Carve-Out Transactions in Germany

Carve out transactions in Germany: what makes them different

Carve out transactions separate a business unit from a group and sell it, list it or contribute it to a joint venture. Unlike the sale of a stand-alone company, the target does not yet exist as a self-contained business: employees, contracts, IP, IT systems, real estate and pension liabilities sit in group entities together with assets that stay behind. In Germany, carve out transactions are shaped above all by the automatic transfer of employees under § 613a BGB, the co-determination rights of works councils, pension law, the Transformation Act (Umwandlungsgesetz, UmwG) and the practical challenge of separating IT and data. Success depends on a clear perimeter, a realistic separation plan and transitional arrangements that keep the business running after closing.

This briefing walks through the main workstreams from the seller's and the buyer's perspective, with a focus on German law issues that international deal teams tend to underestimate.

Defining the perimeter and choosing the structure

The first task is to define what is being sold: which sites, employees, customer and supplier contracts, IP rights, licences, permits, inventory and receivables belong to the business, and which shared resources it uses. Sellers usually prepare carve-out financials and a perimeter analysis before approaching bidders, because buyers will price uncertainty.

The business can be transferred in three ways:

The statutory routes in § 123 UmwG are attractive because contracts, liabilities and assets pass as a whole upon entry in the commercial register, without each counterparty having to agree. The price is creditor protection: under § 133 UmwG all entities involved in the division are jointly and severally liable for pre-existing liabilities, in principle for five years, and for ten years for occupational pension obligations. Buyers of a NewCo created by spin-off should price that exposure and seek an indemnity from the seller. Our article on mergers and spin-offs under the UmwG explains the procedure.

Employees, § 613a BGB and works councils

When a business or part of a business is transferred to a new owner, the employment relationships assigned to it pass automatically to the acquirer (§ 613a(1) BGB). Dismissals because of the transfer are void (§ 613a(4)). The old or new employer must inform affected employees in text form before the transfer about the date, the reason, the legal, economic and social consequences and the planned measures (§ 613a(5)). Each employee may object within one month of receiving the information (§ 613a(6)); an objecting employee stays with the seller, which may then have to consider a redundancy.

Three practical issues dominate carve out transactions:

• Assignment. Employees working partly for the business and partly for other units must be allocated. Where a reconciliation of interests with the works council names the employees assigned to a unit in a statutory transformation, courts review the assignment only for gross error (§ 35a(1) UmwG).
• Information letter. Incorrect or incomplete information means the one-month objection period does not start. Errors can therefore allow employees to object long after closing. The letter should be drafted with care and coordinated between seller and buyer.
• Works council rights. Splitting an establishment is usually an operational change under § 111 BetrVG in undertakings with more than 20 employees entitled to vote, which requires negotiations on a reconciliation of interests and a social plan. The economic committee must be informed about a sale of the company or business. Works agreements and collective agreements continue either collectively or as individual terms for one year.

More detail is in our insight on business transfers under § 613a BGB.

Pension splits

Occupational pension obligations are often the largest hidden liability in German carve out transactions. Active employees take their pension promises with them under § 613a BGB, including vested and unvested entitlements. Liabilities to former employees with vested rights and to pensioners do not transfer under § 613a, because those persons are no longer employees. They stay with the seller unless they are transferred by way of a statutory spin-off or assumed with the consent of each beneficiary, since § 4 BetrAVG restricts the transfer of vested entitlements and current benefits by agreement.

Buyers should obtain an actuarial report, agree a valuation basis and a purchase price adjustment for the pension liabilities, and check whether assets in a contractual trust arrangement (CTA) or a pension fund should move with the business. Where liabilities are spun off into a separate entity, labour courts require that entity to be adequately funded. Our insight on pension liabilities in M&A deals covers the valuation side.

IT, data and transitional services

In most carve out transactions the business relies on group IT: ERP systems, email, networks, data centres, licences held at group level and shared support functions such as payroll, accounting and HR. The business cannot be cut out on the closing day. The parties therefore agree a transitional services agreement (TSA) under which the seller continues to provide services for a defined period, and sometimes a reverse TSA under which the business provides services back to the seller.

• Scope and service levels. List each service, its duration, fees and service levels. Disputes often arise over services that were forgotten.
• Software licences. Group licences often do not allow use by a former group company. Licensors' consent or new licences may be needed.
• Data separation. Data of the business must be separated from group data. Transfers of personal data need a legal basis under the GDPR; during the TSA, the seller usually acts as processor for the business, which requires a data processing agreement under Article 28 GDPR.
• Exit plan. The TSA should include a migration plan, milestones and a cooperation duty for the migration.

Contract protections in carve out transactions

Because the target is newly assembled, the purchase agreement in carve out transactions must do more work than in an ordinary share deal. Buyers typically ask for the following protections, and sellers should be ready to negotiate them:

• Sufficiency of assets. A guarantee that the assets, rights, employees and services transferred or provided under the TSA are sufficient to run the business substantially as it was run before. Sellers resist an unlimited version and prefer a guarantee limited to what is listed.
• Wrong pockets. An obligation to transfer assets or contracts that turn out to sit on the wrong side of the perimeter after closing, and to pass on payments received for the other side.
• Excluded liabilities. An indemnity for liabilities of the remaining group, especially where a statutory spin-off creates joint liability under § 133 UmwG, and for claims of employees who object to the transfer.
• Employee mismatch. Price adjustments or indemnities if more or fewer employees transfer than planned, for example because of objections or because employees who should not transfer claim that they were assigned to the business.
• Pensions. A specific valuation and price adjustment mechanism for transferred pension liabilities, often with an agreed actuary.
• Separation costs. An allocation of one-off separation costs, such as IT migration, rebranding and new licences, often shared by an agreed cap.

Warranty and indemnity insurers will usually exclude sufficiency-of-assets and separation risks or price them separately, so the parties should not assume that a W&I policy covers them. Pricing mechanics also need adjustment: where no stand-alone balance sheet exists for past periods, a locked-box structure is harder to use and completion accounts are more common.

Illustration: a hypothetical German group sells its sensor division, which shares two sites and an ERP system with other divisions. The seller hives the division down into a NewCo, agrees a twelve-month TSA for IT and payroll with two optional three-month extensions, and gives an indemnity for liabilities left behind in the group. The buyer negotiates a sufficiency guarantee limited to listed assets and a price adjustment if more than an agreed number of employees object to the transfer.

Stand-alone costs, contracts and other workstreams

A carved-out business must bear costs that the group previously covered: management functions, insurance, treasury, compliance, IT licences and audit. Buyers model these stand-alone costs to arrive at a realistic earnings basis, and sellers should anticipate the debate in their carve-out financials.

Shared customer and supplier contracts must be split, replicated or assigned. Assignments of contracts in an asset deal require counterparty consent, which gives counterparties leverage. Group-wide framework agreements may contain change-of-control clauses. Intellectual property used by both the business and the remaining group is typically allocated to one side and licensed to the other. Permits under public law, for example emission control permits, may be tied to the site operator and need notification or a new permit.

Finally, the remaining group and the carved-out business often continue to trade with each other. Long-term supply agreements need arm's-length pricing for tax purposes and must comply with competition law.

Timeline and checklist for carve out transactions

Carve out transactions in Germany typically take longer than standard share deals because of the separation work and works council consultation. A realistic sequence is:

1. Perimeter definition, carve-out financials and separation blueprint (seller).
2. Choice of structure and tax analysis, including real estate transfer tax and the tax neutrality of a hive-down.
3. Works council information and, where required, negotiations on a reconciliation of interests.
4. Signing of the SPA or APA with TSA, licence agreements and long-term supply agreements.
5. Merger control and investment screening clearances.
6. Employee information letters under § 613a(5) BGB and the objection period.
7. Hive-down or transfer, closing and start of the TSA.
8. Migration and TSA exit.

Sellers that prepare carve out transactions early can shorten the timeline and keep control of the narrative with bidders. Buyers should ask for clarity on the perimeter and on the TSA before committing to a price.

How TRW & Co helps

We advise sellers and buyers on carve out transactions in Germany: perimeter and structure, statutory hive-downs and spin-offs, SPAs and APAs, transitional services agreements, IP and licence allocation, employee information letters and works council negotiations, pension splits, data protection and merger control. Our M&A team works with employment, tax, IT and antitrust colleagues on one integrated timetable. Contact us to discuss a planned carve-out.