Distressed M&A transactions in the retail and consumer sector in Germany: Legal challenges compared to regular M&A transactions

The retail and consumer sector is undergoing a period of profound change. Digitalization, changing consumer habits, and economic uncertainties are leading to an increasing number of insolvencies throughout the industry. At the same time, this development opens up opportunities for strategic and financial investors. However, distressed M&A transactions in Germany follow their own rules and involve complex legal issues and specific legal pitfalls.

The complexity of distressed M&A transactions in Germany

While regular M&A transactions can often extend over months, distressed M&A transactions are subject to considerable time pressure due to the insolvency of the target company. The shortened time frame has far-reaching implications for all aspects of the transaction. The due diligence often must be carried out on the basis of limited information. Negotiations take place under high pressure, and the usual iterative processes of contract drafting have to be accelerated. This requires a high degree of flexibility from all parties involved and a willingness to make decisions based on limited information.

Structurally, the sale of the insolvent company or parts thereof usually takes the form of an asset deal, as the acquisition of individual assets allows for greater flexibility. On the one hand, this offers the advantage of an acquisition of selected assets and the possibility of excluding unprofitable business areas from the acquisition. On the other hand, the assumption of (known or hidden) old liabilities or other unknown risks can be avoided. 

Distressed M&A transactions in Germany also have special labour law implications. Section 613a German Civil Code (BGB) (TUPE – transfer of undertaking) continues to apply when the business of the company is sold by the insolvency administrator. This means that a termination of an employment relationship to avoid a transfer of undertaking is invalid under Section 613a para. 4 BGB is invalid. Added to this, the insolvency administrator is required to comply with the German Unfair Dismissal Protection Act (Kündigungsschutzgesetz), which means that the insolvency administrator must provide reasons operational reasons (betriebsbedingte Kündigung) and demonstrate that a social selection process (Sozialauswahl) has been carried out for the purpose of issuing termination notice. However, pursuant to Section 113 German Insolvency Code (InsO), a shortened notice period of three months to the end of the month applies to terminations of employment relationships in insolvency proceedings, unless a shorter notice period is applicable. At the same time, the structure of an asset deal leads to increased transaction costs, as an individual transfer of the assets is required. In the case of the acquisition and assumption of contractual relationships, this means that the consent of the other contracting party is required.

In distressed M&A transactions, other players also play a decisive role in determining success, more so than in regular M&A transactions. Understanding the respective functions and interests is crucial for all parties involved. In Germany, when a (provisional) insolvency administrator is appointed, he or she is regularly granted the power to manage and dispose of the assets of the insolvent company. The acquisition of the insolvent company is therefore carried out by the insolvency administrator as the seller and not by the shareholders or the management of the company. The primary task of the insolvency administrator is to liquidate the insolvency estate and thereby achieve the best possible satisfaction of the creditors. Accordingly, when selling the company or its business, the insolvency administrator primarily focuses on the purchase price offered in the event of multiple bids. However, when evaluating bids, the insolvency administrator also considers the impact on the continuity of business operations, the employment relationships of the employees, and the interests of the various creditor groups. In addition, transaction security plays a decisive role for the insolvency administrator. Thus, bids that are not subject to lengthy closing conditions are more likely to be preferred. One key point that buyers often find difficult to understand is that the insolvency administrator is not willing to provide the usual set of seller warranties because he would be personally liable for their accuracy.

The activities of the insolvency administrator are in turn monitored by the (provisional) creditors' committee. In the case of significant transactions, in particular the sale of the company or significant parts of the company's business, the creditors' committee must be consulted. In some cases, the sale of the company or its business may even require the approval of the creditors' committee. The creditors' committee is typically composed of representatives of the most important creditor groups. These different groups often have diverging interests, which makes decision-making complex. For example, banks, as secured creditors, are often interested in realizing their collateral, whereas suppliers, as unsecured creditors, often prefer to maintain the business of the company operational in order to enable continued business activities. Landlords, on the other hand, have a particular interest in maintaining long-term leases and stable rental income. The insolvency administrator must balance these different interests and make decisions regarding the sale of the company or its business that serve the overall interests of the creditor community. 

The specifics of distressed M&A transactions in the retail and consumer sector in Germany

Distressed M&A transactions in the retail and consumer sector in Germany differ significantly from other industries. The widespread physical presence of retail stores, complex supply chains, and the use of consumer data create specific legal challenges.

Lease agreements as a key challenge

In asset deals in the retail and consumer sector, owned real estate and leases for retail stores and warehouse spaces often present a major hurdle. The transfer of leases generally requires the consent of the landlord, which is not always a granted in distressed situations. Landlords often use this opportunity to adjust to current market conditions, tighten security deposits, or renegotiate contract terms. A strategic approach should include involving landlords in the transaction process at an early stage, developing alternative location strategies, and examining alternatives such as sale-and-lease-back models for owned real estate. Particularly in the case of large-scale retail properties, protracted negotiations can jeopardize the entire transaction process, which is why it is advisable to pursue several options in parallel.

Data protection and customer data

In Germany the transfer of customer data, in particular newsletter subscriptions and customer profiles, is subject to strict data protection requirements. The German General Data Protection Regulation (DSGVO) requires a clear legal basis for data transfer, with various options available. In principle, the express consent of customers is required for the transfer of their data. However, a legitimate interest may also suffice for a transfer within narrow limits. For existing customer relationships, contractual necessity can serve as the legal basis for the transfer of the data. Such an approach requires careful consideration of interests involved. Best practice usually involves transparent communication with customers about the transaction, the implementation of opt-out mechanisms, and careful documentation of the legal basis for data processing.

Supplier relationships and trade credit insurance as a success factor

Maintaining the continuity of supply chains is essential for keeping business operations running and for the success of the transaction, as interruptions can quickly lead to lost sales and customers. Trade credit insurances play a crucial role in maintaining business operations in Germany. Suppliers are often only willing to deliver goods if appropriate insurance is in place. In distressed situations, this can be problematic, as existing policies may be terminated or may not be transferred to the buyer, while new insurance policies are often more expensive or difficult to obtain, and suppliers demand alternative collateral. For this reason, discussions with suppliers and insurers should be held early on in order to develop joint solution strategies.

Conclusion and practical recommendations

Distressed M&A transactions in the retail and consumer sector in Germany present investors, advisors, and all parties involved with complex legal challenges that require quick and pragmatic decisions despite time pressure and limited information available. Industry-specific issues, such as the transfer of contractual relationships with landlords and suppliers and the GDPR-compliant handling of customer data, must be addressed at an early stage. Experienced legal advice is essential to overcome these complex legal challenges, enabling even the most challenging distressed M&A transactions to be successfully completed.