Mass redundancies in insolvency scenarios

Dismissals due to plant closure may remain effective even if the plant is sold later – the importance of a list of impacted employees (“Namensliste”).

The Corona pandemic and the war in Ukraine continue to hurl many industries around the world into daily crisis scenarios. Employers are struggling to stay in business and to literally survive, despite intensive programs aimed at preventing mass redundancies and plant shutdowns.

Facilitating access to short-time work (Magotsch/Otto, Webinar: German State Aid – Will Mass Insolvency Be Next?, 12 October 2022, ; Magotsch/Otto, German State Aid – Kurzarbeitergeld - Specifics On Insolvency Protection, 15 November 2022 ) and granting subsidies have not prevented all crisis situations and, in these times of recession, we are seeing an increase in the number of insolvency filings.

With effect of 1 July 2023 the Federal Ministry of Labor and Social Affairs has withdrawn the relief to obtain short-time allowance so that since then the earlier stricter prerequisites apply.
But insolvency proceedings also provide alternative options to restructure businesses, even if this may sound odd at first glance.

Facilitated layoffs of personnel

German insolvency law offers significant advantages, such as facilitating layoffs and terminating staff. In a nutshell, the German Insolvency Act provides for

  • Simplified and shortened termination requirements with notice periods capped at three months,
  • Termination of shop agreements with a much quicker timeline,
  • Expedited proceedings for negotiations with the works council,
  • Restricted scope and volume of social plan agreements,
  • Relief from extensive social selection requirements and drawing up of a list of impacted employees (“Namensliste”), and
  • Access to court orders enabling terminations if a balancing of interests cannot be reached with the works council within three weeks.

During the preliminary insolvency proceedings which usually take up to three months, the court appointed administrator assesses different options for continuation of the business and tries to prepare the implementation of a suitable solution. If no option can be found that allows keeping staff or transferring it to a purchaser, the insolvency administrator needs to act quickly to cut down costs by means of business shutdown.

At the latest with the start of final insolvency proceedings, the administrator will immediately begin negotiations with the works council (if one exists) for staff layoff. These negotiations aim on the agreement on a balancing of interests and a social plan.
Prior to closing the business, the administrator needs to ensure that the shutdown process runs as smoothly as possible by retaining the staff members required for closing activities, such as the phasing-out of production. At the same time, it must be the intention to reduce the cost of employment and minimizing overly long payroll obligations. In this balancing act, the administrator will try to agree with the works council on a list of employees to be attached to the balancing of interests.

Under German labor law, it is presumed that all employees named on such list are dismissed for urgent operational reasons and that the terminations are socially justified. Drafting and agreeing upon such a list will place the company in a better legal position should individual employees later sue the company for wrongful dismissal.

Shut down of the business if it cannot be sold

To satisfy the interests of the creditors best possible, insolvency administrators tend to sell the business or parts thereof. If no investor can be found and there is no alternative economically sustainable solution available, the business must be shut down as quickly as possible to avoid insolvency assets being further burdened with the obligation of paying salaries.

It is common practice for this decision to be taken closely around the time of the start of final insolvency proceedings, usually about three months after filing for insolvency. Until the expiry of the notice period, employees are retained to implement the closure and often to also implement the "phase-out" of the business.

But what happens if the administrator finds a party interested in buying the business – or parts thereof – at a later stage, namely after a balance of interests and social plan have been agreed upon? Sometimes, although the decision on shutdown has been made, a purchaser is subsequently found who is willing to take over the business with reduced workforce. If it comes to a sale of the business, the question arises whether the previously declared terminations of employment relationships by the administrator remain effective.

On 17 August 2023, the Federal Labor Court handed down an important decision (6 AZR 56/23) on this issue. The ruling dealt with the "presumption principle" of a balancing of interests, namely the presumption that justify the termination of employees named on the agreed list of employees.

If an investor is found only after employment contracts have been terminated

In the case at hand, insolvency proceedings had been opened in early March 2020 on the assets of a manufacturing company with approximately 400 employees. By the end of June 2020, the insolvency administrator agreed with the works council on a balancing of interests along with a list of employees for layoff. The balancing of interests assumed the shutdown of the entire business, but only after an interim period to phase-out production. A few days earlier, the insolvency administrator had informed the creditors' committee that at that point in time there was no acceptable offer from a purchaser to take over the business operations and that a phase-out production would be implemented. The precise words "shutdown" or "closure of the business“ however, did not appear in the minutes of the creditors' committee nor were business partners or customers specifically informed of a closure.

After the conclusion of the balancing of interests with the list of employees all employees were laid off, including the plaintiff, whose name had been included in the agreed list of employees. The termination of the plaintiff's employment contract was stated to occur not at the earliest permissible date, but only a year later, on 31 May 2021.
Contrary to what had been foreseen by the insolvency administrator during his negotiations with the works council in summer 2020, the business was not shut down but sold to an investor early 2021. Closing of the sale that was agreed on 22 February 2021 occurred on 1 July 2021 with essential business assets sold and transferred to a company that had been a major customer of the insolvent company.

Relevance of actual planning at time of dismissal

In contrast to the lower instances, the Federal Labor Court concluded that the dismissal was effective, deeming the insolvency administrator had sufficiently demonstrated that the business shut down - on which the termination of employment contracts was based - was actually planned at that time. The plaintiff was not able to dispute the presumption of the balancing of interests affecting the staff named in the agreed list of employees.
It remains to be seen if and how the Federal Labor Court will decide on the claim for reinstatement filed in the lower court. This may not have helped the plaintiff, because, in insolvency proceedings, reinstatement can only be enforced if the transfer of the business takes place before the expiry of the notice period (BAG 8 AZR 693/10), which was not the case here.
During the proceedings in the lower instances, however, the plaintiff had argued that the dismissal was invalid because the company was not eventually shut down.

The Higher Labor Court of Hamm (16 Sa 485/21), agreed with this argumentation, declaring that the insolvency administrator had not sufficiently demonstrated that a closure of the business had in fact been planned at the relevant point in time as neither the continuation nor sale of the business had been ruled out absolutely.

The court stated that closure can be used as grounds for termination for operational reasons only if the shutdown assumes tangible forms. Thus, the Higher Labor Court of Hamm held that the balancing of interests, despite the agreed list of employees, did not respect the presumption principle of urgent operational requirements justifying the termination of employment contracts, because the presumption can only be with respect to the operational change specifically mentioned in the balancing of interests.

The Federal Labor Court set aside the decision of the Higher Labor Court of Hamm and accepted that the validity of the presumption principle despite the new circumstances had occurred at a later stage.

High relevance of the new Federal Labor Court decision

The recent Federal Labor Court decision confirms that a balancing of interests with an agreed list of employees can facilitate operational dismissals, but the operational change described in the balancing of interests should correspond to the actual circumstances.

This holds true for all agreed balancing of interests together with a list of employees, even those concluded outside insolvency proceedings.
Under German law, protection against wrongful dismissals is based on the so-called “prognosis principle”. If a shutdown is actually planned at the time the notice of termination is received by an employee, this is a suitable justification for the termination for operational reasons, even if the forecasted scenario is not realized and the business is later sold instead of being closed and assets are being transferred to a purchaser.

Summary & recommendation

When accompanying a planned closure of a business it needs to be ensured that it is clear from the overall circumstances that the dissolution of the working and production community impacted by the shutdown has taken tangible form at the time the impacted employees receive the notice of termination.

It is advisable to ensure an upcoming shutdown is mentioned in the minutes of the creditors' committee, a shareholders' resolution, or minutes of an entrepreneurial decision by the management outside insolvency, as well as recording communication with business partners or clients that allude to a planned closure.

Without, it will be more difficult to demonstrate and, if necessary, to prove that the closure was actually planned at the time of termination and hence the termination was not an inadmissible anticipatory termination. Listing employees on a respective list alone will not suffice since the presumption of a balancing of interests might not apply.

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