Rotten Bonds

The Mittelstand trap

Apfel, Malus domestica, apple
Are a few rotten apples destroying the reputation of the Mittelstand?
  • Why it matters

    Why it matters

    The failure of Mittelstand bonds risks bringing into disrepute the entire German midsize business sector, the backbone of its economy.

  • Facts


    • Of 148 midsize German companies that have issued Mittelstand bonds since 2010, 23 are now insolvent.
    • Investors fear that three out of four Mittelstand bond issuers could be unable to pay back their loans.
    • German financial regulator BaFin examines bond issuers’ prospectuses for completeness but doesn’t evaluate their business models.
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The German word “Mittelstand” normally has positive connotations, both in Germany and abroad, where the name given to small and midsize firms is associated with economic strength and high-quality workmanship. If there is one thing incompatible with this image, it’s the troubled financial instrument that goes by the same name: the Mittelstand bond.

A relatively new financing product for German firms seeking new sources of credit after the 2008 financial crisis, the Mittelstand bond has already cost investors about €500 million ($638 million) through a series of bankruptcies of midsize firms. They are at risk of losing at least €1 billion amid fears that three out of four issuers since 2010 will have to default or restructure payments.

At stake is the reputation and creditworthiness of Germany’s entire vaunted Mittelstand, the backbone of Europe’s largest economy. The sector may now struggle to secure new loans for expansion as a result.

New issuances of such bonds plunged in the first half of this year due to the scandals and are on pace for their lowest level since 2010.

“The series of business failures doesn’t just jeopardize the Mittelstand bond segment, but also threatens to discredit all midsized companies,” said Klaus Nieding, an attorney specializing in capital markets who often represents small investors in legal cases. He estimated investors have lost half a billion euros in the Mittelstand market since 2010.

“The series of business failures doesn't just jeopardize the Mittelstand bond segment but threatens to discredit all midsized companies.”

Klaus Nieding, Attorney

That such failed firms could issue bonds in the first place is the result of an unholy alliance of stock exchanges, rating agencies and the small banks that manage the bond issues. These groups profit from providing their services, leaving the risk to investors.

Unlike so-called junk bonds, where investors know the risks they are taking, many of these mid-size companies initially received top credit ratings.

Take Munich real estate developer Golden Gate, for example: Investors are worried about losing a lot of money. The last interest payment on this company’s Mittelstand bond is scheduled for this Saturday and the bonds are due for redemption in November, but the company has just filed for bankruptcy. As recently as August, Uwe Rampold, Golden Gate’s chief executive, said: “We will repay our €30 million bond.”

Investors in the cruise ship “MS Deutschland,” which serves as the setting for a popular German TV series called “Das Traumschiff” (The Dream Ship), could face a similar fate. So could investors in the biogas firm MT Energie, which filed for insolvency on Wednesday.

These impending bankruptcies come on the heels of a series of other business failures. The collapses have affected investors in particular because the many small and midsized companies comprising the Mittelstand find it difficult to qualify for bank loans and are forced to tap into capital markets for credit. The largest firms – and the most solid – will often secure a bank loan instead.


The Failure of Mittelstand Bonds-01


Since 2010, 148 companies have raised capital with Mittelstand bonds on the open market. According to the Scope rating agency, 23 of them are now insolvent, putting bonds worth close to €1 billion at risk of default.

Most of these companies, such as prepared food manufacturer Zamek, bicycle maker Mifa and wind farm builder Windreich, were overwhelmed by interest payments alone and never even reached the stage of having to repay the bonds.

“Our analyses suggest that three out of four issuers will not meet their obligations,” warned Daniel Bauer of the German Society for the Protection of Capital Investors.

Olaf Schlotmann, a business professor of the Brunswick European Law School, calculated that service providers have collected about €220 million in fees since 2010. Most of the money, he believes, likely went to the banks managing the issues. “They collect the fees, but they pass on the responsibility to the investors,” he said.

Hans Michelbach, head of the conservative Christian Social Union (CSU) party’s taskforce on midsized companies, warned of “the black sheep” bringing the Mittelstand bond as a financial instrument “into disrepute.”

At the same time, many lawmakers would like to see midsized companies increasingly use capital markets, given that they could have a tougher time securing loans from banks in the future. Tighter financial regulation on capital could prompt banks to curtail lending.


MS Deutschland Source Azur dot de
MS Deutschland, the ship that inspired the German TV show “Traumschiff,” proved a bad investment. Source:


Ralph Brinkhaus, the deputy parliamentary leader of the center-right Christian Democratic Union, warned it would be wrong to completely discredit midsize bonds. “We need to eliminate mistakes with better quality assurance,” he said.

Stock markets, banks and rating agencies have denied any culpability, arguing they are not responsible for the quality of the companies that issue such bonds.

Meanwhile, the Dream Ship nightmare continues.

On Monday, the creditors of the company that owns the MS Deutschland were supposed to clear the way for a corporate restructuring, which would have required half of its creditors to come to Frankfurt. But only 44 percent made the trip – and in vain. The future of the cruise ship remains uncertain, as does the question of how much of their capital investors will ever see again.

In 2012, the MS Deutschland borrowed €50 million in the capital market. The midsize bond was a hot commodity, and not just because of the 6.875-percent coupon. When the bond was issued, the Scope rating agency initially gave it an “A” rating, which represents strong creditworthiness and a low risk of insolvency. But the ship had already been losing money for years.

“The banks collect the fees, but they pass on the responsibility to the investors.”

Olaf Schlotmann, Brunswick European Law School

Scope withdrew its rating in December 2013. “The issuer did not provide the information needed to continue the rating, despite multiple requests,” said Scope analyst Britta Holt. The decision was too late for those investors who had bought the bond when it was issued.

While the creditors of Dream Ship at least will be asked to accept a haircut on their bonds to avert insolvency, it’s too late for the owners of other such bonds. Well-known German brands such as prepared food manufacturer Zamek and wind turbine producer Windreich raised millions with bonds that they are now unable to repay. Bonds worth about €1 billion are now at risk, according to Scope.

Noobody offered a truly realistic picture of the companies that were ultimately issuing these bonds, according to Marc Tüngler, head of DSW, the German association for private investors. The blame, he said, goes to all participants ranging from the banks managing the bond issues, to stock exchanges and rating agencies, to investors themselves that were attracted by high coupons without evaluating the risks for themselves.

This led to a serious problem: The companies’ ability to actually repay the bonds was not put to the test until it was too late. The German financial regulatory authority, BaFin, was also unable to protect the investors. It examines the issuers’ prospectuses for completeness, but it doesn’t evaluate their business models.

“Companies that issue bonds don’t need BaFin’s permission to do so, nor are they subject to its ongoing supervision,” a spokeswoman said.

Deutsche Börse, where the failed Golden Gate bond is listed, also doesn’t feel responsible. “The exchange itself doesn’t examine the issuer’s creditworthiness and capital market viability,” a spokesperson said. Rather, the exchange argues, this is the responsibility of the applicant, or the bank managing the bond issue, which is an “experienced capital market player.”

From the start, larger investment banks have been uninterested in the Mittlelstand bonds.

“We decided at the time to stay out of the business,” recalled one banker with a well-known lender in Frankfurt, who declined to be named. “It got us a lot of internal criticism, but today we’re happy that we didn’t become involved.”

Instead, the bonds were issued by smaller banks that were often unlucky. For instance, Munich-based financial advisor GBC was involved with five companies that later became insolvent: Windreich, Solarwatt, Solen, Centrosolar and SIC Processing.

These banks stand by their product. “The market for Mittelstand bonds still has a strong future,” said Karl Filbert, head of the sales team for Frankfurt-based financial firm Close Brothers, the top dog in the Mittelstand bond market.

Despite the black sheep, there are still strong Mittelstand companies tapping the market, Marc Tüngler of DSW said. If investors were more aware of the risks, the Mittelstand bond could still stand a chance of survival.


Christopher Cermak contributed to this story. The authors are editors and correspondents for Handelsblatt with a focus on private investment and financial regulation in Frankfurt and Berlin. To contact the authors:;;

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