Contents
- Executive summary and recommendations ……………………………………………………… 4
1.1 Purpose of the review ………………………………………………………………………………………….. 4
1.2 Overview of our approach to the review ………………………………………………………………… 4
1.3 The small business sector in Australia …………………………………………………………………….. 5
1.4 Key findings ………………………………………………………………………………………………………… 6
1.5 Our recommendations in relation to the Code ………………………………………………………… 7
1.6 Other measures to support the Code and increase its impact …………………………………. 11
1.7 A note of appreciation ………………………………………………………………………………………… 12 - Purpose of the review ………………………………………………………………………………… 13
2.1 Background to the review …………………………………………………………………………………… 13
2.2 The Banking Code of Practice ………………………………………………………………………………. 13
2.3 Objectives of the review ……………………………………………………………………………………… 14
2.4 Entities which are impacted by the definition of small business ………………………………. 15
2.5 The extent and nature of companies impacted by these definitions ………………………… 18
2.6 Framework for addressing the issues raised by the review and inputs to our work ……. 27
2.7 Our approach to stakeholder engagement ……………………………………………………………. 28 - Desktop research and analysis …………………………………………………………………….. 29
3.1 Overview of the definition of small business …………………………………………………………. 29
3.2 Nature and extent of businesses protected by the Code…………………………………………. 29
3.3 Extent of application of the Code …………………………………………………………………………. 32
3.4 Nature of protections available to small businesses under the Code ………………………… 33
3.5 Consideration of the criteria used by the definition ……………………………………………….. 35
3.6 The values used in the criteria …………………………………………………………………………….. 36
3.7 Application at an individual company or group level ………………………………………………. 38
3.8 Application at a facility or aggregate borrowings level ……………………………………………. 39
3.9 Definitional issues identified during our review …………………………………………………….. 39
3.10 Observations and conclusions ……………………………………………………………………………… 40 - Findings from previous reviews ……………………………………………………………………. 41
4.1 A brief history of the definition of small business…………………………………………………… 41
4.2 The Khoury Review …………………………………………………………………………………………….. 42
4.3 The Hayne Royal Commission ……………………………………………………………………………… 43
4.4 The ASBFEO Inquiry into Small Business Loans ………………………………………………………. 44
4.5 Observations and conclusions ……………………………………………………………………………… 45 - Stakeholder engagement findings ………………………………………………………………… 46
5.1 Overview of our approach to stakeholder engagement ………………………………………….. 46
5.2 Key issues for stakeholder engagement ………………………………………………………………… 47
5.3 Findings from our stakeholder engagement discussions …………………………………………. 47
5.4 An overview of written submissions provided to Pottinger……………………………………… 50
5.5 Findings from our public stakeholder questionnaire ………………………………………………. 52
5.6 Observations and conclusions ……………………………………………………………………………… 53 - Overall observations and recommendations …………………………………………………… 55
6.1 Introduction and summary of findings ………………………………………………………………….. 55
6.2 The Code as a minimum standard for bank behaviour ……………………………………………. 55
6.3 Recommendations related to the criteria used by the definition ……………………………… 56
6.4 Recommendations related to the values used in the criteria …………………………………… 58
6.5 Recommendations related to application of the criteria to groups of businesses ………. 61
6.6 Recommendation related to application of the borrowings limit …………………………….. 63
6.7 Recommendations on categories of business to be excluded from the Code …………….. 64
6.8 Observations on other measures to support the impact of the Code ……………………….. 65
6.9 Timing considerations ………………………………………………………………………………………… 67
6.10 Implications of our recommendations ………………………………………………………………….. 67
6.11 Alignment with other definitions of small business ………………………………………………… 68
6.12 Conclusion and acknowledgements ……………………………………………………………………… 69 - Index to figures …………………………………………………………………………………………. 70
Pottinger is an independent, employee-owned corporate advisory firm dual headquartered in
Sydney and New York City. We provide advice to private and public sector organisations on strategy,
public policy, M&A, joint ventures, risk and innovation to help companies and communities increase
growth, reduce risk and accelerate impact. For further information, please visit Pottinger.com.
Independent Review of the definition of small business Strictly private and confidential
4 - Executive summary and recommendations
1.1 Purpose of the review
The Code of Banking Practice came into effect on 1st November 1996. Since then, it has been
updated and revised on several occasions, most recently through a comprehensive rewrite
following the findings of the Khoury Review and the Hayne Royal Commission, as well as other
subsequent reviews.
The Banking Code of Practice (2019) (the “Code”) sets out standards of behaviour that banks
should follow in their dealings with consumers and small business customers. It includes specific
protections for small businesses, including simplified loan documentation, greater notice of
enforcement action and enhanced transparency. Currently, the 221
bank members of the
Australian Banking Association (the “ABA”) account for approximately 89%
2
of the assets in the
Australian banking system.
The Code is the first substantive industry code to be approved by the Australian Securities &
Investments Commission (“ASIC”) under the Corporations Act 2001, and the ABA has sought
and obtained approval for all subsequent changes to the Code. ASIC’s original approval of the
Code was subject to the ABA agreeing to commission an independent review of the definition
of small business in the Code within 18 months of the Code’s commencement.
Accordingly, in September 2020, the ABA appointed Pottinger to conduct an independent
review of the definition of small business under the Code. The objectives of our review are to
determine whether, and if so how, the definition of small business should be updated, including
consideration of:
◼ The relevance of the criteria used by the definition, ie annual turnover, employee numbers
and borrowings outstanding;
◼ The values used in the criteria, currently A$10m for annual turnover, 100 for full-time
employee numbers and A$3m for borrowings;
◼ Whether the criteria should be applied at an individual entity or group level, as well as the
definitions used to determine which related entities should be taken into account in defining
a group;
◼ Whether the criteria related to borrowings should apply solely to the facility in question or
to the aggregate of all outstanding facilities; and
◼ The potential impact of any proposed changes to the criteria and/or the values, both in terms
of overall materiality in the context of the banking system and in relation to the practicalities
of implementing any proposed changes.
Further information including our terms of reference are set out in section 2.
1.2 Overview of our approach to the review
To assess these issues, we have undertaken our own desktop research and analysis, taking into
account data sourced from the Australian Bureau of Statistics (“ABS”), the Australian Prudential
Regulation Authority (“APRA”) and ASIC as well as other sources, as set out in section 3. We also
considered the previous recommendations and observations on relevant matters made by the
1
The 22 ABA members can be found at this link
2
APRA – Monthly authorised deposit-taking institution statistics (August 2020)
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5
Hayne Royal Commission, the Khoury Review, the ASBFEO Inquiry into Small Business Loans and
the Council of Financial Regulators, as summarised in section 4.
In addition, we have also completed a stakeholder engagement exercise, consulting with a wide
range of stakeholders as summarised below.
Figure 1: Overview of stakeholders consulted
We also gathered perspectives from the public via a stakeholder questionnaire. The findings
from our stakeholder engagement process are set out in section 5.
1.3 The small business sector in Australia
Small businesses are critical to the Australian economy. For example, of the 884,821 businesses
recorded by ABS at June 2019 as having employees, 823,715 or 93% employed fewer than 20
employees. Only 4,271 or 0.5% employed 200 or more people. Data is not available for the
number of businesses with fewer than 100 employees, as ABS does not report this figure.
Meanwhile, at the same date, 98.4% of all businesses recorded had turnover less than A$10m3
,
ie would satisfy this criterion of the definition of small business under the Code.
Figure 2: Proportion of businesses with revenues in the band indicated4
Figures in Australian dollars. Source: Pottinger analysis of ABS data
It is not possible to tell from ABS data the number of businesses that have both turnover of
under A$10m and fewer than 100 employees as the data is not presented in this manner. Even
if there was no overlap between these categories, however, it is clear that at least 95% of
businesses will meet both tests if these are applied on a legal entity basis.
3
Source: ABS data – ABS 8165
4
Source: ABS data – ABS 8165. Figures exclude companies that have no employees
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1.4 Key findings
Our overall observations and the recommendations which follow reflect a synthesis of our
desktop research and background knowledge of the banking sector, consideration of the various
previous reviews and our stakeholder engagement exercise. Our recommendations are also
informed by the challenging operating environment brought on by the COVID-19 crisis.
As an important overarching observation, there is widespread support for the Code and
widespread recognition of its importance in providing protection to small businesses in
Australia. Importantly, most stakeholders consulted believe the Code represents a set of
minimum standards of behaviour to be observed by banks in dealing with their small business
customers.
There is broad consensus that the criteria used in the definition (turnover, employee numbers
and aggregate borrowings) are both reasonable and appropriate, and that these tests should
be assessed at a group level, rather than at an individual legal entity level. Not all stakeholders
support these views, with some preferring to reduce the number of criteria that are used in the
definition and/or recommending that the aggregate borrowings criterion should be applied at
an individual facility level.
Meanwhile, there are several areas where there is broad support for the Code to be refined,
including in relation to:
◼ Improving the precision of some of the terminology used, so that there is greater clarity and
consistency regarding which enterprises are treated as small businesses;
◼ Giving small businesses greater confidence and transparency regarding whether or not they
are (and will continue to be) treated as a small business by any particular bank; and
◼ Contributing to reducing the number of different definitions of small business that are used
in Australia and clarifying why different definitions are used by different bodies.
The current definition of ‘related entities’ used by the Code is drawn from the Corporations Act
- Related entities include a broad set of legal and natural persons, including relatives,
beneficiaries under a trust, trustees and related bodies corporate (ie other corporate legal
entities). The definition of ‘related entities’ does not, however, include legal entities which are
affiliated or organised under certain joint venture or partnership structures.
This definition results in some small businesses being inappropriately excluded from the
protections of the Code, such as small agricultural businesses that operate independently but
which are owned by members of the same extended family. The definition can also result in
some businesses that are part of large, sophisticated groups being treated as small businesses.
This issue cannot simply be addressed by applying all three criteria at a group level but rather
will require changes to the definition of small business itself.
Meanwhile, there are some categories of business that are demonstrably sophisticated in
nature and whose ability to access relevant institutional banking products may be inhibited by
being classed as a small business. There is thus a case for such businesses to be automatically
excluded from the protections of the Code.
Almost every stakeholder expressed the view that there are too many conflicting definitions of
small business. There is near unanimous agreement that this causes considerable confusion for
customers and that there would be considerable merit in reducing the number of definitions in
use in Australia. In practice, however, there is no simple way to do this, as the various definitions
are used for a variety of different purposes. No stakeholder made recommendations as to how
simplification could be achieved.
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7
In addition, we identified several areas which represent, or may be perceived to represent,
loopholes in the definition of small business and how this is applied by banks. These have
potential to cause further confusion to customers and to create reputational risk for banks
which subscribe to the Code. One particular issue is that it is not straightforward for an
enterprise to determine whether or not it qualifies to be treated as a small business under the
Code, as this requires knowledge of the Code, the Corporations Act 2001 definition of related
entities and aspects of the Australian Financial Services regime.
Given the importance attached to the issues of simplicity and transparency, we have included
in our report suggestions as to measures that could be implemented by stakeholders to help to
help mitigate these challenges.
Finally, there is also broad support for increasing the borrowing limit to A$5m in due course.
Some banks have already made this change. We acknowledge that there is little consensus
regarding whether this change is worthwhile, and two medium-sized banks have expressed the
view that any such change could have an adverse impact on competition and access to credit,
though these views were neither definitive nor supported by specific evidence.
As an overarching matter, most stakeholders consider supporting more small businesses, rather
than fewer such enterprises, to be an appropriate guiding principle. This is especially relevant
having regard for the challenging operating environment brought on by the COVID-19 crisis.
This approach is consistent with the operating practice of many banks to apply just one, rather
than two or all, of the criteria used in the current definition of small business to determine a
customer’s eligibility for protection under the Code.
Our review addresses the definition of small business under the Code and certain related
matters. We note that the current version of the Code only became effective from 1st March
2020, and that a wider review of the Code is due to be undertaken in 2021.
In the following sections, we summarise our recommendations in relation to the definition of
small business in the Code and set out further measures that could be implemented by relevant
stakeholders to support the Code and increase its impact.
1.5 Our recommendations in relation to the Code
The recommendations set out below address the issues we have identified, whilst giving
appropriate consideration to the extent of impact (or otherwise) that any proposed change
might have on the number of customers protected, the level of transparency achieved, and the
cost, complexity and risk of implementation for the banks and other relevant stakeholders.
Figure 3: Summary of recommendations
Area Recommendations
The criteria and
values used
1 The criteria used by the definition of small business should be retained
2 An enterprise should continue to be required to meet all three criteria to qualify as a
small business
3 The values related to employee numbers and turnover should be retained
4 The value used in the borrowing criterion should be increased to A$5m in due course
Related entities
5 All three criteria should be applied at a group level
6 The definition of related entities should be refined
Aggregate
borrowings
7 The borrowings criterion should continue to apply to aggregate borrowings
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Area Recommendations
Exclusions 8 Certain categories of sophisticated business should be specifically excluded
Implementation
9 The ABA should endorse our recommendations in the near term and implement them
as soon as practicable
Two recommendations, namely the application of all three criteria at a group level
(rather than an individual legal entity level) and the exclusion of certain types of
sophisticated enterprise can readily be implemented more rapidly and accordingly we
recommend that the Code be updated to address these in the near term
Implementation of the other recommendations can commence following completion of
the upcoming review of the Code, thus allowing sufficient time for banks to prepare
and to ensure that all relevant implications are properly considered in advance
We provide further detail on these recommendations and the rationale for proposing them in
section 6. Whilst most of the above recommendations are straightforward in nature, there are
four that merit particular attention, as summarised below.
Aggregate borrowings: Unlike the Khoury Review, Hayne Royal Commission and ASBFEO
Inquiry, we recommend that the credit criterion is based on aggregate borrowings, rather than
on an individual facility limit. The reason for this is that the fundamental purpose of the Code is
to protect unsophisticated customers, rather than to enforce simplified documentation or other
requirements on particular products. Our view is that aggregate borrowings represents a better
measure of sophistication than the size of individual facilities. In addition, the use of a facility
limit would result in sophisticated organisations with large borrowing requirements that are
implemented through a series of smaller facilities being classified as small business customers.
The credit threshold: We acknowledge that there has been substantial debate and discussion
in relation to the recommendation by previous reviews that a value of A$5m should be used in
the borrowings criterion, and that this ultimately resulted in a figure of A$3m being used in the
Code. On balance, and in conjunction with our view that the borrowings criterion should be
based on aggregate borrowings, we recommend that in due course the Code should be updated
to refer to an aggregate borrowings amount of A$5m. We note that the ABA’s submission, made
on behalf of its member banks including all subscribers to the Code, opposed this change5
.
Meanwhile, some banks and associated stakeholders emphasised that any such change should
only be implemented after an appropriate preparatory period. Importantly, however, in our
direct consultations with most of the banks that subscribe to the Code, no banks opposed such
a change outright. This would extend the protections of the Code to a modest number of
additional businesses, in line with estimates made during previous reviews and now quantified
more precisely via data gathered by ASIC upon which this review has relied.
Related entities: We recommend refining the definition of related entities as that term is used
in the definition so that it explicitly recognises unincorporated legal entities such as joint
ventures, partnerships and trust structures and treats all businesses that are under common
control as a single group. Considerable care is required in developing the precise wording to be
used in order to avoid unintended consequences and to ensure that it can readily be applied in
practice by banks. While we provide the rationale for these recommendations, legal advice
beyond our scope would be required in order to reach a definitive recommendation.
Implementation: We recommend that the more significant changes identified, including the
need to refine the definition of related entities, are implemented at the same time as any other
changes that arise from the broader review of the Code in 2021. This will help to minimise the
5
The ABA’s submission opposed increasing the credit exposure criterion to A$5m as “it appropriately reflects the policy intent
behind the Code of ensuring small businesses have the benefits of protections while leaving larger, more sophisticated businesses
free to negotiate appropriate conditions with their bank.”
Strictly private and confidential Independent Review of the definition of small business
9
cost and risk to banks and other stakeholders of these changes. Thereafter, reflecting the
significant evolution of the Code over recent years, we recommend that further changes should
be as limited as possible for a period of at least three to five years.
More broadly, we have considered carefully, and our recommendations are informed by, the
current economic circumstances in Australia brought about by the COVID-19 crisis and
subsequent recession. Many small businesses currently face significant challenges, and these
conditions are likely to continue into 2021 and potentially beyond. Unsurprisingly, many
stakeholders identified the importance of these factors.
Our recommendations result from investigating the series of questions laid out in our terms of
reference. For clarity, we set out below our specific answers to these questions.
Figure 4: Summary of our responses to the questions raised in our terms of reference
Focus of question Pottinger’s perspective
The overall balance of
the definition
We believe the overall balance of the definition is appropriate, subject to the
various refinements outlined below
The turnover threshold
Turnover is an appropriate criterion for determining small business status under the
Code, and is used by several other definitions of small business
Turnover is a necessary criterion, ensuring that businesses with high revenues but
low borrowing requirements and employee numbers are not inappropriately
categorised as small businesses
The turnover threshold of A$10m is set at the appropriate level, ensures the large
majority of businesses are captured by the definition, and is broadly consistent with
both the employee numbers and aggregate borrowings criteria
The employee threshold
The number of employees is an appropriate criterion for determining small business
status under the Code, and is used by many other definitions of small business
The number of employees is a necessary criterion, ensuring businesses with a
significant number of employees, low borrowing requirements and modest
revenues are not inappropriately categorised as small businesses
The employee threshold of 100 employees is set at the appropriate level, ensures
the large majority of businesses are captured by the definition, and is broadly
consistent with both the revenue and aggregate borrowings criteria
Application of the
definitions at a group
level
The revenue and employee numbers criteria should be applied at a group level
A new definition is required, in order to ensure entities such as partnerships and
unincorporated joint ventures are taken into account and to avoid exclusion of
businesses that are related entities but are neither under common control nor
operate as single economic entities
The credit criterion
The credit criterion should continue to be applied to the ‘total credit exposure’ of
the borrower and its related entities (based on a new definition) and should not be
applied on a per facility basis
The credit threshold The credit threshold should apply to aggregate borrowings and should be increased
in due course to A$5m, in line with the recommendations of previous reviews
Inadvertent implications
of the definition
The definition of related entities results in it unintentionally and inappropriately
excluding some types of business, such as businesses that are not under common
control, but which are owned by members of an extended family
The definition of related entities results in it unintentionally and inappropriately
including as a small business some larger economic entities that operate through
unincorporated joint ventures, partnerships and other similar structures
The changes we propose should be endorsed by the ABA in the near term, with
implementation of certain changes to commence at the next convenient juncture
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Focus of question Pottinger’s perspective
Timing of proposed
changes
(eg early to mid-2021). The remaining changes – those which require further
assessment (including eg legal analysis) – should be implemented following
completion of the broader review of the Code that is to be carried out in 2021
In each case, significant notice should be provided to banks to help minimise the
cost and risk of implementing such changes
We do not anticipate any material impact on small businesses of this approach
The terms of reference for our review also required us to consider the potential benefit to
customers of any change in the definition of small business used by the Code, as well as any
effect on the availability or price of credit to business customers as well as on competition in
the banking sector. We comment briefly on these questions below.
◼ Benefits to customers: Increasing the aggregate borrowings limit from A$3m to A$5m would
give around 10,000 business customers access to the protections of the Code. These
businesses are likely to be significantly larger than the average small business that is
protected under the Code. For example, their average borrowings are estimated to be
around A$3.6m to A$3.8m based on data provided to us by ASIC. We anticipate that these
businesses will thus have proportionately more turnover and employees, and as a result are
more significant enterprises in terms of their contribution to Australian economic output
and employment. We consider this an important consideration as Australia undertakes to
repair its industry, community and economy as a result of the COVID-19 crisis. The primary
benefit for these customers will be increased confidence that they will be treated reasonably
and fairly by their bank. Providing access to the Code’s protections may give such customers
greater confidence, and a more frictionless means, to take on additional borrowing, for
example, as may be required to support business growth as the Australian economy emerges
from the current recession;
◼ Availability or price of credit: There are several factors that could, in theory, impact on the
availability or price of credit to business customers if the aggregate borrowings criterion is
increased from A$3m to A$5m. These will primarily relate to a bank’s assessment of the risk
related to a proposed facility, or to its assessment of its ability to manage risks related to
that facility over time, that may arise through the requirements imposed by the Code in
relation to small business customers. In practice, a small number of banks identified that
these potential risks might emerge, but we have not identified or been provided with any
data or evidence through which we can quantify this risk. Ultimately, we note that the loans
involved account for only a small portion of overall business lending in Australia. Our overall
view is that any such risks can best be mitigated by ensuring appropriate notice is given to
banks of proposed changes; and
◼ Potential impact on competition: We estimate that the value of loans that would fall within
the scope of the Code if the borrowings limit was increased from A$3m to A$5m would be
approximately A$37bn. This equates to approximately 4.6% of all business lending in
Australia by value, or 5.4% of all business lending by ABA members, or 5.8% of all business
lending by ABA members with small business lending portfolios. In other words, the
proportion of the business lending sector that would be affected by these changes is small.
Overall, as the size of the proposed changes is modest set against the context of banks’ lending
activities, we believe there is unlikely to be any material impact on ongoing competition in the
provision of loans to small business as a result of these changes. Further detail is set out in
section 2.5 (The extent and nature of companies impacted by these definitions).
Further context on our overall recommendations is set out in Section 6 (Overall observations
and recommendations) of our report.
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