Today’s post provides some legal back ground on prominent corporate restructuring matters. Pfleiderer, a manufacturer of engineered wood and laminate flooring, and solar company Q-Cells have been making the headlines in the business press for quite some time now. Both were the brink of insolvency, both had bonds outstanding, the restructuring of which was central to their survival – and in both cases this led to litigation in the Frankfurt courts.
The key legal issue was whether Pfleiderer and Q-Cells could use the procedure under the new Bond Act (Schuldverschreibungsgesetz) and implement restructuring measures with a 75% majority vote of the bond bolder meeting. The Frankfurt Court of Appeals (Oberlandesgericht) in a ruling issued yesterday in the Pfleiderer matter held that the new Bond Act does not apply, and in effect, stopped the bond restructuring. The decision of the Court of Appeals is final; Pfleiderer has filed an application for insolvency,
The Frankfurt Court of Appeals confirmed an earlier ruling of the Frankfurt District Court (Landgericht), which held that the bonds in question were outside the scope of the new Bond Act and that no opt-in procedure was available. On that basis, it had refused to sanction, in so-called release proceedings (Freigabeverfahren), both the Q-Cells and the Pfleiderer restructuring schemes. The judgments appear to jeopardize the German lawmaker’s attempt to modernize the German Bond Act.
But first, some background: In 2009, Germany did revise its law applicable to bonds. The time-honoured German Bond Act (Schuldverschreibungsgesetz) of 1899 was replaced by a modern version, SchVG 2009. The 1899 Act had come into force, at the same time as the German Civil Code, on January 1, 1900. It had survived more than a century without major changes. However, the old Bond Act had never achieved great practical relevance, in the main, since it allowed only for insignificant variations of the commercial terms of a bond. There was general consensus that significant reforms were required.
The new Bond Act was intended to provide new flexibility, by allowing bondholders to vary the terms by a majority of 75%. The reform also intended to widen the scope of the Act’s application: Whereas it previously applied only if the issuer had its domicile in Germany, it now applies to bonds governed by German law, irrespective of the domicile of the issuer. . Since German corporate bonds are, mainly for tax reasons, often issued by foreign subsidiaries, in particular by Dutch B.V.s, this was of great practical relevance – as theFrankfurt cases show. The new Bond Act automatically applies to all bonds issued after August 5, 2009. For bonds that were issued previously, the Act provides for an opt-in procedure, requiring a 75% majority vote.
Both the Pfleiderer and the Q-Cells bonds were issued before August 5, 2009 by Dutch group companies. The bondholder meetings had voted with the required 75% to opt for the application of the new Bond Act. At first sight, it would therefore appear that this was precisely the situation which the lawmaker had intended to cover. But the devil’s in the detail:
In the first matter before the Frankfurt District Court, the Pfleiderer case, the Frankfurt District Court had taken issue with a subordination clause (Nachrangklausel) in the bond terms that was governed by Dutch law. The court read the Bond Act to be applicable only if German law exclusively governs the bond. As a result of the Dutch law subordination clause, this requirement is not met, and the opt-in procedure not available to Pfleiderer.
In the second matter to come before the court, the Q-Cells bonds were exclusively governed by German law. Still, on January 23, 2012, the Frankfurt District Court held that the opt-in procedure nevertheless did not apply. The application of the opt-in provision of the new Bond Act to bonds of foreign issuers failed on constitutional grounds. If the Bond Act were interpreted to apply to such bonds, the opt-in provision in the Bond Act would be a legislative act of retroactive effect, and hence unconstitutional. Holders of such bonds had acquired them, and hence legally protected property rights, in a situation were there was no possibility to change the bond terms by majority vote: Neither did the provisions of the old Bond Act apply, since the bonds were issued by a non-German issuer, nor did the bond terms provide for a majority vote. The opt-in would therefore only have been valid, if it had been by unanimous vote.
So far, yesterday’s judgment of the Frankfurt Court of Appeals has not been published, only a press release has come out. Thus, it remains to be seen which reasoning the court has adopted. The Pfleiderer argument clearly is limited in scope, and would rule out the application of the new Bond Act only for a limited class of bonds which are partly governed by foreign law. The line of thinking in the Q-Cells decision is of a much more fundamental nature. Arguably, it would be even beyond the powers of parliament to overcome the objection.
In practice, since Frankfurt is widely chosen as the place of jurisdiction in German bond conditions, for most German corporate bonds issued before August 5, 2009, the restrictions of the old Bond Act still apply. Activist bondholders can oppose restructuring schemes and frustrate the attempts of issuers to vary the terms of the bonds, to agree haircuts, debt/equity swaps etc.
Cartoon (c) and courtesy of Stu Rees; www.stus.com