IDW ES 16: Crisis Detection and Management

IDW ES 16 provides important guidance for managing directors of limited liability entities who are obligated under Sec. 1 StaRUG to continuously monitor developments that threaten the entity's continued existence and, if necessary, establish crisis early detection and crisis management systems.

Understanding Crisis Early Detection

Developments that threaten the entity's continued existence are those which, in the absence of countermeasures, lead to the establishment or significant increase of insolvency risk. These can be attributed to various internal and external factors. Their causes may lie in financial (e.g., financing long-term assets with short-term loans), operational (e.g., loss of key product and sales markets), or other circumstances. Developments threatening the entity's continued existence can arise from individual risks or the aggregation of risks. According to IDW ES 16, this interaction of individual risks must be considered when assessing whether developments threatening the entity's continued existence are present.

Crisis early detection as defined in Sec. 1 StaRUG encompasses all organizational regulations and measures aimed at the early identification of developments endangering the entity's continued existence. This means that effective processes must be established and implemented within the organization to ensure continuous monitoring.

The crisis early detection process should be understood as part of the planning process, with corporate planning forming the central component. However, the specific design and scope of the obligation for crisis early detection depend on the size, industry, structure, and legal form of the respective entity.

Core Component: Corporate Planning

The goal of corporate planning, which is a core component of crisis early detection, is to depict the expected development of the entity at the time of planning, particularly with regard to liquidity development. This planning must be based on plausible assumptions, meaning they must be comprehensible, consistent, and free of contradictions. The perspective of the managing directors at the time of planning (so-called ex-ante perspective) is decisive, which is why documenting the assumptions and premises of the planning is important.

The planning horizon should cover at least 12 months from the assessment period. However, a period of 24 months may be appropriate to identify risks early and take timely countermeasures. The level of detail in the planning depends on the complexity of the business model, its crisis susceptibility, and the crisis stage the entity is in.

Detailed documentation of the crisis early detection and crisis management process is essential, even though the law does not explicitly mandate documentation. For exculpatory reasons and later evaluation of whether the managing directors have fulfilled their obligations under Sec. 1 StaRUG, documentation is required and is therefore strongly recommended.

Crisis Management

If developments threatening the entity's continued existence are identified, crisis management is required. To overcome the advanced crisis, appropriate measures must be defined to achieve a sustainable business model again. This requires meeting the following core requirements, which correspond to the core components of a restructuring concept according to IDW S 6 and thus provide good guidance for overcoming the crisis and restoring the entity's competitiveness:

• Analysis of the economic and legal initial situation of the entity in its environment (including asset, financial, and earnings position)
• Analysis of the crisis stage and causes as well as examination of whether insolvency risk exists
• Development of a vision with the business model of the restructured entity
• Identification of measures to avert insolvency risk and manage the crisis as well as to achieve the aforementioned vision
• Creation of an integrated corporate plan to determine whether the measures are sufficient to overcome the crisis.

Scaling the Requirements of IDW ES 16

The legal requirements of Sec. 1 StaRUG apply to all managing directors of limited liability entities, regardless of their size. The design of crisis early detection and crisis management must be adapted to the size and complexity of the entity, affecting the design of corporate planning, the planning process, crisis management, and documentation. This particularly allows smaller entities to meet the requirements of Sec. 1 StaRUG without extensive organizational measures.

Conclusion

IDW Standard ES 16 outlines the requirements for the design of crisis early detection and crisis management against the backdrop of the obligations set out in Sec. 1 StaRUG. Corporate planning is indispensable for identifying developments threatening the entity's continued existence. Additionally, an effective process embedded in the organization is needed to continuously monitor potential adverse developments during challenging times, so that timely and appropriate countermeasures can be taken if necessary. For directors, it is therefore essential to define, integrate into the corporate culture, and document the process for crisis early detection and management. We support you in ensuring compliance with the requirements arising from Sec. 1 StaRUG.