Brexit – what lies ahead for German companies after it has been formally triggered?
On 23 June of last year UK voters have decided against remaining a member of the European Union by a majority of the votes cast. Today, on 29 March 2017 Theresa May has accommodated the result of this Brexit vote and delivered formal notice to withdraw to the European Council pursuant to article 50 of the European Union Treaty. The European Council comprises of the heads of state of the European Union and the President of the European Commission. The European Union will from now on, under the guidelines provided by the European Council, negotiate with the UK the conditions of such withdrawal. Even if one cannot say now how these negotiations will develop and in particular, which result they will have, some of the options which have been considered in summer of last year can be excluded. At that time, many had hoped for a Brexit “light”.
The formal procedure to withdraw pursuant the EU Treaty stipulates that the European Union has two years time to agree on the conditions of such withdrawal. If within these two year period no consensus can be found, the respective member will leave the union without formal agreement and, as a consequence, all Treaties shall cease to apply with immediate effect. Such situation is currently referred to by all parties as a “hard Brexit”. The current positioning from the UK side and from the EU side imply that it is highly possible that in March 2019 we will see such hard Brexit. This in particular as the period of two years seems to be ludicrously short in relation to the number of topics to be negotiated. The procedure for the withdrawal agreement is – though the European Union can decide with the so-called qualified majority – very complex. A qualified majority means pursuant to article 238 para 3 lit(b) Treaty on the Functioning of the European Union a majority of at least 72% of the members of the European Council (without UK), if these members represent at least 65% of the population of the Member States. A prolongation of the two-year negotiation period can be decided by the European Council pursuant to article 50 para 3 EU Treaty only unanimously.
In the light of this situation we have those topics, which we already covered in our newsletter of 23 June 2016, reviewed again and some of them newly assessed with respect to the situation to be expected in March 2019. In case you are having any questions in this regard or in relation to any other legal aspects of Brexit, please do not hesitate to contact one of our experts.
- The possibility to operate a UK company (in particular a Ltd.) with its seat of administration in Germany is based on the EU-Freedom of Establishment. In case of the envisaged hard Brexit, British companies will no longer benefit from this freedom. With the Brexit coming into effect, a Ltd. with its seat of administration in Germany will become a partnership – with far-reaching consequences as to the liability of its shareholders. If the UK company serves as general partner of a German partnership only (e.g. in a Ltd. & Co. KG), it can rather easily be swapped for a German entity. If, however, it has own business, it can be merged into a German entity, carry out a cross-border change of legal form or transform into a European Company (SE) and move to a EU member state thereafter. All of these approaches are time and cost consuming and need to be accomplished before the Brexit takes effect. A transfer of the business by way of an asset deal might be a simpler solution, but may have undesired tax implications.
- The European Company, SE, is based on an EU-regulation. It is still unclear how British law will treat an SE with its seat in the UK after the Brexit. It is possible that they will be obliged to transform into another UK legal form. British SE can, however, seek "sanctuary" by moving into another EU member state in time.
- Following the Brexit, London as the leading financial market in Europe will no longer be subject to EU supervisory laws and authorities. EU rules, like the EU Market Abuse Regulation (MAR) which came into force in 2016, will no longer apply. The British government favors a "Great Repeal Bill" which shall transform all then applicable EU law into British law. However, the European Court of Justice will no longer ensure a uniform interpretation of these rules, and EU and UK capital markets rules will drift apart over time. Hence, the benefits of capital markets harmonisation will likely evaporate.
From a contracts and litigation law perspective a hard Brexit could, inter alia, have the following implications:
Already the impending Brexit has economic impacts on existing contractual relationships due to, for example, exchange rate fluctuations. Accordingly, anticipatory action seems appropriate in respect of contractual relationships and, in particular, supply relationships with a period ending later than March 2019 which are already in existence or will be established within the next two years. Customs duties, possible restrictions on the principle of the fee movement of goods and services, as well as the transmission of data to the UK, which (then) will be a non-EU country, and the additional expense associated therewith (for example for customs clearance, additional product admission procedures, etc.) can affect the economic balance of contractual relationships in the future.
It is questionable whether these changes will fall within the scope of application of the legal principle of “frustration of contract” or general force majeure clauses. Therefore, the contractual partners should renegotiate the conditions at an early stage and include supplementary provisions on how to deal with the likely consequences of the Brexit be it in the form of the right to pass on all or part of the additional cost that accrue due to the Brexit, be it in the form of special termination rights or, if necessary, by agreeing on only short fixed terms that, if appropriate, are subject to automatic extension.
Clarifications will also be necessary if contractual relationships make reference to “the EU” in terms of a contractual territory such as, for example, in the case of territorial exclusive rights, non-compete obligations etc. Thus, in case of post-contractual restraints, the Brexit can affect contractual relationships even after the termination of the respective contracts.
Choice of law
At least for the foreseeable future the Brexit will have less impact on the issue of applicable property law than initially assumed. According to the current announcements made by the British government, the Rome I Regulation on the law applicable to contractual obligations and the Rome II Regulation on the law applicable to non-contractual obligations will be further applied (for the time being) as national law in the UK. However, the UK will no longer be one of the Member States within the meaning of Article 1, subsection 4 Rome I, which is likely to give rise to the need for adjustment and possibly transitional difficulties with view to provisions that relate to the (EU-)membership (e.g. Article 2, subsection 4).
Moreover, the end of the jurisdiction of the ECJ for the UK is a decided matter. In the future, the English courts will decide on the interpretation of the provisions implemented into the national law. It remains to be seen how far they deviate from the ECJ case-law.
In respect of the enforceability of a contractually agreed choice of law, there should not be any cause for great concern even in the medium or long term. In light of the general acceptance of such clauses as a result of the party autonomy which is also appreciated in the English law, far-reaching changes should not be expected in this respect even if the UK decides to replace the Rome regulations by genuine national law.
Hence, even in the medium and long term the inclusion of a choice of law clause appears a suitable way to establish a degree of legal certainty. As to the law of choice it seems, in any case from today’s perspective, that English law is likely to entail a higher level of unpredictability than German or another continental European law would in comparison. The Brexit principally enables the UK to deviate from EU legislation, for instance in the field of consumer protection and distribution law and, consequently, to change national provisions in future which are based on EU law. As a result, the general risk of changes in legislation that exists in every country increases at least theoretically in the UK. To what extent the UK will actually make use of this possibility to depart even from EU-legislation that has long been transposed into national law, is entirely unpredictable today.
Choice of court agreements / arbitration clauses
The Brexit is not expected to have any impact on choice of court agreements which are customarily established in commercial law. One reason for this is that it is expected that (at least for the time being) the Brussels Ia Regulation which, among other things, governs the jurisdiction of courts in EU Member States will be implemented into English national law.
Like in the case of the Rome-Regulations provisions relating to Member States, some provisions of the Brussels Ia Regulation (e.g. Article 25, subsection 1) will probably need to be adjusted with view to the fact that the UK will no longer be a Member State within the meaning of the Brussels Ia Regulation. However, German courts are expected to recognize a contractual jurisdiction of courts just as the courts in the UK will probably do and assess the effectiveness of choice of court agreements according to the principles laid down in the Brussels Ia Regulation. Even if such an agreement should be assessed according to German national law in future (Section 38 of the German Code of Civil Procedure, ZPO), a jurisdiction clause agreed upon by the parties would have priority over (most) statutory jurisdiction provisions. Therefore, it seems reasonable especially as regards new contracts with a term ending later than March 2019 to include a choice of jurisdiction clause in order to provide clarity as to which court will be in charge of resolving future disputes. In this respect the parties, in order to ensure the efficient enforcement of the contractual terms, should consider aligning the jurisdiction clause with the choice of law clause (for example, choice of German law and jurisdiction of German courts).
Alternatively, in the case of suitable contracts and, in particular if sector-specific knowledge is essential or if there is a specific need for confidentiality, the parties should consider including an arbitration agreement in their contract. Arbitration remains largely unaffected by the Brexit, especially the 1958 New York Convention which governs, inter alia, the enforcement of arbitration awards will continue to apply even in the UK.
Recognition / enforcement
As regards the enforcement of German judgements and other court decisions in the UK, no change is expected for the near future; it is expected that it will be performed according to the “frozen” Brussels Ia Regulation and that, in return, English titles remain enforceable in Germany. However, the details depend on whether the UK and Germany, respectively the EU enter into agreements, and if so, which agreements or treaties. It cannot be excluded that, in contrast to today, English titles will have to be recognized by way of a formal act at least for a transitional period; in this case, the enforcement would foreseeably take more time.
A hard Brexit will have an impact on both, public and private takeovers. Public takeovers within the EU are in principle governed by local regulations which, however, are based on EU regulations and thus on harmonized law. The exit of the United Kingdom from the EU bears the risk that future public takeovers securities which are listed both in the United Kingdom and a EU members state will be regulated by two different set of legal rules.
With regard to private takeovers the Brexit will most likely not have legal but rather factual impacts:
- How is the M&A market going to develop after the submission of the withdrawal notification? Will companies located in a EU member state still invest in the United Kingdom?
- Should parties of M&A transactions which are closed during the interim period until the Brexit becomes effective and contain provisions which are future-orientated, provide for specific rules in case the Brexit turns out to have a negative impact on the financial situation of the target company and/or its prospects, e.g. purchase price reductions, special insurances or MAC clauses?
From an employment law perspective the Brexit might especially have an impact for the co-determination regimes on company-level as well as on cross-border employment:
- First of all the Brexit would have a major impact for transnational acting employees and employers. Without a mutual agreement within the 2-year-negotiation period after an exit request according to Art. 50 EUV, the exit will – without mutual agreement on either an extension of such deadline or a follow-up agreement respectively – be fully implemented, which means that upon such time the ultimate EU principles like freedom of movement for workers and freedom of services as well as the European regulation (EG) 883/2004 for the coordination of social security systems will no longer apply for UK citizens working abroad or EU citizens working in UK. For international acting companies this means a restriction in their flexibility of labor utilization because in future the use or assignment of staff from and to UK will require visa and working permits. This needs to be considered contractually already today when implementing expat or secondment programs.
- After the implementation of the Brexit the UK will also no longer be bound by existing European Directives like the Transfer of Undertaking Directive, the Working Time Directive or the European Data Protection Directive. Corresponding national implementation laws which have been heavily criticized in the past could thus be changed or completely abolished in the UK in future which again will have an impact for the transnational labor utilization.
- Unless otherwise stipulated, UK employees respectively their trade union representatives would no longer be involved in transnational employee representation bodies like the SE works council and the European works council. This could not only lead to a different composition of such a European body but possibly also to re-elections and eventually even to a change of the applicable law.
The loss of the so-called European passport system for UK deposit-taking credit institutions or securities services enterprises would take away their basis to operate in the EU member states. A securities prospectus approved by the competent UK authority could no longer be used for purposes of admission to trading on a stock exchange or public offers within EU member states.
Furthermore, the following needs to be taken into consideration:
- Under the European Market Infrastructure Regulation (EMIR) a non EU-Clearing Counterparty (CCP) may only render clearing services if it has been authorised by the European Securities and Markets Authority (ESMA).
- There may be implications for, e.g., outsourcing (regulation and data protection) and finance agreements (deductions of withholding tax, extraordinary termination for illegality, choice of law and enforcement).
EU-passporting may become ineffective for insurers and intermediaries, which means that cross-border business of UK insurers within the EU, and therewith in Germany, would no longer be possible on the basis of the freedom of services or freedom of establishment. Rather the UK-primary insurer has to set up a branch office or subsidiary with management personnel on site and apply for a licence.
Easements are available, if – and as long as – the UK supervisory system is regarded as equivalent: Wile in this case pure reinsurers may write business in Germany without needing a license, for primary insurers (merely) the solvency supervision will be recognized; otherwise they are subject to the German supervision.
In preparing for this the portfolios need to be separated and supported with assets located in the EU. In addition substantial security has to be deposited.
What position the UK-supervisors will take vis-á-vis German insurers remains to be seen; in all likelihood similar requirements will apply.
Further difficulties are to be expected for, e.g.
- cross-border mergers and portfolio transfers
- management of long term cross-border contracts (regulation, choice of law and enforcement)
- outsourcing (regulation and data protection)
- investments in UK-assets and government bonds
The European passport for alternative investment fund managers based in the UK may become ineffective. Management of funds as well as marketing of fund units within the EU would become more complex. The Brexit could influence existing investments, as for example:
- Restrictions regarding the location of assets (e.g. restricted assets of insurance companies with in the EEA).
- May give rise to extraordinary termination (e.g. illegality).
- Influence on investment contracts regarding (refund of) deductions of withholding tax according to European regulations.
Benefits under EU directives could lapse for business relations across UK borders. This would result in an increased withholding tax exposure on distributions made between affiliates either from the UK to an EU member state or vice-versa, which will no longer be exempt from withholding tax. Instead, tax rates under the respective double tax treaties would apply. Also, tax neutral cross-border mergers from or to the UK would no longer be available. This would also affect past reorganisations, where holding periods are still open. Here, the requirement to maintain assets within the EU will no longer be met if assets remain in the UK.
Amongst others, the Brexit could further have an impact on the following areas of tax law:
- The UK will likely have to re-think its VAT laws. Also, privileges such as the one-stop-shop VAT filing within the EU will no longer be available in the UK.
- The UK will also have to negotiate free trade agreements, as these are currently concluded at EU level. UK companies will also need an EU representative in future in order to have access to privileged customs procedures.
- For individuals, the Brexit could trigger payment obligations under exit tax rules. As exit taxes are subject to a deferral of payment only for the time that an individual remains resident in the EU, the Brexit itself can cause previously assessed exit taxes to fall due.
In the field of intellectual property, there are some unexpected news since the vote for Brexit: Late November 2016, British Government announced its intention to ratify the Unified Patent Court Agreement, despite Brexit. So, although signs are pointing to a hard Brexit in general, there is reason to hope that the drudgingly negotiated patent package could enter into force before the end of the year – which would allow applications for the EU-wide unitary patents.
Besides that, there are some signs to be found in the White Paper published by the British Government and in the outlines of the "Great Repeal Bill" which indicate that owners of EU trade marks will not lose protection within UK due to Brexit, as it seems probable that EU trade marks will be taken over in UK as national trademarks. There is, of course, no certainty here, so for economically important trademarks a national application in UK should still be considered as a measure of precaution.
Finally, with Article 50 invoked, Brexit's timeline becomes clearer: In two years from today, UK will most likely not be a member of the EU anymore. When entering or negotiating new agreements (like license agreements), this should clearly be kept in mind - and existing agreements and arrangements should be reassessed as to whether they need adjustment, because if yes, two years are not a long time if it comes to, for example, terminate licenses or distribution agreements, negotiate new terms and adjust the agreements (or the related processes and procedures) to the extent required to continue business as before two years from today.
Even after Brexit, EU antitrust law will continue to be an important issue for British enterprises if their actions have an impact within the EU. Likewise, enterprises from EU Member States will have to observe national British antitrust law if their actions have an impact within the UK. During the course of a hard Brexit, enterprises will probably have to adapt to the following changes:
- The one-stop-shop system at the EU Commission for Europe-wide mergers with a UK connection will no longer exist. Notifications will have to be filed in parallel to the EU Commission and the British Competition & Market Authority (CMA) if a transaction (also) has an impact on a UK market.
- In this case, the possibility of diverging decisions of the EU Commission and the British CMA, as well as different official requirements, can no longer be ruled out.
- Additionally, parallel notifications to the EU Commission and the CMA will lead to greater effort in terms of the procedural coordination.
- Turnover from the UK will no longer be considered in the examination of a notification obligation to the EU Commission. In the individual case, this could mean the loss of competence of the EU Commission for a project which has a strong UK connection.
- In the short to medium term it is unlikely that any differences in the assessment of actions under antitrust law will arise between EU law and British law. This is because the UK Competition Act 1998 is essentially similar to Art. 101 TFEU.
- With respect to the future and in case of a hard Brexit, the two antitrust law regimes will can be expected to gradually drift apart, as it cannot be assumed that the UK will constantly implement the content of new EU regulations. Moreover, the case law of the Union courts will cease to be binding in the UK in future. On grounds of the case law system of common law, an evolving divergence between the two legal systems can therefore be expected in the medium term.
- British enterprises acting within the EU economic area, or whose activities have an impact there (e.g. through export) will, however, remain fully subordinate to the executive power of the EU Commission (and, where applicable, the respective national cartel authorities of an EU Member State). Conversely, EU enterprises operating in the UK or whose activities have an impact in the UK will have to adapt to the deviating legal situation in the UK.
- The "legal privilege" acknowledged in EU antitrust law, that is to say the special protection of correspondence between external lawyers and their entrepreneurial clients, most likely will cease to exist for British lawyers in proceedings before the EU Commission.
- In future, the possibility of being fined twice for severe antitrust breaches by the EU Commission and the CMA can no longer be ruled out, since the ban on being punished twice for the same offence (ne bis in idem) no longer applies vis-à-vis third countries.
- In cases with a UK connection, separate leniency applications to the EU Commission and the CMA will be necessary in future.
- Enterprises will also have to expect parallel investigations by the EU Commission and the CMA. The EU Commission will no longer have any powers to conduct investigations in the UK, and the CMA no such powers on the European continent.
- Where necessary, procedural issues and the structure of future collaborations between the EU Commission and the CMA could be regulated in a separate treaty. However, a treaty along the lines of the EEA model would seem unlikely in case of a hard Brexit. Conceivable would be the agreement of a cooperation treaty in the manner concluded by the EU with Japan, South Korea and the USA.
Actions for damages on grounds of a cartel infringement
- The British Government presented Parliament with a draft bill in December 2016 which essentially envisages the integration of regulations of the EU Directive on Actions for Damages on Grounds of a Cartel Infringement into national law. The Law entered into force on March 9, 2017.
- Accordingly, the British Government takes a "lighter touch approach". Regulations which already fulfil the requirements of the EU Directive on Actions for Damages on Grounds of a Cartel Infringement today pursuant to British law (including case law) remained untouched. Changes were only made where an alignment with the requirements of the directive was neccessary.
- The British law envisages, inter alia, the following important new provisions:
• It should be possible in future to invoke decisions of national cartel authorities and courts from EU Member States before the UK courts as prima facie evidence of a cartel infringement (decisions of the CMA and the EU Commission are already deemed binding pursuant to current law);
• it is refutably assumed that a cartel has led to a damage;
• the limitation periods already applying will remain unaffected, however new provisions concerning the commencement and interruption of the limitation periods will be introduced;
• individual documents are to no longer fall under the "disclosure" obligation, e.g. leniency applications and settlement agreements with the cartel authorities
Currently, until the Brexit becomes effective, the UK is still subject to EU data protection laws and any data procession and data transfers to the UK can continue on the basis of the normal rules applicable in Germany or elsewhere in Europe. The United Kingdom has announced that it will initially be implementing the EU General Data Protection Regulation. However, starting with the effective date of the Brexit, the UK will be considered to become an "unsafe third country" in the meaning of the current European Data Protection Directive, as well as the upcoming General Data Protection Regulation.
That would mean, all transfers of personal data to the UK will become subject to additional safeguards, such as the EU model clauses.
Simpler solutions would require an agreement between the EU and the UK, such as the recognition of the UK as a "safe country" by the EU Commission (e.g. if the General Data Protection Regulation is integrated into national law), or an EU-UK Privacy Shield.
Within the European territory, dual-use items can be exported without an export license. After the Brexit, German companies are obligated to obtain a license from the Government for exporting dual-use items (export controlled machine tools, chemicals, semiconductors, especially powerful computers, sensors, lasers, etc.) to England. A General License from the government could facilitate the export to England (such License exists among others for the US and Japan). Nevertheless, facilitations of this kind could potentially be contrary to the political aim of a hard Brexit.
As far as transboundary issues are concerned, the environmental legislation is facing several challenges. Especially with regard to the waste and chemicals legislation:
- With regard to transboundary shipment of waste, the United Kingdom would be considered as a "third country" in terms of the EU Waste Shipment Regulation, in which case the notification and approval requirements for shipments become more complex.
- Concerning the import of chemicals in the EU by a non-community manufacturer, the manufacturer needs a representative within the EU, who complies with all obligations for importers under the REACH Regulation.
After the Brexit, the EU has to renegotiate (free) trade agreements with third countries. Companies based in the customs territory of the EU, can obtain the status of Authorized Economic Operators (AEO), which is beneficial for the process of international trade as regards customs. Furthermore, the status of AOE is an evidence of compliance with safety standards. This status can not be obtained by British companies after the Brexit anymore.
From a Real Estate law perspective a hard Brexit could, inter alia, have the following implications:
- A Brexit might trigger so called change-of-form provisions contained in various commercial lease agreements, if one party to the lease is a Ltd. having its seat of administration in Germany. As consequence of the cancelled EU law on Freedom of Establishment, a Ltd. company having its seat of administration in Germany could become a partnership and therefore be subject to respective provisions. Depending on the clause, implications could reach from obligations to inform the other party to early termination rights which might be executed by the other party.
- Economical chances and risks resulting from a foreseeable Brexit could already be considered in negotiations of (lease-)agreements, e.g. by agreeing on adjustment rights
- In the area of international real estate loan agreements (e.g. based on the form provided by the Loan Market Association in London) both lenders and borrowers will have to examine whether and to what extent by way of prevention (or, in case of current loan agreements, by way of remedy) provisions or amendments need to be implemented in the relevant documentation. Apart from references to EU-Member States, EU-Territory and EU-rules generally, it is important to consider certain provisions which may typically become relevant in case of a Brexit. These could, for example, be termination clauses (like Material Adverse Change-clauses), Increased-Costs-clauses providing the lender with a compensation claim against the borrower in case of adverse changes in the legal environment, as well as representations and covenants of the borrower (e.g. on the center of main interests to ensure application of the EU-Insolvency Regulation).
- The above considerations may also become relevant in connection with real estate sale and purchase agreements. They should be taken into account when examining sale and purchase agreements recently entered into, as well as in case of negotiating new agreements.