288 6 Mezzanine
At the same time, holders of normal high-yielding debt instruments might still re-
ceive payment.^15
Whether the mezzanine investors will really take the first hit can depend on the
interests of the firm. Failure to pay can signal higher risk and increase funding
costs in the future.
Issuer’s exposure to legal risks. In addition to the general risks related to all
forms of funding, recharacterisation and derecognition are particular legal risks
inherent in mezzanine financing. Recharacterisation and derecognition are events
that usually trigger an event of default under the terms of the contract (section
4.3).
Where the firm issues mezzanine instruments to increase the amount of equity
in the balance sheet, recharacterisation risk means that the mezzanine instrument
might not be recognised as an equity instrument (for recognition and derecogni-
tion, see section 3.3.2).
Even mezzanine investors can be exposed to a recharacterisation risk. In addi-
tion to changes in the tax treatment of the investment, there can be company law
risks. Depending on the law governing the company and the law governing insol-
vency proceedings, a loan might be recharacterised as equivalent to shareholders’
capital in which case the repayment of the loan is subject to restrictions. The risk
is increased when “downstream” loans are combined with share ownership, or
when the company is controlled by the investor.
Under German law, the repayment of shareholder loans^16 is subject to restrictions. In addi-
tion, where the insolvency of the company has been caused by the transfer of funds to a
shareholder, the shareholder may have to return the funds to the company.^17 These rules
were introduced by the MoMiG and replaced the rules on equity-replacing loans (“ei-
genkapitalersetzendes Darlehen”) applied when the company was in a crisis.^18 Rules on eq-
uity-replacing loans continue to apply in Switzerland.^19
(^15) For the fate of holders of participation certificates issued by AHBR in Germany, see
Welcome to the wild frontier, The Economist, July 2006.
(^16) § 39(1) number 5 and § 135 InsO (Gesellschafterdarlehen) introduced by the MoMiG.
(^17) § 826 BGB; see also § 64 GmbHG.
(^18) § 32a GmbHG (now deleted). The company was in a crisis when: it was not able to bor-
row funds from third parties at market conditions; it was insolvent; or its debts exceeded
its funds (Überschuldung). Since BGHZ 90, 381 (“BuM”), it was clear that similar rules
could be applied to AGs by analogy. See Habersack M, Grundfragen der freiwilligen
oder erzwungenen Subordination von Gesellschafterkrediten, ZGR 2000 pp 384–419;
Blöse J, Cash-Management-Systeme als Problem des Eigenkapitalersatzes, GmbH-
Rundschau 14/2002 pp 675–678; Cahn A, Kapitalaufbringung im Cash Pool, ZHR 166
(2002) p 281; Diem A, Akquisitionsfinanzierungen. C.H. Beck, München (2005) § 38
number 18.
(^19) Obergericht des Kantons Zürich, judgment of 19 January 1993; BGE, judgment of 2
March 2006, 5C.230/2005. For an introduction, see Stöckli U, Das kapitalersetzende
Darlehen im Konkurs einer Aktiengesellschaft, Der Schweizer Treuhänder 2007/9 pp
662–666; Groner R, Private Equity – Recht. Stämpfli Verlag AG, Bern (2007) pp 126–
- See also Barthold BM, Mezzanine-Finanzierung von Unternehmensübernahmen,
SZW/RSDA 5/2000 p 232.