Unbegeistert: German turnaround deals disappoint

In March last year, German insolvency laws were tweaked under Gesetz zur weiteren Erleichterung der Sanierung von Unternehmen (ESUG), with the main objective of improving restructuring and recapitalisation opportunities. The main purpose was to make insolvency proceedings more predictable and effective, while introducing a ‘rescue culture' more akin to that of the UK.

According to credit and risk solutions provider Creditreform, 15,430 German companies filed for bankruptcy in the first half of this year, up 3.4% on the same period last year. The manufacturing sector was worst affected, with 1,300 companies filing for administration, a worrying 10.2% surge on last year's figures.

While Europe continues to suffer the after-effects of the financial crisis, against the backdrop of a more supportive regulatory framework, the lack of private equity-backed turnaround deals taking place in Germany is surprising. The subdued market has so far only seen whispers of activity. In late 2012, Trigon Equity Partners rescued wood-focused manufacturing firm Menz Holz out of administration.

However, an encouraging nod towards a more active special situation market in Germany came from Orlando Management's recent fund close for its Special Situation Venture Partners III vehicle on €231m in March 2012, €31m over its target.

According to Christian Hollenberg, founding partner of German turnaround house Perusa Partners, the rise in insolvency procedures has been noticeable but has had very little impact on dealflow for private equity. "For the most part, the new laws are a good way for debtors to get rid of their creditors, and they are keen to do that independently without the help of financial investors," he observes. "Financial investors only come into play when significant additional equity is required."

But rather than a dearth of opportunities and dry pipelines, the lack of deal activity is an effect of poor-quality businesses. Hollenberg concedes that the last quarter of 2012 and the beginning of 2013 offered relatively few opportunities, but activity has significantly picked up over the past two quarters. "We are very active now, but we're often seeing relatively poor-quality businesses. We've seen a lot of business models that just don't work particularly well."

Beyond weak businesses, Hollenberg believes many owner-managers are reluctant to let go of hefty chunks of equity. "We're also seeing a lot of people that still own good businesses but are just temporarily facing difficulties. These owners will try everything else before they consider selling a majority stake, simply because the alternative of putting any money anywhere else other than their own business is not very attractive in the current interest rate environment," he explains.

Timing is everything
Peter Jark, partner and head of restructuring and insolvency for DLA Piper in Germany, believes the recent changes are advantageous to investors, as companies filing for insolvency can now choose their own administrator (previously bankrupt firms were appointed a court administrator), and there is the option for debt-for-equity swaps. "From my perspective, these are key factors for investors," he says.

As companies can file before the event, through the imminent insolvency procedure (for firms that foresee being unable to repay debts as they fall due), or even initiate an out-of-court restructuring process, Jark states there is a stronger possibility of the company being able to continue trading rather than collapsing entirely.

However, Jürgen Zapf, managing director and head of the German transaction advisory group in Alvarez & Marsal's Munich office, observes how tricky it still is for investors to be involved in rescue processes: "While there might be more targets, investors have to get in at exactly the right time. And news of a potential bankruptcy tends not to be spread around the wider business community."

Indeed, under the new rules, despite giving managers more control over the administration procedure, management must obtain a unanimous agreement from all material stakeholders on how the business will move forward before filing for self-administration. "This creates a hurdle," points out Zapf. "As a distressed private equity investor, you need access to management before any procedures begin," he adds.

Culture vultures
Arguably, changes to the insolvency law are still in their infancy – and as with any new regulation, it can take several years for the market to react. However, cultural changes are already being felt. "There has been a good acceptance of the changes and the new possibilities it offers," says Jark. "We're certainly moving towards more of a restructuring culture."

"The stigma around bankruptcy is loosening up slightly but not on a broad scale yet; it will take a little more time for that to happen," adds Hollenberg.

Zapf believes the changes have been a force for good: "I think the whole business community is aware that this is a positive tool." But he also notes the limited impact on dealflow: "Some people would have expected the changes to move much faster – especially the private equity community. So, although it has had an impact on the investment market, it was originally over-estimated by some parties."

One of the main drivers behind changing insolvency laws in Germany was to create more of a rescue culture. Culturally, Germany differs hugely from the UK and the US when it comes to attitudes towards insolvency. German managers do everything they can to avoid bankruptcy, as it is seen as black mark on your track record. 

A deep-set change in culture could see the turnaround and special situations private equity market in Germany bursting into life over the coming years. However, it seems unlikely that the stigma attached to MDs that have gone down with their ships will fall away entirely. Despite sweeping new regulation, changing a country's culture has to happen at grass roots level, as well as through the authorities. What is clear, though, is that the new rules are creating an increased openness around how to deal with overwhelming debt. In time, this could open doors for turnaround investing in Germany.

• Tweet  
• Facebook  
• LinkedIn  
• Google plus  
• Send to  

• Topics
• Turnaround/Special Situations
• DACH
• Perusa GmbH
• Orlando Management GmbH
• DLA Piper
• Top story