Introduction
Majority shareholders that hold between 90 and 98% of shares are often allowed to ‘squeeze out’ minority shareholders, which means that they have to sell their shares and the majority shareholder gains full control over a corporation. This article provides an overview of the squeeze-out regulation in Germany and how minority shareholders’ compensation is determined. Furthermore, it compares the legal requirements for squeeze-outs with three other European states: Italy, the United Kingdom and Switzerland.
Is the last share the most expensive?
A key attribute of a public company is, obviously, that a certain percentage of the company’s shares can be freely traded. This percentage is called ‘free float’. It excludes shares held by institutional or long-term investors exceeding a certain percentage (5% in Germany), because their shares are not intended for frequent trade. In Germany, the stock exchange rules require companies to have a minimum free float of 10% for being listed in one of its DAX equity indices (Stoxx Ltd, 2019).
Being a publicly listed company comes with advantages and disadvantages. Capital raising and acquisitions can be facilitated, as the issuer can use its own shares as a currency, and the company may benefit from increased reputation and prominence (Vernimmen, Quiry, Dallocchio, Le Fur, & Salvi, 2017). At the same time, however, an IPO (the process of going public) comes with high one-time costs, regulations are stricter, more disclosure is required, and the company may face pressure from an increased shareholder base or can suffer from conflicts involving its shareholders (Heim, 2002).
Being a majority shareholder can come with high economic costs, because, despite majority shareholders bearing the highest economic risk, minority shareholders can legally challenge resolutions and thus, force delays in strategic decisions (von Rosen, 2007). This is why, under certain conditions, majority shareholders can enforce a ‘squeeze-out’, which is defined as ‘the forced sale of stock owned by minority shareholders in a joint-stock company’ (Cornell Law School, 2021).
Squeezing out minority shareholders implies certain challenges. First, from a moral perspective, a forced sale of ownership may be considered expropriation, which is why the prevalence of well-justified laws is necessary. Second, the minority shareholders must be granted a fair compensation for the transfer of their shares. This leads to a conflict of interest, as the majority shareholder prefers to pay a price that is close to the market price, while minority shareholders expect to sell their few ‘rare’ shares at a premium.
This article provides a condensed overview of the legal requirements for squeeze-outs in Germany and outlines the processes of the determination of the fair compensation. Ideas for further publications include first, extending the list of countries, and second, comparing common practices in the valuation and determination of the minority investors’ compensation.
Squeeze-out Provisions in Europe
Germany
The German Aktiengesetz rules that majority shareholders owning 95% of a company’s shares can enforce the sale of minority shareholder’s shares in return for a fair compensation (§327a AktG). The fair compensation is to be determined by the majority shareholder. It must be paid in cash and must not be lower than the weighted-average share price in the three month period preceeding the squeeze-out announcement (§5 WpÜG-Angebotsverordnung). However, since the shares of companies with a free-float below 5% are typically not very liquid, the share price may not serve well as an indication for the true value. Therefore, majority shareholders typically hire valuation professionals, usually public accountants, to determine the fair compensation (von Rosen, 2007). Simultaneously, an independent public accountant is engaged, by the court at the place where the company is registered, to review the majority shareholder’s valuation. After the company’s general meeting formally approves the resolution, the transfer of shares becomes effective upon entry into the commercial register.
Minority shareholders are furthermore given the right to review the compensation in a court proceeding, called ‘Spruchverfahren’, even after the transfer became effective. During the proceeding, another independent valuation expert is hired by the court to issue his opinion on the adequacy of the compensation. According to an empirical analysis, the proceedings took on average nine months of time and most proceedings were terminated with the parties reaching a settlement agreeing on a higher compensation (von Rosen, 2007).
Next to the above mentioned ‘stock corporation squeeze out’, there are two other situtations in which minority shareholders can be forced to sell their shares. First, in a public bid where a majority shareholder holds at least 95% (§39 WpÜG), and second, in a merger case where one shareholder holds at least 90% of the shares (§62 UmwG).
Italy, the UK and Switzerland
In Italy, ‘a shareholding of 90% triggers the commitment to squeeze-out unless a free float sufficient to ensure regular trading is restored within 90 days. [A shareholding of] 95% of the capital represented by securities in an Italian listed company triggers both the commitment of the bidder to squeeze-out (and the corresponding sell-out right of the minority) and the right of the bidder to squeeze-out’ (CMS, 2017).
In the UK, a squeeze out can be enforced when the majority shareholder owns 90%. It must be noted that in the UK the rights for minority and majority shareholders are more balanced for minority shareholders are given the right to be bought-out of their shares (CMS, 2017).
The Swiss law distinguishes between two squeeze out forms; the squeeze-out after a public purchase offer according to the Finanzmarktinfrastrukturgesetz and the squeeze-out after a merger of two or more companies acoording to the Fusionsgesetz. In case of a public bid a majority shareholder, who owns at least 98% of the shares, can declare minority shareholders’ shares as invalid provided that he pays them a fair compensation (Art. 8 FusG, Art. 18 FusG). In the case of a merger, a majority share of 90% is sufficient to offer the other party a cash compensation instead of shares of the combined entity (Art. 125 FinfraG).
Summary
To answer the question ‘Is the last share the most expensive?’, we note that it in Germany it certainly is. First, legislation prohibits the purchase of minority shares at a price lower than historic average prices. Second, the cost and duration of legal proceedings should not be underestimated. Nevertheless, majority shareholders may benefit from the squeeze-out, for it significantly facilitates the restructuring or sale of the company. With respect to the legal environment, the legislation in the four countries included in this article are similar, as they apply similar minimum percentages between 90 and 98%. A peculiarity exists in Italy and the UK, where also sell-out rights are offered to shareholders.
Sources
Cornell Law School. (2021). Squeeze-out. Retrieved from Definition: https://www.law.cornell.edu/wex/squeeze-out
Stoxx Ltd. (2019, August). Guide to the DAX equity indices.
Vernimmen, P., Quiry, P., Dallocchio, M., Le Fur, Y., & Salvi, A. (2017). Corporate Finance: Theory and Practice. Wiley.
Heim, R. (2002). Going Public in Good Times and Bad: A Legal and Business Guide. ALM.
von Rosen, R. (2007). Squeeze Out Recht und Praxis. Frankfurt am Main: Deutsches Aktieninstitut.
CMS. (2017). Guide to Mandatory Offers and Squeeze-outs.
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