issued by Allianz Australia Life Insurance Limited, ABN 27 076 033 782, AFSL 296559 (Allianz Retire+). Allianz Retire+ is a registered business name of Allianz Australia Life Insurance Limited. This information has been prepared specifically for authorised financial advisers in Australia, and is not intended for retail investors. It does not take account of any person’s objectives, financial situation or needs. Before acting on anything contained in this material, you should consider the appropriateness of the information received, having regard to your objectives, financial situation or needs. No person should rely on the content of this material or act on the basis of anything stated herein. Allianz Retire+ and its related entities, agents or employees do not accept any liability for any loss arising whether directly or indirectly from any use of this material. Allianz Australia Life Insurance Limited is the issuer of Future Safe. Prior to making an investment decision, investors should consider the relevant Product Disclosure Statement which is available on our website (www.allianzretireplus.com.au). For a detailed explanation on fees and costs please refer to the Product Disclosure Statement. PIMCO provides investment management and other support services to Allianz Retire+ but is not responsible for the performance of any Allianz Retire+ product, or any other product or service promoted or supplied by Allianz. Use of the POWERED BY PIMCO trade mark, or any other use of the PIMCO name, is not a recommendation of any particular security, strategy or investment product. ALL0030v