Taking private a listed German stock corporation

Author: | Published: 10 Oct 2001
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In identifying potential acquisitions in Germany, private equity funds are no longer restricted to the family-owned Mittelstand companies. They should also consider targeting listed stock corporations, in particular stock corporations whose shares are quoted on the Neuer Markt. However, they must be aware that the acquisition of a listed stock corporation by an equity fund requires special techniques to transform public share ownership into a privately-held portfolio company.

The regulatory environment for such acquisition techniques is in transition in the second half of 2001. The new European Union takeover directive had already been discussed for 12 years among the member states, when it collapsed on July 4 2001 in a tied vote at the European Parliament. As a consequence, on July 11 2001 the German Government decided to opt for a national solution and to submit the draft of the German Wertpapiererwerbs- und Übernahmegesetz (Takeover Act) to the Bundestag. According to the draft, the German Takeover Act will become effective as of January 1 2002 without any retroactive effect on takeover bids launched and completed prior to that date. As a side effect, the German government's draft simultaneously provides for the insertion of a squeeze-out provision in the German Stock Corporation Act.

In targeting a listed German stock corporation, therefore, private equity funds may wish to compare existing acquisition techniques to the new possibilities offered under the future German Takeover Act and to consider timing implications for the acquisition process. For example, the existing voluntary regime for takeover bids under the Übernahmekodex does not provide for a retroactive increase of the price per share if the bidder subsequently acquires shares at a higher price on the basis of an individual contract outside the bid. However, the proposed German Takeover Act (§31 (4), (5) of the draft Act) does provide for such an increase in respect of any purchase within one year after the mandatory publication of the bidder's share ownership following the end of the acceptance period for the takeover bid.

Application by the issuer for delisting

As a consequence of the federal structure of the German Laender, there are no less than eight stock exchanges in Germany on which shares can be admitted for official quotation (Frankfurt, Hamburg, Bremen, Hannover, Berlin, Düsseldorf, Stuttgart and Munich).

Notwithstanding the economic success of the Frankfurt Stock Exchange and the other seven stock exchanges colloquially being referred to as the so-called Regional Stock Exchanges, all eight German exchanges have equal standing in legal terms. Delisting shares of a German stock corporation from a German stock exchange means, therefore, that such delisting needs to be applied for at any given stock exchange where shares are listed.

On the company law side, a court of appeals held this year that any application by the stock corporation's management board for a delisting requires the prior consent of the general meeting with a majority of 75% of the capital represented. Accordingly, a private equity fund would need to acquire the majority of shares first (whether by a takeover bid or by individual agreements with large shareholders) before taking a shareholders' resolution on an application for delisting.

According to the federal law, the admission board of any relevant stock exchange may revoke the admission of shares for listing on such stock exchange only if the revocation does not conflict with the protection of investors, as more specifically defined in the relevant stock exchange rules. Under the Frankfurt Stock Exchange rules, the revocation of listing does not conflict with the protection of the investors if: (1) the delisting is locally restricted (ie such shares will be traded after effectiveness of the revocation on a domestic or foreign organised market); or (2) a takeover bid has been made to the shareholders on a reasonable price relative to the highest quotation during the six month period ending immediately prior to the application for revocation of listing and on terms corresponding to certain provisions of the German Übernahmekodex.

In principle, a private equity fund would not be interested in a partial (locally restricted) delisting, but would rather need to take the stock corporation completely private by the second route. However, if this route is used, the Frankfurt Stock Exchange Rules provide that the revocation by the admission board will become effective only upon expiration of a one-year waiting period commencing upon the publication of the revocation in the Stock Exchange gazettes. Theoretically the admission board, at its discretion, may decide upon application of the issuer to shorten the waiting period where not contrary to the interest of the investors. However, whether such a decision can be obtained will be hard to foresee at the outset. Also, due to the federal structure of the eight stock exchanges, any multiple listing in Germany would require an approach to more than one admission board.

As a result, even though the federal legislature had already implemented statutory provisions in order to facilitate delisting processes, the timing issue remains a primary concern for every private equity investor.

Merging into a non-listed acquisition vehicle

As an alternative, the private equity fund may wish to merge the listed German stock corporation into a non-listed acquisition vehicle by way of amalgamation, the effectiveness of which would automatically cause the listed stock corporation to cease to exist. Assuming that the private equity fund holds at least 75% of the votes in the acquisition vehicle, the latter would need to acquire enough shares of the listed stock corporation in order to control at least 75% of the capital in the general meeting to resolve on the merger.

A major problem with this technique is that, under company law, any individual minority shareholder of the listed stock corporation must be offered shares in the acquisition vehicle, such shares to be transferred to the minority shareholder by operation of law upon effectiveness of the merger.

In addition, minority shareholders must also be offered a compensation payment should they wish to leave the stock corporation without obtaining shares in the acquisition vehicle. However, at present such compensation payment is designed as an option exercisable by the minority shareholders rather than a mandatory squeeze-out. As a consequence, shareholdings in the acquisition vehicle may become as widely spread upon effectiveness of the merger as the shares in the listed stock corporation were spread in the public previously. In particular, German Reorganisation Law does not allow for the transformation of former minority shareholdings in the listed stock corporation into mere trusteeship arrangements in respect of shares of the acquisition vehicle.

As a consequence, it will be crucial for the private equity investor to set-up the acquisition vehicle to cope with the new minority shareholders in the acquisition vehicle. The fund managers may wish to form the acquisition vehicle either as another non-listed stock corporation or as a limited partnership in which the minority shareholders will become limited partners. So-called public limited partnerships have become widely known in Germany in the construction and ship building industries, where they allow the limited partners to participate in special tax benefits (eg the artificial creation of losses due to very high amortization ratios). However, private equity investors need to seek legal advice on whether limited partnerships can be structured in an appropriate way for managerial purposes afterwards.

The second issue arising from the merger technique is the expectation that minority shareholders of the listed stock corporation may bring an action for annulment of the general meeting's resolution on the merger. In fact, there are a number of professional minority shareholders in Germany who appear to own at least one share in every listed German stock corporation and frequently bring actions for annulment alleging that they were also acting in the general interest of the minority shareholders or the public good. Such an action can be brought within one month from the respective resolution of the general meeting and, in principle, can at least bring the registration process at the commercial register to a halt before final judgment on the action for annulment is obtained. Since the registration of the merger in the commercial registers both for the stock corporation and for the acquisition vehicle is required for effectiveness of the merger, risk assessment will be essential in relation to potential actions for annulment of the general meeting's resolution on the merger.

If such an action is brought, the management board of the stock corporation may apply to the trial court for an order that the action for annulment shall not prevent the merger from being registered. However, the trial court will only give the order if: (1) the action for annulment is not permissible; or (2) the action for annulment evidently has no merits; or (3) in the view of the trial court, the interests of the stock corporation, the acquisition vehicle and their shareholders in completing the merger outweigh the alleged violation of law and the material detriments allegedly resulting therefrom. Recently, defendants have been able to convince the trial court that various actions for annulments evidently had no merits and, therefore, should not prevent the registration process from being consummated.

An action for annulment cannot be brought on an allegation that the conversion ratio for shares in the stock corporation to be replaced by shares in the acquisition vehicle is inappropriate. This is because the appropriateness of the conversion ratio is subject to a distinct court procedure independent from the registration of the merger. In a landmark decision in December 2000, the Federal High Court expanded this rule so that an action for annulment cannot be brought on the allegation that shareholders' information rights had been infringed prior to or during the general meeting to the extent that such information rights relate to the conversion ratio.

However, the trial court will allow the registration process to continue despite a pending action for annulment only on the basis of a preliminary, but in-depth review of the merits of such action. Hence, even where such order might be obtainable, any action for annulment is likely at least to delay the entire registration process and, thus, the effectiveness of the merger. Since timely effectiveness of the merger may be essential for economic benefits such as tax effects, potential exposure to actions for annulment of merger resolutions continues to be a major threat to investors' business plans.

Additional legal advice may be required where different classes of shares exist in the listed stock corporation, such as ordinary shares and preference shares. Preference shares not conferring voting rights do not necessitate a special resolution of the preference shareholders provided that the preference dividend has been fully paid over any two year period in the past and the preference rights are adequately transformed into preference rights under the legal regime of the acquisition vehicle. Otherwise, the dormant voting rights connected with the preference shares may be triggered and necessitate a special resolution of the preference shareholders on the merger.

Conversion of the listed stock corporation into a different type of entity

In principle, any German stock corporation, whether listed or not, can be converted into a company of different legal form (eg a GmbH) or into a partnership (eg a limited partnership), which as a legal entity remains identical with the legal person. Once the conversion becomes effective, shares in the listed stock corporation become shares in the company of different legal form or partnership interests in the partnership.

The legal requirements for a conversion are similar to those for a merger of the listed stock corporation into an acquisition vehicle. In particular, the general meeting of the listed stock corporation needs to resolve on the conversion with a majority of 75% of the capital represented. A special resolution of preference shareholders, if any, would be necessitated alongside the criteria outlined above.

By comparison to the merger solution where the listed stock corporation could be merged into a non-listed stock corporation, the conversion route does not allow for the listed stock corporation to be maintained as a stock corporation (except for any re-conversion later). For all practical purposes, the listed stock corporation would probably be converted into a limited partnership. Unlike the merger route, however, the limited partnership does not exist prior to the effectiveness of the conversion and, therefore, the partnership agreement cannot be pre-designed for the purposes of the equity investor. Rather, the partnership agreement would be resolved alongside the resolution on the conversion as such, which therefore may be exposed to potential actions for annulment of the general meeting's resolution to an even greater degree. As with merger, any action for annulment could bring the registration process of the conversion to a halt.

Integration of a listed stock corporation into a non-listed stock corporation (Eingliederung)

To allow for an integration, private equity investors would need to incorporate their acquisition vehicle as a German stock corporation, which would have to acquire shares representing at least 95% of the registered capital of the listed stock corporation.

Therefore, any integration would most probably be preceded by a takeover bid to be launched by the acquisition vehicle. Upon the required resolutions of the general meetings both in the acquisition vehicle and the listed stock corporation and upon registration of the integration in the commercial register of the listed stock corporation, the integration would become effective. All minority shares of the listed stock corporation would be transferred by operation of law to the acquisition vehicle.

As a result, the listed stock corporation would become a wholly-owned subsidiary of the acquisition vehicle and shares of the subsidiary are delisted. Simultaneously, the (former) minority shareholders of the (then no longer listed) stock corporation must be offered: (1) compensation shares in the acquisition vehicle; or (2) where the acquisition vehicle is itself integrated into another stock corporation, shares in such other stock corporation; or (3) where the acquisition vehicle itself is not integrated into another stock corporation, but controlled by a parent (of any legal form), at the option of the minority shareholders either compensation shares in the acquisition vehicle or a cash compensation payment.

Therefore, if the private equity fund controls the majority of the votes in the acquisition vehicle, the acquisition vehicle would be required to offer the minority shareholders of the listed stock corporation, at their option, either compensation shares in the acquisition vehicle or cash compensation payments. Minority shareholders may contest the appropriateness of the compensation shares or the compensation payment offered by the acquisition vehicle, but such contest would be subject to court proceedings independent from the registration of the integration. However, as with merger proceedings, an action for annulment of the general meeting's resolution in the listed stock corporation on the integration may be brought on other grounds and bring the registration process to a halt.

As regards any delay in the registration process for reasons of an action for annulment, the situation in the integration scenario is analogous to that of merger. This includes, without limitation, the option to apply to the trial court for an order that any given action for annulment does not prevent the integration from being registered in the commercial register. Hence, as in the merger case, it would be highly advisable to seek legal advice on a risk assessment beforehand as to any potential exposure to actions for annulment of the general meeting's resolution on the integration.

Transferring dissolution (Moto Meter model)

Upon acquisition of a sufficiently high majority of shares in the listed stock corporations, the private equity fund may opt to have the entire business of the stock corporation sold and transferred by way of an asset deal to a distinct acquisition vehicle that is a wholly-owned subsidiary of the private equity fund and has a pre-designed appropriate structure (eg a GmbH).

Prior to the consummation of the asset deal, the general meeting of the listed stock corporation would need to consent to the asset deal by a special resolution requiring a majority of 75% of the capital represented. Simultaneously, the general meeting resolves to dissolve and liquidate the listed stock corporation.

The purchase price to be paid for the assets by the acquisition vehicle to the listed stock corporation will remain part of the stock corporation's assets for the mandatory waiting period of one year from the third publication of the dissolution in the federal gazette (or any other company gazette).

Unlike in a merger, conversion or integration, taking the listed stock corporation private by such transferring dissolution does not require the stock corporation to offer any compensation payment to its minority shareholders. This has been clarified by the German Constitutional Court. Instead, minority shareholders will participate in the final distribution of the liquidated stock corporation's assets to its shareholders. However, and contrary to the merger, conversion or integration solution, the asset deal inherent in the transferring dissolution may not be tax neutral.

In addition, the private equity fund would need to arrange for sufficient financial credit to finance the purchase price for the majority of shares in the listed stock corporation, and also to allow the distinct acquisition vehicle to finance the purchase price for the asset deal. Upon completion of the liquidation of the stock corporation, the private equity fund will receive the largest portion of the purchase price for the asset deal by way of distribution from the stock corporation. However, this will finally occur only upon expiration of the mandatory waiting period of one year prior to the distribution of the remaining assets to the shareholders.

The transferring dissolution is not specifically dealt with in the stock exchange law, but upon the general meeting's resolution on the dissolution of the listed stock corporation, as a general rule, the stock exchange can be expected to decide that the quotation of shares is cancelled on the grounds of the general law.

Squeeze-out

At present, the German legal system does not provide for any squeeze-out as such. Use of the mechanics of a capital decrease has been discussed, in particular a decrease to a capital of zero in combination with a subsequent capital increase, for the purposes of an economic squeeze-out in that: (1) the new shares have a higher face value and/or are issued with a substantial premium which does not allow the former minority shareholders to translate their old shares into one new share without additional payments; or (2) the old shares at a lower face value are combined to shares at a higher face value. However judicial authority from 1999 in the Hilgers case and from 1998 in the Sachsen-Milch case strongly suggest that any of the foregoing two routes may face insurmountable obstacles, except in the circumstances of a simplified capital decrease for reason of reorganization. However, in these circumstances it may be questionable whether a private equity fund would wish to target a listed stock corporation at all.

The existing German Übernahmekodex is based on voluntary acceptance by individual market participants, rather than the cohesive force of statutory law. Thus, the Übernahmekodex does not, and indeed cannot, provide for a squeeze-out of minority shareholders.

The draft EU Takeover Directive, as it had been approved by the mediation committee on June 6 2001 and rejected in the European Parliament on July 4 2001, did not provide for any squeeze-out either, but allowed for a squeeze-out on the level of the national laws.

As mentioned above, the German Government decided on July10 2001 to present the existing draft German Takeover Act (Wertpapiererwerbs- und Übernahmegesetz) to the Bundestag. It is intended that the German Takeover Act will come into force on January 1 2002. As an annex to the takeover rules, the draft provides for incorporation of a genuine squeeze-out into the German Stock Corporations Act (§§327a - 327f AktG). According to these draft provisions, a squeeze-out will only be permissible if 95% of the capital of the stock corporation (whether listed or privately held) is owned by the same shareholder. In contrast to the existing integration rules, minority shareholders are not offered shares in the majority shareholder (in case of an integration, a stock corporation), but simply a compensation payment.

As a general rule, the compensation payment must be based on the fair market price of the shares and can be contested by any minority shareholder in a distinct court procedure (Spruchstellenverfahren). However, the compensation price will be exempt from this distinct court procedure and will be equal to the price offered in any public takeover bid, provided that: (1) the majority shareholder acquired the shareholding of no less than 95% of the capital on the basis of the takeover bid; (2) such takeover bid has been made in the six month period ending immediately prior to the general meeting's resolution on the squeeze-out; and (3) at least 90% of those shareholders to whom the takeover bid was addressed have accepted the takeover bid.

Even where the compensation payment does not have to be equal to the bid price, the bid price need not be retrospectively increased if the compensation payment finally turns out to be higher than the bid price. However, the bid price will remain constant (and will not be retrospectively increased) only if the compensation payments are limited to those required by statutory law. By contrast, any sale and purchase agreement on minority shares negotiated on an individual basis within a defined period of time after the published completion of the takeover bid will result into an improvement of a previously lower bid price.

The way forward

The existing and (expected) future techniques for taking a listed German stock corporation private offer a considerable range of alternative solutions to any equity investor. The draft squeeze-out provisions now before the German Bundestag should be applicable from January 1 2002, irrespective of whether the required share ownership of 95% of the capital has been acquired before that date or later. However, as regards any takeover bid, the timing would be crucial.

According to the draft German Takeover Act, the new takeover regime would not have retroactive effect on bids launched and completed (or withdrawn) by not later than December 31 2001. Accordingly such takeover bids would be subject to the German Übernahmekodex (to the extent the participants have accepted the Übernahmekodex). Therefore, the bid price would not need to be increased for the reason of an individually negotiated higher purchase price on a bilateral basis prior to January 1 2002, except where such individual acquisition occurs during the period set for acceptance of the bid. Accordingly, in Germany the legislative and regulatory environment for taking listed stock corporations private has reached an interesting period of transition offering unique opportunities.

This note is written as a general guide only. It should not be relied upon as a substitute for specific legal advice.


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