Turkey has set ambitious goals to be reached by 2023, which represents the first centennial of the formation of the republic. Key 2023 targets include: becoming one of the top 10 economies in the world; achieving a GDP of $2trn and a per capita income of $25,000; and increasing exports to $500bn and foreign trade volume to $1trn. In addition to these goals, the Turkish government has announced targets for key industries, namely energy, infrastructure, communications and finance.
In the next decade, Turkey aims to reduce reliance on imported energy and encourage domestic projects involving nuclear and renewable energy resources. Specific targets include the construction of four nuclear reactors each with a capacity of 5000 MW, increasing capacity of wind power to 20,000 MW from 1800 MW, geothermal to 600 MW and solar to 3000 MW. In terms of transportation, major investment is expected to: expand the existing railway network up to 11.000 km and highways network up to 15,000 km; increase the number of container terminals and airports; and boost air passenger capacity to 400m from 165m. Finally, Turkey hopes to increase its influence in the wider EMEA region communications market.
Given the grandiose scale of the targeted projects, Turkey must take two steps in particular to reach its 2023 goals: first, to the extent possible, it must achieve energy self-sufficiency; second, it must be able to secure project financing. In both areas, the Turkish parliament has been enacting major reforms to create a more favourable legislative framework.
These reforms include the new Electricity Market Law, the Natural Gas Market Law and Petroleum Law, as well as the recently enacted Capital Markets Law. In addition, a favourable development in the international finance market has been the Basel Committee’s recent amendments to the liquidity standards required for banks, and this may encourage greater use of alternative financing techniques for large-scale projects.
Reforms In Energy Legislation
The 2010-14 Energy Strategy Plan seeks to encourage more market competition by streamlining and liberalising the investment environment. In this context, 2013 is set to be an important year during which energy legislation will undergo major reforms. The drafts of the new laws on the electricity market and petroleum are currently pending before the Turkish parliament, and the draft law regarding the natural gas market has been released by the Ministry of Energy and Natural Resources.
Electricity market liberalisation has been promoted through an ambitious privatisation programme supported by legislative reforms. Privatisation has aimed to reduce the state’s share in the electricity generation and distribution markets, and in the wholesale and retail sale markets. As a result of these efforts, the eligible consumer limit (consumers who are entitled to freely select their supplier) has been in a downward trend since 2003, falling from 9m KWh to the current limit of 25,000 KWh.
On the legislative front, the Electricity Market Law aims to promote competition in the electricity market and mandates that electricity distribution and retail sale operations shall be carried out by separate legal entities. Consequently, as of January 1, 2013, electricity retail sale and distribution companies are required to spin-off their distribution operations in order to comply with the legal unbundling requirement.
Natural Gas Market
Experts suggest that Turkey has enough shale gas reserves to meet its energy needs for up to 40 years without depending on imports. Leading domestic and foreign entities are in the process of investing in the exploration of these reserves.
Moreover, under the draft Natural Gas Market Law, BOTAŞ, the national petroleum pipeline corporation, which exercised a monopoly in the natural gas market from 1990 until 2001, will divest its transmission, import, sale and pricing operations into separate entities. Except for the transmission distribution entity, entities to carry out all other operations will be privatised. The draft law also limits the amount of gas imports by BOTAŞ until BOTAŞ’s share in gas imports is reduced down to 20% of the annual national gas consumption. Furthermore, BOTAŞ will be forbidden from entering into new gas import contracts and will be required to launch tenders in order to assign its existing natural gas purchase contracts to private parties. This is set to occur until BOTAŞ’s market share is reduced down to 20%.
Alternative Domestic Energy Sources
In addition to the targets of the draft Natural Gas Market Law, with the purpose of reducing Turkey’s dependence on natural gas, use of alternative domestic energy resources such as coal and lignite has been targeted. With this in mind, Turkey executed an inter-governmental agreement with the UAE for power generation and lignite coal mining in the massive Afşin-Elbistan field.
The 2010-14 Energy Strategy Plan sets the goal of maximising penetration of renewable energy resources until 2023. In order to achieve this objective, the Law on Use of Renewable Energy Resources for Electricity Generation (RES Law) was amended in 2011 and the feed-in tariff to attract investments in renewable energy was substantially increased. Despite Turkey’s abundant solar energy potential and the investment incentives provided for solar power plants under the RES Law, no licence has yet been granted for generating electricity from solar energy. According to the 2010-14 Energy Strategy Plan, the target for solar energy is to reach a minimum installed capacity of 3000 MW by the end of 2023.
In addition to the Energy Strategy Plan, the Electricity Energy Market and Supply Security Strategy Paper sets ambitious targets for the use of renewable energy. More specifically, the paper targets the use of (i) all hydroelectric power potential, (ii) wind power to be increased to 20,000 MW, (iii) geothermal power at full capacity and (iv) solar power in dissemination of electricity generation. Established capacity of a single solar power plant cannot exceed 50 MW and the total capacity of generation facilities based on solar power cannot exceed 600 MW until December 31, 2013.
According to the new legislation, applications for these facilities can only be made at specific dates. In this respect, the Energy Market Regulatory Authority (EMRA) announced that it would receive applications June 10-14, 2013. In addition, the required size of land suitable for construction of a solar power plant will be determined by EMRA according to a special formula, which cannot exceed a maximum of 20,000 sq metres per MW. Solar plant licence applications concerning agricultural lands will be automatically rejected.
EMRA has also issued a communiqué regarding the measurement standards for wind or solar power plants. The communiqué provides that licence applicants are required to submit a report related to the condition of the land that is considered for construction of a power plant. The report must be based on data not more than one and a half years old and must include information gathered from on-site measurements.
Despite Turkey’s abundant renewable energy potential, some experts cast doubt on its sufficiency for attaining the 2023 targets. The minister of energy, Taner Yıldız, in a press release, expressed his concern that renewable resources may not be sufficient for achieving the targets and, therefore, Turkey should consider investing in other energy sources, particularly in nuclear. With this purpose, in 2007 the Law on Establishment and Operation of Nuclear Power Plants and Energy Sale was enacted, which mandates the use of licensing regime involving a public tender process in relation to nuclear plant projects.
Following the enactment of the law, in 2008, the regulation regarding the tender process and implementation contracts for nuclear power plant projects was enacted. In September 2009, the Turkish government organised a tender for the construction of a nuclear power plant. However, the tender attracted only a single bidder and, therefore, was cancelled.
The Turkish state’s failed attempt to implement a nuclear power plant based on the public tender model led the government to shift to the contractual model. In May 2010, an intergovernmental agreement was executed between the Turkish government and the Russian government authorising a Russian entity to construct and operate a nuclear power plant. Implementation of the contractual model is considered more advantageous in larger-scale projects since it eliminates the lengthy, rigid and cumbersome formalities required under the Public Procurement Law.
The massive scale of the targeted energy and infrastructure projects for 2023 necessitates utilising advanced technology and know-how in terms of construction, operation and maintenance. In addition, the magnitude of financing needed for the development, implementation and operation of these projects requires complex and sophisticated financing models in order to attract the participation and support of international investors.
Given the inherent risks and costs associated with financing these projects, investors may have certain reservations with regards to the applicability of domestic law and expect a more sophisticated set of rules to govern their significant investments. In order to meet the level of legal sophistication required in support of these projects, inter-governmental agreements (IGA) have been designed, which set forth the mutual obligations and commitments of the respective states in support of the development, construction and operation of large-scale projects. Following the ratification process, an IGA will have the force of law. However, given the fact that an IGA is an instrument of international law, the rights and obligations of individual state authorities or private parties involved in a given project may fall outside the scope of the IGA.
This necessitates another framework agreement, known as the host government agreement (HGA). Before its execution between the parties, an agreed form of the HGA will be appended to the IGA and its provisions will regulate the rights and obligations of the project investors as well as various Turkish state authorities involved in the project. More specifically, the agreed form of the HGA will govern any licensing requirements, evaluation process (whether regulatory, operational or environmental permits), taxation regime, currency requirements, import/export regulations, and exit rights and procedures. Although when executed it is a private contract, an HGA will benefit from the strength of an IGA and superiority over domestic laws.
Reforms In Finance
History suggests that the preferred financing method for energy and infrastructure projects in Turkey is equity financing. Although debt financing offers important tax advantages over equity financing, debt financing has been less popular for financing large-scale projects. This is mainly attributed to the costs associated with borrowing, including: the risk premium involved in debt financing due to the lack of meritocracy and transparency in governance of the companies involved in these projects; legal and regulatory fees involved in the issuance of debt securities; and potential bankruptcy costs.
A recent group of foreign and domestic legislative and regulatory reforms may prove effective in reducing these borrowing costs and thereby encouraging the use of alternative financing techniques for the implementation of the 2023 projects.
The most notable among these reforms has been the Basel Committee’s recent amendments to banks’ liquidity buffers. Significant reforms on the domestic front have included: enactment of the new Capital Markets Law (CML), which tightens corporate governance procedures; Capital Markets Board’s announcement of certain incentives regarding issuance of debt securities; and the Council of Ministers’ announcement of the independent audit thresholds.
With regards to the borrowing costs associated with bankruptcy, it is important to note that the bankruptcy protection mechanisms available under the Execution and Bankruptcy Law have been instrumental in improving investor confidence and reducing borrowing limitations faced by the private sector.
Basel Committee Amendments
The Group of Governors and Heads of Supervision (GHOS) of the Basel Committee announced the revised liquidity coverage ratio (LCR) through a package of amendments in January 2013. The most important element of the package is the expansion in the range of assets eligible to be considered high-quality liquid assets (HQLA).
LCR has been developed as a component of the Basel III reforms, in order to promote short-term resilience of a bank’s risk profile and to serve as a buffer to prevent central banks becoming a “lender of last resort” during periods of distress. The standard requires that banks must hold enough unencumbered HQLA to cover total net cash outflows over a period of 30 days.
HQLA are composed of Level 1 and Level 2 assets, categorised by the liquidity of the asset portfolio carried. Level 1 represents the most liquid assets such as cash and cash equivalents, and Level 2 represents government securities and qualifying corporate debt securities. In addition to the existing Level 2 assets (now categorised as Level 2A assets), the new Basel Committee amendment introduces a new sub-category under Level 2, which is now known as Level 2B. These assets include lower-rated corporate bonds, residential mortgage-backed securities and certain unencumbered equities which will be subject to higher deductions up to 50%. The combined total of Level 2 assets (2A + 2B) cannot exceed 40% of the total stock of HQLA, and Level 2B assets cannot exceed 15%.
From the outset, the introduction of Level 2B assets has broadened the eligible types of assets for the liquidity buffer and will likely encourage banks to buy and hold corporate debt securities, including lower-rated corporate bonds, instead of holding onto a hefty liquid asset portfolio. The amendment also promises to revise and improve the operation of the cap on Level 2 assets and develop an alternative liquid asset framework for sharia-compliant banking institutions.
The GHOS has announced that the implementation of the revised LCR will be introduced in phases, with 60% of the rules implemented by January 1, 2015 and full implementation completed by the start of 2019.
New Capital Markets Law
The new CML entered into force as of December 30, 2012 and introduced major structural reforms with an aim to protect investors and to promote competition in the Turkish capital markets. In addition, in order to ensure efficiency and transparency in operations on the capital markets, the CML imposes rigid corporate governance and public disclosure rules upon public entities. CML provides that the Capital Markets Board (CMB) shall have the role of overseeing compliance with the CML and empowers the CMB to act, ex officio, in initiating proceedings against violators in the event of non-compliance.
The CML requires that in order to enter into related party transactions, publicly held companies must adopt a board of directors’ resolution setting forth the details of the transaction, which must be approved by a majority of the independent board members. Corporate governance rules applicable to banks will require the opinion of the Banking Regulation and Supervision Authority.
Under the CML, issuers are personally liable for the accuracy and completeness of the registration statement that is filed in connection with the issuance of the securities. In the event that the issuer does not have sufficient assets to cover damages, the aggrieved parties may pursue the underwriters, intermediary institutions, guarantors or the board members of the issuer to the extent that any fault may be attributable to such persons. In addition, independent auditors and credit and valuation agencies that have signed the reports incorporated into the registration statement may be held liable for the accuracy and of their reports.
The CML also introduces the concept of “material transactions” to be carried out by publicly held firms and provides a partial list of such transactions including: mergers; spin-offs; changes of legal form; disposals; transfers or encumbrances of assets; changes of field of activity in part or full; creation of new privileges; changes or amendments to existing privileges; and delisting of the company. Shareholders who have participated in the general assembly meeting concerning material transactions and cast dissenting votes have the right to exit the firm by selling back their shares.
In the event of an acquisition giving the right to control management of a publicly held firm, the controlling shareholders are obliged to launch a tender offer to purchase the shares of the existing shareholders. Noncompliance with the tender offer requirement may result in the suspension of violating controlling shareholders’ voting rights. The CML also provides the right to squeeze out minority shareholders in the event that the voting rights of a shareholder of the publicly held company are equal to or higher than the ratio determined by the CMB. In the alternative, a minority shareholder may opt to exit and request that the shareholders with voting rights equal to or higher than the CMB ratio purchase their shares within the time period stipulated by the CMB. Last but not least, the CMB has the power to revoke any voting and board representation privileges if a publicly held company’s financial statements reveal losses in the preceding five years.
Borsa Istanbul has been incorporated in the form of a joint stock corporation to perform stock exchange activities, including the trading of capital market instruments, foreign exchange, precious metals and gems. Borsa Istanbul has been registered with the Istanbul Trade Registry as of the effective date of the CML, i.e. December 30, 2012, without the requirement of a further formality. With the inception of Borsa Istanbul, the Istanbul Stock Exchange and the Istanbul Gold Exchange were terminated.
The CML mandates that the exchanges be established in the form of a joint stock corporation and be subject to private law. Consequently, exchanges are eligible to enter into agreements with different market operators as necessary in order to carry out the operations of the exchange, provided, however, that prior approval of the CMB shall be obtained. Although in principle the exchanges and market operators are private entities and are subject to private law, the CMB, being the regulatory authority for these institutions, may conduct investigations, inquire information and request production of documents with regards to their operations.
Parallel with EU rules, the CML launched the Investors Compensation Centre, which the CMB will manage and represent. The centre’s purpose is to provide a guarantee for investor claims in case of the default of a capital market institution, provided the default is directly related to financial distress and no realistic improvement is foreseen in the near future. Interested investors may directly file an application for recovery of damages with the CMB. The centre reviews the applications and, once approved, settles claims within three months. Prior to awarding damages due to defaults of banks, the CMB is required to obtain the opinion of the Banking Regulation and Supervision Authority. The maximum investor guarantee is set at TL100,000 (€43,180) for 2013 and is reviewed annually.
Alternative Financing Initiatives
The CMB has announced new administrative fees as of January 2013. In an effort to promote alternative financing techniques, including initial public offerings, and to reduce the cost of issuing debt securities, the registration fee for stocks to be traded on the Emerging Companies Market is reduced by 50% down to 0.01% and the registration fee for issuing debt securities such as corporate bonds and other types of debentures by real sector entities other than financial institutions is reduced by 25%.
New Requirements & Protections
The recently announced Council of Ministers’ decree defining companies subject to independent audit has introduced unreasonably high thresholds and thereby significantly reduced the originally targeted number of companies subject to audit from 800,000 down to about 2000 (even less than the 90,000 covered under the old Turkish Commercial Code [TCC]). The independent audit thresholds have been subject to severe criticism that they undermined the efforts of the new TCC to improve governance, transparency and accountability in corporate management. In an effort to expand audit coverage, the Parliament passed Amendment Law 6455, effective as of April 11, 2013, amending Article 397 of the TCC by introducing an audit requirement for companies and cooperatives falling outside of the scope of the independent audit requirement.
The largest segment of the Turkish corporate market has traditionally been family-owned, small and medium-sized enterprises (SMEs). Turkish SMEs have long faced borrowing limitations due to lack of savings; lack of meritocracy and accountability in governance; and poor transparency in corporate affairs. This makes them extremely vulnerable to insolvency and, as a result, this group poses a serious threat to economic stability.
Although the new independent audit coverage has failed to meet market expectations, and the effectiveness of the audit mechanism has yet to be seen, the 2003 and 2004 bankruptcy protection amendments to the Bankruptcy Law have aimed to reduce the negative effects and costs associated with insolvency by enabling appointment of management supervisors and/or auditors, and periodic reporting to creditors throughout the approved standstill periods. More specifically, Amendment Law No. 4949 and Amendment Law No. 5092 have introduced three bankruptcy protection mechanisms into the Bankruptcy Law: (i) postponement of bankruptcy, (ii) composition (konkordato) and (iii) restructuring. There are various benefits and shortcomings between the different protection mechanisms.
Essential Differences Among Bankruptcy Protection Mechanisms
Essential differences arise from the purpose, scope of application and security measures of the protection mechanisms. Under the existing Bankruptcy Law, individual debtors, banks and insurance companies may file for composition but are ineligible to file for restructuring or postponement of bankruptcy. Limited liability companies, other than banks and insurance companies, are eligible to file for any one of the protection mechanisms depending on the severity of their financial situation.
The purpose of bankruptcy postponement is to defer an imminent bankruptcy and to avoid liquidation of the commercial enterprise for a temporary period. It is a temporary relief available only for limited liability companies that are considered insolvent under TCC Articles 376 and 377. TCC Article 376(3) mandates the board of directors to immediately file for bankruptcy with the competent commercial court in the event that the balance sheet of the preceding fiscal year reveals that total assets of the company are insufficient to cover total liabilities (insolvency, or borca batıklık). In the alternative, under TCC Article 377, the board of directors or a creditor may file for a bankruptcy postponement order, provided that an objective and realistic rehabilitation project in the forms of capital injection, reorganisation of creditor claims, disposal of assets, etc., is presented to the court.
The maximum duration of a postponement order is one year and it may not be extended for more than four years. The debtor does not need the approval of its creditors to file for a postponement order and once the order is granted, it affects all of the creditors. A postponement order would also include appointment of a trustee who will oversee the operations of the management and provide the court with periodic reports regarding activities and financial status of the company during the standstill period. The court may, at its discretion, oust the management and replace it with the trustee or order that all decisions of the management will be subject to the prior approval of the trustee.
Unlike postponement of bankruptcy, composition and restructuring are rehabilitation measures that aim to provide a cure rather than providing the debtor with a temporary standstill period in times of distress. However, in case of insolvency, limited liability companies are precluded from directly filing for a composition or restructuring order, but are first required to file for a bankruptcy postponement order with the competent court. A composition or restructuring project may be submitted along with such a petition or at a later time.
A solvent limited liability company going through financial difficulty or suffering from a cash deficit may directly defer to either a composition or restructuring. The purpose of composition is to obtain a relatively shorter standstill period (3+2 months) for the debtor in order for the company to work out a payment plan with the majority of its existing creditors.
Composition enables debtors to reorganise and pay off debt (borç tasfiyesi) by way of agreed repayment schedules, settlements, interest waivers, etc. Once approved by the court, composition affects all creditors, even contesting ones. The court will appoint a composition commissary (konkordato komiseri), who will supervise operations. The court may also oust the management and appoint the commissary to run the firm or order that certain actions of management be subject to prior approval by the commissary. Unlike restructuring, composition does not necessarily serve the purpose of sustaining the operations of the enterprise. In addition, procedures for holding and handling creditor meetings, keeping of minutes, and pre- and post-court approval timelines are strictly regulated in composition filings compared to restructuring.
The purpose of restructuring is to negotiate a rehabilitation plan with a selective group of creditors for reorganising the existing debt and assets of the firm and to ensure sustainability of its operations. Unlike in a bankruptcy postponement or a composition, in a restructuring the management cannot be ousted by the court and retains the power to take out loans and encumber a firm’s assets in line with the rehabilitation plan. However, in the absence of a proposal by the interested parties, the court may select and appoint a project auditor (proje denetçisi) to audit implementation of the approved plan and to provide periodic reports on progress to the interested creditors. An approved restructuring order will be binding upon the affected creditors and will not affect the position of the creditors who did not participate in the restructuring plan.
Pros & Cons Of Bankruptcy Protection
As opposed to a bankruptcy, which requires liquidation of the assets and winding up of the firm, under bankruptcy protection both secured and unsecured creditors may have increased chances to recover their claims due to resumed operations of the company. This also results in reduced legal and administrative bankruptcy costs that will have priority over their claims. In addition, depending on the type of protection filed for, creditors may receive prompt distributions on their claims with respect to which (unsecured claims) interest does not accrue after the grant of the protection order.
Creditors and debtors also benefit from the stay of execution proceedings against the debtor throughout the standstill period. Last but not least, a court-appointed trustee, commissary and/or project auditor to supervise the operations of the management would ensure compliance with the duty of good governance. Periodic reports provided to creditors regarding the progress on the approved plan and the financial status of the company also increase transparency and remove any information asymmetry for the creditors.
The costs associated with bankruptcy protection mechanisms may vary. Postponement of bankruptcy and composition are subject to strict procedural rules, which require heavy court involvement during the pre-approval stage of the rehabilitation plan. This may result in increased legal fees as well as expert examination fees during the court’s viability assessment of the plan. In addition, in cases of insolvency of a limited liability company, initial filing of a postponement order is mandatory, which would urge the adoption of a multi-layered protection process resulting in an increase in the costs and delay in negotiation of a plan with the creditors.
Restructuring enables a relatively liberal, speedy and cost-effective pre-approval process, which allows for an out-of-court viability assessment of the plan by a sworn fiscal advisor. However, the court-approved plan and an order for stay of execution proceedings will not affect the claims of creditors who did not participate in the restructuring negotiations.
This may have important consequences especially where a major asset disposal plan has been envisaged. In cases involving major asset disposal, the Bankruptcy Law accepts a rebuttable presumption that a third-party buyer would act knowing of the intent of a debtor to defraud its creditors. As a result, the non-voting creditors who were not officially notified of the major asset disposal plan may initiate an action against the debtor and a third-party buyer requesting a declaration of annulment of the sale or transfer and an order for the recovery of damages.
In view of the foregoing, despite the potential challenges involved in a restructuring, its speed and simplicity together with the potential benefit of not losing a skilled management team would make it seem to be a better option compared to the lengthy and costly composition and postponement procedures. Consequently, in the wake of a potential insolvency or a temporary cash deficit, it is recommended that the companies work out an out-of-court restructuring plan with their creditors rather than waiting until insolvency. This will allow them to take advantage of the available protection options under the Bankruptcy Law.
OBG would like to thank Hergüner Bilgen Özeke for their contribution to THE REPORT Turkey 2013