Germany: Facilitation: Simplification Of Due Diligence Proceeding By New German Rules For Acquisition Of Company Shares In Good Faith

Last Updated: 30 July 2008
Article by Reinhard Nacke

The draft of a law concerning the modernization of the German Companies' Act (GmbH-Gesetz) has brought a subject into focus which so far was barely discussed, namely the question whether it is possible to acquire company-shares - to the detriment of the actual shareholder - from a non-entitled individual – thus from a dummy shareholder. If this is possible then it should be easy to prevent that the acquirer of company shares in the course of a transaction not only obtains just a purchase item of poor quality but - even worse – nothing. What does the German law in general and in particular the German Companies' Act provide for acquisition in good faith and what will be changed in this regard when the new Companies Act comes into force this year? In which areas in future shall the purchaser make enquiries regarding the verification of ownership of the seller and which areas in the course of transaction do no longer require such enquiries.

Movables

If someone purchases a wristwatch at the amount of 25.000,00 EUR via Internet (as lawyers sometimes do), he or she normally becomes the owner, even if the watch was not the property of the seller (§932 German Civil Code = BGB). But if the watch has "fallen from the back of a lorry" then even the buyer in good faith has to return the watch to the owner as an acquisition in good faith of stolen items is not possible (§935 BGB).The purchaser of movable objects can avoid such unpleasant surprise only by conducting complex investigations with regard to the history of the item to be purchased, which in case of transactions is an integral part of "legal due diligence".

Real Estate

In terms of real property, the situation is different. One look into the land register provides information about the status of ownership. Should the entry in the land register be incorrect, the purchaser does not need to worry, at least not as long as there is no objection recorded and he has no positive knowledge of the incorrectness of the land register. The correctness of the land register is assumed by law (§892 BGB). This means that investigations in this field might be rather counter productive. The potential buyer is risking to lose the benefit of the assumption of §892 BGB.

Company shares

Yet different is the situation in case of acquisition of company shares.

According to the still applicable law, the acquirer of a GmbH-share (i.e. share in a limited liability company) can only acquire the share if the seller is the owner of the share. The GmbH-share is not treated differently than any other claim which can also be acquired only from the actual creditor and not from someone erroneously taken to be the creditor (§§398, 413 BGB). In case the share does not exist, it is encumbered or the seller is not the owner or is not entitled to dispose of the share, then the acquirer has a problem. His good faith is not protected. Thus he is forced to ascertain by means of a carefully conducted legal due diligence that the GmbH-share has originally been legally created by registration of the GmbH in the Commercial Register and the seller has acquired the share free from encumbrances from the rightful owner. The fact that the transferor is registered in the list of shareholders accessible at the Commercial Register is of no assistance to the buyer. This list has no public reliance. The same applies to German partnerships under the Commercial Code like OHG, KG or GmbH & Co. KG. Although the partners are registered at the Commercial Register and moreover, the personally liable partners are even electronically published (this does not apply to limited liability partners: §162 II German Commercial Code =HGB), it is not possible to acquire to the detriment of the rightful owner shares from a person wrongfully registered as personally liable partner, although §15 III HGB to a certain extend is protecting confidence in the correctness of the Commercial Register's publications. Even more so, it is not possible to acquire in good faith shares of a partnership under the Civil Code as such is not at even registered.

All this is different in case of the acquisition of stocks, i.e. shares in an Aktiengesellschaft = AG (Joint Stock Company) Here as well, registered name shares do exist which are not evidenced by share verifications and which, according to the applicable law, are treated like claims or GmbH-shares; thus, they can only be acquired from the owner. However there are possibilities to obtain in the course of transaction considerably more security, even without a complex due diligences proceeding. If one acquires bearer shares instead of registered shares, it is assumed that the bearer of the share certificate is also the owner, even if the certificate had been stolen from the actual owner or got lost (§1006 BGB). Regarding such bearer shares the transfer is possible by means of a mere agreement upon the passing of ownership and by handing over the respective share certificate so that a bona fide purchase is possible, just as to movable objects like the wristwatch mentioned above. Even a bona fide purchase of name shares is possible if an endorsement is placed on the share documents or on the solidly affixed annex and the document, based on mutual consent, is transferred by handover. The person who is in the possession of such share certificate and who is able to prove his ownership by a continuous chain of endorsements is assumed to be the rightful owner of the document and thus the share holder. If the registered shares are not certified by document since no such provision is made in the statutes which is (according §10 V AktG German Joint Stock Corporation Act) permissible, the purchaser, prior to the acquisition, must insist on a respective adjustment of the statues and delivery of share certificates.

From the above we learn that problems in the course of a transaction arise from GmbH's and partnerships. Even an acquisition of real estate which in case of an asset deal with regard to acquisition of ownership owing to §892 BGB would be unproblematic, could as a share deal fail due to the fact that the shares do not belong to the seller.

The future Company Law

As mentioned in the beginning, regarding the GmbH, there is relief under way. The legislator intends to increase the legal certainty for the acquirer and to reduce the transaction costs by enabling a bona fide acquisition of shares. One who acquires shares from a person registered in the shareholders list for at least three years, becomes the owner of the shares even if the transferor never was or no longer is shareholder as, for example, the GmbH -share previously had been sold to a third party who never cared about being entered in the shareholders list or as the transferor never became shareholder as his own acquisition of the shares failed.

The reason behind the planned revision of law is, according to an official press release dated 29.05.2006, that the government intends to bring more transparency into the personal composition of the GmbH in order to prevent money laundering. To this end creation of transparency will be the duty of the companies and their auxiliary persons. As soon as any change in the person of the shareholder or in his share volume occurs, the managing directors are obliged to provide a new list to the Commercial Register via electronic transmission. However, the management is often not involved in the sale of shares as this normally takes place at shareholder level and not at the management level. To ensure the updating of the shareholders list in the course of share sales, the notary, without whom the transfer of GmbH shares is not possible (§15 GmbHG), shall be bound to issue the new list and to submit it to the court. Due to this mandatory report of the notary yet in future the acquirer will in most instances purchase the shares from the rightful owner of the shares if the respective seller is registered in the shareholders list. However, there will always be a number of inaccurate shareholders lists and in this case the upcoming law will have its beneficial effect for the purchaser. For example cases where the acquisition by the registered shareholder is contested afterwards, where the managing directors have submitted an incorrect list to the court erroneously or on purpose or cases where the acquisition finally failed due to non-compliance with notary requirements or other vanities.

Summary

It is obvious how inconsistent the bona fide purchase will still be regulated by law even after coming into effect of the new Company Act. If for instance someone acquires a piece of land, with regard to the ownership he only needs to inspect the land register. If someone acquires a piece of land by acquisition of shares of a real-estate-GmbH he simply needs to check the list of shareholders. If he acquires shares of a partnership (OHG, KG, GbR) including a real-estate-GmbH & Co. KG (the fact that in this company structure a GmbH is personal liable partner does not help), he can not avoid the trouble having to trace back to the formation of the company the ownership structure of the partnership and even though has to accept that an element of risk will remain.

Rechtsanwalt Dr.Reinhard Nacke, attorney at law and specialist in Tax Law is partner in the Düsseldorf office of the law firm FPS Fritze Paul Seelig. He specializes in Corporate Law, Real Estate Law and Tax Law advising foreign and German clients.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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