The new German restructuring regime

February 2021 | EXPERT BRIEFING | BANKRUPTCY & RESTRUCTURING

financierworldwide.com

Based on current EU directives and given the economic disruption seen in 2020, on 1 January 2021, the German legislator enacted a new restructuring framework: The Law on the Stabilisation and Restructuring Framework for Companies (StaRUG). Small and medium-sized enterprises (SMEs) may now utilise a variety of restructuring options.

On the one hand, this is the next logical step for the legislature to take and it sets the German insolvency regime on the path for the future. On the other hand, the move is groundbreaking, since we now have codification of out of court restructuring – a situation never before seen in Germany. Under the new regulations, it is the responsibility of managing directors, shareholders, as well as creditors, to ensure that companies are restructured, continue trading and keep their value. Though the new framework is not perfect, it is a step in the right direction which will allow companies to successfully restructure.

Germany’s restructuring environment

Competition and Germany’s law reform in 2012. Germany introduced a new insolvency regime in 1999 that was strongly modelled after US Chapter 11 proceedings: the German Insolvency Act (GIA) or Insolvenzordnung.

Driven by competition from other EU members, as well as frequent forum shopping, in the early 2000s, Germany was under pressure to reform its restructuring environment and the 2012 reform was designed to eliminate certain shortcomings by enacting the regime on the facilitated restructuring of enterprises (Gesetz zur weiteren Erleichterung der Sanierung von Unternehmen), (ESUG), which actually only reformed the GIA.

Considered somewhat half-baked at the time, but with an extremely successful outcome, the ESUG, among other things, in 2012 introduced a semi-preventive cum semi-out-of-court restructuring regime: the Protective Shield Proceedings (PSP) or Schutzschirmverfahren. Under certain conditions a company could enter into preliminary self-administration proceedings and select its own trustee. Until 2021, Germany lacked a preventive restructuring regime.

EU initiative and directive on preventive restructurings. Starting in 2016 and coming from a different angle, the EU felt inclined to induce all EU members to provide for preventive restructuring proceedings, i.e., a restructuring regime that, looking at a natural timeline, targets cases prior to insolvency. Finally, in 2019, Directive (EU) 2019/1023 of the European Parliament and of the Council of 20 June 2019 on preventive restructuring frameworks came into effect. Based on this directive, Germany passed its new law: StaRUG.

Typical German restructurings would usually start off with financial advisers assessing the economic situation of a company and putting their findings, plus restructuring measures as well as financial forecasts, into a restructuring appraisal (Sanierungsgutachten). This appraisal would always follow a certain pattern set forth by the German institute of chartered accountants (Institut der Wirtschaftsprüfer, Sanierungsgutachten nach IDW S6). It is important to note that this appraisal contains both financial and operational restructuring measures. Based on this appraisal, the parties would first seek an out-of-court settlement. These out-of-court settlements between companies and their creditors are not governed by any legislation and there is no set scheme or procedure under which they are executed.

If out-of-court settlements fail, a company could try initiating a preventive restructuring under the StaRUG if it is not insolvent, in which case it would have to file for insolvency.

If insolvency has occurred, the company’s management must file a petition with the competent insolvency court. Two scenarios are possible: (i) illiquidity, which is applicable when a company is unable to pay, within three weeks, 90 percent of its debt that is due; and (ii) over-indebtedness, which occurs if a company has a negative liquidity forecast within the next 12 months and the balance sheet test results in the value of the liabilities exceeding the asset value.

Insolvency proceedings under the GIA provide for self-administration proceedings or classic insolvency proceedings. In both cases restructuring can be achieved through an asset deal or insolvency plan proceedings. In insolvency plan proceedings a company seeks a settlement with its creditors/shareholders. Creditors, who are organised in groups, then vote on this plan.

To gain access to the two restructuring options under the StaRUG, however, there the following requirements for a company: (i) it must be evidently not insolvent, which would allow it to enter into a so-called restructuring mediation; and (ii) it is only imminently illiquid, i.e., a liquidity forecast shows a funding need after 12 months only, not before, which would allow it to enter into a so-called restructuring scheme.

All forms of restructuring (under StaRUG and GIA) enable financial restructuring of a company. They go hand in hand with the aforementioned appraisal (Sanierungsgutachten), since creditors, especially financial institutions in Germany, would not agree to any form of settlement if a company is not overhauled entirely.

Restructuring options under StaRUG

Restructuring mediation. The StaRUG provides for rules that would enable a company to voluntarily enter a settlement scheme under the auspices of a restructuring court and with a court-appointed mediator available. The settlement, once executed, can be confirmed by the restructuring court. This would have a positive effect, especially for financial institutions, as the settlement can no longer be subject to any challenges under German insolvency avoidance rules (Anfechtung). The advantage of restructuring mediation for SMEs is its simplicity. The disadvantage is that it requires the unanimous consent of the affected parties.

Restructuring scheme. The StaRUG also provides for a restructuring scheme. This restructuring scheme holds a couple of key provisions for the purpose of reaching a settlement between the company and all or some of its creditors and shareholders (the so-called restructuring plan). These key provisions are: (i) rules on the proceedings initiating, leading to and executing the restructuring plan; (ii) rules on stabilisation (prohibition of enforcement); and (iii) rules regarding the fate of certain (executory) contracts.

In the event a company is only imminently illiquid, it can notify the restructuring court of the restructuring matter. Along with the notification the company must submit a restructuring plan, or if this plan has not fully been drafted, a restructuring conception similar to, or in form of, the restructuring appraisal – a Sanierungsgutachten nach IDW S6. Moreover, the company must submit a summary of the status of the negotiations with its creditors. The restructuring court is obliged to verify the notification and to monitor the proceedings. The appointment of a restructuring representative (Restrukturierungsbeauftragter), a position like a trustee, is not mandatory. An appointment ex officio will only occur if the rights of secured creditors are affected by the restructuring plan or a motion for a stabilisation order vis-à-vis all or all relevant creditors is filed. The company may choose its own restructuring representative and the restructuring court can only decline if the representative is not qualified for the job.

The restructuring plan is the core element of the restructuring scheme. The appendix of the StaRUG contains a list of necessary minimum information that a restructuring plan should include.

The restructuring plan contains a descriptive part (darstellender Teil), very much like a due diligence report with the key legal and financial information on a company, including the specific restructuring situation. It also describes the creditors and their breakdown into groups (secured, unsecured and subordinated creditors, shareholders, secured IC creditors and so on) that are affected by the plan. It is not mandatory that all creditors participate, however a restructuring plan can be executed with only one group of creditors, such as financial institutions.

The constructive part (gestaltender Teil) sets forth the terms of the agreements between the parties. The typical provisions are haircuts by creditors, but also debt to equity swaps and financing. It is also possible to restructure collateral or security rights. For SMEs, a restructuring plan represents an excellent option to restructure its balance sheet. This often goes hand in hand with operational restructuring measures. Both give SMEs a real option for a fresh start.

The company and the creditors affected by the restructuring plan will convene to take a vote on the plan. Those affected by the restructuring plan may attend and vote in person or electronically if the plan explicitly contains this option. It is not mandatory that the assemblies are organised by, and take place at, the restructuring courts.

The vote is executed by each group individually. The majority required for a positive vote is a minimum of 75 percent of the nominal claim value or the asset value of secured creditors in each group. The vote of a dissenting group can be replaced by a confirmation under the following conditions: (i) the restructuring plan is the best of all restructuring options for the members of that group; (ii) the members of the group participate sufficiently in economic terms; and (iii) the majority of the groups have voted in favour.

For SMEs the advantage of a restructuring plan is that unlike in restructuring mediation, dissenting creditors can be overruled.

Under the StaRUG, a company can file motions with the restructuring court for a stay regarding the enforcement of claims and regarding the realisation of collateral. The filing has to contain an updated restructuring plan or the restructuring conception, for example an appraisal such as the Sanierungsgutachten, a financial planning for a period of at least six months, and information on current funding for the company’s operations. The motion may be dismissed if the company had previously failed to pay employees, social security authorities and pensions or the company has omitted to publish at least one of its three previous annual statements. For SMEs, stabilisation orders buy time to implement a restructuring plan and avoid unforeseeable enforcement by creditors.

The StaRUG does not provide for any options for a company to terminate (executory) contracts. However, it contains provisions that impede counterparties from terminating contracts, for example it prohibits a counterparty from terminating a contract on the basis that a company has entered into a restructuring scheme. A such, financial institutions are no longer allowed to terminate loan agreements for the reason that a company has notified a restructuring court of its restructuring matter. Other provisions of a loan agreement may justify a valid termination, for example fraudulent acts or a breach of information obligations. While this may be a negative for financial institutions, it is likely a positive for SMEs, as it puts them in a comfortable position of having financing in place, which needs restructuring.

Comparison of PSP and StaRUG

The restructuring plan under the StaRUG and insolvency plan proceedings under PSP (GIA) are very similar. Votes on the plan are taken by groups of creditors and shareholders. The proposed classification of the groups, such as secured, unsecured creditors and so on, is identical.

The restructuring plan under the StaRUG represents a lean, effective and quick restructuring option for SMEs with as little external influence as possible, in the event a company is only imminently illiquid. It can help to prohibit enforcement of claims and collateral, to prohibit termination of contracts by counterparties and overrule dissenting creditors. A restructuring plan can also be executed with only one group of creditors.

If a company is insolvent, insolvency plan proceedings are advantageous if an SME wants to restructure executory contracts, such as lease agreements in retail cases with many chain stores, as the GIA offers options for abbreviated termination. However, insolvency plan proceedings take longer, must include all creditors of a company and have stronger external influence than restructuring schemes under StaRUG.

The restructuring plan proceedings, insolvency plan proceedings plus the possibility to restructure by way of a restructuring mediation or an asset sale, give SMEs a variety of options to successfully restructure, as Germany is now equipped with the necessary toolbox for all restructuring cases possible.

Steffen Schneider and Peter Jark are partners at BBL Brockdorff & Partner. Mr Schneider can be contacted on +49 69 963761 130 or by email: frankfurt@bbl-law.de. Mr Jark can be contacted on +49 30 2007577 0 or by email: berlin@bbl-law.de.

Steffen Schneider and Peter Jark

BBL Brockdorff & Partner