On 15 September 2018, Communiqué on Procedures and Principles on Implementation of Article 376 of the Turkish Commercial Code no. 6102 ("TCC") (“Communiqué”) was published in the Official Gazette and entered into force. The Communiqué provides procedures and principles to be followed in case of capital loss and insolvency situations, and sets out details of remedial actions to be taken pursuant to Article 376 of the TCC.
Undoubtedly, the most important novelty of the Communiqué is set out in the Temporary Article. After the freefall of Turkish Lira in 2018 (approx. 40% total depreciation against USD and 33% against EUR), companies have been facing significant capital losses and insolvency (borca batıklık), which is also known in practice as technical bankruptcy. The Communiqué allows foreign exchange losses arising from outstanding hard currency denominated liabilities, which are not yet performed, not to be taken into account in calculation of capital adequacy and insolvency tests pursuant to Article 376, until 1 January 2023, meaning that the latest financial closing date that can be taken into consideration in this context would be 31 December 2022. In other words, currency losses arising from fluctuations in the value of the Turkish Lira may not be taken into account in calculations of capital adequacy, provided that such losses are not actually realized (e.g., the loan is not repaid). The statutory and tax oriented financials of the capital companies, on the other hand, will continue to be prepared the same way and the relevant article has no effect in this respect. Based on the above, the company will continue to draw its accounts in the way it historically has been doing so, but the directors and auditors will be able to separate the FX losses during their external equity analysis. For example, if;
(i) the net equity is below the monetary threshold of 1/2 or 1/3 of the registered capital amount plus legal reserves as provided under TCC 376 if any, and
(ii) a significant portion of the previous years’ losses actually relates to FX losses of existing unperformed liabilities
then, such FX losses can be neutralized by way of adding back to the retained earnings in the recalculation of the net equity for the purposes of insolvency calculation until financial closing of 2022.
The Communiqué also introduces important remedial actions to companies in cases of capital losses. Pursuant to Article 376/2 of the TCC, if 2/3 of the sum of a company's share capital and legal reserves is lost due to previous years' losses, the general assembly must be called for a meeting and resolve to either reduce the company's capital to its 1/3 or adjust its capital to recover the losses. The Communiqué, however, introduces the straightforward capital increase as a third option, in additional to the two alternatives provided under Article 376/2 of the TCC, and clarifies and details the implementation of all such remedial steps. As such, if a company falls under the scope of Article 376/2 of the TCC, the relevant management body should call the general assembly for a meeting and the general assembly should resolve on:
- reducing the share capital to its 1/3,
- adjustment of the lost capital to recover the losses, or
- increasing the share capital by way of (a) straight capital increase or (b) simultaneous decrease and increase. While 1/4 of the increased amount should be paid by the shareholders prior to the registration in case of simultaneous capital decrease and increase, only the portion enabling the company to achieve 50% solvency level should be paid by the shareholders prior to registration of general assembly resolution in case of straight capital increase.
Parallel to TCC 376 approach, if the general assembly does not resolve on any of the abovementioned options, the company will automatically terminate in line with the former legislation.
The Communiqué also allows use of all of the abovementioned methods in case of insolvency, in addition to revaluation of the balance sheet (such interim solvency-oriented special/enhanced balance sheet can be prepared as per Turkish Financial Reporting Standards even if the Company is posting the accounting entries under the local GAAP), which was the only remedial action that is available to companies under the TCC. Accordingly, if the company's assets are not sufficient to cover its liabilities, in suspicion of an insolvency, pursuant to the principle of business continuity and possible sale values of its assets, or if the remedial measures provided under Article 7 of the Communiqué are not taken, the respective management bodies will be required to file for bankruptcy with the court.
Details of the steps to be taken in case of loss of at least half of the sum of a company's share capital and legal reserves against the previous years' losses are regulated by the Communiqué in parallel to the existing principals of TCC, along with the management bodies' reporting requirements on potential remedial actions.