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Establishing an Economic Stabilization Fund for the Real Economy  

by Thorsten Kuthe, Michael Vetter, LL.M. (Univ. of Miami), Sandra Pfister, LL.M.

Published: May, 2020

Submission: June, 2020

 



By adopting the Act on the Establishment of the Economic Stabilization Fund of March 27, 2020, the German Parliament and the Federal Council established the Economic Stabilization Fund (“ESF”) as a special fund to stabilize the real economy in times of the COVID-19 pandemic. In addition, the legislature expanded and in part amended the Financial Market Stabilization Act and the Financial Market Stabilization Acceleration Act (now renamed the Economic Stabilization Acceleration Act) as a result of the financial crisis, including numerous amendments to corporate law rules for stabilization measures by the ESF.


Stabilization measures under the ESF are possible until the end of 2021 and should be ultima ratio according to the legislator’s intent.


ESF OBJECTIVES AND INSTRUMENTS

The ESF has two objectives:


  • overcoming liquidity bottlenecks and
  • strengthening the equity base of companies

ESF instruments are


  • guarantees for debt instruments in the amount of EUR 400 billion to bridge liquidity shortfalls and to support the refinancing of companies
  • EUR 100 billion to strengthen capital by way of equity participation in companies (“recapitalization measures”)
  • EUR 100 billion to refinance KfW special programs

The Federal Ministry of Finance may issue implementing regulations for all three instruments, which govern the instruments in more detail, including consideration, caps, safeguarding of the funding purpose, and subsequent reversal of the funding. After the European Commission extended the Temporary Framework for State Aid Measures on May 8, 2020 to include detailed rules for recapitalization measures by the Member States and allowed subordinated debt, hybrid bonds, profit participation certificates, silent partnerships, convertible bonds, and share acquisitions as instruments, the implementing regulations of the ESF, which are still being coordinated at this time (May 11, 2020), are expected to be approved soon, so that the ESF can start its activities. It should also be noted that regulations approved by the EU Commission above the threshold value of EUR 250 million will also require individual notification, which is expected to take at least four weeks.


APPLICATION REQUIREMENTS AND PROCEDURE

Eligible companies are those, which


    • are part of to the real economy
    • are threatened in their existence, and
      • the economy
      • technological sovereignty
      • security of supply
      • critical infrastructure or
      • the labor market
      • here this has implications for
         

and


  • that are not SMEs (small and medium-sized enterprises as defined by the EU). Exceptions are possible for companies (i) of importance for critical infrastructure (see Section 55 Foreign Trade and Payments Regulation) or (ii) with comparable importance for security and economy or (iii) in the form of start-ups with a valuation of at least EUR 50 million.

Companies must also meet the following conditions:


  • The company must not have been already in difficulty on December 31, 2019 (pursuant to Article 2(18) General Block Exemption Regulation)
  • the company has no other means of overcoming the liquidity shortfall or options for refinancing (ultima ratioconcept)
  • due to the stabilization measure, the company must have a clear independent going concern perspective after the coronavirus pandemic has been overcome, and
  • the company must demonstrate that it can guarantee a sound and prudent business policy. This may be in particular the stabilization of production chains and the securing of jobs. An applicant company should observe the requirements of the German Corporate Governance Code.

Due to the risk of distortions of competition, the EU Commission also imposes (additional) strict requirements for the granting of recapitalization measures. Those conditions are:


  • like the ESF, the EU Commission requires for recapitalization schemes that the liquidity shortfall threaten the company's viability and that there is no other possibility of obtaining affordable financing on the market, i.e., the measure is theultima ratio
  • also as under the ESF, there must be a common interest in recapitalization (e.g., large number of jobs, exit of an innovative or a systemically important company)
  • finally, the aid must be limited to enabling the viability of the company and should not go beyond restoring the capital structure to the situation before the COVID-19 pandemic

Further conditions for recapitalization of companies by Member States are


  • a corresponding remuneration of the State for the risk it assumes
  • an incentive for the owners or shareholders to buy out the shares acquired by the State to ensure the temporary nature of the intervention
  • development of an exit strategy: If the Member State still holds 15% or more of the capital after six years (listed companies) or seven years (other companies), the company must submit a restructuring plan to the EU Commission
  • ban on dividend payments (exception: dividend to the State) and buyback of own shares until the State has withdrawn completely
  • limitation of management remuneration until at least 75% of the recapitalization is redeemed; also ban on bonus payments
  • prohibition of cross-subsidization of companies within the group, in addition use of separated account
  • large companies may not acquire a stake of more than 10% in competitors or other operators in the same line of business, including upstream and downstream businesses, until 75% of the recapitalization is redeemed

The application for a grant under the ESF must be submitted to the Federal Ministry for Economic Affairs and Energy. The above-mentioned application requirements must be justified in detail and accompanied by supporting documents, where required, to enable a positive decision to be taken. In particular, it must be explained why a funding measure intended to be theultima ratioisnecessary. The company must demonstrate that other instruments that are normally available to the company are excluded. It is advisable to proactively contact the Federal Ministry for Economic Affairs and Energy. Applications may be accessed and submitted at www.bmwi.de/Redaktion/DE/Coronavirus/ESF/wirtschaftsstabilisierungsfonds.html once the EU Commission has agreed to the implementing regulations of the ESF.


EVALUATION OF THE APPLICATION BY THE FEDERAL GOVERNMENT

The Federal Ministry of Finance decides on the application for ESF funding by mutual agreement with the Federal Ministry for Economic Affairs and Energy. Decision criteria are:


  • importance of the company for Germany’s economy
  • urgency of the application
  • effects on the labor market and competition, and
  • economical and efficient use of ESF funds.

ESF funding is at the discretion of the federal government; there is no entitlement to funding. The federal government must have an important interest in stabilizing the company.


Decisions of the federal government may be provided with conditions and obligations, which may also include restraints in entrepreneurial freedom (e.g., conditions on the use of the financial resources, obligation to maintain jobs for a period to be determined, requirements for dividend payments by the company or for remuneration, etc.).


CHANGES BY THE ECONOMIC STABILIZATION ACCELERATION ACT

In addition to the establishment of the ESF, the Economic Stabilization Acceleration Act provides for numerous facilitations, including of the Stock Corporation Act or the Securities Acquisition and Takeover Act. These apply in part to companies in general and in part only in the context of a specific stabilization measure by the ESF. The Act does not only cover stock corporations, but is also applicable to other legal entities. The simplifications concern (not exhaustively):


  • price below the stock market price when new shares are issued to the ESF
  • facilitating the issue of preference shares to the ESF
  • facilitating the majority requirements for resolutions on capital measures
  • creating a special conditional capital of more than 50% of the share capital and simplified issue of profit participation rights and subordinated bonds without the approval of the general meeting
  • excluding material provisions of takeover law (no mandatory offer).

ASSESSMENT

The devil is in the details. With its requirement for a “clear independent continuation perspective,” for instance, the legislator has selected an undefined legal concept. It is unlear how this term relates to the insolvency law concept of a positive going concern prognosis. The “clear independent continuation perspective” is likely to be a minus to the positive going concern prognosis; at the very least, however, it will be necessary for a stabilization measure to be successful (when consideredex anteand taking into account the current developments of the COVID-19 pandemic). The application may therefore also have to be updated during coordination with the Federal Ministry for Economic Affairs and Energy in line with current developments. It might also be helpful to include various scenarios in the application regarding the duration and extent of the measures to contain the pandemic and to link the level of the requested measure to these scenarios.


Many fields of law come together when applying for ESF measures. State aid law, corporate and capital market law, financing and tax law, the interplay of which has become even more complex as a result of the adopted simplifications. For a measure to be implemented in conformity with the law, all these fields of law must be kept in view to rule out later legal implications (invalidity of measures taken by a company, repayment due to violation of State aid law, retroactive taxation, etc.). The federal government has notified the the implementing regulations with the EU Commission (as measures under the ESF), so that in principle (after approval by the EU Commission) individual notifications are no longer required. It cannot be ruled out, however, that individual measures with a large scope may nevertheless be notified individually to the EU Commission to obtain legal certainty. This circumstance must be taken into account when scheduling individual applications for funding from the ESF.


 



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