Company in difficulty - pitfalls for innovative companies

Whether a business is classified as a "company in difficulty" (CiD) can be a decisive factor for its future – especially if it relies on public funding. Many government grant schemes and funding opportunities explicitly exclude such companies. This can be particularly problematic for innovative firms, which often make substantial upfront investments and only generate profits at a later stage. An early assessment of this classification can help identify alternative sources of financing and allow timely corrective action.

What does "company in difficulty" mean?

The classification of a business as a "company in difficulty" depends on the applicable legal framework. It is particularly relevant in the context of state aid, as many funding programmes explicitly exclude CiDs. The definition varies depending on the relevant legal basis, most notably between the EU Guidelines and the General Block Exemption Regulation, GBER (in German "Allgemeine Gruppenfreistellungsverordnung, AGVO).

Definition according to EU guidelines

According to the "Guidelines on State aid for rescuing and restructuring non-financial undertakings in difficulty (Official Journal of the European Union 2014/C 249/01)" a company is considered in difficulty if, without state intervention, it will likely be forced to cease operations in the short or medium term. The following criteria are particularly relevant:

• Corporations (e.g. GmbH, AG): More than half of the subscribed share capital has been lost due to accumulated losses.
  
  
• Partnerships (e.g. KG, OHG): More than half of equity was eroded by losses.
  
  
• Insolvency proceedings: The company is in insolvency proceedings or meets the criteria for the opening of such proceedings.
  
  
• Large Companies: in the past two years,
  • the accounting equity ratio was below 25% or the book value-based debt ratio exceeded 7.5, and at the same time
  • the EBITDA interest coverage ratio was below 1.0.

Definition according to the GBER

The GBER (Regulation (EU) No 651/2014) is broadly aligned with the EU Guidelines but includes some specific provisions:

• Young SMEs: Enterprises less than three years old are generally not considered to be in difficulty, even if they are loss-making.

• Risk finance: SMEs can be considered not in difficulty for up to seven years after their first commercial sale, provided they are eligible for risk finance following a due diligence check.

• Rescue and restructuring aid: Any company receiving such aid is automatically classified as a CiD.

Implications for Financing and Funding Projects

When applying for public funding, it is essential to understand which regulation governs the specific grant. In assessing whether a company is in difficulty, it is also important to consider that shareholder loans with qualified subordination have not counted as equity capital since 2020 – they are now treated as liabilities. Similarly, convertible loans generally do not count as equity until they are actually converted. Other financial instruments should also be reviewed to determine whether they qualify as rescue aid.

Act Early to Secure Opportunities

In summary, being classified as a "company in difficulty" can have serious implications, especially regarding eligibility for public funding programmes. While young SMEs benefit from certain exemptions, larger companies are subject to stricter criteria. For innovative businesses in particular, it is crucial to assess their status at an early stage to explore alternative financing options.

If you are unsure whether your business is affected, feel free to reach out and take advantage of our funding advice – we are happy to assist you with the classification and help identify potential solutions.

Text: Boris Buckow and Kristin Bube