Insolvency Law, D&O and Credit Insurance
The coming months will also be characterised by a hardened D&O market: falling insurance sums, rising premiums and the growing difficulty of obtaining cover. Against this backdrop, D&O insurers will be conspicuous in particular by the exclusions they impose: Some will exclude entire countries from D&O cover, while others look set to exclude specific industries. Others still will limit certain risks. In extreme cases, insurers may even discontinue their D&O business altogether. The latter can either be done officially – or de facto, by reducing customer and broker correspondence to virtually “zero”.
From a D&O perspective, the situation is complicated – and will continue to be so in the period ahead: the latest amendments to restructuring and insolvency regulations have resulted in a swathe of decisions based on forecasting which may, depending on the outcome, trigger different obligations to act. At the same time, a number of amendments are legally contentious, for example in terms of the effects of a future restructuring system geared more to creditor interests than to those of companies. All this may affect the scope of management liability covered by D&O insurance. It is important to keep a close eye on how the amendments influence the already restrictive D&O insurance market. According to a publication by the German Insurance Association (Gesamtverband der deutschen Versicherungswirtschaft, GDV) dated 29th September 2020, insolvency figures can be expected to increase in the near future.
In this context, the German Federal Court of Justice (BGH) confirmed with laudable clarity in its most recent ruling that claims arising from Section 64 GmbHG (liability for payments following insolvency or over-indebtedness) are covered by D&O insurance (ruling of 18th November 2020 – IV ZR 217/19). This puts an end to a dispute of practical relevance in favour of the D&Os insured. According to the Federal Court of Justice, the view of the “average” policyholder or insured party who interprets the term “damages” in D&O broadly was the decisive factor. The Court maintained that any compensation by way of restoring the original condition prior to the loss was covered. In the Court’s opinion, the question of to whom the benefit accrued was particularly irrelevant. Accordingly, losses incurred by outside creditors as a result of insolvency should therefore also be covered by D&O insurance.
The legal processing of the insolvencies caused by the Coronavirus pandemic will mean further increases in legal expenses in particular. After all, insolvency administrators have to be aware of many factors as well as check for breaches of duty. It remains to be seen how insurers will deal with the above-mentioned decision by the Bundesgerichtshof in the future. In any event, the experience of the recently significantly hardened D&O market suggests that, in relation to the risks mentioned, insurers will be reducing their scope of cover for companies already shaken by one crisis or another. The directors and officers of the companies concerned would be the ones that suffer.
The sudden and unpredictable consequences of the Coronavirus pandemic have also put pressure on companies and business models that looked stable before COVID-19. Until now, German insolvency law has been based on the unshakeable principle that insolvent or over-indebted companies must file for insolvency without undue delay. According to this principle, commercially unviable companies must be removed from the market quickly and in a controlled manner to protect creditors from further damage.
In order to spare companies that have been plunged into crisis as a result of COVID-19 the consequences of an insolvency application, in March 2020 German legislators, as shown, suspended the obligation to file for insolvency until 30th September 2020. Although legislation in recent years has paid more attention to the restructuring and rescuing of companies, for example by introducing the German Rescue Procedures in Insolvency Act (ESUG), the suspension of the obligation to file for insolvency is an exceptional case in insolvency law.
However, this measure to protect the German economy also brings risks. The suspension of the obligation to file for insolvency may eliminate the risk of bad debts in the short term, but, given the current situation, it is by no means certain that insolvent companies will actually be able to successfully extricate themselves from the crisis. There are, therefore, concerns that the current wave of suspended insolvencies will simply be felt in full next year. Critics maintain that the temporary suspension of the obligation to file for insolvency merely defers insolvencies to a later date. The impact on supply and sales chains will persist in many cases. What’s more, banks and credit insurers are increasingly reluctant to cover credit risks or guarantee sales financing. Once the state’s protective umbrella for credit insurance expires (recently extended until 30th June 2021), the provision of insurance protection for supplier credit is expected to become much more difficult and expensive. As a result, suppliers and customers can by no means rely on the fact that their contractual partners will continue to be reliable in the future.
The Act on the Stabilisation and Restructuring Framework for Businesses (StaRUG), scheduled to come into force on 1st January 2021, will also add uncertainty for companies. By implementing the EU Restructuring Directive, German law is to be supplemented by pre-insolvency restructuring instruments in order to enable ailing companies to restructure. Within the scope of the stabilisation and restructuring framework, ailing companies – even if they do not file for insolvency – will have at their disposal various instruments which could burden creditors. For example, the legal termination of mutual contracts that have not yet been completely fulfilled by either party can be ordered if the contractual partner in question is not prepared to amend the contract as required in order to implement the restructuring project. On top of this, court orders can be issued for a period of up to three months to block execution and realisation. 2021 therefore brings with it major new economic risks for companies in their dealings with suppliers and customers, not least as a result of the paradigm shift in insolvency and restructuring law.