Down, Down, Down in Germany

The country's businesses are going under in droves

The Frankfurt trading house founded by Jacob Friedrich Gontard in 1726 survived occupation by Napoleon, hyperinflation in the 1920s, and Allied bombing in World War II. But the 21st century stock meltdown finally brought Gontard to its knees. In May, bad bets on tech startups forced the company, now known as Gontard & MetallBank, to declare insolvency. The bank, which helped invent the government-bond business in the 18th century, has ceased to exist in all but name.

Unfortunately, Gontard isn't the only German company of long standing to fail recently. Businesses are filing for insolvency in re-cord numbers--an estimated 18,800 in the first half of 2002. That's a 25.2% jump over the year-earlier period. More disturbing, a growing proportion of those going down are the hundred-year-old oaks of the German economy: Companies that have survived a turbulent century only to succumb when there isn't even officially a recession. "Three or four years ago, it was mostly the younger companies that went insolvent. Now, it's the old ones," says Klaus Pannen, a Frankfurt lawyer who is the court-appointed bankruptcy administrator for Gontard. Official statistics bear him out. Until 1998, four young companies went insolvent for every company that was at least eight years old. Now, the ratio is less than 2 to 1.

Why now? Germany has certainly endured far worse economic eras. But this time, cyclical problems such as slow growth, tight credit, and slumping private consumption are pushing companies over the edge. German banks, many in financial trouble themselves, are no longer as willing to lend to troubled companies. New European Union rules on competitiveness--coupled with the introduction of the euro two years ago--have exposed German companies to more competition. In addition, a new bankruptcy law that took effect in 1999 pushes companies to file for insolvency before their assets are completely burned up. No question, these changes are putting pressure on weaker German companies in the current downturn. Indeed, most of the big companies now in trouble made key strategic blunders. But if Germany can manage a few key economic reforms, the result may be a healthier economy down the road.

The immediate trigger for the insolvency crisis is Germany's stagnant economy. The country is not officially in recession, yet growth averaged just 1.5% in the 1990s and managed only 0.2% in the second quarter of 2002. And gross domestic product could decline in the third quarter under the burden of summer flood damage. Moreover, some sectors of the economy are shrinking, such as the building industry, which declined 7% in 2001. That helps explain the high-profile meltdown this year of Philipp Holzmann Group, once Germany's biggest construction company.

Retailers also have suffered for much of the decade amid 10% unemployment and persistent consumer pessimism. Sales of clothing and shoes, stagnant or negative since the mid-1990s, plunged nearly 10% in May from a year earlier. That helped shut down local outfits such as family-owned Herrenhaus Fischer in Dortmund. The men's fashion specialist closed its doors on Aug. 16 after 60 years in business, unable to compete on cost with big chains. Of course, business failures only add to the ranks of the unemployed and further cut consumer spending. By one measure, 275,000 people lost their jobs in 2001 when their employers became insolvent. "It was as if someone hit you in the stomach," says Thomas Schmidt, 51, who lost his job at Buchhandlung Kiepert, one of Berlin's largest bookstores, after it went bankrupt in mid-July. He had worked there 31 years. "I'm too young for retirement and too old for a new job," Schmidt says.

Not so long ago, Germany's banks could be counted on to rescue sick companies. But now the banks have problems of their own, and even the publicly supported Landesbanks are getting stingy. Westdeutsche Landesbank balked at a bailout of Oberhausen-based power-plant supplier Babcock Borsig, which employs 12,000 in Germany. A year or two ago, the politically entwined bank would have granted the loan without a second thought. "Banks are no longer willing to prop up shaky companies," says Michael Bretz, an analyst at Creditreform, a German rating agency.

If there's any good news, it may be that a new insolvency law encourages companies to seek protection from creditors while there's still a chance to restructure and survive. For Stuttgart-based gourmet grocer Böhm, insolvency means it can get out of long-term leases and close unprofitable stores. Managers can now declare insolvency when they see a liquidity crisis looming rather than being forced to wait until it occurs. That may allow Berlin-based Herlitz, a maker of office supplies founded in 1904, to crawl out from debt built up through unprofitable acquisitions such as a stake in a Russian paper plant. Herlitz plans to focus on its core business, which is still healthy. "The new law gives Herlitz a better chance to survive," says Frank Werneke, a member of the board of ver.di, the labor union that represents Herlitz workers.

Of course, bankruptcy can be a part of the creative destruction that keeps a market economy vital. In Germany though, there's too much destruction and not enough creation. Registration of new companies slipped 5.6% in the first half, says Creditreform. One problem is that the system is geared toward preserving existing businesses while tying up new competitors with bureaucracy. With the help of loans from the quasi-public Bayerische Landesbank, Munich-based KirchMedia was kept on life support long after it was clear that the TV and film company was in deep trouble. Meanwhile, anyone who merely wants to open a bakery in Germany has to spend as much time earning a "Meister" certificate as a lawyer does earning a law degree.

Everyone agrees that reform is long overdue--and not just for the sake of companies on the brink of collapse. Companies need relief from labor laws that hinder job cuts even after a company declares insolvency. But the political process is all but paralyzed by interest-group politics. Meanwhile, Chancellor Gerhard Schröder announced on Aug. 19 that he would delay scheduled tax cuts in order to give the government more money to fund projects to repair flood damage. "There's just too little movement in Germany," says Hans-Josef Döllgen, state director of the Association of Medium-Sized Businesses in the state of North Rhine-Westphalia. Optimists hope the Sept. 22 elections will bring change. But even if that happens, for thousands of companies, the changes will surely come too late.

By Jack Ewing in Frankfurt

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