Recent Development

The Communiqué on the Procedures and Principles Regarding the Application of Article 376 of the Turkish Commercial Code No. 6102 ("Communiqué") was published in the Official Gazette on September 15, 2018. The Communiqué addresses the principles and procedures regarding capital loss and negative equity.

What does the Communiqué Say?

The recent decline of the Turkish lira has caused capital loss or negative equity for numerous companies that have debt in foreign currency. The Communiqué states that the exchange difference expenses arising from foreign currency obligations that have not been performed may not be considered in companies' calculations regarding capital loss and negative equity in the scope of Article 376 of the Turkish Commercial Code No. 6102 ("TCC"). This provision will remain valid until January 1, 2023.

The Communiqué also regulates the details of how companies convene general assemblies, the measures a company can and cannot take regarding capital loss and negative equity stipulated under Article 376 of the TCC and clarifies certain controversial issues.

  1. Capital loss

If a company's last annual balance sheet demonstrates that at least half or two-thirds of the sum of the share capital and the statutory reserves is uncovered due to losses, the company's board of directors must immediately convene the general assembly. The Communiqué stipulates that this matter can be discussed at any general assembly, even if not included in the agenda previously.

  1. If at least half of the sum of the share capital and the statutory reserves is uncovered:
  • The board of directors must submit to the general assembly any remedial measures it considers appropriate.
  • The board of directors must explicitly explain the company's financial situation by submitting the company's last balance sheet to the general assembly.
  • The board of directors must submit and explain to the general assembly the remedial measures it considers appropriate to eliminate or mitigate the effects of the company's financial deterioration. These measures include completion of capital, capital increase, closure of certain production units or sections, sale of subsidiaries and change of the marketing policies. Unlike Article 376 of the TCC, the Communiqué enumerates such measures and as capital decrease is not included in the available remedial measures; it is currently unclear whether it is on purpose or the measures listed should not be considered in a limited manner.
  • The general assembly can approve a submitted measure as if, alter it or decide on another measure other than the one suggested.
  1. If at least two-thirds of the sum of the share capital and the statutory reserves is uncovered, the general assembly can decide:
  • to being contented with one-third of the capital and to perform a capital decrease;
  • to complete capital; or
  • to increase capital.

If the general assembly decides on the completion of capital, this will just address to an amount equal to the uncovered part share capital but not the lost parts of the legal reserves. Each shareholder must pay an amount which will compensate the uncovered amount due to loss. Each shareholder may participate in the completion on a pro rata basis; however they cannot claim back in the future the amount they contributed. Both the preamble of Article 376 of the TCC and the Communiqué state that this obligation is made without any consideration and accordingly is not considered a capital injection or loan. The Communiqué clarified that these payments cannot be deemed an advance payment for capital increases to be made in the future. The shareholders of the shares constituting the entire capital must unanimously decide for the completion of capital for both the joint stock and limited liability companies.

Lastly, it can be decided to increase capital simultaneously after the reduction of capital in a manner to off-set the previous/current year losses. In this case, one-fourth of the increased amount must be paid as a pre-payment before the registration. Since the Communiqué does not make a distinction between joint stock and limited liability companies regarding this pre-payment obligation, we understand that payment conditions would become heavier for limited liability companies. In addition, the method to perform first the increase and then the decrease of the capital (simultaneously at the same general assembly), which was not accepted in practice, would now be possible. However, in this case, the company must now pay at least half of the increased capital as a pre-payment before the registration.

  1. Negative Equity: the sum of the share capital and the statutory reserves is fully uncovered

The company is deemed in negative equity situation when its assets cannot meet its liabilities which can be evidenced by the company's annual and interim financial statements. If it is suspected that a company's liabilities exceed its assets, the board of directors must issue an interim balance sheet in accordance with the continuity of the business value and based on the assets' potential sales value. If the balance sheet demonstrates that the assets are insufficient to cover the receivables of the company and the above-mentioned measures are not taken, the board of directors must notify the court about the company's bankruptcy.

Prior to the Communiqué, companies were unsure on how to prepare the necessary financial statements for the determination of capital loss or negative equity. Article 13 of the Communiqué states that financial statements must be prepared within the scope of article 88 of the TCC; however, if it is discretionally preferred by the company to prepare the financial statements according to Turkish Accounting Standards, these financial statements can be considered as basis for the calculation of negative equity situation. To act diligently, if such a situation happens, the companies should re-evaluate which financial statements are to be taken into consideration in case of a negative equity calculation.

Conclusion

The Communiqué introduces important explanations regarding technical bankruptcy as stipulated under article 376 of the TCC. The Communiqué states that the exchange difference expenses arising from foreign currency obligations that have not been performed may not be considered in companies' calculations regarding capital loss and negative equity for a specified term. Joint stock companies, limited liability companies, and limited partnerships divided into shares should carefully review the requirements set forth under the Communiqué and follow its procedures and principles.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.