EU Court Rules German Anti-Takeover Law Restricts Cross-Border Investment

In an eagerly anticipated opinion, the European Court of Justice has ruled that Germany’s anti-takeover ``Volkswagen Law’’ restricts the free cross-border movement of capital through the intervention of the public sector. In an action brought by the European Commission against the Federal Republic of Germany, the Court found that capping the voting rights of every shareholder at 20% regardless of their shareholding violates the requirement that there be a correlation between shareholding and voting rights. The Court also held that provisions in the law conferring two seats each on the company’s supervisory board for the Federal Republic and the State of Lower Saxony, regardless of their shareholding, also constituted a restriction on the cross-border movement of capital. (European Commission v. Federal Republic of Germany, No. C-112/05).

The Volkswagen law was hammered out in 1960 with the participation of workers and trade unions that, in return for relinquishing their claim of ownership rights in the company, secured protection against any large shareholder gaining control. The legislation allows the federal government and Lower Saxony to each appoint two members of the supervisory board (equivalent to the board of directors in the US), for a total of four government seats, and gives them each a 20% stake. It also limits voting rights to 20 per cent of the share capital. Further, the law increases to more than 80 per cent of the share capital represented for the adoption of resolutions of the general shareholders meeting.

The Court found that, by capping voting rights at 20%, the VW law creates a framework giving federal and state authorities a blocking minority on the basis of a lower level of investment than would be required under general corporate law. This situation could deter cross-border investment in the company, reasoned the Court, thus constituting a restriction on the free movement of capital.

Similarly, the Court found that conferring four seats on the Federal Republic and Lower Saxony enables those entities more influence on the supervisory board than their shareholder status would normally allow which, in turn, reduces the influence of other shareholders. Since this situation is liable to deter cross-border investment, the Court found it to be a restriction on the free movement of capital.

The Court rejected the Federal Republic’s argument that the provisions are needed to protect workers since Germany was unable to explain how workers would be protected by giving government a strengthened and irremovable position in the company’s capital. The Court also noted that, under German legislation, workers are represented on the supervisory board.

Finally, the fact that the supervisory board is a monitoring body does not diminish the influence of the Federal Republic and Lower Saxony on that board. The Court noted that the supervisory board has significant powers, including the hiring and firing of executive board members and approving the establishment and transfer of production facilities.