Shareholder agreements, participation agreements and investment agreements under german law

Agreements within the circle of shareholders in Germany

In order to secure the establishment and growth of a german company, financing is often required, which can only be achieved with the help of a financially strong investor. The investors participate in the target company by taking over shares using the way of a share purchase with the founding shareholders and / or a capital increase.

The individual agreements between the investors, existing shareholders and the company are made in a shareholders' agreement which is independent of the articles of association and is often headed "participation agreement" or "investment agreement". If the investor's strategy - as is the usual approach in german practice - is directed towards a time-limited commitment, the financial investor will want to enforce many regulations in order to ensure his profitable exit (or exit-route). Until now, the charm of the shareholders' agreement has also been that it is secret, as it does not have to be disclosed. It is true that the agreement still does not have to be published in the commercial register in Germany. However, there is now the transparency register, and shareholder agreements must generally be disclosed there. Please note that these registers apply only to agreements made under german law.

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Legal expertise in german shareholder agreements and participation agreements 

The team of ROSE & PARTNER consists of lawyers, tax advisors, certified specialist for german company as well as tax law, who provide comprehensive advice on german company and tax law to founding shareholders, investors, members of the management and advisory board as well as participating employees:

  1. Preparing the admission of investors, reviewing the appropriate form of corporate financing. 
  2. Review and drafting of term sheets, LOIs and non-disclosure agreements 
  3. Drafting and negotiating shareholder and participation agreements 
  4. Adaptation of all contractual documentation (articles of association, directors' agreements, by-laws, employee participation programmes) accompanied by the planned participation agreements 
  5. Out-of-court and (arbitration) court enforcement of claims and legal positions arising from participation agreements 

Structure of the participation agreement and the shareholders' agreementin Germany

The shareholders' agreement / participation agreement regulates the conditions of the investor's entry (company valuation, amount of investment through equity capital, including premiums / agio and debt capital, usually shareholder loans, or mezzanine capital as well as guarantees from the existing shareholders). Furthermore, the modalities of the investor's influence in Germany are standardised through special control and information rights as well as restrictions on disposal. Finally, the exit of the financial investor is also ensured through co-sale obligations, purchase options (put and call options) and liquidity preferences.

Contractual partners in german shareholders' agreements 

A shareholders' agreement in Germany usually involves the shareholders as well as the investors. On the investor side there are usually financial investors from the private equity sector or venture capital funds. While private equity investors seek both majority and minority stakes in the target company, venture capital investors take minority stakes, usually not exceeding 35% in the first financing rounds. The existing shareholders are generally the founding shareholders as well as managers and employees who have a stake in the company's capital. The shareholder agreement is also concluded in the name of the company itself. If the target company is a german joint-stock company, the special competence arrangement under german stock corporation law must be taken into account.

The entry of financial investors is often seen as a turning point in the german company. The conflicting interests of the individual parties become apparent during the contractual negotiations of the participation agreements. The shareholder and participation agreements will establish a considerable influence of the investors on the company and the existing shareholders. Since a new strong influence on the management and the old shareholders will arise, it should always be considered whether limited leeway in the german operative business and in corporate policy can endanger sufficient development, creativity and realisation of the high performers in the company.

Conclusion of contract, ongoing contract amendments and accessionunder german law

Shareholder and participation agreements are agreements under the german law of obligations between existing shareholders and future shareholders (investors). In the case of extensive GmbH shareholder agreements, notarial certification is generally recommended, especially if share transfer obligations, capital increases or amendments to the articles of association are standardised.

In german practice, a problem arises time and again if not all of the intended contracting parties sign the shareholders' agreement. Then the question arises whether the shareholders' agreements apply to the signatories or whether the entire agreement should only then apply for and against all intended contracting parties, which presupposes that all intended contracting parties sign the agreement. A lot of times a great deal of legal uncertainty arises here if the shareholders' agreement does not contain any clarification.

Under german law the shareholders' agreement is not a static entity. Normally, shareholders join and leave the company on an ongoing basis over the years. New shareholders join the participation agreement and shareholders leaving the company withdraw from the participation agreement at the same time. In connection with these new entries, new substantive changes are regularly discussed among the contracting partners, which not infrequently leads to a dispute among the partners.

Typical areas of regulation in german shareholders' agreements and participation agreements 

The provisions of shareholders' agreements under german law are very diverse. Special types of corporate financing require special regulations. A common feature of most shareholders' agreements with financial investors is that the investment obligation is described very detailed. In return, the existing shareholders grant the investors guarantees for the description of the business and the transferring company documentation. In the german VC sector, valuation approaches and future share shifts as well as protection against dilution in the event of further financing by new investor holdings are stipulated (often in venture capital engagements).

Special information rights and monthly or quarterly reports for the benefit of investors are market practice in Germany. The shareholder agreements sometimes contain narrow, sometimes broad control rights and reservations of consent with which the investors can also influence the operative business. In the case of special measures, the investors in Germany will have special rights (for example, appointment rights for management and advisory/supervisory boards) or veto rights granted to them.

It is not uncommon for participation agreements in german practice to already contain specific exit plans. According to these, the former shareholders are subject to a classic transfer restriction (restrictions on sale). It is common to have tender obligations and pre-emptive rights in favour of the investors. Furthermore, tag-along rights and drag-along obligations, which are accompanied by put option and call option provisions, are also common under german law. If a former shareholder wants to leave the GmbH or is excluded, the purchase price or his claim to compensation is based on special bad leaver (lower value) or good leaver (higher value) regulations.

In the event of an exit through the sale of a company, investors are given a better position in terms of german asset law through so-called liquidation preferences. According to these preferences, the investor is to receive his investment, including his additional payments and costs, any dividends declared but not distributed, in advance of the buyer's purchase price. Finally, after preferences have been taken into account, the excess proceeds over the preference are distributed to all shareholders in proportion to their nominal shareholding in the german company. Shareholder agreements often also contain non-competition clauses, customer protection provisions and regulations on german industrial property rights and copyrights.

Support from advisors

Shareholders' agreements are highly complex contracts that touch on many areas of german corporate and tax law. Numerous questions have not yet been finally clarified by the courts in Germany. All parties involved are advised to obtain clarity on the meaning and scope of the individual contractual mechanisms with the help of certified specialists and tax advisors. A thorough examination of the individual provisions of the participation agreement is the best protection against later surprises and expensive and nerve-racking shareholder disputes. 

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