Few places to hide for golden shares in the EU's internal market
The European Court of Justice (ECJ) has today issued a judgment finding that the "Volkswagen Law", which gives the Federal Republic of Germany and the Land Lower Saxony special rights in Volkswagen and restricts shareholders' voting rights, is in breach of EU law. Following this judgment companies will now be able to make a full take-over bid for Volkswagen. The judgment reinforces the European Commission's zero tolerance of golden shares and increases the scope for successful cross-border mergers involving former state-owned companies.
What are "golden shares"?
A "golden share" is a shareholding that a government has retained in a privatised company to which special rights are attached. Typically, these special rights allow the government to veto, hinder or deter changes in the ownership structure of the company or its management. The term "golden" is derived from the fact that the special rights grant the governments powers that are otherwise only available to, or go beyond those of, a private majority shareholder.
What was the Volkswagen Law?
The Volkswagen Law was established in the 1960s when the carmaker was privatised. It provides a derogation from the normal German company law by:
- limiting each shareholder's voting rights to a maximum of 20% of the share capital;
- giving the Federal Republic of Germany and the Land of Lower Saxony each the right to appoint two members of the supervisory board of Volkswagen, provided that they hold shares in the company;
- requiring a majority of 80% of the represented share capital for the passage of certain resolutions at the general shareholders' meeting (which, under German company law, only requires a majority of 75%).
The European Commission considered that this Law made it less attractive for EU investors to acquire shares in Volkswagen. In 2004 it initiated proceedings against Germany before the ECJ claiming that the Law is an infringement of the free movement of capital and the freedom of establishment under the EC Treaty.
The ECJ ruling
The ECJ held that the Volkswagen law constituted a restriction on the free movement of capital. The Court considered that the law was liable to deter direct investments by limiting the possibility for shareholders to participate in the effective management of the company. Although the capping of voting rights at 20% and the fixing of the blocking minority at 20% could operate both to the benefit and the detriment of any shareholder in the company, the Court held that the provisions entitled the Federal State and the Land of Lower Saxony to exercise considerable influence over Volkswagen on the basis of a lower level of investment than would be required under German corporate law, and that this was liable to deter investors from other EU Member States. The right to appoint supervisory board members also derogates from normal company law and enable the federal state and the Land of Lower Saxony to participate in the supervisory board in a more significant way than their shareholding would normally allow.
The Court held that the Federal Republic of Germany had failed to explain why the provisions were justified by legitimate interests, for example to protect workers and minority shareholders.
The ECJ found no breach of the right of freedom of establishment, as the Commission did not advance specific lines of argument in support of this.
Impact of the judgment
This judgment follows a long line of previous ECJ rulings, in which the ECJ has ruled in favour of the European Commission in their quest to root out golden shares. For instance, in 2003 the ECJ ruled that by maintaining a golden share in the privatised airport operator, BAA plc, the UK government had infringed the prohibition against the restriction on the free movement of capital contained in the EC Treaty. Most recently, on 28 September 2006, the ECJ ruled that the Netherlands had infringed this prohibition by retaining golden shares in the privatised Dutch national postal and telecommunications companies, KPN and TNT. The only golden share that the ECJ to date has not objected to has been that of Belgium in the case of Ditrigaz, on the ground that this was a legitimate measure designed to promote the general national interest in terms of the security of the national gas supply in times of emergency.
European Commissioner McCreevy has been quoted as saying "there is no place for golden shares in the EU's internal market". This judgment will provide further encouragement to the European Commission to pursue this zero-tolerance strategy. Deal-makers should welcome the increased scope for cross-border mergers.