How The Mighty Fall

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In medieval Germany, debtors were locked up in a tower in the center of town, so their neighbors could witness their disgrace. More recently, executives declaring bankruptcy traditionally wore a black suit symbolizing the death of their firm. Following the insolvency declaration by the German broadcaster KirchMedia last week, founder Leo Kirch failed to show up for work for the first time in living memory. But thanks to a 1999 revision of the bankruptcy law there was a chance that the company could emerge from bankruptcy relatively intact, unlike many previous failures that were shuttered and sold. "It's a turning point, not an ending point," said Wolfgang Hartmann, a banker who acts as spokesman for Kirch's creditors.

Maybe. Kirch's empire, of which KirchMedia is only a part, is foundering under debts of $5.7 billion. Its creditors include some of Germany's biggest banks as well as foreign media empires, such as Rupert Murdoch's News Corp. and Italian Prime Minister Silvio Berlusconi's Mediaset. The law gives new management 90 days to come up with an operating plan under "self-administration," similar to the Chapter 11 bankruptcy provisions in the U.S. "There are more possibilities to save the firm than under the old law," says attorney Peter Neu, who specializes in bankruptcies. "They don't have to destroy and liquidate the company." As a result, banks and other creditors may be asked to swap their outstanding loans for shares in a reborn Kirch.

But it could be a tough slog for Kirch's new chief executives, Wolfgang van Betteray, an insolvency specialist, and Hans-Joachim Ziems, a Kirch adviser. "My experience is that they will never get all the creditors behind such a complicated insolvency plan," said Wolfgang Petereit, a bankruptcy expert in Mainz. "The commercial interests of the creditor groups are totally different." What's worse, the new law requires companies emerging from bankruptcy to keep all the employees on the payroll and honor existing employment contracts, which scares off many potential investors. Complicating matters in Kirch's case is the company's opaque nature: deals and side deals obscured the true value of parts of the company, which were pledged as collateral for loans. At a press conference last week, executives said that KirchMedia owed Hollywood studios $441 million for rights to films — the first time that debt was disclosed. "The only one with all the figures is Leo himself, who kept them all in his head," said Norbert Schneider, chairman of a German media institute.

Kirch, 75 and partially blind as a result of diabetes, finally stopped his wheeling and dealing last week. He sent a letter to employees thanking them for their loyalty. "I would have liked to stand and care for our company and your future," Kirch wrote. "But the leadership was taken out of my hands." Germany's largest bankruptcy since World War II marked an ignominious end for Kirch, who began his career in 1956 by borrowing DM 25,000 from his wife's family to buy the rights to Federico Fellini's La Strada. By the end, Kirch had amassed a film library of 15,000 titles, the largest outside Hollywood. He also owned the broadcast rights to World Cup soccer and a majority of the company that controls Formula One. KirchMedia held a controlling stake in ProSiebenSat.1 Media, one of Germany's two commercial television networks.

Kirch's downfall was largely the result of a calamitous investment in pay television, betting that German consumers would shell out to have a choice of first-run movies and prime-time soccer available through a digital set-top service called Premiere. But the profusion of private and public broadcasting available in Germany made the service a hard sell. Kirch managed to sign up 2.4 million subscribers; the breakeven point was 4 million. The company was losing more than $2 million a day, and he borrowed heavily to keep it running. Kirch also offered investors a "put option" — a promise to get their money back if they wanted to quit the company's far-flung businesses. Big players — Murdoch has an option on KirchPayTV and German newspaper publisher Axel Springer Verlag has one on ProSiebenSat.1 — began the year by demanding their money back at a time when the pay television operation had left the company with no cash.

The Kirch bankruptcy is the latest in a string of high-profile failures of German companies this year. They include the construction firm Philipp Holzmann, aircraft producer Fairchild Dornier and office supply firm Herlitz. The bankruptcies reflect not only a stagnating economy, but also the reluctance of German banks — facing international pressure to make money for shareholders — to prop up failing enterprises. The government's inability to save the companies is also new.

Kirch's failure immediately turned into a political issue between Chancellor Gerhard Schröder and his opponent in September's national elections, Bavarian Premier Edmund Stoiber. Schröder, who heads the Social Democratic party, said the Kirch bankruptcy demonstrated Stoiber's failed leadership because the Bayerische Landesbank, which is 50% owned by the Bavarian government, is Kirch's biggest creditor with $1.7 billion in outstanding loans. "That is not an indication of economic competence but the opposite," Schr Schröder said. Stoiber, who is the candidate of his Christian Social Union and the mainstream Christian Democrats, said the insolvency is "not the end for the Kirch group but the basis for a new beginning, with the majority of jobs saved." Kirch employs about 10,000 people, mainly in Munich.

While KirchMedia represents one of the three branches of the business, there was speculation that TaurusHolding, the main holding company owned by Kirch, as well as the pay television operation KirchPayTV might also be forced into bankruptcy shortly. Another division, KirchBeteiligungs, holds the rights to Formula One auto racing as well as a 40% stake in the Springer publishing firm, which could both be sold off to reduce debt. While there has been a public clamor to find a "German solution" to the Kirch bankruptcy, Schröder has said he would have no objections if Murdoch took over parts of the business. The same could not be said for Mediaset, since Berlusconi is a conservative politician whose policies are frequently at odds with those of the left-leaning Schröder.

An immediate concern of many ordinary Germans was what effect the Kirch bankruptcy would have on Germany's soccer league. This season's remaining payment of $87 million appeared safe, but Kirch holds broadcast rights until 2004, for which it must pay a further $783 million. Hartmann, the creditors' spokesman, said a "significant contribution" from sports teams was necessary to rescue the company, meaning they could expect substantially reduced payments in the future. Small soccer clubs immediately stopped contract negotiations with players for next season since a reduction in salaries now seems unavoidable. Until Kirch emerges from insolvency in the next three months, the future of German soccer, like the fate of Kirch itself, will remain worryingly unclear.