I OVERVIEW OF RESTRUCTURING AND INSOLVENCY ACTIVITY
i Liquidity and state of the financial markets (May 2017)
Lending in the eurozone remained cheap in 2016/2017. After lowering the central rate of interest to 0.00 per cent in March 2016 the Governing Council of the European Central Bank (ECB) decided on 27 April 2017 that the interest rates will remain unchanged at 0.00 per cent at least until the end of 2017. In addition, the ECB confirmed that net asset purchases at a new monthly pace of €60 billion are intended to run until the end of December 2017 or beyond, if necessary, to supply capital markets with more liquidity (‘quantitative easing'). In doing so, the ECB buys the bonds from commercial banks, which in turn lend the money on in credit form to companies and consumers. The ECB is even considering increasing the programme in terms of size or duration, if the outlook becomes less favourable or if financial conditions become inconsistent with further progress towards a sustained adjustment in the path of inflation.
This monetary policy has led to the negative effect that interest rates for depositors continue to fall. While in the past, short-term borrowing by the government temporarily brought negative interest rates to a stop, it is unlikely that negative interest rates will continue to be a rarity. Some banks have already started to designate negative interest rates for their business clients.
The low-to-negative deposit rate as well as other factors, such as the weak euro exchange rates, improved economic data and the outcome of the French presidential elections generally perceived as market and Europe-friendly, led to investors bringing cash to the capital markets: the historic height of the German stock market, which reached 12,000 points in March 2015, has now again been reached, first in February 2017, and again in May 2017.
ii Impact of specific regional and global events (May 2017)
According to experts, Germany's economy is enjoying above-average health. Neither the euro crisis, nor the tense situation in relation to the refugee crisis, has stopped the growth of the German economy. After a year of stagnancy in 2013, the GDP in Germany grew by up to 1.6 per cent in 2014, 2.1 per cent in 2015 and 1.9 per cent in 2016. Growth forecasts for 2017 are outlined as follows: the German Federal Bank anticipates growth of up to 1.8 per cent, the Institute for Economic Research, one of Germany's largest economic think tanks, forecasts a growth of 1.4 per cent, and the RWI, a leading non-profit research institution, forecasts economic growth of 1.5 per cent.
High demand for German goods, reduced costs for energy and significantly reduced export costs, resulting from a weak euro, have led to Germany obtaining a top-ranked export surplus of €253 billion in 2016. In comparison with 2015, the export rate in 2016 increased by 2 per cent.
In the past three years, developments in the job market have been increasingly positive. In April 2015, the unemployment rate stood at 6.5 per cent (this equals 2.84 million people without a job). In April 2016, the unemployment rate decreased to a new record low of 6.3 per cent (2.74 million people), only to decrease to, again, a new record low of 5.8 per cent (2,57 million people) in April 2017, the lowest unemployment rate in 25 years. According to expert opinions, the increase of refugee immigration will have no significant (negative) impact on the German job market: the Institute for Economic Research forecasts a further decline of unemployment for 2017/2018 resulting in possibly only 2.37 million people being unemployed by 2018.
As a result of the rising economy, in 2016 the German mergers and acquisitions market experienced excellent growth. The number and volume of most transactions with German participation on the buy-side or sell-side amounted to US$200 billion (2015: US$116 billion, 2014: US$224 billion), where more than half of the value (about US$118 billion) was attributable to the second quarter of 2016.
iii Market trends in restructuring procedures and techniques employed during this period
It can be observed that in almost all large insolvency proceedings the debtor applies either for debtor-in-possession-proceedings or for the ‘protective shield procedure' (see Section II.iii, infra). A number of these proceedings have been successful, and therefore it is not too optimistic to say that both instruments have been tested and proven.
Since the new Debt Securities Act became effective in 2009, a large number of successful bond restructurings have been carried out. The 2009 Debt Securities Act allows the debtor to restructure its bonds in an out-of-court proceeding, subject to certain requirements (see Section II.iii, infra).
Avoiding insolvency proceedings remains an important objective in almost every restructuring strategy. Whether through consensual negotiations, out-of-court trusteeships or bond restructuring, if a financial restructuring can avoid formal insolvency proceedings, most of the stakeholders would subscribe to such a strategy to avoid both the stigma and uncertainty connected with formal insolvency proceedings.
The number of insolvencies peaked after the financial crisis in 2008. In 2009, 32,687 companies had to file for insolvency at German insolvency courts. After this peak year, the number of insolvencies has consistently decreased. After 2015, where the number of company insolvencies fell by 4 per cent from a total of 24,085 to 23,123 compared to 2014, the number of insolvencies has again decreased in 2016 by another 6.9 per cent (compared to 2015) resulting in a total of 21,518 companies. This is the seventh decline in a row, and the lowest number since 1995.2
II GENERAL INTRODUCTION TO THE RESTRUCTURING AND INSOLVENCY LEGAL FRAMEWORK
German insolvency law provides for a single gateway into formal insolvency and rescue procedures. Regardless of whether it is intended that the debtor company be dissolved and liquidated, or that a formal arrangement with creditors be concluded, the commencement of formal insolvency proceedings always follows the same rules. These rules are governed by the German Insolvency Code of 1999, which was reformed by the Law for the Further Facilitation of the Restructuring of Enterprises (ESUG) in March 2012 and by the Law for the Improvement of Legal Certainty with regard to Clawback Actions pursuant to the German Insolvency Code and the German Avoidance of Transactions Act in April 2017.
i Objectives of insolvency proceedings
Overall, German insolvency law is creditor-friendly. Section 1 of the Insolvency Code states that insolvency proceedings serve the purpose of collective satisfaction of a debtor's creditors by liquidating the debtor's assets and by distributing the proceeds. The statement that the collective satisfaction of a debtor's creditors can also be reached by way of an insolvency plan, particularly in order to maintain the enterprise, has been included recently.
In sum, insolvency proceedings serve the purpose of maximising returns for creditors. Other objectives, such as the protection of jobs (however desirable this may be), are subordinated to the creditors' financial interests. If the liquidation of a business is more beneficial for the creditors than its continuation, the insolvency administrator is obliged to opt for liquidation. However, an emphasis on rescue and rehabilitation (i.e., the continuation of the debtor's business) exists to the extent that in most scenarios, the continuation of a business results in a higher return for creditors than liquidation does. In practice, it is often observed that (smaller) insolvency courts and certain insolvency administrators tend to pay greater attention to the protection of jobs.
ii Preliminary insolvency proceedings
Debtors and creditors both have the right to file an insolvency petition with the competent insolvency court. During the interim proceedings, the insolvency court must secure the assets of the debtor and determine whether the debtor is legally insolvent. To achieve this, the court usually appoints a preliminary administrator. The powers of the preliminary administrator are subject to the discretion of the insolvency court. Typically, the power to manage the business remains with the management of the debtor. However, the consent of the interim administrator is required for any dispositions over assets (a ‘weak preliminary administrator'). Depending on the circumstances, the court can also vest the power to dispose over the debtor's assets with the preliminary administrator (a ‘strong preliminary administrator'). Furthermore, the court can, and usually will, order a moratorium to prevent creditors from enforcing their claims.
The preliminary insolvency proceedings are a crucial stage of the proceedings. This is often the time at which decisions must be taken as to whether and to what extent the business is continued or wound up. The preliminary administrator will negotiate the financing of the business with management and the main creditors. If there is no potential to continue the business (e.g., because of a lack of financial resources), it will be ceased immediately and the employees will be made redundant. However, if the administrator thinks that an investor can be found during the course of the proceedings, and that the business can be continued without incurring substantial losses, the decision will likely be made to keep the business going. If the business is continued during the preliminary proceedings, it is possible to finance the salaries and wages of the employees of the debtor business by way of government funds, for a period of up to three months.
The preliminary administrator - on behalf of the court - must establish whether the debtor is insolvent within the meaning of the Insolvency Code. The Insolvency Code sets out three tests for insolvency:
- a illiquidity (this is a ‘cash-flow test', i.e., the company is unable to meet its liabilities as these become due);
- b over-indebtedness (this is a ‘balance-sheet test', meaning that the company's assets are worth less than its liabilities); and
- c imminent illiquidity, which occurs where it is foreseeable that a company will become illiquid in the future.
Creditors and debtors may file a petition asserting illiquidity and over-indebtedness. Only the debtor is entitled to file a petition asserting imminent illiquidity. The balance sheet test was amended on 17 October 2008 by the Act to Stabilise the Financial Markets. The new test relaxes the rules on over-indebtedness. Now, a company shall not be deemed to be over-indebted where the value of its assets is worth less than its liabilities, provided that the continuation of the business is predominantly likely (‘positive going concern'). The last test is fulfilled if, under the specific circumstances, continuation is more likely than the cessation of the business.
The new balance sheet test was originally limited until the end of 2010 and was extended until 31 December 2013. Meanwhile, the term-limitation of the test has been abandoned, and it applies without limitation.
If the preliminary administrator establishes that the company is insolvent and that the costs of the proceedings can be covered from the proceeds of the debtor's estate, the administrator will recommend to the court that final insolvency proceedings be commenced. Upon such commencement, the court will appoint an insolvency administrator. In practice (but not necessarily), this will be the same person as the preliminary administrator.
Under the new insolvency law, which is aimed at expanding creditor participation in insolvency proceedings, the provisional creditors' committee can influence the selection of the insolvency administrator. According to Section 22a of the Insolvency Code, the insolvency court has to appoint a provisional creditors' committee if the debtor satisfied two of the following three criteria in the previous business year:
- a total assets of €4.84 million following the deduction of losses reported on the asset side of the balance sheet within the meaning of Section 268, Paragraph 3 of the German Commercial Code;
- b a minimum of €9.68 million in sales revenues during the 12 months prior to the balance sheet date; or
- c at least 50 employees on an annual average.
In addition, a preliminary creditors' committee shall be appointed at the request of the debtor, the preliminary insolvency administrator or a creditor, provided that at the same time, the persons who may be considered for membership in the provisional creditors' committee are named and the declarations of consent of the persons named are enclosed with the request.
The power to dispose over the debtor's assets is vested with the administrator. The court will also set a date for the first creditors' meeting and will invite creditors to file their claims with the administrator. Further, the creditors must inform the administrator of any potential security interests that these creditors claim to possess with regard to any assets of the insolvent debtor's estate. Another effect of the commencement of (preliminary) insolvency proceedings is a comprehensive moratorium that prevents any further enforcement of claims.
If the company is not insolvent, or - far more relevantly - where the costs of the proceedings are not covered, the court will terminate the insolvency proceedings, and creditors are again free to enforce their claims against the company.
iii Insolvency proceedings, insolvency plan and debtor-in-possession procedures
After the commencement of insolvency proceedings, the insolvency administrator will realise the value of the estate. As noted above, the administrator has a duty to obtain the best financial result for the creditors. To achieve this, the administrator has various options. Depending on the circumstances, the business can be sold as a going concern in parts or as a whole, or the assets can be sold piecemeal.
A further option is the implementation of an insolvency plan.
The insolvency plan aims for the reorganisation of the debtor and seeks to enable the business to continue as a going concern under the court's supervision. The proceedings can result in the outcome that the business is restructured and continues as the same legal entity, or that the business is sold and the proceeds are distributed among the creditors.
One of the most important principles of the insolvency plan is that the creditors are divided into different classes depending on how they are affected by the plan. Contrary to ordinary insolvency proceedings, it is possible to deviate from the principle that all of the creditors must be treated equally. Provided that all of the creditors of the same class are treated equally, different classes of creditors can be treated differently. Subject to the consent of the respective class, it is even possible to modify the rights of preferred creditors.
Until March 2012, there was a strict division between company and insolvency law in Germany. Shareholder resolutions had to be passed by the shareholders according to company law rules. The implementation of reorganisation measures, therefore, required shareholder consent. The ESUG led to a fundamental change. Since the reform, it is possible for the provisions of an insolvency plan to encroach upon original shareholder rights. Matters that were formerly exclusively the subject of shareholder resolutions can now be incorporated into the insolvency plan, and the resolution can be replaced by the adoption and confirmation of the plan. Furthermore, the insolvency plan may provide that the creditors' claims may be converted into share rights or membership rights in the debtor (‘debt-equity swap'). In this context, the plan may provide for a decrease or increase in capital, contributions in kind, the exclusion of subscription rights or the payment of compensation to outgoing shareholders.
The insolvency plan is subject to the approval of the creditors' meeting. Such approval initially requires consent by the majority of all creditors of each class attending, and secondly, by the majority of the total amount of existing claims. However, the plan is not automatically rejected if not all classes grant their consent. The Insolvency Code provides that dissenting classes may be crammed down, provided the dissenting classes participate appropriately in the proceeds. In addition, the plan may not prefer creditors of the same rank over the dissenting creditor, and the dissenting creditor must not be worse off than in liquidation.
If the creditors' meeting has granted its consent, the insolvency plan is submitted to the court for approval. The court will only withhold such approval if the content of the plan or the procedure violates the provisions of the Insolvency Code. Furthermore, the court shall refuse the approval at request of a creditor or if the debtor is not a natural person, a person with a participating interest in the debtor, if:
- a the person filing the request opposed the plan at the latest in the voting meeting; and
- b this person is likely to be placed at a disadvantage by the plan compared with the situation without a plan.
To avoid delays, the ESUG implemented Section 251, Paragraph 3 of the Insolvency Code, which sets out that the request shall be rejected if the plan provides for funds to be made available in the event that a party concerned shows to the satisfaction of the court that it will be placed at a disadvantage (i.e., to compensate that party).
Upon the approval of the court, the plan becomes binding upon the parties involved. These include dissenting creditors, and even creditors who have not filed their claims and consequently have not voted on the plan. An appeal against the order approving the insolvency plan is only admissible if the party filing the appeal has objected to the plan by or during the voting meeting, has voted against the plan, and has shown that it will be placed at a significant disadvantage as a result of the plan (in comparison to without it) and that such disadvantage cannot be compensated for by the above-mentioned funds.
After the approval of the insolvency plan has become final, the formal insolvency proceedings are terminated. The plan may provide that its implementation is supervised by a custodian. Supervision is ceased upon fulfilment of the terms agreed to in the plan.
If the plan fails and not all claims are fulfilled according to the plan, all claims are revived in full; the moratorium comes to an end, and waivers and other agreements are no longer binding. Creditors are therefore free to enforce their claims against the debtor, although this will likely result in another insolvency.
Another procedure introduced with the Insolvency Code in 1999, and subsequently strengthened by the ESUG, is ‘self-administration', consisting of a debtor-in-possession procedure. Self-administration allows the management of the debtor to continue carrying on business under the supervision of a custodian. Self-administration can be used provided it does not delay the proceedings and where it does not disadvantage the creditors. During self-administration, the debtor retains the power to dispose over its assets. The custodian must continually monitor the economic situation of the debtor and supervise the management. While under the old insolvency law regime self-administration was, in practice, only ordered after insolvency proceedings were formally opened and preliminary self-administrators were the rare exception, practice has changed. Section 270a of the Insolvency Code now states that the court shall order preliminary self-administration if the debtor's request for debtor-in-possession management does not manifestly lack the prospect of success.
The Insolvency Code allocates responsibilities and authority among the debtor, the custodian and the creditors. The most important are:
- a transactions that are of particular significance for the insolvency proceedings generally require the consent of the creditors' committee or the creditors' meeting;
- b in ordinary insolvency proceedings, the insolvency administrator would be entitled to decide whether or not to fulfil contractual obligations; in self-administration scenarios, the debtor is vested with the same right; and
- c the custodian has the power to set aside transactions occurring prior to insolvency. Further, creditors are obliged to file their claims against the debtor with the custodian. The debtor pays the proceeds to the creditors based on the claims registered. Self-administration is often combined with an insolvency plan.
In practice, self-administration is becoming more and more established. According to estimates, in large insolvency proceedings, more than 75 per cent of the debtors apply for self-administration.
Preparations for reorganisation
To facilitate the preparation of a pre-packaged insolvency plan, provisions for the preparations for reorganisation (Section 270b of the Insolvency Code) were newly incorporated into the German Insolvency Code. The (informal, but better known) name for the proceeding is the ‘protective shield procedure'.
The protective shield procedure is a restructuring instrument that permits the debtor to prepare an insolvency plan within a maximum of three months. During this period, the debtor acts independently and without any enforcement measures being implemented. This does not mean that creditors are suspended from accelerating their claims, but compulsory and enforcement measures are excluded.
First of all, the procedure requires that the debtor has requested debtor-in-possession management. The requirements for such management must be met. Furthermore, the protective shield procedure can apply only if the request for the commencement of insolvency proceedings is based on imminent insolvency or over-indebtedness. There is no opportunity for a protective shield procedure if the company is illiquid at the moment of filing. Secondly, the restructuring cannot clearly be futile. Both requirements have to be proven by providing a certificate prepared by a tax adviser, accountant or lawyer with experience in insolvency matters or a person with comparable qualifications. The occurrence of illiquidity during the protective shield procedure does not lead to an automatic termination of the procedure, but the court must be informed of the illiquidity.
For the period during which the insolvency plan is being prepared, the court appoints a provisional custodian who supervises the debtor's management and who informs the court as well as the creditors if the creditors' position appears to be prejudiced. Other than in a ‘normal' self-administration, it is the debtor who has the right to propose a person as a provisional custodian, as long as he or she is not the same person issuing the certification mentioned above. The court is only allowed to deviate from the debtor's proposal if the proposed person is manifestly unsuitable for the office, which in practice is very seldom.
Informal methods of restructuring companies
It is possible to enter into a settlement agreement with creditors (creditors' arrangement) at any time. However, the lack of a moratorium is the major problem arising in informal restructuring scenarios. It is, therefore, absolutely crucial that all, or at least the main, creditors agree on a stay of enforcement. Further, the various parties must actually have an incentive to participate in an out-of-court restructuring. If creditors refuse to take part for whatever reason, the informal approach runs a high risk of failure.
A trusteeship aiming at an out-of-court restructuring can be an effective tool to dispose of the business, or parts of it, and repay the debtor's liabilities (or parts of these). The main advantage for the lenders is to avoid locking-up equity (which is often underwater) and to have more control over the disposal process.
Bond restructuring in a nutshell
Until 2009, bond restructuring played only a minor role in Germany. Only a very limited number of bond restructurings were undertaken, since the scope of the old Debt Securities Act of 1899 was very limited. The previous Debt Securities Act only applied to bonds issued by a company having its seat or a permanent establishment in Germany, and it did not cover the frequently occurring case of bonds issued by subsidiaries - usually located in the Netherlands - that were backed by a guarantee from the German parent company. Furthermore, lack of flexibility and predictability were major disadvantages.
To make German bond restructuring more competitive with other legal regimes and to bring it into line with modern international standards, Germany adopted the new Debt Securities Act of 2009, which came into force on 5 August 2009. The Act covers all bonds issued under German law on or after 5 August 2009.
Under the 2009 Debt Securities Act, the bond terms can be amended by a majority resolution of creditors if and to the extent that the bond terms provide for such modification. Impending insolvency - or even grounds for insolvency - is, on the other hand, not necessary for the 2009 Debt Securities Act to apply.
The 2009 Debt Securities Act lists examples of restructuring measures; this list is not, however, exhaustive, and the extension of the term of a corporate bond, modification of interest rates, a change in the principal amount and subordination are possible. In addition, the conversion of bonds into shares in the company or an exchange for such shares is possible if the bondholders adopt a resolution to that effect. This applies accordingly to the exchange and release of security. It should also be pointed out that the right of bondholders to declare an event of default may be eliminated or restricted.
Resolutions must be adopted at a meeting of bondholders and, if material amendments are made, a majority of at least 75 per cent of the votes cast is required.
A quorum is deemed to be obtained at the meeting of bondholders, if at the first meeting at least 50 per cent of the voting rights are represented, or where at a (subordinate) second meeting, at least 25 per cent of the voting rights are represented (the issuer cannot vote if it itself holds bonds). It is therefore possible to achieve a modification of the major terms and conditions of a bond with as little as 18.75 per cent of all voting rights.
According to the 2009 Debt Securities Act, a joint representative can be appointed who has the right to summon bondholder meetings, manage the passing of resolutions, obtain information from the issuer and assert the claims of bondholders in the issuer's insolvency. Such a joint representative usually assumes a very important stakeholder role in any related restructuring, not because of the representative's legal power, but because the representative manages and facilitates (inter-creditor) communication.
The taking and enforcement of security
Security interests held by creditors are generally not affected by insolvency proceedings. The Insolvency Code distinguishes between the right of separation of assets and the right of separate satisfaction. Where a creditor has rights in rem to assets and these rights have not been assigned to the creditor as security (in particular, rights regarding retention of title), these assets do not form part of the insolvency estate, and the assets to which these attach may be physically repossessed by the creditor. If a creditor has a registered security interest in real property (land charge or mortgage), the creditor can enforce its claim outside of insolvency proceedings according to the Act Governing Auctions and Sequestration. The creditor may either appoint an agent to sequester and distribute rental income from the property, or it may sell the property by way of auction and collect the proceeds. Further, creditors secured by a pledge over an asset belonging to the estate, or creditors to whom the debtor has assigned personal property or rights as security, are entitled to the proceeds that the administrator realises in the respective sale of such assets or rights. In this case, an all-in fee for the enforcement is charged. Security granted shortly before the commencement of insolvency proceedings can often be set aside by the administrator.
Duties of directors of companies in financial difficulties
Directors of insolvent companies are obliged to comply with a number of duties. The most important duty is to file for insolvency without undue delay after the company has become insolvent (i.e., the company is either illiquid or over-indebted). The law provides for a very short restructuring period of up to three weeks. The directors may defer the application for up to three weeks, but only if realistic rescue prospects exist within this time frame. If it becomes clear that the restructuring cannot be achieved within this time frame, the directors must file for insolvency immediately. A breach of this filing duty results in civil as well as criminal personal liability. The directors will be obliged to compensate the company and creditors who suffer a loss caused by the failure of the directors to file a petition in time. During these three weeks, the directors are only entitled to make payments that are essential for keeping the business going.
If the company is ‘merely' imminently illiquid, the directors are entitled to file for insolvency, but they are not subject to a duty to file.
Even more duties exist for directors if the company is not (yet) insolvent, but in a financial crisis. The general rule is that managing directors are required to exercise the diligence expected of a prudent businessperson in their conduct of the company's affairs. In a company crisis, this includes the duty to consider all remedial actions and, as far as possible, to initiate such measures. Special rules apply, inter alia, to cash pooling and the treatment of shareholder loans. Summing up, the continuation of business in a crisis can give rise to considerable risks for directors. In particular, the continuation of business in a group of companies is very difficult to manage.
To ensure that all creditors are treated equally, the administrator has the power to set aside transactions that took place prior to the insolvency proceedings. All of the respective provisions under German law with respect to avoidance actions require that the transaction the administrator seeks to set aside must be disadvantageous for the creditors. Hence, if the debtor receives consideration of equal value for the payment made within a short time frame, the transaction does not disadvantage creditors (because of the rather sophisticated case law, many pitfalls remain). Further, most avoidance and ‘clawback' provisions require both that the debtor is insolvent at the time the transaction was entered into and that the creditor is aware of the insolvency. The relevant time periods for avoidance or clawback provisions depend on the nature of the transaction the administrator seeks to set aside. The most relevant period is the three-month period prior to the insolvency application. However, the maximum period is 10 years (under specific circumstances).
In the context of the reform of German corporate law in 2008, the wording of Section 135 of the Insolvency Code was amended. Section 135 of the Insolvency Code governs the clawback of transactions in which shareholder loans are repaid (such loans are subordinated in insolvency proceedings). In the past, the loan had to be an equity-replacing shareholder loan; now, any shareholder loan repayment can be set aside.
On 4 April 2017, the Law for the Improvement of Legal Certainty with regard to Clawback Actions pursuant to the German Insolvency Code and the German Avoidance of Transactions Act came into force. The law seeks to enhance legal certainty and to prevent extraordinary clawback claims from being brought. The main changes include a restatement of Section 133, Paragraph 1 of the German Insolvency Code, which allows prior transactions intentionally prejudicing creditors to be set aside within a look-back period of 10 years. Because of various court decisions on the application of Section 133, Paragraph 1 of the Insolvency Code, many commercial transactions bore disproportionate and unpredictable risks, especially because the clawback period of 10 years is the longest clawback period in the entire German Insolvency Code. The law now states that transactions that grant security or provide for the satisfaction of the counterparty can only be set aside within a period of four years (Section 133, Paragraph 2 German Insolvency Code). Also, a transaction is protected from clawback action if fair market values have been exchanged and if the creditor was not aware of any dishonest motives the debtor had when performing the transaction (Section 142, Paragraph 1 German Insolvency Code), the latter having been added to improve protection of creditors (mostly suppliers). In addition, it also has been explicitly clarified that employee remuneration is protected from any clawback action where the payment of remuneration has occurred within three months (Section 142, Paragraph 2 German Insolvency Code).
If no formal insolvency proceedings are commenced, creditors may be entitled to claw back certain transactions that diminished the debtor's assets, resulting in that creditor's disadvantage, pursuant to the German Avoidance of Transactions Act. These rules are similar in principle to the insolvency avoidance provisions and are also covered by the above-mentioned reform.
Restructuring of banks and other financial institutions
On 1 January 2015, the Act for the Recovery and Resolution of Credit Institutions (SAG) came into force. This Act is based on the Directive on the Recovery and Resolution of Credit Institutions 2014/59/EU (BRRD) of the European Parliament and of the Council for establishing a framework for the recovery and resolution of credit institutions and investment firms, and it aims to manage imbalances of institutions in the future without compromising financial stability and making use of tax funds. One of the most important improvements of the SAG is shareholder and creditor participation in an institution's damages liability and managing costs. Furthermore, there is now a duty to prepare a recovery plan. There are also new provisions on group internal financial support, and on cross-border cooperation between national regulatory and liquidation authorities.
III RECENT LEGAL DEVELOPMENTS
On 13 April 2017, the German parliament passed the Law for the Facilitation of Group Insolvency Proceedings, which will come into force as of 21 April 2018. The reform does not conceptually deviate from the respective approach at EU level: the law introduces provisions strictly focused on procedural law regarding German members of a group of companies becoming insolvent. Under existing German insolvency law, each legal entity of a corporate group has to file for insolvency separately. This may lead to different venues and to the appointment of different insolvency administrators for each entity. This legal concept remains unchanged, but the law aims at improving the effectiveness and coordination of individual insolvency proceedings opened for each single entity by providing for:
- a a group venue;
- b the possibility of appointing the same person as (group) insolvency administrator or receiver; and
- c the initiation of group coordination proceedings, which may include the appointment of a group coordinator and the development of a group coordination plan aiming at the overall restructuring of the group.
In addition, insolvency courts, creditor committees and appointed insolvency receivers are obliged to coordinate and to exchange information on a group level.
The newly introduced provisions may prove useful, especially with respect to the group venue and the group coordination plan in prepared restructurings. However, given the lack of enforceable rights of the group coordinator, there appears to be little leeway in cases in which other insolvency administrators or receivers are not willing to support a joint effort.
IV SIGNIFICANT TRANSACTIONS, KEY DEVELOPMENTS AND MOST ACTIVE INDUSTRIES
Although the number of business failures in recent years and to date in 2017 is at its lowest level in 20 years, there have still been numerous significant insolvency proceedings and restructurings.
The renewable energy sector remains under pressure. Increased competition, open markets and the amendment of the Renewable Energies Act have led to a wave of insolvencies in the wind energy sector; for example, Prokon, Windwärts and Windreich.
This has also affected companies in the solar panel industry, such as Sunways (which had filed for insolvency in 2013, but the proceeding was not commenced because of a creditor agreement), SAG Solarstrom and Solon (which already passed through an insolvency proceeding in 2012) and Rena. There have also been a number of out-of-court restructurings. The most famous of these is probably Solarworld, which reduced its debts by more than €500 million through an out-of-court debt-to-debt and debt-equity swap. Despite this out-of-court restructuring, Solarworld recently had to file for formal insolvency proceedings in May 2017. In September 2016, KTG Energie, specialised in the operation of biogas plants, filed for debtor-in-possession proceedings and was, together with 21 of its subsidiaries, restructured through an insolvency plan.
The shipping industry also continues to be distressed. For many years, closed-end ship funds generated profitable yields. Since the financial crisis in 2008, however, cargo rates have fallen significantly, and as a result, more than 340 ship funds have had to file for insolvency.
In the fashion sector, the market-listed fashion retailer Steilmann had to file for regular insolvency proceedings in March 2016. Meanwhile, numerous subsidiaries followed. Furthermore, Zero, a German fashion company with about 1,000 employees, filed for insolvency in April 2016 and St. Emile, a German luxury fashion label, followed in October 2016. Also, Butler's, a well-known German home furnisher with more than 1,000 employees and more than 100 stores in Germany, Austria and Switzerland had to file for insolvency in March 2017.
The automotive industry will most likely face substantial restructurings soon due to the anticipated transition from internal combustion engines to hybrid or electric solutions. For the time being, restructurings in the automotive industry remains scarce in Germany and are generally related to international insolvency or restructuring cases, such as the global restructuring of the Japanese supplier TAKATA following the worldwide largest recall in automotive industry due to defective airbag modules or the AMTEK crisis, which resulted in insolvency filings of its German automotive subsidiaries REGE Holding and Küppers Group.
Finally, the restructuring of Heta Asset Resolution AG, an Austrian ‘bad bank' and former Hypo Alpe Adria group, kept German courts busy; German creditors, owning the vast majority of its €12 billion in debt instruments, had challenged before German courts the first intended wind-up under the BRRD. A first-instance decision by the Munich Regional Court declined to recognise the legal effects of a moratorium imposed by Austria's Financial Market Authority. In May 2016, a large creditor group entered into a MoU with Austria to provide for an out-of-court settlement, which was successfully closed in October 2016. As part of this out-of-court settlement, creditors agreed to withdraw their lawsuits.
i Reform of the European Insolvency Regulation
In December 2012, the European Commission adopted a proposal to amend the current European Insolvency Regulation (EIR). The amendments will apply to insolvency proceedings opened after 26 June 2017. The EIR establishes common rules on the court competent to commence insolvency proceedings, the applicable law and the recognition of the court's decision when a debtor becomes insolvent. The rules apply to cross-border insolvency proceedings within the European Union (but not in Denmark).
With regard to group insolvencies the amended EIR limits itself to imposing cooperation and communication duties instead of substantive rules. In addition, in group insolvency situations it is now possible to apply for ‘coordination proceedings'. Coordination proceedings require that the national law provides for such a proceeding. Furthermore, the amended EIR provides a clarification of the definition of the ‘centre of main interest', which is one of the key connecting factors in European insolvency law, and has caused many practical doubts in the past. The new rules now contain safeguards against ‘abusive forum shopping'. The new EIR provisions also lead to a renewal of the rules for secondary insolvency proceedings. Specific situations now exist where a court can adjourn or refuse a request to open secondary insolvency proceedings.
ii EC proposal for a directive on preventive restructuring frameworks
On 22 November 2016 the European Commission published a proposal for a directive ‘on preventive restructuring frameworks, second chance and measures to increase the efficiency of restructuring, insolvency and discharge procedures and amending Directive 2012/30/EU' (EC Proposal).
The directive contains provisions in the area of substantive insolvency law, which are subdivided into three main topics:
- a ‘preventive restructuring procedures';
- b discharge for entrepreneurs; and
- c measures to increase the efficiency of insolvency procedures in general.
The purpose of the preventive restructuring procedures is to enable enterprises to restructure at an early stage and to avoid insolvency. Whereas the German legal framework already provides for such early-stage initiation of insolvency proceedings if the debtor is over-indebted or faces imminent illiquidity, the EC Proposal seems to provide for no serious entry test as a ‘likelihood of insolvency' is considered sufficient for the initiation of such preventive restructuring proceedings. For this and other reasons it is expected that the implementation of the EC Proposal will lead to extensive changes in German insolvency law. Besides it is discussed how the implementation of the EC Proposal could be harmonised with existing duties of directors, especially with regard to filing obligations (see Section II, supra).
VI FUTURE DEVELOPMENTS
After the German general election in 2009, the parties that formed the coalition government announced a reform of insolvency law in their coalition agreement. The reform was split into three steps. The first step contained the implementation of the ESUG in order to make a contribution toward the continuation of potential recoverable companies. The second step included the reform of consumer insolvency and the discharge of residual debt. Both reforms have led to the implementation of corresponding provisions in the German Insolvency Code. The third and last step was related to the introduction of a group insolvency law and has been implemented as of April 2017 (see Section III, supra).
Besides this three-step-plan, the German legislator originally did not plan to implement further changes to the insolvency-related legal framework any time soon. This view, however, has been challenged by the recently published EC Proposal on preventive restructuring proceedings (see Section V, supra) as its implementation into German law will most likely require adjustments to fundamental principles of German insolvency law, i.e., the obligation to file for insolvency proceedings under certain circumstances, creditor and minority shareholder protection, mandatory court involvement, etc. The idea to strengthen restructurings, however, is generally supported. As the EC proposal as such has mainly been perceived as flawed, inefficient and technically inappropriate to achieve the objectives pursued by the EC, future discussions on the implementation of the EC Proposal are likely to cause lively debates.