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Your PWWL editorial team
Christine Wahlig
Attorney at law
Editorial Management
Alice Tanke
Marketing Manager
In principle, employees must be involved through a special negotiation body (“SNB”) in the formation of a European Company (Societas Europaea – “SE”) to regulate information and consultation on the European level and potentially participation on board level.
However, if the founding companies and their subsidiaries do not employ employees in the EU/EEA, it is generally agreed — with only a few deviating opinions in legal literature that even consider the establishment of a shelf SE to be illegal — that no employee involvement procedure is required at the time of formation. In such cases, it is held that an SE can be registered as a shelf company without an employee involvement procedure.
However, in the past, courts had yet to definitively decide what would happen when, after its establishment and registration, the shelf SE becomes active by either recruiting employees on its own or becoming a shareholder in subsidiaries that employ employees in the EU/EEA. In practice, it was predominantly held in Germany that the so-called activation of the shelf SE required a retrospective carrying out of the employee participation procedure, i.e., that an SNB had to be formed and the negotiations on employee participation be carried out after the activation of the shelf SE.
This question has now been decided by the European Court of Justice (ECJ) in its judgment of 16 May 2024 (Case No. C-706/22), after the German Federal Labour Court (Bundesarbeitsgericht, “BAG”) had stayed the proceedings in one of its pending cases and referred the matter to the ECJ in its order dated 17 May 2022 – (Case No. 1 ABR 37/20 (A)).
In summary, the ECJ generally rejects an obligation to retroactively carry out the employee participation procedure unless there is an abuse of the SE’s legal form to the detriment of employees.
But first things first: What exactly happened in the case decided by the ECJ?
The ECJ’s decision was preceded by a referral order of the BAG dated 17 May 2002 – 1 ABR 37/20 (A).
In the main proceedings, a holding SE (“O Holding SE”) was established in 2013 as a shelf SE under English law by a British limited liability company (“O Ltd”) and a German limited liability company (“O GmbH”). The companies involved had no employees and no subsidiaries in the EU/EEA. Therefore, there was no negotiation procedure on employee involvement before the registration of the holding SE.
Subsequently, O Holding SE became the sole shareholder of the German O-Holding GmbH, which had 816 employees and a supervisory board with one-third of its members being employees according to the German One-Third Participation Act (Drittelbeteiligungsgesetz – “DrittelbG”). O-Holding GmbH had several subsidiaries in Germany and abroad with approximately 2,200 employees. It was subsequently converted into a limited partnership under German law (Kommanditgesellschaft or KG, “O KG”), the general partner of which became an SE subsidiary of O Holding SE (“O Management SE”), which also appears to have been a shelf SE with no employees. Upon becoming the limited partner of O KG O, Holding SE transferred its registered seat to Germany. A supervisory board at O KG was not formed, as the limited partnership under German law is not subject to co-determination on board level under the DrittelbG. Following the restructuring, the group structure can be summarised as follows:
The group works council of O KG filed an application with the labour court claiming that the management of O Holding SE was required to retrospectively initiate the formation of an SNB to negotiate with the SNB on the conclusion of a participation agreement, as O Holding SE now had subsidiaries with employees in several member states.
Both the labour court and the state labour court on appeal dismissed the claims of the group works council at trial, as both instances held that no retrospective participation agreement needed to be carried out.
By order of 17 May 2022 – 1 ABR 37/20 (A), the BAG stayed the proceedings and referred the matter to the ECJ. The BAG essentially justified the referral as follows:
Art. 12 (2) of the Regulation (EC) No. 2157/2001 (SE Regulation) in conjunction with Art. 3 to 7 of the Directive 2001/86/EC (SE Directive) do not expressly provide that the negotiation procedure for the involvement of employees must be carried out retrospectively if it has not been carried out upon establishment of the SE. In the opinion of the BAG, the Regulation and the Directive are based on the principle that the companies involved in establishing an SE or their subsidiaries carry out an active business and employ employees so that a negotiation procedure can be carried out before registering the SE upon its initial establishment.
The BAG assumed that at least in light of Art. 11 of the SE Directive, if there is only a short period between registration of the SE and activation, there could be an obligation to retroactively carry out such negotiations to avoid abusive practices depriving employees of their participation rights in case of the formation of an SE.
Concerning the use of a shelf SE without a prior participation agreement, the BAG referred the question to the ECJ whether the purpose pursued by Art. 3 to 7 of the Directive 2001/86 requires that, in the case of the establishment of a shelf SE in which none of the participating companies or any of their subsidiaries employs employees, the negotiation procedure for the involvement of employees be carried out retroactively if the shelf SE becomes an undertaking exercising control over subsidiaries employing employees in several Member States as a newly instituted holding company of a group.
In its decision of 16 May 2024, the ECJ agrees with the opinion and reasoning of the Advocate General of 7 December 2023 and rejects the notion that the SE is required to initiate negotiations upon its activation through the acquisition of subsidiaries employing employees in the EU/EEA.
In its decision, the ECJ reaffirms that, when interpreting an EU provision, not only its wording but also its context and objectives are to be taken into account, as well as, where appropriate, the origin of the provision. Against this background, the ECJ reached the following conclusions:
1. Based on the wording of Art. 12 para. 2 of the SE Regulation in conjunction with Art. 3 para. 1 to 3 of the SE Directive, the negotiation procedure regarding the involvement of employees in the SE must, as a rule, be carried out before the SE is entered into the commercial register during its initial establishment. As drafted, these provisions do not apply to an SE that was established when the companies participating in its establishment did not employ any employees since, in this case, no negotiation procedure on employee involvement was possible before registration of the SE.
2. The SE Directive only provides for an opening for new negotiations in three situations, namely
– At the earliest two years after the decision of the SNB to not enter into or prematurely terminate negotiations,
– If agreed upon in the participation agreement or
– Four years after negotiations are terminated without an agreement, resulting in applying the statutory fallback scheme, if the SE works council resolves to reopen negotiations.
However, an SNB must have been set up in all three cases when the SE was initially established. However, none of the three cases referred to in the SE Directive covers the situation where an employee-free shelf SE was established without a prior participation procedure and, hence never had an SNB or an SE works coucil. Thus, the wording of the SE Directive does not require that the negotiation procedure on employee involvement in an already established SE be retroactively carried out in such a case.
3. Based on Recital 21 of the SE Regulation in conjunction with Recitals 6 to 8 of the SE Directive, it follows that maintenance of the status quo of acquired rights as regards employee involvement and the negotiation procedure on employee involvement are tied to the date of the establishment of an SE. Therefore, the recitals do not indicate that an involvement procedure that was not to be carried out at the time of establishing an SE is to be carried out in the case of an already established SE at a later stage. Furthermore, while Recital 18 of the SE Directive allows for reopening negotiations in case of structural changes, the court held that this does not apply to changes on the level of the holding company, as was the case in this scenario.
4. The drafting history of the SE Directive also argues against an obligation to retroactively engage in negotiations. The court held that the impossibility of opening retrospective negotiations at a later stage is not due to an oversight by the EU legislator when drafting the SE Directive. Instead, the so-called “before and after principle” (safeguarding the status quo of employee involvement at the time of the formation of the SE, which is, in principle, immune to change) indicates that this situation is based on a deliberate legislative decision which, at the time, represented a compromise between the interests of the stakeholders involved.
Against this background, the ECJ concludes that no retrospective negotiation procedure was required in the present case under EU laws.
However, the ECJ then goes on to consider whether, as suggested in the question by the BAG, an obligation to initiate the involvement procedure for an already established SE retrospectively could arise in cases of abuse of the structure of the SE. The court states that under Art. 11 of the SE Directive, Member States must take appropriate measures per EU law “to prevent the SE from being abused in order to deprive employees of their participation rights or to withhold such rights.” However, Art. 11 of the SE Directive, which was implemented in Germany by Section 43 of the SE Employee Involvement Act (SE-Beteiligungsgesetz – “SEBG”), leaves it to the Member States to decide which appropriate measures are taken to prevent abuse. In the present case, the court held, however, that this does not result in an obligation to initiate a negotiation procedure, as Section 43 SEBG does not provide for such. Furthermore, the court ruled that “abuse” within the meaning of Art. 11 SE Directive can only be assumed if, despite formal compliance with the conditions provided for in the EU regulation, the objective of this regulation (in this case, the safeguarding of participation rights) is objectively not achieved, and the user subjectively pursues the intention of obtaining an advantage resulting from the EU-regulation by artificially creating the conditions for this.
Consequently, the court also assumed there was no need to answer the BAG’s further questions regarding the concrete modalities of a participation procedure in the event of an obligation retroactively engaging in negotiations.
The decision, eagerly awaited after the Advocate General’s motion, is convincing in its reasoning, even though it represents a significant shift away from the general assumption of an obligation to retroactively engage in negotiations on employee participation upon activating a shelf SE. In principle, it can be assumed that based on this reasoning, a negotiation procedure will not be necessary in many cases of activation of a shelf SE in the future.
Nevertheless, the decision raises numerous follow-up questions, which have considerable practical impacts:
1. Even if no abuse can be assumed in the case decided, the question arises regarding when an abuse can be assumed in other constellations.
The mere formation of an SE before the relevant thresholds for employee co-determination on the board level are exceeded is insufficient; this is already generally assumed in the case of a “normal” formation, so using a shelf SE for these purposes will not change this. Legally available structuring options do not constitute abuse, even if they may be politically undesirable.
The decisive factor for the presumption of abuse is the “artificial creation” of the circumstances that circumvent the objective of safeguarding the participation rights of employees. However, this can only be the case if the corresponding activation processes of the shelf SE result in an inherent risk for the participation rights of the employees, which would not otherwise have been at risk (i.e., in the case of other establishment variants or the use of comparable structuring options).
This means that abuse can only be assumed in rare cases:
– In the case decided by the ECJ – conversion of the company subject to co-determination on the board level into a partnership and the insertion of a holding SE not subject to co-determination, other arrangements would have been conceivable in which the use of other legal forms would have resulted in the loss of employee involvement. This is also implied by the court when discussing structural changes.
– The same applies to other constellations, e.g., the initial “filling” of a shelf SE with operating business and the transfer of employees by way of a transfer of undertakings; here, too, the employees would not be protected against disadvantages in participation if other legal forms or an initially non-co-determined SE were used so that no risk inherent to the shelf SE is realized. The management is free to choose the form of the SE in these circumstances. Moreover, the immunization of the SE’s participation scheme against such events was – as the ECJ reaffirmed – a significant decision by the lawmakers when the SE Directive was passed.
– The same applies, for example, to absorption. If O Management SE were to withdraw from the limited partnership in the case decided by the ECJ, the business of O KG would automatically be absorbed by O Holding SE without the need for renegotiation. It is also recognized in connection with Section 18 para. 3 SEBG that the mere growth of the business (be it organic or through such absorption) does not lead to an obligation to renegotiate.
However, the situation is different in the case of the merger of a co-determined company into a shelf SE. This, however, is not due to an assumed abuse but because this constitutes a significant structural change that may lead to a reduction of the participation rights so that a renegotiation obligation pursuant to Section 18 para. 3 SEBG is triggered.
2. It is also unclear what the legal consequences of an assumed abuse of a shelf SE would be in detail. First, there is the risk of criminal prosecution, according to Section 45 para. 1 no. 2 in connection with Section 43 SEBG. Whether the implementation of the change is null and void, whether the employee representatives have a right to injunctive relief, or whether the commercial register can refuse registration of any corporate changes in these instances, is disputed. It will be up to the courts to clarify this if a rare case of abuse is assumed.
3. It also remains open whether the management can still voluntarily conclude participation agreements with an SNB in the future if the shelf SE is activated and what legal quality such an agreement has or what effects the ECJ ruling of 16 May 2024 has on existing agreements which were negotiated in the past when shelf SEs were activated:
– It is unlikely that voluntary agreements have the status of an agreement governing the co-determination rules under Section 21 SEBG. Consequently, it is likely that in these constellations, whether a co-determined supervisory or administrative board is established is determined exclusively by the shareholders when drafting the articles of association. A participation agreement would not be effective in this respect. An invalid participation agreement providing for a co-determined supervisory or administrative board, in turn, could lead to an incorrect composition of the supervisory or administrative board and, in the worst case, to the invalidity of resolutions adopted by these boards.
– It also needs to be clarified whether an SE works council established based on a voluntary agreement can remain in office. There is no legal obligation to establish an SE works council, although the employer would not be prevented from establishing such a body voluntarily. On the other hand, an SE works council based on the statutory fallback provisions cannot be elected, as there is no room to apply the fallback provisions.
4. The question also arises as to whether the use of a shelf SE can also permanently prevent the establishment of a body for information and consultation of employees in cross-border matters. An SE works council can only be established with a participation agreement or by applying the fallback provisions, which, if a retroactive negotiation is not required, are not applicable. However, the establishment of a European works council under the EWC regulations is also precluded under Section 47 para. 1 SEBG in Germany. This argument seems to be the only weak point in the ECJ’s reasoning, as it does not seem to have focused on information and consultation in its decision.
5. Politically, the decision will intensify the discussion about the “abuse” of foreign companies and the SE to eliminate or prevent board-level representation of employees, which is included in the federal government’s coalition agreement. However, it is likely that the argumentation derived from the European law principle of the “before and after principle” prevents the national legislator from introducing a duty to negotiate under national law in the constellations mentioned above, even though such obligation is not provided for in SE regulations on EU level. There would appear to be considerable reservations under European law against such a unilateral national step – not least due to the impact of such on employers in other Member States within an SE group.
