Bankruptcy protection is an important tool for companies experiencing unanticipated financial distress to have a little breathing space while they restructure their short and long term debts. Unfortunately, bankruptcy protection carries the temptation of abuse, and not every company carries it out in good faith. Even questions of good faith aside, any dramatic increase in the number of bankruptcy protection applications will inevitably led to other problems.
In order to prevent the debtors to be granted with bankruptcy protection decisions following merely cursory examinations and creditors on the other hand, to have failed to collect outstanding receivables, radical revisions have been made to the relevant articles of the Execution and Bankruptcy Law (the “EBL”) by the Law in Respect of Making Changes in Various Laws to Improve Investment Conditions (the “Omnibus Investment Act”).
Legal framework under Turkish law
Bankruptcy protection proceedings are regulated under the EBL and the Turkish Commercial Code (“TCC”). The purpose of the bankruptcy process is to give the indebted entity an opportunity to restore its financial strength, and thus protect the interests of both the company and its creditors.
According to Article 376 of the TCC, if the liabilities of a company or a cooperative exceed its assets, the board of directors or the creditors of the company or cooperative must notify the competent commercial court (the “Court“) of the situation. Following such notification, the Court will review the entity’s balance sheet and other documents, and if upon such review it determines that the company or cooperative is in debt and its assets are insufficient to cover its liabilities, the Court will declare the company bankrupt, unless the company or cooperative requests a bankruptcy protection order.
As an exception, the representatives of the insolvent company or its creditors may request bankruptcy protection by submitting a business plan to the court, showing the possibility for the company to enhance its financial positon in the future. This includes a company balance sheet, as well as any other documentation that might convince the Court to render a decision in favour of bankruptcy protection. At that point, the Court will first decide whether the entity is actually insolvent, and then it will review the business plan and determine whether the entity has the potential to attain financial stability.
Required conditions for applying for bankruptcy protection
As mentioned above, bankruptcy protection orders may only be rendered in limited situations. For obtaining a bankruptcy protection order, (i) the entity must be adjudicated to be insolvent, and (ii) a request must be made to the Court by the authorized representatives of such applicant entity or by one of the creditors.
- The company shall be adjudicated insolvent
As per Art. 179 of the EBL, insolvent companies are granted the right to request bankruptcy protection. There is no specific legislation providing a definition or guidance on how an entity is to be adjudicated insolvent. In practice however, insolvent entities are ones that have liabilities exceeding their total assets. These entities would then submit their balance sheet to the Court as evidence that they are in financial hardship and presumably insolvent.
Also under Article 179 of the EBL, being insolvent is a pre-condition for requesting a bankruptcy protection order. If the Court concludes that the entity is insolvent, a request for protection would be taken into consideration. However, if the Court decides that the company is not insolvent after evaluating the financial reports, it will reject the bankruptcy protection request for failure to satisfy the pre-condition of a protection order.
- Authorized representatives or the creditors of the company make a request
Another important precondition before the Court will render a protection order is that it may only render a protection decision upon a request; it does not have the authority to render a protection order ex officio. If the authorized representatives of the entity or its creditors fail to request bankruptcy protection, the Court will simply declare the company bankrupt.
Therefore, if the company leadership wants bankruptcy protection, a request should be made by the authorized representative of the company. For the purposes of declaring insolvency, an “authorized representative of a joint stock company” refers strictly to a member of the board of directors, as per Article 375/g of the TCC, which also states that one of the non-assignable duties of members of the board of directors is “to notify the competent court to inform it that the company is insolvent.”
Additionally as mentioned above, creditors of an insolvent company are also entitled to request bankruptcy protection for the company, which they may request individually or collectively. However, the request of one of the creditors is sufficient for the Court to render a bankruptcy protection decision. It should also be noted that even if the request is made by one or more of the creditors, the business plan must still be prepared by the entity itself.
How is the process handled and what should be expected in the end?
When a company’s representatives or creditors request bankruptcy protection, declaring to the court that the company is insolvent and that the total of its assets is not sufficient to cover its liabilities, the representatives must submit a balance sheet or any other document that they deem necessary as evidence of the company’s current financial situation and prove to the Court that it is insolvent. In practice, companies generally provide an interim balance sheet to the Court as evidence of their financial situation, which includes the probable purchase price of the company’s assets and makes clear that the total of its assets is insufficient to cover its liabilities.
The Court will then inform the Trade Registry of the situation, and the Trade Registry will publish the bankruptcy request in the Trade Registry Gazette, as well as in another nationwide newspaper with a daily circulation of over 50,000 copies.
There is not much that can be done in order to prevent a debtor from applying for bankruptcy protection, and the only way to check and see if a debtor has applied to a court for such protection is to regularly monitor the docket management system of the court where the company is located.
- Submitting a business plan
In addition to verifying insolvency, the Court should be confident that the company has a sound business plan to improve its financial status. The Omnibus Investment Act requires the Court which to grant a decision on the bankruptcy protection request. Accordingly, the business plan and bankruptcy protection request are required to be submitted to the Court in the region where the company’s headquarters have been located for more than one year. Prior to this requirement, some companies moved their headquarters to other jurisdictions within Turkey as a method of forum shopping, in order to try their chances before other courts, which they hoped would be less hesitant to provide bankruptcy protection decisions.
The Court will only render a bankruptcy protection order if it is convinced that the company has the potential to improve its financials within the period to be granted. Therefore a well prepared business plan is the key element to show the Court. This business plan should be prepared in detail, and all the expected improvements should be supported by reasonable plans and projections. This business plan should also include steps to be taken in order to make the company solvent again. According to the Omnibus Investment Act, the recovery project must include objective and existing new cash resources, as well as measures to be taken, such as the methods that will be used to pay all operational expenses and provide the working capital during the suspension period.
Lists stating the payment periods and amounts of current debts, addresses of the creditors, stocks unique to the related sector, their waiting periods and amounts, the last balance sheet and income table submitted to the tax office, the trade registry certificate of the company or cooperative, and other information and documentation indicating that the recovery project is serious and credible must be submitted to the Court, along with the company’s interim balance sheet and proposal to maintain the company as a going concern. If the mentioned lists and documents are not submitted along with the suspension of bankruptcy request, or if they are not completed during the two week period granted by the Court, the suspension of bankruptcy request will be deemed unwarranted and the requesting company or cooperative will be held to be bankrupt. If the request is submitted properly, the Court will review the business plan and may render a bankruptcy protection order if it finds the business plan and submitted documents are reasonable and feasible alternatives to dissolution, in order to improve the financial status of the company.
- Appointment of administrators
Additionally upon its review, the Court will appoint an administrator (kayyum) over the company to ensure that it is in compliance with all court decisions and that the restructuring plan is being followed. As per the EBL’s provisions on bankruptcy protection, the company’s organs (i.e. board of directors, partners and managers) will also retain full powers and duties during the bankruptcy protection period, and all actions taken by the authorized organs of the entity will continue to be legally binding on the entity.
In general, the administrator is granted with sufficient powers to be entitled to manage and represent the company, approve the decisions of the managing body, and supervise the acts of the company. Article 179/b of the EBL as amended, obliges administrators to prepare and submit quarterly reports to the Court regarding the company’s current financial status and activities, and whether the financials of the company have shown any improvement in accordance with the business plan. Additionally, according to Article 179/a of the EBL as amended, the administrator is obliged to provide the Court (within certain intervals to be approved by the Court) with reports showing the accuracy of the capital increase payments and their usage methods. The administrator is further obliged provide accurate and consistent reports on the company’s financial performance, and notify the Court immediately of any extraordinary improvements within the company.
- Time period
Article 179/b of the EBL stipulates that the maximum period for bankruptcy protection is to be 1 (one) year, unless there is a court decision to extend it. The one year period starts from the date in which the Court’s bankruptcy protection decision was finalized, and bankruptcy protection may be extended only once for a period of one year. Prior to the Omnibus Investment Act, the Court was authorized to grant extensions for up to a total of 4 (four) years, and considering that the finalization of the Court’s bankruptcy protection decision may take up to approximately 2-3 years, the total combined period that a company could be under bankruptcy protection could even exceed 10 years. In any case, the Court tends to grant interim protection measures which function like a temporary bankruptcy protection decision until the final decision is granted.
At the end of the period, the Court will re-asses the bankruptcy protection decision to determine:
- if the company’s financial status has improved (i.e. the company’s assets are enough to cover its debts), and if so then the court may decide to revoke the decision regarding bankruptcy protection and return the company to its regular governance;
- if the company was unable to totally recover from its debt, but the administrator reports progress in the company’s financial status, then the court may extend the term for another year upon the request of the administrator; or
- if the debtor’s financial status has not improved, and no further improvement is expected, then the court may decide to withdraw the protection decision altogether and declare the bankruptcy of the company.
The Court may rule on the above conditions prior to the expiration of the bankruptcy protection decision in light of reports from administrators and expert witnesses, if the Court deems it necessary.
The Court’s decision on the suspension of bankruptcy will be announced in a nationwide newspaper with a daily circulation of over 50,000 copies. The creditors of such a company are also entitled to request that the Court reverse its suspension of bankruptcy decision within two weeks of its announcement.
Pre-Omnibus Investment Act criticism
Considering the slowdown in the global economy, creditors and debtors can suffer from lengthy adjudication processes, which may not even turn out to be fruitful in the end. Inevitably, there are also companies that will apply for bankruptcy protection in order to simply avoid paying their debts. Companies that abuse the system make life more difficult for all the parties involved in the process, from the creditors to the courts. As such, there was growing criticism of these abuses to the system. However, we believe that the revisions under the Omnibus Investment Act will better protect investors, particularly in relation to the extension period of the bankruptcy protection process and the jurisdiction requirement for submission of bankruptcy protection requests.
A few words to the wise
It can be assumed that law firms have been receiving many queries recently for more work related to bankruptcy protection cases, and we can state that it is of crucial importance to do regular follow ups on all current bankruptcy protection cases with the assistance of experienced legal counsel in order to have a wider and clearer view of how companies are faring within the bankruptcy protection process. Losing this focus for even a moment could result in the unexpected and completely preventable loss of rights to the creditor, far outweighing the cost of routine follow up inquiries.
For the time being, we are advising our commercial clients to stay alert to the volume of outstanding receivables from their debtors, and regularly stay in contact with all debtor companies to avoid, or at least to mitigate the risk of an interim measure being suddenly obtained by the debtor from a commercial court. Information is invaluable, and while there is little to be done to prevent an application for bankruptcy protection, experienced lawyers can monitor local courts to inform creditors the moment a debtor has made such an application.
Should a debtor apply for bankruptcy protection, the creditor should consult an attorney who can immediately submit an intervention request to the court in order to have access to the file, attend the hearings, and submit statements in response to any documents that the debtor submits to the court. Naturally, each creditor has its own commercial relationship with each debtor company. For instance, bankruptcy proceedings will have less of an impact on a creditor that holds a mortgage lien since they have the option of filing legal proceedings against the debtor for foreclosure. Therefore, each situation will require a careful and considered approach to plot the best course of action.
 The Execution and Bankruptcy Law, Law No. 2004, Official Gazette of April 19, 1932 No. 2128.
 Law No. 6728, Trade Registry Gazette of August 9, 2016.
 Law No. 2004, Official Gazette of April 19, 1932 No. 2128.
 The Turkish Commercial Code, Law No. 6102, Official Gazette of February 14, 2011.
 19th Civil Circuit of the Court of Appeals decision of November 12, 2004, No. E. 2004/10530, K. 2004/13441.
 19th Civil Circuit of the Court of Appeals decision of November 17, 2005, No. E. 2005/6312, K. 2005/11314.