Out-Law Analysis | 08 Jun 2020 | 3:24 pm | 5 min. read
Germany has replaced the IDW S6 expert report for struggling companies with simpler checks during the coronavirus crisis.
Most large German companies that go through a financial restructuring do so with the aid of a restructuring expert report (Sanierungskonzept) in the form of the IDW S6, a standard published by the Institute of Public Auditors in Germany. For German companies in financial difficulty the IDW S6 is the plan back to profitability.
During the Covid-19 pandemic the duty to file for insolvency is suspended in some circumstances. In these cases IDW S6 is being replaced with more straightforward illiquidity and solvency checks.
A new law suspends the management's statutory duty to file for insolvency in the event of the German incorporated company's illiquidity or over-indebtedness. But it is only effective until 30 September 2020, after which companies that have not managed a turnaround will have to commence insolvency proceedings in the usual way. Nevertheless, the law provides for a mechanism to extend the suspension period beyond this date, if required. It is unclear how any such extension of the suspension period will operate.
If the company can show that it was not facing insolvency on 31 December 2019, the new law presumes that there is a causal link between the pandemic and the company's illiquidity and that there is a prospect of the company's survival as a going concern.
This is designed to ensure that the management and creditors of companies in crisis caused by the pandemic are protected from the management and creditor risks that are linked to delaying the filing for insolvency. Protection is provided to businesses facing illiquidity or over-indebtedness caused by the Covid-19 pandemic subject to there being a prospect of survival as a going concern.
This statutory presumption helps to relieve companies which are threatened by insolvency from having to provide restructuring reports such as the IDW S6 to their creditors. This means, rather than having to obtain a comprehensive restructuring report demonstrating the company's reasonable prospect of recovery, a straightforward liquidity and solvency check with respect to the reference date 31 December 2019 will suffice to facilitate the business's survival for the duration of the coronavirus pandemic. Although it will be extremely difficult for companies to show a future reasonable prospect of recovery when projecting or forecasting revenue in the aviation, transport, leisure, hotel and infrastructure sectors due to the uncertainties caused by Covid-19.
The IDW S6 is a formal, structured roadmap seeking to ensure a sustainable recovery. It will typically be required by the board of directors of the company or by the lenders providing new debt, restructuring existing debt or even renegotiating an existing security structure.
The IDW S6 is used to reduce the risk of civil, insolvency law and criminal law liabilities that arise from delaying of the onset of insolvency, where the restructuring attempts fail and the company then goes insolvent. The IDW S6 also avoids claw-back risk for lenders of funds received prior to or during the restructuring period.
It is an expert opinion that states that a company facing illiquidity, imminent illiquidity or over-indebtedness in the long term can be successfully restructured. Its name derives from the fact that the restructuring report is based on the standard numbered 6 of the National Institute of Auditors (IDW). The idea behind the standardisation is to provide market participants with a common idea of what the restructuring report must cover according to the jurisdiction of the German Federal Supreme Court.
Based on court judgments, a viable restructuring report must contain at least statements on essential company data, economic and legal influencing factors and the central causes of the crisis, the necessary operational or financial restructuring measures and contributions of the various parties involved and presentation of the liquidity, earnings and asset planning of the company, taking into account the restructuring measures and contributions.
However, it is important to note that compliance with the IDW S6 standard is not required by law. The only decisive requirement is that the criteria established by case law are met.
According to the German Federal Supreme Court, the expert opinion should be prepared by an "unbiased expert". In addition to boutiques that specialise in restructuring expertise, auditing and consulting companies also offer IDW S6 expertise. In practice, entire teams are usually involved in the preparation of the restructuring report, including business economists, industry insiders and experts in labour law and tax issues.
This standard is also regularly used in the restructuring of German larger companies. It is often required by lenders, particularly in the case of restructurings. Further, German banks are subject to risk management regulations which require German lenders to monitor their borrowers' financial situation, including their prospects of restructuring and in such case look to the IDW S6.
To counter liability claims, banks and management boards can use an IDW S6 expert opinion to prove that the German company had a reasonable prospect of being restructured and thus potentially be immune from liability.
Before the new law came into force, there was a limited time to file for insolvency with consequent risks of liability for the management. This still applies for cases where the relevant criteria for the suspension of the duty of insolvency filing can not be met. If the management does not file for insolvency immediately it then only has three weeks after its insolvency or over-indebtedness to do so.
Failing to file for insolvency at the proper time constitutes a criminal offence, which is punishable by imprisonment for up to three years and, in case of negligence, by imprisonment for up to one year. Further, the managing directors may be held personally liable for any payments effected when the company was in a state of illiquidity or over-indebtedness. Exceptions to this rule are limited to cases where the director is required to make the payments by law, where the director could not have been aware of the company's financial situation or where the payment was made to receive a consideration of at least equal value.
Creditors who are actively involved in a restructuring attempt, for example by making fresh liquidity available or debt restructuring, also face certain risks. If a restructuring fails liability may exist in respect for assistance in delaying the management from filing for its insolvency or due to intentional and immoral endangerment of the other creditors with the accusation of extending the "inevitable death” of the company.
There is also a risk of claw-back of funds they may have received by the borrower before or within the scope of a failed attempt at restructuring.
As a rule, listed companies often try not to prepare a restructuring report in the form of the IDW S6 due to its link to insolvency. They prefer to prepare an independent business review which is orientated towards the IDW S6 but does not completely correspond to it. If at a later point an IDW S6 is required the company has the building blocks to have one produced quickly.