Cross shareholding means, in general terms, the participation of two companies to each other's capital. In various jurisdictions, including Turkey, this concept is dedicated to the situations where the cross shareholding ratio is above a certain percentage. Cross shareholding below such percentage is considered beyond the scope of the legal framework, and no consequences are attached thereto. It is also common that special sanctions apply to situations where one of the companies in the cross shareholding structure is dominant over the other, or both companies are in a dominant position against each other. In legal doctrine, situations where there is no dominant relationship between the two companies are referred to as "simple cross shareholding" and where there is as "qualified cross shareholding." This newsletter addresses the provisions of the Turkish Commercial Code1 ("TCC") regarding simple and qualified cross shareholding.
Purpose of the Regulation
Cross shareholding has certain drawbacks in terms of principle of protection of capital, transparency of financial statements and independency of management. Jurisdictions usually permit cross shareholding while introducing various sanctions. In the preamble of Articles 197 and 201 of the TCC, it is stated that the sanctions set forth under the Turkish law aim to "prevent issues, such as dilution of capital (fictitious capital), hesitation on trueness of the balance sheet" and "restrict the effects of the shares of the same origin on the management". According to the preamble, again, existence of Article 197 of the TCC does not guarantee legal compliance for all events, and does prevent enforcement of the sanction of such incompliance, especially if high cross shareholding is in breach of balance sheet principles2.
Simple Cross Shareholding
Cross shareholding provisions were not regulated under Commercial Code No. 6762, and have been directly adapted from Article 19/1 of the German Stock Corporation Act (Aktiengesetz, "AktG") in the preparation of the new law. As per Article 197 of the TCC, "Stock corporations that hold at least one fourth of each other's shares are in cross shareholding." Accordingly, the situations only where both companies hold at least one fourth of each other's shares are deemed as cross shareholding within the scope of the TCC. Situations where the participation ratio is below one-fourth do not technically count as cross shareholding. For example, if company X holds 30% of the shares of company Y, and company Y holds 20% of the shares of company X, there is no cross shareholding, and consequences linked thereto do not apply. For the calculation of the participation percentage, Article 196 of the TCC regarding the calculation of share and voting ratios shall be taken into consideration. For the relationship to be deemed as a simple cross shareholding, there should be no dominant relationship between the said two companies.
Consequences of Simple Cross Shareholding
While Article 197 of the TCC only makes a definition of cross shareholding, consequences linked thereto are regulated under Article 201 of the TCC. According to the first paragraph of the Article that regulates the consequences of simple cross shareholding, "A stock corporation that knowingly gets into a cross shareholding situation by acquiring the shares of another stock corporation can only use one-fourth of its total votes arising from the shares subject to participation and of its other shareholding rights; all other shareholding rights, except for the right to acquire the gratis shares, shall be frozen." Accordingly, enforcement of this limitation is subject to the condition that the subject stock corporation gets into cross shareholding situation knowingly, and applies not to both of the companies, but only to the company that knowingly gets into this situation. For example, if company X holds 30% of the shares of company Y, and has informed company Y as per Article 198 of the TCC, and if company Y, despite knowing this, acquires 40% of the shares of company X, company Y encounters the sanction of shareholding rights being frozen, and can only use its rights arising from one-fourth of its shares, i.e. 10%. The frozen 30% shares do not count in the calculation of the general assembly meeting and decision quorum. If there are 100 shares in company X, the meeting and decision quorum shall be calculated over 70 shares.
Even if company X, which holds 30% of the shares of company Y, has not notified company Y as per Article 198 of the TCC, if company Y is made known of this situation otherwise, it shall, again, be subject to the same sanction. This is because Article 201/1 of the TCC does not refer to any special notification requirement, but only seeks the condition to "know". If company Y participates in company X in the amount of 40% without knowing that 30% of its shares are held by company X, it shall be entitled to use all of its rights arising from its shares, and shall not be subject to any sanction. Notifications to be made as per Article 198 of the TCC, and consequences of failure thereof are not the subject of this article and, therefore, are not examined herein3.
From the expression "all shareholding rights", one should understand the entire rights connected to shares, such as voting rights, liquidation and profit sharing rights, and pre-emption rights. Only the right to acquire gratis shares, which is clearly left outside the scope of the law, shall not be frozen.
Another point that should be analyzed is the start and end time of the share freeze. Shareholding rights shall freeze at the time of the intentional acquisition of the shares that have created the cross shareholding situation, and shall continue until the end of the cross shareholding situation, e.g. until the shareholding of one of the companies in the other company falls below one-fourth. Unused rights do not disappear, they freeze, and by the transfer of these shares, the new acquirer is entitled to use the frozen rights4. There is no explicit provision in the TCC regarding whether or not any claims may be asserted for the rights arising from the frozen rights after the freezing is lifted. However, it is argued by several scholars that frozen rights cannot be claimed, products belonging to the frozen rights should be distributed to the non-frozen rights on a pro rata basis in the general assembly meetings convened regardless of the frozen rights, and provisions to the contrary cannot be adapted by the articles of association or general assembly resolution5.
It is stated under the preamble of the TCC that although Article 201, regulating the consequences of cross shareholding, was inspired by Article 328 of the German AktG, it is a genuine provision completely different therefrom, and the purpose of the two regulations are the same, but the consequences are different6. Indeed, if we adapt the explanation in the preamble to the above example, while calculating the ratio of company Y's frozen shares as per the German AktG, the total shares of company X shall be taken into consideration instead of the total shares owned by company Y, and company Y shall be entitled to vote up to 25% of the total votes of company X. For example, if there are 100 shares in company X, and company Y holds 40% of the shares of company X, i.e. 40 votes, company Y can use 25 shares from among these. This is because the limit is 25% of the total votes of company X. On the other hand, in the same example, as per the TCC, company Y shall be entitled to use only 10 votes, i.e. 25% of the votes it owns.
Qualified Cross Shareholding
If one of the companies in a cross shareholding situation is dominant over the other, the second one is deemed at the same time a dependent company, and this situation is referred to as a "unilateral qualified cross shareholding". If both of the companies in a cross shareholding situation are dominant over each other, both of them are deemed a dominant and a dependent company and "bilateral qualified shareholding" occurs. This regulation is parallel with Article 19/2-3 of the German AktG.
In the determination of a dominant relationship, not only the majority of the voting rights, but also other situations specified under Article 195 of the TCC, shall be considered. Accordingly, if a company holds the right to appoint the members to the management body of another company as per the articles of association in a number that constitutes the majority to make decisions, or constitutes, among its own voting rights, the majority of the voting rights, alone or together with other shareholders or partners based on an agreement, or keeps such company under its dominance pursuant to an agreement, or otherwise, the first company is deemed as dominant, and the other is the dependent company. Ownership of more than 50% of a company's shares is the presumption of law to the existence of a dominant relationship.
Consequences of Qualified Cross Shareholding
In the event of a qualified cross shareholding, the provisions of Article 201/1 of the TCC applicable to the simple cross shareholding as explained, above, do not apply; instead, provisions of Articles 389 and 612, which are explicitly reserved under such first paragraph of Article 201/1, come in to play. Since the consequences connected to dominance shall apply to the companies in qualified cross shareholding situations, legislators preferred not to aggravate these conditions, and decided not to enforce the sanction of the freezing of shares.
As per this Article, those that will be especially applicable among the consequences linked to dominance are related to the acquisition of its own shares by a company. Pursuant to Articles 389 and 612 of the TCC, the parent company's shares acquired by the subsidiary company shall not be taken into consideration in the calculation of the meeting quorum of the parent company's general assembly meeting, and voting rights belonging to the parent company shares acquired by the subsidiary company and related rights shall freeze. This means that shares acquired by the company, itself, and the parent company shares acquired by the subsidiary company, are considered to be the same in terms of consequences attached thereto. Despite the cross shareholding situation, not all of the rights arising from the shares of the subsidiary company, but only the voting rights, freeze. However, this does not cover only 25% of its shares, but all of them.
Finally, it should be mentioned that if there is no dominant relationship, it is irrelevant that the subsidiary company holds at least one-fourth of the parent company's shares, in terms of the attached consequences. No matter in which ratio the subsidiary company acquires the shares of the parent company, shall it be subject to the provisions of Articles 389 and 612 of the TCC. This consequence means stepping outside of the scope of the definition of cross shareholding in terms of Article 197 of the TCC in the existence of a dominant relationship.
Although cross shareholding brings with it several drawbacks, various jurisdictions have chosen to make it subject to sanctions, instead of prohibiting it. Within the scope of the TCC, technically, stock corporations that hold at least one-fourth of each other's shares are deemed to be in a cross shareholding situation. Cross shareholding is addressed in two different categories that may be identified as simple and qualified, and different consequences are attached thereto. In simple cross shareholding situations where both companies hold at least one-fourth of each other's shares, but are not in dominant positions against each other, the company that has knowingly created the cross shareholding situation can only use one-fourth of its total votes arising from the shares that it holds in the other company and of its other shareholding rights; all of its other shareholding rights freeze. In qualified cross shareholding situations where at least one company is dominant over the other, instead of the sanction of shares freezing, consequences attached to dominance, and especially to the acquisition by the subsidiary company of the parent company's shares, apply.
 Official Gazette February 14, 2011, No. 27846. It has entered into force on July 1, 2012.
 Preamble of Article 197 of the TCC.
 See Notification and Registration Obligations for Groups of Companies, http://www.erdem-erdem.com/en/articles/notification-and-registration-obligations-for-groups-of-companies/ (Access date: 24 February 2014) for information on notification and registration obligations within the scope of group of companies.
 Preamble of Article 201/1 of the TCC.
 Ünal Tekinalp, New Law of Stock Corporations, 3rd Edition, İstanbul 2013, p. 562.
 Preamble of Article 201/1 of the TCC.
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.