Financing guide – corona virus

1. Background

The effects of the coronavirus (COVID-19) are still being noticeable in many industries in the form of a decrease in sales. Many companies are still wondering what they should be aware of in respect of their existing financing contracts and what government-subsidised funds (state aid) are available to meet their short-term financial needs.

2. Legal impact on existing financing's

Contractual provisions tailored to the COVID-19 epidemic and/or its consequences are mainly found in loan agreements concluded under the KfW Special Programme 2020 (KfW Sonderprogramm 2020).

Any borrower whose business operations could be negatively affected by the Covid-19 epidemic should review existing financing agreements, particularly in regard to rules on compliance with financial covenants and possible contractual termination rights (e.g. special termination rights for cause / material adverse change) or statutory termination rights (due to deterioration of financial situation or for cause).

2.1 Financial covenants

Supply chain disruptions can lead to sinking production figures, decreases in sales and ultimately a failure to achieve a planned result. Failure to achieve a planned company re-sult, in turn, can cause a breach of a financial covenant, which usually results in additional consequences (e.g. triggering a termination right, increasing interest, loss of drawing rights). Such a breach of contract is usually remedied by requesting a waiver letter in which the financier waives a breach of contract. Procuring a waiver letter or the accompanying contractual amendment is often possible only in return for payment of a fee or risk premium.

2.2 Material adverse effect / material adverse change (MAC)

Syndicated loan agreements usually include a termination right for lenders in the event that a circumstance occurs that has led or probably will lead to a material adverse change in the borrower’s business operations or capital, financial situation or income (material adverse effect or material adverse change (MAC)). Similar provisions can also be found in bilateral loan agreements.

Whether or not the Covid-19 epidemic’s impact on business operations or income situations can trigger the legal consequences of a MAC depends on the specific circumstances and the specific MAC provision in the contract. An important factor here is also whether the specific clause states that the deterioration must have already occurred or is only a strong possibility. Even if the wording of the MAC clause permits the lender to terminate based on expected developments, the lender should carefully review whether this prognosis holds with sufficient certainty or whether the termination (or the suspension of a credit line as a “minus” to the termination) will ultimately be deemed impermissible because the expected deterioration proved to be short-term and ultimately insubstantial.

One factor in an individual case that can indicate that a termination right is not justified is if the financial covenants have not yet been breached. This can be an indication that no deterioration of the financial situation has occurred as yet. The executive management or the persons submit utilisation requests are well advised to carefully examine the statements inherent in a disbursement request in order to avoid the risks involved in incorrect declarations.

2.3 Lender’s termination right due to deterioration of a financial situation

The applicability of section 490 German Civil Code to loan agreements under German law is not usually contractually ruled out in cases other than mezzanine financing's. According to section 490 Civil Code, a lender has the right to terminate without notice for cause if there is or threatens to be a substantial deterioration in the financial circumstances of the borrower or in the value of a security given for the loan as a result of which the repayment of the loan is jeopardised even if the security is realised. Similar provisions can also be found in the general terms and conditions of many credit institutions. If the impact of the Covid-19 epidemic on a borrower causes a drastic deterioration in its financial circumstances or security (e.g. because it is not able to absorb large revenue decreases resulting from production slowdowns due to suspended delivery of goods, plant closures, etc.), the lender can be entitled to a termination right according to section 490 Civil Code or based on applicable general terms and conditions. The fact that this was caused by a force majeure event upon which the borrower had no influence does not affect this termination right (not even in the form of a due consideration principle).

2.4 Bearer notes

Holders of bearer notes can be entitled to a termination right due to a deterioration in the financial situation of the issuer if and to the extent that the terms and conditions of the note provide for this or include financial covenants which, when breached entitle the noteholder to terminate. However, before exercising termination rights stipulated in the terms and conditions of the note, noteholders should take into consideration that even if they give valid notice of termination of the note, a subsequent majority decision of a noteholders’ meeting according to section 5 German Bond Act that rescinds the termination right are binding on the affected noteholders if no repayment has been made in the meantime. As a result of the termination, the receivable certified in the note only becomes due, which does not trigger applicability of the Bond Act; the content and amount of the receivable remain unaffected by the termination (German Federal Court of Justice, judgment dated 8 December 2015 – XI ZR 488/14).

If the terms and conditions of the note do not expressly provide for a termination right, noteholders cannot terminate according to section 490 Civil Code. This statutory termination right in the event of a material deterioration of the financial situation of the borrower is not applicable to bearer notes. However, a right to terminate for cause may exist under the conditions set out in section 314 Civil Code because this provision applies to all long-term debt obligations. Nevertheless, the termination option according to section 314 Civil Code is more restricted than a lender’s termination option under section 490 Civil Code. According to case law, a prerequisite for a termination by a creditor (in this case, a noteholder) under section 314 Civil Code is that the terminating party cannot reasonably be expected to continue the contractual relationship taking into account all the circumstances of the specific case and weighing the interests of both parties. According to the German Federal Court of Justice, this is to be assumed in general only if the reasons supporting the termination are within the sphere of risk of the non-terminating party. Contrarily, if the reason for the termination is derived from circumstances over which the non-terminating party has no control and arise from the terminating party’s own sphere of interest, this only justifies termination without notice in exceptional cases (German Federal Court of Justice, judgment dated 31 May 2016 – XI ZR 370/15). The question of the extent to which a deterioration in financial situation due to an outbreak of Covid-19 is to be attributed to the sphere of the note issuer cannot be answered in general and may also depend on the extent to which the note issuer would have been able to positively influence the consequences. In any case, however, noteholders cannot terminate due to deterioration of the financial situation of the issuer under section 314 Civil Code if the issuer had already intended to take remedial action according to the Bond Act on the date on which notice of termination was given and then took action shortly thereafter (German Federal Court of Justice, judgment dated 31 May 2016 – XI ZR 370/15).

It is also essential that companies participating in the capital market comply with their obligations under the rules on insider information as soon as problems arise on the financing side that could be relevant to share price of their publicly traded capital market instruments, whether shares or notes (see our article on The corona crisis on the capital market).

2.5 Banking days/business days

Financing contracts usually base deadlines on specifically defined banking days (business days), which only include days on which banks are actually open for business in a specific geographical area. Temporary bank closures ordered by an authority’s order due to the Covid-19 epidemic can result in postponement of the corresponding deadlines.

2.6 Legal impact on financing commitments

Lenders like to make their financing commitments conditional on the absence of a (MAC). Every (future) borrower that has received a financing commitment should check whether this commitment will be upheld even under the impact of the Covid-19 epidemic or may be rescinded.

Whether or not the Covid-19 epidemic can trigger a MAC depends on the specific circumstances and the specific provisions of the MAC clause that has been agreed. However, since the Covid-19 epidemic has arisen unexpectedly, a MAC clause is not likely to refer to it in a financing commitment that has already been negotiated. MAC clauses that have been common up to now have been based on the (future) borrower’s creditworthiness, business and available assets and its ability to properly fulfil its obligations as provided in the loan agreement. MAC clauses also typically provide that a MAC is deemed to have occurred when events transpire in international and/or national syndication markets for corporate loans that disturb or have a negative effect on these markets. Whether the Covid-19 epidemic can be deemed such an event is currently (still) questionable.

3. Financial Aids

In order to mitigate the economic impact of the Covid-19 pandemic on businesses, numerous financial aid measures have been set up and/or extended and most of them have now been implemented (more detailed information on Covid-19 financial aid can be found here).

Below is an overview:

KfW Special Programme 2020 (“KfW-Sonderprogramm 2020”)

• KfW Entrepreneur Loan
• ERP Start-Up Loan
• Direct participation for syndicated loans (“Direktbeteiligung für Konsortialfinanzierung (855)”) 
• KfW Express Loan 2020 (“KfW-Schnellkredit 2020”)

Guarantee Programmes (“Bürgschaftsprogramme”)

• Guarantees of the guarantee banks at state level
• Large State Guarantee Programme

Immediate Coronavirus Aid (“Corona-Soforthilfe”)

• Federal Immediate Coronavirus Aid for small enterprises, self-employed individuals, and farmers by way of liquidity grants
• Immediate Coronavirus Aid at state level for small companies (in some cases also companies up to 250), self-employed individuals and farmers
• Protective shield for supplier loans (“Schutzschirm für Lieferantenkredite”)
• Protective shield of up to €30 billion to secure supplier loans by a guarantee for German companies

Stabilisation fund at individual state level

• Some federal states (e.g. Bavaria, Saxony) are planning stabilisation funds to mitigate the negative economic impact of the COVID 19 pandemic at the federal state level

Start-ups

• €2 billion package of measures to support start-ups and young companies (further information on the state support measures for start-ups can be found here)

Bridging Aids

• Bridging aids to support small and medium-sized enterprises with up to €50,000 per month maximum over 3 months (max. amount EUR 150,000)

Economic Stabilisation Fund

• Establishment of an Economic Stabilisation Fund which will be able to provide guarantees, loans and recapitalisation measures (i.e. equity investments) (further information on the ESF can be found here). The EU-Commission approved the ESF on 8 July 2020. Aid measures from the ESF can already be applied for via PwC here

Economic Stimulus Package

• Extensive economic stimulus package with a volume of €130 billion, which i.a. includes reduction of VAT, child bonus for families, strengthening of local communities (Kommunen), relief for electricity cost and incentives for research into future technologies

European Recovery Programme

• At EU level, the EU Heads of State and Government agreed on a comprehensive recovery programme called Next Generation EU of €750 billion for Europe's economic recovery after the Corona crisis on 21 July 2020

4. Practical recommendation

If it is foreseeable that a company’s financial situation will be affected by the developments caused by Covid-19, it is usually advisable for the company to communicate openly with its financiers at an early stage and to create transparency not only regarding the company’s anticipated financial situation but also regarding its planned measures. Open communication usually strengthens financiers’ trust in the company’s crisis management. Also, a company usually needs a commercial bank to claim support instruments from the federal government and the states. To avoid running out of time when the need arises, a company may find it helpful to have pre-discussed a possible need for a financing with its commercial banks in advance.

If noteholders have termination rights under bearer notes issued by a company, consideration should be given by the management in good time to restructuring the note. In light of deadlines for convening a noteholders’ meeting and majority requirements for resolutions, such processes must be expected to take a considerable time.