Turkey: Turkish Corporate Governance: Moving From Soft Law To Hard Law!

The Capital Markets Board of Turkey (the "CMB") has once again revised the Corporate Governance Principles (the "CGPs") and put a stronger emphasis on the hard law characteristics which have been an issue of hot debate since October 2011. The CMB, with the issuance of new implementation rules, has moved away from "comply or explain" approach to a greater extent which clearly shows that Turkish Corporate Governance is in the process of transition from soft law to a hard law.

The new Communiqué can be considered as a reaction to the concerns raised following the issuance of former CGPs. However, rather than bringing flexibility, the number of CGPs required to be complied on a compulsory basis and the number of ISE Listed Public Companies (the "ISE Companies") to be subject to mandatory implementation of those CGPs were increased. It seems that the CMB, by taking into account the global economic volatility, has decided to increase the tone with a view to boast the competitiveness of ISE Companies in tapping into financial sources and attract more portfolio investments to the ISE. However, the recent move which mandatorily requires hiring of independent directors and grants those directors a prominent role in the board level decision making process may cause a hesitation for companies intending to conduct IPOs in the upcoming period. Furthermore, sufficiency of the pool of persons qualified to serve as independent directors is still a question mark as the new CGPs envisage certain limitations for foreigners to act as independent directors at boards of ISE Companies.

According to the new rules, all ISE Companies, excluding companies listed on Emerging Markets and Watchlist Market, are subject to mandatory implementation of certain CGPs. This should be considered as a big step forward as former implementation rules only required ISE-30 Companies (excluding banks) to comply with certain CGPs on a compulsory basis.

Classification of ISE Companies

The new rules classify ISE Companies in three main categories:

  1. Category I: ISE Companies with market value exceeding TL 3,000,000,000 and free float value exceeding TL 750,000,000;
  2. Category II: ISE Companies with market value exceeding TL 1,000,000,000 and free float value exceeding TL 250,000,000, and,
  3. Category III: All other ISE Companies which do not fall under (i) and (ii) above.

This classification is made according to the systemic risk that companies pose to Turkish capital markets. Under this perspective, Category I companies are required to comply with all mandatory CGPs whereas Category II and Category III companies benefit from certain exemptions.

Timing for the CGPs

New CGPs and implementation rules shall be applicable for ISE Companies, excluding ISE listed Banks, as from December 30, 2011. The Communiqué postpones the application for ISE listed Banks until December 30, 2012.

As per the Communiqué, ISE Listed Companies are required to adapt their articles of association (the "AoA") in the first ordinary general assembly meeting which shall be convened not later than June 30, 2012.

Compulsory Principles

Under the new framework "comply or explain" approach shall continue to apply for majority of the CGPs. However, quite a number of CGPs governing shareholder rights, structure of corporate boards, board committees and remuneration of board members and executives have a mandatory nature with a broader scope.

Below are the new CGPs which are announced to be compulsory for Category I companies, and applicable with certain exemptions for Category II and Category III companies:

  • Announcements for the general assembly meetings shall be made at least three weeks prior to the meeting date through any communication means including the Internet.
  • Following information shall be announced through corporate websites together with general assembly announcements:
  1. total number of ordinary shares and privileged shares together with the voting rights,
  2. changes that were realized or planned to be realized in the management and activities of the company and its significant subsidiaries, together with the grounds of those changes and financial statements and annual reports of the parties involved in those changes,
  3. in case there is any Board member dismissal and/or appointment in the agenda of the general assembly, the reasons behind such dismissal and/or appointment together with the information pertaining to the persons to be nominated as candidates,
  4. any request of the shareholders, CMB and/or other governmental institutions for placing an item on the general assembly agenda,
  5. in case an AoA amendment is placed on the agenda of the general assembly, the relevant Board decision on the proposed amendment together with the current and proposed versions of the relevant articles.

Regarding the implementation of item (iii) above, resumes of the candidates, positions held for the last ten years and the reasons for leaving the positions, level and characteristics of their relationship with the company and its related parties, information on whether they have the qualifications required for independent directors and any similar issues which may affect the company when they are appointed as board members shall be disclosed by the company within one week following the general assembly announcement.

  • In order for controlling shareholders, board members, high level executives and their up to second degree relatives to compete and/or enter into transactions with the company in a manner which may create a conflict of interest, a prior approval of the general assembly is required. Furthermore, following the approval, shareholders shall be informed about executed transactions and competitive activities of the abovementioned persons in the succeeding general assembly meeting.
  • A general assembly approval is required for significant transactions namely transferring or renting out of all or a significant portion of company assets, establishing right in rem on all or significant amount of company assets, granting concessions to third parties or changing the scope and subject of already provided concessions, acquiring or renting significant amount of assets and delisting from the ISE. The Board decision for presenting the above transactions to the general assembly shall be made by having the affirmative votes of the majority of independent directors. If the above transactions fall under the category of related party transactions, those parties shall not vote in the relevant general assembly meeting. Accordingly, there is not any minimum meeting quorum requirement for the approval of the above transactions. However, the decision quorum is the simple majority of shareholders entitled to vote in the general assembly. The AoA of the companies shall be amended so as to reflect the requirements envisaged by this CGP (This principle is not applicable for the above defined transactions conducted by investment trusts).
  • The Board of Directors (the "BoD") shall compose of at least five members majority of which shall be non-executive directors.
  • Among the non-executive directors there shall be independent directors. The number of independent directors shall represent the free float rate of the company and shall not be less than one third of the BoD. For companies with a high free float rate, the general assembly is entitled to limit the number of independent directors with half of the total number of board members. In any case, the number of independent Board members shall not be less than two (This principle is not applicable for Category III companies and, under certain conditions, for jointly managed companies. Appointment of two independent directors is sufficient for those companies).
  • Independent directors shall be appointed for a period of three years. It is possible to re-appoint an independent director.
  • A person who has been the company's Board member for more than six years within a ten-year period shall not be appointed as independent director.
  • Independent directors shall bear the following qualifications:
  1. The director and/or his up to third degree relatives shall not have a direct or indirect employment, shareholding or significant commercial relationship with the company, related parties of the company or entities related to the persons controlling directly or indirectly more than 5% of the company's share capital within the last five years,
  2. The director shall not have worked for firms, including audit, rating and consultancy firms, undertaking whole or a certain portion of the company's activities and organization, and also shall not have been appointed as board members to those firms within the last five years,,
  3. The director shall not have worked for or shall not have been a shareholder or a board member of a firm which is a significant supplier or service provider to the company within the last five years,,
  4. If the director is a shareholder due to its board membership, the percentage of his shareholding shall not exceed 1% of the company's share capital and the shares shall not be in the form of privileged shares,
  5. The director shall have the necessary educational background, information and experience for fulfilling independent director duties,
  6. The director shall not be a full time worker in a governmental/public institution,
  7. The director shall be deemed as resident in Turkey as per the provisions of the Revenue Tax Law (The director shall either be domiciled in Turkey or shall stay in Turkey for more than six months in a calendar year),
  8. The director shall have the ethical standards, reputation and experience enabling him to contribute to company activities, protect his impartiality with regard to conflict of interest that may arise among shareholders, make independent decisions by taking into account the rights of stakeholders.

The general assembly may appoint persons who do not bear one or several of the above qualifications as independent directors provided that there is a reasonable ground for such appointment and CMB provides its consent. Such type of appointment may only be made for a temporary period of time which shall not exceed one year.

  • Nomination Committee shall evaluate each independent director candidate through the lens of independency and present a report to the BoD.

The BoD, based on the report of the Nomination Committee, prepare the list of candidates and send the list to the CMB before the general assembly. If the CMB has a negative opinion about any of the candidates, those candidates cannot be nominated as independent director at the general assembly (This principle is not applicable for Category II and Category III companies).

The company announces final list of candidates together with the general assembly announcement. Following the general assembly meeting, appointment decision, dissenting votes and their reasons shall all be posted on the website of the company.

In case a candidate is appointed as independent director and shareholders holding at least 1% of the company's share capital vote against that candidate during the general assembly meeting, the CMB, upon application of the relevant shareholders within a period of thirty days following the general assembly meeting, make a separate assessment on the independency of the relevant director.

In case an independent director resigns due to losing one of the independency qualifications or due to other reasons, Nomination Committee shall make an assessment and provide a report to the BoD about independent director candidates.

The BoD, based on the report of the Nomination Committee, prepare the list of candidates and send it to the CMB. If the CMB has a negative opinion about any of the candidates, those candidates cannot be appointed as independent director (This principle is not applicable for Category II and Category III companies).

Independent directors appointed by the BoD can serve until the first general assembly meeting.

  • In order to implement a Board decision regarding related party transactions or provision of securities, guarantees and liens for the benefit of third parties, approval of the majority of independent directors is required. In case majority of the independent directors does not approve the transaction, the situation shall be disclosed to the public and the issue shall be presented to the general assembly. Parties to the transaction and related persons of the parties shall not participate to the voting process at the general assembly. There is not any minimum meeting quorum requirement for the approval of these transactions. However, the decision quorum is the simple majority of shareholders entitled to vote in the general assembly. The AoA of the companies shall be amended so as to reflect the requirements envisaged by this principle.
  • In order for BoD to fulfill its obligations, Audit Committee, Corporate Governance Committee, Nomination Committee, Committee for Early Inspection of Risks and Remuneration Committee shall be established. In cases where it is not possible to establish Nomination Committee, Remuneration Committee and Committee for Early Inspection of Risks due to the structure of the Board, the functions of those committees can be performed by Corporate Governance Committee. All the members of Audit Committee and chairman of other committees shall be independent directors. Chief Executive Officer/General Manager shall not be a member of the committees.
  • A remuneration policy for Board members and executives shall be prepared in writing and posted on the company website, and shareholders shall be informed of the policy at the general assembly meeting and granted the opportunity to comment on the policy.
  • Remuneration of independent directors shall not be based on share options or other performance based payments. However, remuneration of independent directors shall be at a level to protect their independency.

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.

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