Cash pooling during the COVID-19 pandemic: the impact of the new German insolvency rules

Cash pooling during the COVID-19 pandemic provides particular challenges for management. What the most important issues on which to focus?

Many businesses, particularly those operating internationally, have set up group cash pooling systems to optimise payment processes and maximise liquidity. A well-structured cash pooling system offers a treasury department transparency over the group's liquidity and by centralising financing requirements can reduce costs.

What happens when as a result of the COVID-19 pandemic, all companies participating in the cash pool have increased liquidity requirements? Can the CEO and other directors of a company participating in a cash pool, allow that participation to continue and when is it necessary to withdraw? What are the obligations of the CEO and directors of the cash pool leader? Can all companies in the cash pool continue to provide their liquidity as loans to other members? Should certain cash pool members be removed from the pool?

For directors there are issue of personal liability at stake and the wrong decision can put a whole group into major financial difficulty.

What is important for management?

Under German law the directors of a company can allow a company to participate in a cash pool only so long as they expect loans made to the pool be repaid in full. This is only the case if it is more likely than not the cash pool leader will continue to be able to repay cash pool loans at any time.

The directors will, however, only be in a position to make these decisions if they are provided with sufficient information from the cash pool manager. The value of comprehensive contractual information rights within the group cash pool agreement now come into play. Any rights to temporarily suspend participation in the cash pool will also give the directors of a participant time to review whether the company should continue to participate.

In any event the company's management should review whether the company can still provide liquidity to the cash pool. If the company itself needs liquidity and can no longer be certain its own liquidity needs will be satisfied from the cash pool, then the directors risk personal liability to the company for any amounts transferred to the cash pool. Flexible, short notice termination rights in the cash pool agreement or the right to suspend participation will help the directors to limit their exposure.

Review liquidity constantly – danger of corporate veil being pierced

For many businesses the COVID-19 crisis is a crisis of liquidity. If all members of a cash pool were to make withdrawals at the same time in order to cover their own cash requirements, the credit limit of the cash pool leader can quickly be reached. It is worthwhile, therefore, agreeing credit limits in advance with all cash pool members and making sure that in practice these are adhered to.

If cash pool limits are not observed, this can quickly lead to difficulties. The cash pool leader needs to keep the account balances of the inpidual cash pool participants under constant review. Each member should provide and update cashflow forecasts showing what they expect to withdraw from the cash pool each week.

Companies which have provided more liquidity to the cash pool than they have withdrawn, need confirmation that their outstanding loans will be repaid. Without this the directors are at risk in the event of an insolvency – a claim may be made against them for taking an action which destroys the viability of the company.

If a cash pool participant is regularly withdrawing substantial sums from the cash pool, consideration should be given to excluding that company in order to avoid an allegation of endangering the viability of the company. As well as terminating participation in the cash pool, the outstanding claims against the company should be converted into a long-term subordinated loan.

Impact of the new insolvency rules on shareholder loans

The new law introduced in Germany on 27 March 2020 (COVID Insolvency Suspension Law) relaxes some key provisions of the usual insolvency regime. Shareholder loans provided by companies within the terms of a cash pooling arrangement will, like other shareholder loans (provided they qualify) be protected from challenge in insolvency proceedings and will no longer automatically rank as subordinated.

The general insolvency rule in Germany is that any repayment of a shareholder loan can be challenged by an insolvency administrator if it is made in the year before the application to open insolvency proceedings is filed. The new law provides that repayments made under new shareholder loans cannot be challenged provided the loans are repaid by 30 September 2023. A new shareholder loan is a loan provided between 1 March 2020 and 30 September 2020.

In addition, all shareholder loans provided between 1 March 2020 and 30 September 2020 will not be treated as subordinated in the event the recipient of the loan goes into insolvency before 30 September 2023.

This new rule should be factored into current planning by cash pool leaders as they may allow one or more participants in the cash pool to be granted a temporarily higher credit limit.

Including a company in financial difficulties in an existing cash pool may be appropriate

If within a group only certain companies are adversely affected by the COVID-19 pandemic, it may make sense to consider using a cash pool to help with short-term financing needs. It should be considered whether the company is able to cover its financing needs with available state aid and whether participating in a cash pool is compatible with the requirements of receiving this aid.

Assuming there is nothing to prejudice access to state aid, the company could at least temporarily be included in a group cash pooling system to provide management with comfort that its financing needs can be met. A credit limit should in any event be agreed in order to protect both the cash pool leader and the other companies participating in the cash pool.

Continual monitoring during the COVID-19 pandemic is essential

It is essential for the directors of all participants in cash pooling arrangements to ensure that throughout the current crisis they have sufficient information about the liquidity available from the cash pool so they can take the decisions needed to avoid personal liability arising. If no contractual information rights have been included in the cash pooling agreements and there are no rights to terminate or suspend a company's participation, this is already a breach of the director's duties. Having the rights in the agreement is, however, not of itself sufficient. A reporting and monitoring system must also be implemented and the management of each of the participating members must be in close contact with one another to find appropriate solutions in the interests of all the cash pool participants.