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Corporate Governance in Turkey Gül Okutan Nilsson European Business Organization Law Review / Volume 8 / Issue 02 / June 2007, pp 195 - 236 DOI: 10.1017/S1566752907001954, Published online: 16 July 2007
Link to this article: http://journals.cambridge.org/abstract_S1566752907001954 How to cite this article: Gül Okutan Nilsson (2007). Corporate Governance in Turkey. European Business Organization Law Review, 8, pp 195-236 doi:10.1017/S1566752907001954 Request Permissions : Click here
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European Business Organization Law Review 8: 195-236 © 2007 T.M.C.ASSER PRESS DOİ10.1017/S1566752907001954
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Corporate Governance in Turkey Gül Okutan Nilsson* 1.
Sources of Turkish company and capital market law .............................. 197
2.
Structure of corporate ownership and management control systems in Turkish companies............................................................................... 200
3. 3.1 3.2 3.3 3.3.1 3.3.2 3.3.3 3.3.4 3.3.5 3.3.6
Framework of application and enforcement of the CMB Principles........ 201 In general ................................................................................................. 201 Obligation to disclose .............................................................................. 202 Liability for the corporate governance compliance report ....................... 206 In general ................................................................................................. 206 Liability for non-compliance with the Principles?................................... 206 Liability for non-disclosure or wrong or misleading information............ 207 Burden of proof........................................................................................ 207 Standing to sue......................................................................................... 208 Liability of the company? ........................................................................ 209
4. 4.1 4.1.1 4.1.2 4.1.3 4.1.4 4.1.5 4.1.6 4.2 4.2.1 4.2.2 4.2.3 4.3 4.3.1 4.3.2 4.3.3 4.4 4.4.1 4.4.2
Turkish corporate governance principles................................................. 210 Shareholders ............................................................................................ 210 Right to secure methods of ownership registration.................................. 210 Right to convey or transfer shares ........................................................... 210 Right to obtain relevant and material information ................................... 211 Right to participate in and vote at general shareholder meetings............. 214 Right to elect and remove members of the board .................................... 216 Right to share in the profits of the corporation ........................................ 218 Equitable treatment of shareholders......................................................... 218 Equal treatment of all shareholders of the same class.............................. 218 Protection of minority shareholders......................................................... 219 Prohibition of insider trading and abusive self-dealing ........................... 219 Stakeholder protection ............................................................................. 223 In general ................................................................................................. 223 Whistleblowers ........................................................................................ 223 Employees ............................................................................................... 223 Disclosure and transparency .................................................................... 224 In general ................................................................................................. 224 Financial reporting and audit ................................................................... 225
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* Dr Gül Okutan Nilsson, Assistant Professor, Faculty of Law, Istanbul Bilgi University. The author would like to thank the Institute of Advanced Legal Studies (London) and the Max Planck Institute for Comparative and Private International Law (Hamburg) for their research support and the Istanbul Bilgi University for granting a leave of absence for research.
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4.5 4.5.1 4.5.2 4.5.3 4.5.4 4.5.5 4.5.6
Board of directors .................................................................................... 228 Key functions of the board....................................................................... 229 Composition of the board ........................................................................ 230 Rules of conduct and duty of care............................................................ 231 Liability ................................................................................................... 232 Remuneration........................................................................................... 233 Committees .............................................................................................. 234
5.
Degree of implementation ....................................................................... 234
6.
Conclusion ............................................................................................... 235
Abstract The Turkish Capital Market Board introduced its Corporate Governance Principles in 2003. The Principles are based on the concepts of equality, transparency, accountability and responsibility. While they are generally modelled on the Corporate Governance Principles of the OECD, they also take into consideration the special needs of Turkish company structures and Turkish company law and practice. The Principles apply on a comply-or-explain basis and contain detailed guidelines on the rights of shareholders, public disclosure and transparency, stakeholders and the board of directors. Listed companies are under an obligation to issue an annual corporate governance compliance report showing the extent of their compliance with the Principles and explaining the reasons for any deviation. The board of directors and the company can be held liable by investors for deceiving them with wrong or misleading information contained in the report. As for the actual implementation of the Principles, surveys indicate that there is room for improvement and that more time is needed for full application. Keywords: corporate governance, Turkey, Turkish Capital Market Board, Turkish Commercial Code. The purpose of this article is to give an overview of the Turkish Corporate Governance Principles (hereinafter, ‘Principles’)1 established by the Turkish Capital Market Board (CMB). Although the corporate governance debate is relatively new in Turkey,2 the subjects that are usually covered by this concept, such as the ——————————————————
1 An updated version (February 2005) of the CMB’s Corporate Governance Principles can be found in English on the CMB’s website, at: . 2 Two main works on corporate governance in Turkish legal literature are A. Paslı, Kurumsal Yönetim, 2nd edn. (Istanbul 2005) and H. Pulaşlı, Corporate Governance, Anonim Şirket Yönetiminde Yeni Model (Ankara 2003). See also S. Hacımahmutoğlu, ‘The System of Corporate Governance: A Turkish Perspective’, International and Comparative Law Corporate Law Journal (1999) pp. 309-330 (albeit written before the CMB Principles were issued); S.
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election, structure, functions and responsibilities of the board of directors, disclosure, audit, shareholder rights and minority protection and, to a lesser extent, stakeholder rights, have been dealt with individually in existing law. The CMB Principles therefore have to be read in conjunction with the main body of law, that is, the Turkish Commercial Code (TCC), the Capital Market Law (CML) and the communiqués of the CMB regarding the governance of joint stock companies. The article begins with a brief overview of the sources of Turkish company law and the need for corporate governance principles. This is followed by a discussion of the Turkish corporate ownership structure, an issue which has an important impact on the corporate governance system. Next, the framework of application of the CMB Principles is explained. The Principles 3 themselves are then examined in detail against the background of Turkish company and capital market law. As the Principles draw on the OECD’s Corporate Governance Principles, comparisons are drawn throughout the article. Regarding the level of implementation of the Principles, reference is made mainly to a survey conducted by the CMB on corporate governance compliance by companies whose shares are traded on the Istanbul Stock Exchange 4 (ISE) in the first year of the announcement of the CMB Principles (hereinafter, ‘2004 CMB Survey’).5 .
.
1.
SOURCES OF TURKISH COMPANY AND CAPITAL MARKET LAW
The main source of Turkish company law is the Turkish Commercial Code, which has been in force since 1957.6 The TCC is currently being revised, and a draft (hereinafter, ‘Draft TCC’) has been submitted to the Parliament for review.7 ——————————————————
Paksoy and E. Aziz, ‘Corporate Governance in Turkey’, in D. Campbell and S. Woodley, Trends and Developments in Corporate Governance: The Comparative Law Yearbook of International Business, Special Issue (The Hague, Kluwer Law International 2003) p. 261. From a business perspective, see M. Varış, A. Küçükçolak, O. Erdoğan and L. Özer, ‘Principles of Corporate Governance in the Capital Markets’, 5 The ISE Review (2001) pp. 1-73; A. Tuzcu, Halka Açık Şirketlerde Kurumsal Yönetim Anlayışı, IMKB – 100 Örneği (Ankara 2004). 3 References in brackets, such as (I/5.1), refer to the parts and paragraphs of the Principles, unless stated otherwise. 4 In this article, ‘listed company’, ‘company whose shares are traded on the stock exchange’ and ‘publicly held company’ are used interchangeably, although technically some publicly held companies (or public companies) may be non-listed. According to the CML, companies which have more than 250 shareholders are regarded as publicly held even though they may not be listed. For types of companies in Turkish law, see n. 24 below. 5 Available in Turkish on the CMB’s website, at: . 6 The TCC contains five books, one of which is dedicated to companies. The company law provisions of the TCC, especially those regarding joint stock companies and limited liability companies, are largely based on Swiss company law. 7 The Turkish Ministry of Justice set up a commission for the Revision of the Turkish Commercial Code in 2000. This commission, chaired by Prof. Dr Ünal Tekinalp, em. Professor
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In the field of capital market law, the main source of law is the Capital Market Law (CML) of 1981. More detailed regulations in this field can be found in communiqués issued by the Turkish Capital Market Board (CMB), which are binding on all listed companies. The limits of the regulatory powers of the CMB and its other powers to act are determined by the CML. In broad terms, the CML authorises the CMB to regulate the capital markets, supervise compliance with the legislation, take necessary precautionary measures in order to prevent breaches and apply administrative sanctions in the case of a breach. For example, the CMB may issue communiqués in order to regulate, inter alia, the procedure of public offers, the issuing and listing of securities, disclosure and audit. The CMB also has the power to supervise the proper application of the securities legislation by banks, issuers, capital markets and other capital market institutions such as brokers and investment funds. In order to carry out such supervisory duties, the CMB is authorised to demand all relevant information from related parties and examine all their books and records. In the case of any wrongdoing, the CMB may take such precautionary measures as asking companies or capital market institutions to correct irregularities, suspending the sale of securities on the stock exchanges, suspending the activities of capital market institutions, suing for the cancellation of board decisions or general shareholder resolutions or deciding on the gradual liquidation of capital market institutions whose financial status has deteriorated beyond rescue. The CMB may also apply monetary fines in the case of a breach of communiqués or other decisions of the CMB or make a complaint to the public prosecutor to let criminal investigations be pursued if one of the crimes described in the CML is committed. The CMB’s extensive use of its regulatory competence lends a great dynamism to Turkish capital market law, as opposed to the more static and statutory nature of general company law. In the field of corporate governance, the CMB issued its corporate governance principles for the first time in July 2003 and updated them in February 2005 in order to reflect the changes made to the OECD Principles in November 2004.8 The CMB Principles are based on the concepts of equality, transparency, accountability and responsibility and are generally modelled on the Corporate Governance Principles of the OECD.9 However, they are far more detailed and contain many specific guidelines for companies to follow. The Principles are divided into four parts: ‘Shareholders’, ‘Public Disclosure and Transparency’, ‘Stakeholders’ and ‘Board of Directors’. The topics covered in the OECD ——————————————————
of Istanbul University, submitted its finalised Draft to the Turkish Parliament in 2005. The Draft is currently being reviewed by a subcommittee of the Parliament’s Justice Commission and is expected to be enacted in 2007. 8 Decision No. 4/100 of the CMB of 7 February 2005. 9 As updated in 2004, available at: .
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Principles under the heading of ‘Equitable Treatment of Shareholders’ are covered by the part on ‘Shareholders’.10 According to the CMB, the need for introducing corporate governance principles in Turkey relates not only to individual companies, but also to the Turkish economy as a whole.11 From the perspective of the individual companies, sound corporate governance practices should lead to lower cost of capital, better financial opportunities, facilitation of the provision of funds in international financial markets, increased liquidity and a better chance of overcoming crisis periods. At the macro level, better corporate governance should result in an improved country image, higher foreign investment, prevention of the outflow of domestic funds, an increase in the competitive power of the economy and capital markets, less damage during crisis periods,12 better allocation of resources and attainment of a higher level of prosperity.13 The CMB also points out that, especially in the case of emerging markets, international investors give weight to corporate governance issues and are even willing to pay a premium for companies with better governance.14 Accordance to one study, this premium is estimated to be 27 per cent for Turkey.15 Finally, the goal of keeping up-to-date with international developments in the field of company law and corporate governance is another reason that led the CMB to issue the present Corporate Governance Principles.16 In formulating the Principles, the CMB has examined and evaluated several country codes and international principles such as those of the OECD, as well as taking into consideration the conditions and needs of the Turkish capital market and Turkish companies,17 which are explained below.
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10 However, this article is structured according to the OECD Principles for ease of comparison. 11 CMB Principles, Introduction, p. 2. 12 The Turkish economy suffered three important financial crises in 1994, 1998 and 20002001 which had a strong impact on the Istanbul Stock Exchange. For example, in the 1998 crisis, which began following the East Asian and Russian crises, the ISE lost 40 per cent of its value in Turkish lira terms and 56.5 per cent of its value in US dollar terms. See S. Binay and F. Salman, The Global Crisis and the Turkish Economy, Research and Monetary Policy Department, Central Bank of the Republic of Turkey Working Paper No. 9801 (1998), available at: (under research papers). 13 CMB Principles, Introduction, p. 2. 14 One of the studies revealing this result is McKinsey’s Global Investor Opinion Survey (July 2002), available at: . 15 McKinsey, op. cit. n. 14. 16 CMB Principles, Introduction, p. 3. 17 Ibid., at p. 4.
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STRUCTURE OF CORPORATE OWNERSHIP AND MANAGEMENT CONTROL SYSTEMS IN TURKISH COMPANIES
Corporate governance models can vary according to the system of corporate ownership and management control mechanisms prevailing in a country. In Turkey, a market-oriented corporate governance and control system cannot be said to exist, since the flotation ratios of listed companies and share dispersion levels are low. According to a corporate governance study conducted in 2003,18 the flotation ratio of listed companies in Turkey is approximately 15-20 per cent, while only 15 per cent of the Istanbul Stock Exchange (ISE) 100 Index companies have a flotation ratio of more than 50 per cent. In practice, Turkish companies are characterised by the existence of one or more majority shareholders owning controlling blocks of shares. Furthermore, unlike in some other European countries, the system is not bank-based, as a domination of banks over companies does not seem to exist either through ownership of shares 19 or through the exercise of voting rights for shares held in custody.20 Instead, most large corporations are held by families or individuals.21 Hence, the Turkish corporate ownership and management control system can be generally classified as insidercontrolled. .
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18 Tuzcu, op. cit. n. 2, at p. 107. The market value of the ISE 100 companies account for 90 per cent of the value of the nearly 300 companies that are traded on the Istanbul Stock Exchange. 19 According to the 2005 Annual Report of the Turkish Central Bank, the total assets of Turkish private sector banks amounted to 237.2 billion New Turkish Liras, of which only 9.6 billion was invested in companies. The figures for public sector banks were 124.5 and 1 billion New Turkish Liras respectively. In fact, with a few exceptions, the organic relationship seems to be quite the other way around. Many banks do not dominate, but are dominated by large companies formed within a company group privately held under the ultimate majority ownership of families or individuals. It should also be noted that the Banking Law imposes certain restrictions on the amounts banks can invest in non-financial companies (Banking Law No. 4389, Art. 12(1)(a)). 20 Current Turkish corporate law does not contain a specific regulation on the exercise of voting rights for shares held in custody. Under the Draft TCC, such a right can be exercised by the person holding the shares according to the voting instructions given by the owner (Art. 429 Draft TCC). 21 According to a report prepared by the Institute of International Finance’s Equity Advisory Group, ‘a single shareholder controls more than 50 per cent of voting rights in 45 per cent of companies listed on the Istanbul Stock Exchange’. See Corporate Governance In Turkey, An Investor Perspective, IIF EAG Task Force Report (April 2005) p. 7. Most of the time, controlling shareholders themselves occupy seats on the board. According to a survey published by the Turkish Corporate Governance Association in 2004, the founder of the company or a member of the founding family was the chairman of the board in 68 per cent of the participating companies (around half of which were listed). An English summary of the survey can be found at .
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Due to the low levels of share dispersion, a separation of ownership and control does not exist. Although this may reduce agency costs, the concentration of ownership may lead to a different risk of expropriation, namely that of the controlling block of shareholders. In companies where there are minority and majority groups, tensions may exist between them. Therefore, corporate governance principles should aim at protecting the minority shareholders vis-à-vis controlling blocks, increasing their opportunities for participation in the company management and making controlling shareholders more accountable. In this context, although the Principles do not contain many provisions on ‘minority rights’ per se, they do establish many detailed rules aimed at strengthening the position of the individual shareholder, especially by increasing transparency and information flow to shareholders, encouraging and facilitating shareholder participation in management, limiting special class rights, improving financial and non-financial reporting and audit and providing better protection for the company’s assets. The Principles also contain rules aimed at balancing board structure through the introduction of independent and non-executive directors and monitoring committees such as an audit committee and a corporate governance committee. These mechanisms should also have a disciplinary effect on management and the controlling shareholders. 3.
FRAMEWORK OF APPLICATION AND ENFORCEMENT OF THE CMB PRINCIPLES
3.1
In general
The CMB Principles are not set down in a binding communiqué, but were issued as a non-binding set of guidelines which apply on a comply-or-explain basis. Companies are not under a legal obligation to comply with the Principles and non-compliance cannot be deemed a violation of the law. The comply-or-explain rule does not extend to all of the CMB Principles. Exceptionally, some Principles are marked as pure recommendations that fall outside of the scope of the comply-or-explain rule, which means that a company is neither obliged to comply nor to provide any explanations as to why it does not comply. However, the CMB suggests that, in the medium or long term, these recommendations may also be brought under the scope of the comply-or-explain obligation.22 The Istanbul Stock Exchange (ISE) does not include the CMB Principles in its listing requirements. However, the CMB and the ISE are joining efforts to set up ——————————————————
22
CMB Principles, Introduction, p. 8.
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a Corporate Governance Index,23 whereby companies can be rated according to their compliance with the CMB Principles and be included in this Index if they pass a certain rating threshold. This Index is expected to act as an incentive for better governance in companies, as the value of shares of companies included in the Index are expected to be relatively higher. The CMB Principles are addressed mainly to publicly held joint stock companies,24 although the CMB considers that ‘other joint stock companies and institutions, active in private and public sector, may also implement these Principles’.25 Since the number of closely held joint stock companies in Turkey far exceeds the number of publicly held ones, improved governance within the former would be desirable as well.26 3.2
Obligation to disclose
Although corporate governance principles are generally voluntary in application, there is a trend in Europe to require mandatory disclosure of the degree of compliance with such principles. For example, the European Corporate Governance ——————————————————
23 The legal basis of the Index consists of the CMB Communiqué Series VIII No. 40: ‘Principles Concerning Rating in the Capital Markets and Rating Institutions’ and the ISE Rules on the Corporate Governance Index. The Index will start functioning when at least five companies have attained the required rating. 24 The most commonly employed company types under Turkish law are the company with limited liability (Limited Şirket) and the company limited by shares (.joint stock company) (Anonim Şirket). Only the latter can issue shares to the public, in which case they will be publicly held joint stock companies (Halka Açık Anonim Şirket) subject not only to the TCC but also to securities regulation, mainly the CML and the communiqués issued by the CMB. Furthermore, under the CML (Arts. 3(g) and 11), not only listed companies but also companies which have more than 250 shareholders are regarded as publicly held joint stock companies. The Draft CML increases the minimum number of shareholders that qualifies a company to be regarded as publicly held from 250 to 500. Other company types regulated by the TCC are the partnership limited by shares (Sermayesi Paylara Bölünmüş Komandit Şirket), the general partnership (Kollektif Şirket) and the limited partnership (Komandit Şirket). All of these companies, including the general and limited partnerships, have legal personality. The only company lacking legal personality under Turkish law is the ordinary partnership (Adi Şirket), which is regulated in the Code of Obligations as a special type of contract. 25 CMB Principles, Introduction, p. 4. 26 According to the data provided by the Istanbul Stock Exchange (, last visited on 10 October 2005), the number of listed publicly held companies (including investment funds) on 1 October 2005 was 320, of which 262 were being traded on the national market,. According to the data provided by the Capital Markets Board (, last visited on 10 October 2005), the number of non-listed publicly held companies was 301. In comparison, according to the data provided by the Turkish Statistics Institute, the number of all joint stock companies that were incorporated between January and August 2005 is 2,018, showing that the number of closely held joint stock companies far exceeds the number of publicly held ones.
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Forum 27 suggests that, although the comply-or-explain principle is ‘best suited to take into account the variety of situations of individual companies, and fits well with the differences between national legal and governance frameworks’, for this approach to be effective there must be a ‘real obligation’ to comply or explain and a high level of ‘transparency’ with ‘coherent and focused disclosures’. Indeed, unless companies disclose the level of their compliance with such principles, market forces will not be able to react and there will not be sufficient incentives for companies to apply such principles. In Turkey, the CMB has issued a decision to the effect that, starting from the 2004 financial year, each listed company must annually issue a corporate governance compliance report, according to the basic format set by the CMB and with the minimum content required therein.28 In this report, each company must explain not only the extent to which it complies with the Principles but also its reasons for any deviations or non-implementation.29 The report must be provided as a separate section in the company’s annual report and announced on the company’s website, if the company has one. The same decision states that in the case of a failure to issue such a report, the CMB may apply sanctions. Although the decision does not specify what these sanctions could be, administrative fines seem to be the only sanction that the CMB would be authorised to apply under the CML for such a breach. The question as to whether the CMB is indeed competent to mandate disclosure on compliance with such a decision must be answered according to the provisions of the CML. According to Article 22(e) of the CML, the CMB is authorised to adopt ‘general decisions’30 or issue communiqués in order to ensure the provision of timely, .
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27 ‘Statement of the European Corporate Governance Forum on the comply-or-explain principle’, available at: . The European Corporate Governance Forum was set up by the European Commission in October 2004 to examine best practices in Member States with a view to enhancing the convergence of national corporate governance codes and providing advice to the Commission. The Forum comprises fifteen senior experts from various professional backgrounds. 28 Decision No. 48/1588 of the CMB of 10 December 2004, announced in CML Bulletin No. 2004/51. This decision probably came about as a result of the finding of the CMB Survey, which was completed and announced in November 2004, that only 31 per cent of the listed companies actually submitted a compliance report in the first year of application of the Principles (July 2003-July 2004). 29 Standard form of Corporate Governance Principles Compliance Report (Kurumsal Yönetim İlkeleri Uyum Raporu), available in Turkish at: . 30 A ‘general decision’ handles a matter in a binding way for a group of addressees for a certain period of time. The most important element distinguishing a ‘general decision’ from a ‘communiqué’ (or a regulatory act) is the fact that the former is transient in nature: it either applies for a prescribed period of time or is exhausted after one application. A communiqué or a regulatory act, on the other hand, applies for an indefinite amount of time. See İ. Özay,
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sufficient and correct information to the public.31 For this purpose, the CMB may lay down the scope, standards and announcement procedures of important information that may affect the price of securities. One may hesitate whether the requirement of issuing a corporate governance compliance report may be seen as going beyond this provision. What is required may be more than a simple disclosure of facts as they happen to be. Through the Principles, the CMB first prescribes what the companies must do, such as setting up certain committees or including certain clauses in the company’s articles of association, and then requires the companies to disclose whether they have complied with these Principles and to explain themselves if they have not done so. Even though the companies are not obliged to comply, non-compliance may place the companies in a bad light in the eyes of investors and leave them at a disadvantage compared to other companies. Therefore, despite the absence of a legal obligation to comply, a de facto obligation for implementation can be said to exist, thus excluding a completely voluntary application. The fact that the Principles were not issued by means of a binding communiqué based on clear competences granted to the CMB, coupled with the pressure to apply, may raise doubts as to whether failure to issue the corporate governance compliance report, at least with regard to those Principles that entail tasks going beyond the existing law, may be legally sanctioned by the CMB.32 ——————————————————
Günışığında Yönetim (Istanbul 2002) p. 353 et seq. The decision of the CMB mandating listed companies to issue a corporate governance compliance report is of a regulatory nature, as it is addressed to all listed companies and establishes a duty which applies for an unlimited period of time. Due to its general and abstract nature, and the fact that it does not terminate at a given point in time, the proper type of act for introducing this disclosure requirement would have been a ‘communiqué’ rather than a ‘decision’. In addition, communiqués must be published in the official gazette. However, unless this point is raised before a court and the decision of the CMB is cancelled by a court order, the obligation to disclose remains valid and a breach may result in administrative sanctions. 31 For more on public disclosure in the capital market and the CMB’s authority, see V. Yanlı, Halka Açık Anonim Şirketler ve Kamunun Aydınlatılması (Istanbul, Beta 2005); F. Bilgili, Publizitätspflichten von Aktiengesellschaften nach dem Türkischen Kapitalmarktrecht (Frankfurt, Peter Lang 2000). 32 In German law, for example, it is suggested that the existence of market pressure towards implementation lends a quasi-mandatory quality to corporate governance principles. However, since they are created outside proper law-making procedures, they lack a proper legal basis and hence are unconstitutional. Consequently, any legal provision (such as AktG § 161) forcing companies to disclose the extent of their adherence to such principles must also be unconstitutional. See P. Hommelhoff and M. Schwab, ‘Regelungsquellen und Regelungsebenen der Corporate Governance’, in P. Hommelhoff, K.J. Hopt and A. von Werder, Handbuch Corporate Governance (Cologne, Dr. Otto Schmidt 2003) p. 51 at pp. 58-60; W. Seidel, ‘Der Deutsche Corporate Governance Kodex – eine private oder doch eine staatliche Regelung?’, ZIP (2004) pp. 285-294 at p. 291. The opposing view is that enterprises are under many different economic pressures regarding their conduct and that the existence of such pressure does not mean that there exists a legal obligation to behave in that way. Companies choose to
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However, the existence of a pressure to implement corporate governance principles cannot be said to result in a legal obligation to comply. Many different economic factors may force companies to act in a certain way. This does not mean that companies are at the same time under a legal obligation to act in a specific manner. The fact that non-compliance with corporate governance principles may produce certain financial results does not give them a legally binding quality. Furthermore, depending on the evolution of the corporate governance debate, the market reaction to non-compliance with corporate governance principles may change in time, thus changing the level of the pressure to comply. Currently, there is no uniform belief as to what ideal corporate governance principles are. There are numerous codes worldwide and differences exist in so-called ‘best practices’. This means that as more data become available on the effect of corporate governance principles on company performance, the value attached to the application of the principles may vary. Therefore, the market pressure may not always exist in the same level. In addition, using market forces to direct companies to act in a way which is deemed to be in the best interests of investors and using disclosure requirements as a tool to achieve such a result cannot be deemed illegal. Consequently, Article 22(e) of the CML granting the CMB powers to determine principles of disclosure seems to be a sufficient legal basis for the CMB to mandate listed companies to issue a corporate governance compliance report.33 The question as to whether the CMB is competent to mandate the disclosure of a corporate governance compliance report will become obsolete if the Draft TCC is adopted. The Draft TCC contains a provision granting the CMB the power to determine corporate governance principles and also requires the board of directors to issue a compliance report. Mandatory disclosure of a corporate governance compliance report will improve the effectiveness of the Principles and assist in increasing the clarity and comparability of disclosure. However, the quality and depth of the disclosure will still be up to the board of each company preparing the report, as the CMB’s standard report format only prescribes the minimum content that must be included. ——————————————————
adhere to corporate governance principles of their own free will, hence corporate governance principles are not unconstitutional. See J. Semler, Münchener Kommentar zum Aktiengesetz, Vol. 5/1, 2nd edn. (Munich, Beck 2003) § 161, paras. 44-45; H.-M. Ringleb, in H.-M. Ringleb, T. Kremer, M. Lutter and A. von Werder, Deutscher Corporate Governance Codex Kommentar, 2nd edn. (Munich, Beck 2005) prefatory note, para. 51 et seq. Following the same line of reasoning, compulsory disclosure of corporate governance compliance cannot be unconstitutional. The tendency in the European Union is also to introduce compulsory disclosure requirements, as indicated by the statement of the European Corporate Governance Forum and Commission Recommendation 2005/162/EEC of 15 February 2005 on the role of nonexecutive and supervisory directors. 33 However, see n. 30 above regarding the type of act that should have been used for this purpose.
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3.3
Liability for the corporate governance compliance report
3.3.1
In general
The obligation to issue a corporate governance compliance report raises the question as to whether the company or the board of directors preparing the report may be held liable for any damages that may be caused due to such report. The existence of such a liability would force directors to apply a higher degree of care in the preparation of such reports, which may add to the effectiveness of corporate governance principles.34 3.3.2
Liability for non-compliance with the Principles?
Could directors be held liable for their choice not to comply with the Principles? Under Turkish law, directors are liable towards the company, its shareholders and even creditors for failure to fulfil any duty that is imposed on them by law.35 This liability is in principle aimed at compensating damages that are caused to the company. Shareholders and creditors can sue directors by using a derivative right of action stemming from the company’s right of action, in order to claim the damages suffered by the company.36 It is also generally accepted that shareholders and creditors have a right of direct action against board members to claim damages that they have suffered directly and not as a result of a reflection of the company’s damages on their own assets.37 As stated above, liability is caused by breach of a duty imposed by law. The concept of ‘law’ is broad enough to cover not only the TCC but also the CML.38 Duties stemming from the binding communiqués and decisions of the CMB may also be included under the concept of ‘duty imposed by law’. However, as the Principles are not a part of binding law and there is no legal obligation to comply, ——————————————————
34 Similarly, the European Corporate Governance Forum states that one of the prerequisites for providing effective application of the comply-or-explain system is the existence of ‘a way for shareholders to hold company boards (unitary or dual) ultimately accountable for their decisions to comply-or-explain and the quality of their disclosures.’ 35 Art. 336/I(5) TCC: ‘Directors are not personally liable for the contracts and transactions they conclude in the name of the company. However, in the cases stipulated below, they are jointly and severally liable to the company, individual shareholders and creditors of the company: … 5. Failure to carry out, wilfully or due to negligence, any other duties imposed on them by law or the articles of association.’ 36 Art. 309 TCC. 37 See M. Helvacı, Anonim Ortaklıkta Yönetim Kurulu Üyesinin Hukuki Sorumluluğu, 2nd edn. (Istanbul 2001) p. 151; E. Çamoğlu, R. Poroy and Ü. Tekinalp, Ortaklıklar ve Kooperatif Hukuku, 9th edn. (Istanbul 2003) N. 609; F. Tekil, Anonim Şirketler Hukuku (Istanbul 1998) pp. 208-209; H. Pulaşlı, Şirketler Hukuku (Istanbul 2001) p. 478. 38 Helvacı, op. cit. n. 37, at p. 100.
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the board cannot be held liable for non-compliance with any of the Principles. In fact, making corporate governance principles mandatory would run counter to the goal of achieving flexibility. 3.3.3
Liability for non-disclosure or wrong or misleading information
Could liability be caused by a failure to issue the report or by issuing a report that contains wrong or misleading information? Article 339 of the TCC contains a specific provision stating that directors will be liable for damages they cause to third persons by deceiving them through giving out wrong information or creating false impressions about the current situation of the company. This could especially happen if investors buy shares depending on this information. Some authors are of the opinion that withholding information may also be viewed as coming under this article.39 If it can be proven that withholding information deceived third persons, then this provision may indeed be applied, since withholding information could constitute an act of creating false impressions. However, non-disclosure of the corporate governance report cannot be deemed to constitute a deceitful act of creating a false impression, as the information which should be contained in the report actually relates only to voluntary applications, from which the company may totally abstain if it deems this appropriate in its own discretion. Furthermore, it would be difficult to imagine that any damages would occur due to the absence of a report. However, directors may be held liable if the report contains wrong or misleading information about the company. 3.3.4
Burden of proof
Article 339 establishes a source of tort liability 40 and hence lays the burden of proof on the claimant to prove that the directors were at fault, that the claimant was deceived, that he suffered damage and that his damage was caused by the deceitful behaviour of the directors. In other words, the claimant must prove that the information contained in the corporate governance report was wrong or deceptive, that this wrong or deceptive information played a substantial role in his decision to acquire the shares, that is to say, that he would not have acquired them .
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39 H. Domaniç, Anonim Şirketler Hukuku ve Uygulaması, TTK Şerhi II (Istanbul 1988) p. 671; Helvacı, op. cit. n. 37, at p. 97. 40 Domaniç, op. cit. n. 39, at p. 672; T. Ansay, Anonim Şirketler Hukuku (Ankara 1982) p. 140; T. Atan, Anonim Şirketlerde İdare Meclisi Azalarının Hukuki Mesuliyeti (Ankara 1967) pp. 120-121; H. Arslanlı, Anonim Şirketler (Istanbul 1959) Vol. II, p. 172; E. Çamoğlu, Anonim Ortaklık Yönetim Kurulu Üyelerinin Hukuki Sorumluluğu (Ankara 1972) p. 18; İ. Doğanay, Türk Ticaret Kanunu Şerhi, 4th edn. (2004) Vol. I, Art. 339.
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had the company’s corporate governance report contained correct information, that he sustained damage by buying the shares (presumably in the form of a decrease in the market value of the shares) and that this damage was caused by the fact that the corporate governance report contained wrong information about the company.41 It seems that all of these points are rather difficult to prove. Firstly, investors buy for a mix of reasons, the corporate governance system of a particular company being only one of them. Compared with other important factors, such as the return on investment provided by the company, the corporate governance system may play a secondary, non-decisive role. Some other investors buy in a speculative way for short term gains, which means that the corporate governance system of the company is irrelevant to their investment decision. One of the ways the claimant may prove the decisive role of the corporate government system in his decision is by showing that he systematically only buys the shares of companies that comply with corporate governance principles.42 The other difficulty is to prove that the wrongfulness of the information was the cause of the decrease in the market value of the share and hence the cause of the damage. As markets can be affected by many different factors, ranging from political to economical to corporate, it may not be easy to prove that a decrease in share value was caused specifically by the wrongfulness of the corporate governance declaration. 3.3.5
Standing to sue
It should also be added that the above-mentioned liability cannot be claimed by existing shareholders who already held shares before the wrongful information was given, since the liability is recognised only to compensate against damages caused by the act of deception. A shareholder who had acquired shares before the wrongful corporate governance report was issued cannot claim to have been deceived by the report in his decision to purchase. In addition, a decrease in market value of the shares is a ‘pure economic loss’, which cannot be compensated without the breach of a specific legal rule that aims
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41 Cf., Doğanay, op. cit. n. 40, Art. 339; Domaniç, op. cit. n. 39, at p. 672; Atan, op. cit. n. 40, at p. 121. The conditions for this liability are similar to those applied in Swiss law for Vertauenshaftung or liability for breach of confidence. See G. Giger, Corporate Governance als neues Element im Schweizerischen Aktienrecht, (Zürich, Schulthess 2003) p. 145. In German law, similar conditions are applied to liability for the corporate governance compliance report under the principles of ‘general civil law liability for prospectuses’. See M. Lutter, ‘Kodex guter Unternehmensführung und Vertauenshaftung’, in R.J. Schweitzer, H. Burkert and U. Gasser, eds., Festschrift for Jean Nicholas Druey zum 65. Geburtstag (Zürich, Schulthess 2002) pp. 463-478. 42 Giger, op. cit. n. 41, at pp. 150-151; Lutter, loc. cit. n. 41, at p. 477.
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at protecting against that loss.43 Shareholders’ pecuniary rights 44 do not include a right regarding the maintenance of the market value of the shares. Hence, existing shareholders cannot sue the management for such a loss.45 The obligation to prepare a corporate governance compliance report is also not an obligation that aims at protecting the rights of individual shareholders.46 It is simply a means to encourage companies to behave in line with what are deemed to be best practices by disclosing the company’s governance practices to public review. Therefore, a breach of this obligation may not be a legal basis for liability outside the scope of Article 339, unless other specific causes for liability exist.47 .
3.3.6
Liability of the company?
The company itself may also be held liable by investors for the release of wrong or misleading information, as it has a liability for the tortuous conduct of its directors (Art. 321/V TCC).48
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43 Giger, op. cit. n. 41, at p. 158. Cf., F. Eren, Borçlar Hukuku Genel Hükümler, 8th edn. (Istanbul 2003) p. 556; M. Kılıçoğlu, Sorumluluk Hukuku, Vol. I (Ankara 2002) pp. 28-29. 44 Shareholders’ pecuniary rights contain the right to dividends, the pre-emptive right to acquire new shares and the right to acquire a share of liquidation proceeds. 45 Cf., Giger, op. cit. n. 41, at pp. 158-159. 46 In German law, for example, the Aktiengesetz (§ 161) requires the management and supervisory board to prepare a corporate governance compliance report disclosing to what extent the company complies with corporate governance principles. However, it is generally stated the board cannot be held liable by shareholders/investors for failing to prepare a corporate governance compliance report, since a violation of this rule does not amount to a violation of a Schutzgesetz (i.e., a legal rule that aims at protecting the legally recognised interests of an individual). The legal requirement for preparing such a report does not have the objective of protecting the interests of each individual shareholder but of generally increasing confidence in the capital markets or in the relevant company and is directed towards an indefinite group of persons. Each individual shareholder may indirectly benefit from disclosure if better governance is thus achieved. See Semler, op. cit. n. 32, at § 161, para. 210; Hommelhoff and Schwab, loc. cit. n. 32, at p. 69; H. Fleischer, Handbuch des Vorstandsrechts (Munich, Beck 2006) § 14, para. 54; J. Buchta, ‘Verantwortlichkeit und Haftung’, in J. van Kann, Vorstand der AG (Berlin, Erich Schmidt Verlag 2005) p. 119, para. 287. For Turkish law, Kaya states that rules concerning public disclosure have a different purpose than rules concerning the individual shareholder’s right to information. Public disclosure required by capital market law is addressed to an indefinite group of persons and has the purpose of protecting all stakeholders, such as potential investors and creditors, rather than solely existing shareholders. Their primary purpose is to provide the public with information and to protect investors and creditors against potential deceit. See A. Kaya, Anonim Ortaklıkta Pay Sahibinin Bilgi Alma Hakkı (Ankara 2001) p. 28 et seq. 47 For example, liability for damages caused intentionally by breach of the duty to act in good faith, as regulated by Article 41/II of the Turkish Code of Obligations (comparable to Art. 41/II of the Swiss Code of Obligations or § 826 of the German BGB). 48 Helvacı, op. cit. n. 37, at p. 97; Atan, op. cit. n. 40, at p. 121.
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TURKISH CORPORATE GOVERNANCE PRINCIPLES
In this section, the Turkish corporate governance principles are explained in detail and in comparison with the OECD principles. The CMB Principles contain recommendations that build on the existing law contained in the TCC, the CML and the communiqués of the CMB. Therefore, the CMB Principles are explained together with the relevant rules of statutory law. 4.1
Shareholders
4.1.1
Right to secure methods of ownership registration
According to the OECD Principles, the right to secure methods of ownership registration is one of the basic shareholder rights. This right has been recognised and regulated in the TCC, according to which registered shares must be recorded in the company’s share registry. Keeping a proper record is important since only those shareholders who appear in the share registry can claim rights against the company (Art. 417 TCC). However, the company’s share registry is not conclusive. In the case of a dispute, a court order can be obtained declaring the legitimate owner of the share.49 The situation is different for listed companies. Since November 2005, share transfers of listed companies are carried out via the Central Registration Agency (Art. 10/A CML).50 Companies are no longer required to issue share certificates. The dematerialisation of shares traded on the stock exchanges is planned to be gradually achieved until the end of 2007, whereafter the ownership of shares bought and sold on the stock exchanges will be determined solely according to the records of the Central Registration Agency. 4.1.2
Right to convey or transfer shares
Another basic shareholder right mentioned in the OECD Principles is the right to convey or transfer shares. The shares of a joint stock company can be registered in a person’s name or issued to the bearer. Bearer shares can be transferred without any restriction, while the TCC permits transfer restrictions for registered ——————————————————
49 Y. 11. HD, 26 November 1985, E. 5289, K. 6428; E. Moroğlu and A. Kendigelen, Türk Ticaret Kanunu ve İlgili Mevzuat, 8th edn. (Istanbul, Beta 2004) Art. 417; Y. 11. HD, 4 February 2002, E.2002/8633, K.2002/877, YKD C.28, S.11, 2002, 1165, 1167; Ş. Narbay, Anonim Ortaklıkta Pay Defteri (Ankara 2003) pp. 359, 361. 50 Merkezi Kayıt Kuruluşu (). This agency was established in September 2001. It began its activities in June 2002. However, trading through the Central Registration Agency effectively began on 28 November 2005. Previously, trading was done electronically via Takasbank, a clearing and deposit bank where issuers deposited their share certificates for safekeeping.
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shares. Such restrictions can be stipulated in the statutes of the corporation. Additional restrictions may be imposed by shareholder agreements, although such restrictions may be difficult to enforce due to the purely contractual nature of the restriction.51 In practice, restrictions are often stipulated in the articles of association in the form of a requirement for board or shareholder approval for the transfer and may be supplemented by rights of first refusal or put or call options. Such restrictions are not compatible with the functioning of the stock market where high volumes of sales take place electronically in very small amounts of time. Therefore, restrictions on the transferability of shares are not permitted by the CMB 52 or the ISE.53 However, according to the 2004 CMB Survey, 23 per cent of listed companies stated that their company’s articles of association contained provisions that may subject share transfers to certain requirements.54 .
4.1.3
Right to obtain relevant and material information
4.1.3.1
In general
One of the basic shareholder rights mentioned in the OECD Principles is the right of the shareholders to obtain relevant and material information on the corporation on a timely and regular basis. The shareholders’ right of information is regulated in a very basic way in the TCC, and no efficient functional mechanisms are provided to guarantee effective enforcement of this right. The general rule is that the board’s annual report and the company’s financial statements should be made available for inspection by the shareholders before the annual general assembly (Art. 362 TCC). In addition, shareholders may demand information from auditors or ask for permission of the general assembly or the board to examine the company’s books, records and correspondence (Art. 363 II TCC). However, current TCC provisions provide no standard with regard to the quality and content of the information to be supplied and contain no sanctions in the event that such requests are turned down. The CMB Principles try to improve the shareholders’ right of information by introducing both quality standards regarding the disclosed information and mechanisms aimed at facilitating communication with shareholders.
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51 Enforcement problems occur when shares are transferred in breach of shareholders agreements to third persons acting in good faith. For further information on transfer restrictions imposed by shareholders agreements, see G. Okutan Nilsson, Anonim Ortaklıklarda Paysahipleri Sözleşmeleri (Istanbul, Çağa Hukuk Vakfı 2004) p. 208 et seq.; M. Bahtiyar, Anonim Ortalık Anasözleşmesi (Istanbul, Beta 2001) p. 239 et seq. 52 Communiqué Series I No. 26, Art. 5. 53 Istanbul Stock Exchange Quotation Rules, Art. 13g (). 54 Such restrictions possibly relate to shares that are not traded on the stock market.
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First of all, the Principles urge companies to provide all information that would be necessary for shareholders to exercise their rights in an efficient way. It is further provided that the information presented must be complete, should give a true and fair view of the facts and should be presented in a timely and diligent manner (I/2.1.1). In addition, there should be no discrimination among the shareholders when exercising their right to obtain and evaluate information. The main occasion on which shareholders can exercise their right to information is the general assembly. The CMB Principles therefore set out very detailed rules on how shareholders must be given the opportunity to ask questions and receive satisfactory answers at the general assembly. They also point to specific matters regarding which the company must inform the shareholders, such as impartial, clear and understandable information on each item of the agenda, proposed changes to the articles of association and their reasons, explanations with regard to any past or planned changes in the management or organisational structure of the company or its subsidiaries or clarification of any controversial news regarding the company in the media (I/3). According to the OECD Principles, shareholders should be given the opportunity to ask questions to the board. Likewise, the CMB Principles state that board members, auditors and authorised persons who are in a position to inform shareholders about particular agenda items should all participate in the meeting (I/3.4.7).55 However, no sanctions or enforcement mechanisms are provided in the legislation in case questions are not answered in a satisfactory manner, although the Principles do state that ‘the shareholders’ right to obtain information simultaneously refers to the obligation of the board of directors and auditors to provide such information.’ According to the Principles, the limit of the obligation to provide information is the protection of trade secrets and the company’s interests.56 The Principles introduce a channel that may effectively facilitate the shareholders’ ability to obtain information. Each company is required to set up a shareholder relations unit which will be responsible for keeping proper, secure and up-to-date records of shareholders; responding to the shareholders’ written ——————————————————
55 Although the TCC does not mandate directors to be present at general assembly meetings, a regulation of the Ministry of Industry and Commerce regarding the procedure to be followed at general assemblies also requires the board of directors and auditors to be present (‘Sermaye Şirketlerinin Genel Kurul Toplantıları ve Bu Toplantılarda Bulunacak Sanayi ve Ticaret Bakanlığı Komiserleri Hakkında Yönetmelik’, m. 20, R.G. 7 August 1996, 22720). 56 CMB Principles, I/2.1.5. The Draft TCC also limits the freedom of information with trade secrets and protection of company’s interests. However, it entitles the shareholders to have recourse to the courts in cases where information is turned down as a trade secret. In such suits, courts will have to decide whether the information requested can be classified as a trade secret. If the court finds otherwise, the company will be forced to reveal it (Art. 437 Draft TCC).
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queries for information regarding the company, excluding confidential information and commercial secrets; ensuring that the general shareholders’ meetings are conducted in accordance with the law and that all resolutions of the general shareholders’ meeting are reported to the shareholders; and, finally, carrying out the supervision and surveillance of all issues concerning public disclosure (I/1.1.2). The 2004 CMB Survey revealed that 50 per cent of companies whose shares are traded on the ISE have already set up a shareholder relations unit.57 CMB Principles also mention the right to appoint special auditors as a way of gathering information. By way of pure recommendation only, the Principles state that each individual shareholder may be given the right to demand the appointment of special auditors. However, the Principles point out that if the company does not voluntarily accept this request, not each individual shareholder but only those holding at least 5 per cent of the equity and thus technically constituting the ‘minority’ can have the request enforced by courts, as regulated by Article 348 of the TCC and Article 11/8 of the CML. 4.1.3.2
Consequences of failure to provide requisite information
The Principles contain certain provisions regarding the legal consequences of failure to provide requisite information. It is stated that where a shareholder does not receive information that gives a true and fair view of the facts and is prepared and presented in a timely and diligent manner, ‘such shareholder will not be deemed as having approved the company’s financial statements and released the board of directors from liability even though he/she may have voted affirmatively at the general assembly.’ (I/2.1.2). It is added that such a shareholder will not be hindered from suing the company for the annulment of the relevant general assembly resolution or from suing board members or other persons for their liability (I/2.1.2). This provision, which deals with the shareholders’ right of action, cannot have any legal effect, since the legal consequences of voting, conditions for annulment of general assembly resolutions and legal standing of shareholders in annulment cases can only be determined by statute and not by ‘soft law’ provisions such as the Principles. However, this provision may help to interpret and expand the application of the law. With regard to this matter and the effect of the misinformed shareholder’s vote on the decision to discharge, the TCC contains the following rule. The approval of the balance sheet at the general assembly releases the liability of board members, managers and statutory auditors. However, in the event that certain matters are not reflected on the balance sheet, or the balance sheet conceals the true state of the company, board members, managers and auditors will not be deemed to be discharged by the approval of the balance sheet (Art. 380 TCC). ——————————————————
57
This ratio was 81 per cent for ISE 30 Index companies.
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The above-mentioned provision of the Principles seems to be a restatement of this provision. However, it should be noted that the TCC’s provision only regulates the indirect discharge of the directors and auditors, that is, discharge through approval of the financial statements. If the matter of discharge is voted upon as a separate item of the agenda, it is not clear whether discharge can be deemed not to have been granted, where later evidence proves that insufficient information had been provided. In such cases, courts should interpret the TCC in a broad manner and in line with the principle laid down by the Article 380 of the TCC and the above-mentioned provision of the CMB Principles and prevent the discharge. In addition, the Principles state that if the shareholder was misinformed, the fact that he voted in favour of a proposal approving the financial statements and discharge will not hinder him from suing the company for annulment of the relevant general assembly resolution. This proposition, however, may not have any legal effect due to Article 381 of the TCC, which clearly restricts the legal standing of shareholders in annulment cases. According to Article 381, if a shareholder was present at a general assembly, he can only sue for the annulment of a resolution passed at that meeting if he voted against the resolution and had his opposition recorded in the minutes of the meeting.58 It seems that due to the clear restriction on legal standing, the above-mentioned provision of the CMB Principles cannot be enforced by the courts. However, one way of achieving the same goal may be by having the vote annulled, rather than the resolution of the general assembly. Votes, as declarations of will, are subject to annulment if the person giving the vote erred in his will due to a fault, deceit or threat.59 The fact that the financial statements of the company did not reflect the truth would amount to a faulty judgement on the side of the shareholder, and he could cancel his vote under the provisions of the Code of Obligations. If sufficient votes were thus affected and cancelled, the general assembly resolution on discharge could be declared null and void.60 The right to information is closely supported by requirements on disclosure, which are explained further below. 4.1.4
Right to participate in and vote at general shareholder meetings
The CMB Principles contain very detailed rules on the procedure for convening the shareholders’ meeting, which is regulated in essence by the TCC. The novelties introduced by the Principles are the recommended use of electronic means for invitation, prolonging the notice period to three weeks in advance of ——————————————————
58 Furthermore, the case must be opened at the latest within three months of the adoption of the resolution (Art. 381). 59 Çamoğlu, Poroy and Tekinalp, op. cit. n. 37, at para. 615a. 60 Ibid.
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the meeting rather than the two-week period prescribed by the TCC, and guidelines on the preparation of the agenda (I/3.4). It is also stated that, in line with the OECD Principles, considerable attention must be paid to issues that shareholders wish to include on the agenda, including issues raised at the shareholder relations unit. However, it should be pointed out that not individual shareholders but only shareholders holding a minimum of 10 per cent of the shares (the ‘minority’) have an enforceable right to have items included on the agenda (Art. 366 TCC). The conduct of the meeting is also handled by the Principles, which state especially that shareholders should be provided with equal opportunities to express their opinions and raise questions and that a healthy discussion environment should be created (I/3.4). Both the OECD Principles and the CMB Principles urge the company to decide on certain important matters affecting its business or financial situation at shareholders’ meetings. Under the TCC, only resolutions concerning the amendment of the articles of association, the increase or decrease of capital, the approval of the budget and the distribution of profits are required to be passed at the shareholders’ meeting. The CMB Principles, however, encourage other matters such as leasing, the acquisition or disposal of substantial assets, donations, the granting of mortgages or other securities in favour of third parties and so forth to be decided not at board level but at shareholder meetings (I/3.6). Due to the existence of controlling blocks of shareholders, such shareholder approval could in fact easily be obtained.61 Nonetheless, bringing such matters to shareholder meetings could give the minority a chance to be informed and ask questions about important asset transactions before they are completed. The general aim of the Principles is to increase the participation of the shareholders at the general meeting and to let them use their votes. It is therefore stated that any actions that may complicate the use of voting rights must be avoided and that each shareholder should be given the opportunity to exercise his voting rights, including cross-border voting, in the most appropriate and convenient manner.62 Under Turkish law, it is possible to vote in absentia by giving a power of representation (proxy) to a third person. According to the Principles, companies should not make the process of giving such power of representation unduly difficult. Under the TCC’s one share-one vote principle, all shareholder’s have equal rights to vote. However, it is permitted to derogate from this principle by granting special voting rights or other privileges to certain classes of shares, which may distort the balance of power and distribution of control. The CMB does not favour such privileges or class rights in listed companies, and the Principles advocate abstinence from granting voting privileges, although they are not completely ruled ——————————————————
61 62
IIF Task Force Report, op. cit. n. 21, at p. 11. The reference to cross-border voting was introduced during the 2005 update (I/4.2).
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out.63 It is also stated that ceilings should not be imposed on the number of votes that a shareholder may exercise during the general shareholders’ meeting. 4.1.5
Right to elect and remove members of the board
The Turkish joint stock company has a one-tier board whose members are elected by a simple majority at the shareholders’ meeting. As stated immediately above, the force gained by the vote attached to each share may be distorted through the granting of special rights to a class of shareholders. One of the most frequently used special class rights is the right to nominate directors to the board. Under the case law of the Turkish Court of Appeal,64 in cases where a special right is granted to a certain class of shares to nominate a certain number of directors, the general shareholders’ meeting has to elect that number of directors from the persons nominated by that class of shareholders.65 Therefore, this type of class right enables a certain class of shareholders to nominate and, in effect, elect as many board members as they are entitled to, regardless of the percentage of their participation in equity. The granting of such a class right may be used as a tool to reinforce or expand the powers of controlling shareholders or may give a minority group of shareholders a right of representation disproportionate to their capital contribution, which in turn may enable a minority to create a controlling block. In each case, the effect may be different.66 Shares that grant such a class right are usually sold at a higher price than ordinary stock. The current TCC has no restrictions on the granting of special class rights,67 while the CMB Principles discourage the use of the right to nominate directors in an unfair way.68 In ——————————————————
63 The Principles state that privileges on voting rights should in principle be avoided. However, if they exist, they should be regulated in a simple way that does not hinder shareholders from understanding what rights they actually have (I/4.5.2). 64 The Court of Appeal is the highest civil court in Turkey. It is required to hear all appeals that are made to it. The grounds of appeal are restricted to the wrong application of the law or the relevant contract, lack of jurisdiction of the court or breach of procedural rules, wrongful evaluation of the facts of the case, wrongful denial of evidence or the existence of conflicting rulings from two different courts. 65 Y. 11. HD, 16 October 1979, E. 79/4286, K. 79/4769; Y. 11. HD, 7 July 1998, E. 98/3462, K. 98/5229; Moroğlu and Kendigelen, op. cit. n. 49, Art. 401. 66 In closed companies, the right to nominate directors is often employed in joint ventures set up by two or more blocks of shareholders, with the help of which minority groups may gain a right of representation that they would otherwise not have under the one share-one vote principle. This type of use helps to install a more democratic representation in the company’s management. 67 For listed companies, the Draft TCC restricts the number of directors that may be elected through such a special class right to two-thirds of all the directors (Art. 360). 68 ‘Shareholders of preferred stock should not have the privilege to nominate in a way that would distort the fair representation of holders of publicly traded shares in the management of the company.’ (I/4.5.1).
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practice, according to the 2004 CMB Survey, 42 per cent of listed companies have provisions in their articles of association granting class rights to nominate board members.69 One method of facilitating minority representation at board level is the use of ‘cumulative voting’, whereby rather than holding a separate vote for each director, voting is held at once for all directors. In this way, shareholders may strengthen the effect of their votes by cumulating them on as many nominees as they wish.70 This system may enable minority groups to send directors to the board, depending on the size of the board and the percentage of shares held by the minority. The legal recognition of cumulative voting is seen as an indicator of a good corporate governance system.71 In Turkish law, the CMB introduced this system in 2003, giving publicly held companies a right to opt for cumulative voting.72 The Principles state that ‘priority should be given to the use of cumulative voting in the election of the board of directors.’ However, according to the 2004 CMB Survey, less than 1 per cent of companies listed on the Istanbul Stock Exchange have opted for this system.73 ——————————————————
Also, according to the IIF Task Force Report on Corporate Governance in Turkey, op. cit. 21, at p. 8, ‘the widespread use of multiple voting rights for founders or privileged shares is one of the principle mechanisms for maintaining family control.’ 70 For example, in a situation where a total of 100 shares each granting one vote are distributed between two groups at a ratio of 40 to 60 per cent and three directors are to be elected, if a separate vote were to be taken for each director, the majority group would overcome each time by 60 votes to 40 votes. Thus the majority would be able to determine all of the directors, even though it only held 60 per cent of the capital. However, under the cumulative voting system, votes that would otherwise be used per director may be cumulated, whereby the minority group would have 120 votes and the majority would have 180. In this system, all votes would be given at the same time and the three nominees obtaining the highest number of votes would be elected. Hence, by cumulating their votes on one nominee, the minority group would also have the opportunity to have a director elected, since the majority would not be able to distribute their 180 votes to exceed 120 votes for each of the three directors. 71 R. La Porta, F. Lopez-de-Silanes, A. Shleifer and R.W. Vishny, ‘Law and Finance’, 106 The Journal of Political Economy (1998) pp. 1113-1155 at p. 1127. Cf., n. 73 below. 72 Communiqué Series IV No. 29 of 18 February 2003. An amendment to the communiqué in December 2003 left the adoption of cumulative voting optional for listed companies, but made it compulsory for companies which, despite being non-listed, have more than 500 shareholders. As a general rule under Article 11 CML, companies that have more than 250 shareholders are deemed publicly held and are subject to capital market law, even if they may not be listed (see n. 24 above). However, cumulative voting is compulsory for companies that have more than 500 shareholders. 73 The frequency with which companies actually adopt the cumulative voting system seems to be rather low, also in other countries like the United States. Therefore, the criticism is advanced that the mere recognition of this voting system in the law of a particular country may not necessarily be an indicator of the existence of a good corporate governance system. See N.L. Georgakopoulos, ‘Statistics of Legal Infrastructures: A Review of the Law and Finance Literature’, 8 American Law and Economics Review (2006) pp. 62-80 at p. 73. 69
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Right to share in the profits of the corporation
The shareholders’ right to share in the profits of the corporation has been a problematic issue under Turkish law. The resolution concerning profit distribution is adopted at the general assembly by simple majority, which means that the majority may decide not to distribute any profit at all. In such cases, having recourse to the court to demand the distribution of profits does not prove fruitful, as shareholders do not have a right of action under the TCC to force the company to distribute dividends. Although courts can annul unfair general assembly resolutions preventing the distribution of profits,74 they do not have the power to replace the general assembly and take a positive decision for the distribution profits. For listed companies, however, capital market legislation requires the distribution of at least 20 per cent of net profit.75 In addition, the CMB Principles state that the company should have a clearly defined and consistent dividend policy, which should be announced to the shareholders at the general shareholders’ meeting and should also be included in the company’s annual report, prospectus and circulars (I/6). In cases where the board of directors proposes not to distribute any dividends at the general shareholders’ meeting, the basis for this proposal and information on how the undistributed profit shall be used should also be announced in the same way (I/6.3). In practice, according to the 2004 CMB Survey, 75 per cent of listed companies do not yet have a disclosed profit distribution policy. 4.2
Equitable treatment of shareholders
4.2.1
Equal treatment of all shareholders of the same class
The CMB Principles state that all shareholders must be treated equally, including minority shareholders and foreign shareholders. The principle of equal treatment of shareholders is already acknowledged in the Turkish doctrine,76 even though it is not regulated in the TCC.77 The CML contains a provision on the equal treatment of shareholders when the board of directors limits their right to acquire new shares (Art. 12/4 CML). Accordingly, resolutions of the board may be ——————————————————
74 HGK, 24 November 1969, E. 69/7-1396, K.847 (donations to a political party are an illegitimate means of diminishing profit); Y. 11. HD, 19 June 1984, E. 84/2597, K. 84/3560; Y. 11. HD, 28 September 1992, E.92/2334, K. 92/9298 (although the general assembly has the power to decide not to distribute any profit, it may only do so for reasons shown in the law). All cases cited by Moroğlu and Kendigelen, op. cit. n. 49, Art. 469. 75 Communiqué Series IV No. 27, Art. 5. 76 Tekinalp, Poroy and Çamoğlu, op. cit. n. 37, at para. 887; F. Nomer, ‘Eşit İşlem İlkesi’, İmregün’e Armağan (Istanbul 1998) p. 469; Ş. Yıldız, Anonim Ortaklıklarda Pay Sahipleri Açısından Eşit İşlem İlkesi (Ankara 2004). 77 The Draft TCC on the other hand does contain a regulation stating that shareholders will be treated equally under equal conditions (Art. 357).
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annulled if they restrict the shareholders’ right to acquire new shares in an unequal way. With regard to foreign shareholders, previous legal constraints such as the requirement to obtain state permission for foreign investment and the requirement for a minimum amount of investment have been revoked.78 Current Turkish legislation does not impose any limitations on foreign shareholders’ rights to acquire or dispose of shares or to transfer dividends. 4.2.2
Protection of minority shareholders
Technically speaking, under the TCC, ‘minority shareholders’ are those shareholders who own a minimum of 10 per cent of share capital. Securities law decreases this ratio to 5 per cent for publicly held companies (Art. 11/8 CML). The rights granted by the TCC to such ‘minority’ groups include the right to ask statutory auditors to investigate allegations, the right to have special auditors appointed, the right to call a shareholder’s meeting or to insert items on the agenda, the right to veto the release of director’s liabilities due to their transactions during the incorporation of the company and the right to ask the company to sue the directors for their liability. Although these traditional minority rights are often criticised as being insufficient, the Principles cannot provide much improvement in this matter, as new rights for the minority can only be created by law.79 Therefore, the CMB Principles suffice by stating that the company shall show diligence in letting the minority groups avail themselves of their rights (I/5). By way of recommendation only, the Principles suggest an improvement of those rights through the establishment of new minority rights in the articles of association (I/5). 4.2.3
Prohibition of insider trading and abusive self-dealing
4.2.3.1
Insider trading
The OECD Principles recommend the prohibition of insider trading and state that in many countries insider trading is treated as a crime. Under Turkish law, insider trading is also prohibited by capital market law and leads to criminal sanctions. Chairman and members of the board of directors, managers, auditors or other personnel of issuers, companies controlling or controlled by issuers or capital ——————————————————
78 Law No. 4875 of 5 June 2003 on Direct Foreign Investments (RG, 17 June 2003, No. 25141). 79 The Draft TCC contains provisions aimed at increasing the effectiveness of existing rights and creates new minority rights such as a right of action for dissolution of the company on just grounds (Art. 531) and the right to demand the dismissal and reappointment of the independent external auditor on just grounds (Art. 399/IV).
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market institutions are among the primary groups of persons who may be involved. Furthermore, persons who may be in a position to obtain information due to their posts – and others who may obtain direct or indirect information through their contacts with them – may be treated as insiders (Art. 47 CML). The CMB Principles state that the company shall take all necessary measures to prevent insider trading. In order to allow third persons to monitor the risk of insider trading,80 the Principles require the company to disclose the list of managers and other persons whose services are obtained for the company and who may be in a position to obtain information that may affect the price of securities (II/5.2). Furthermore, in order to prevent manipulations of the share price, the Principles require directors, managers and shareholders directly or indirectly owning more than 5 per cent of a company’s equity or votes to disclose all transactions they perform with the capital market instruments issued by the company or its affiliates or other companies with which the company has substantial business relations (II/2.3). 4.2.3.2
Abusive self-dealing, conflicts of interest and related-party transactions
4.2.3.2.1 In general The OECD Principles call for the prevention of ‘abusive self-dealing’, which occurs when ‘persons having close relationships to the company, including controlling shareholders, exploit those relationships to the detriment of the company and investors’.81 The general principle aims at the disclosure and avoidance of situations in which managers or shareholders, either personally or because of related parties, may come into a conflict of interest with the company. According to the OECD Principles, members of the board and key executives should be required to disclose to the board whether they have a material interest – directly, indirectly or on behalf of third parties – in any transaction or matter directly affecting the corporation, since the existence of such an interest could influence their sound judgement. Therefore, the person who has an interest in the transaction is recommended not to be involved in the relevant decision or transaction. 4.2.3.2.2 Conflicts of interest Such conflicts of interest are regulated in these and other ways under Turkish company law. Firstly, directors are prohibited from carrying out any transactions with the company either in their own name or on behalf of others and pursuing ——————————————————
80 81
Paslı, op. cit. n. 2, at p. 207. OECD Principles, p. 44.
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any business competing with the company’s business, unless they obtain permission from the shareholder’s meeting (Arts. 395 and 396 TCC). The CMB Principles state that if such permission is granted, shareholders must be given information about the results of any transactions that are carried out by directors upon receiving such permission, which is a welcome improvement to the existing law (I/3.4.3). Secondly, board members are not allowed to participate in deliberations at board meetings over matters that relate to their own interest or to the interest of their relatives up to the third degree (Art. 332 TCC). In such cases, the board member must disclose his interest and abstain from taking part in the discussions or voting. Otherwise, he will be liable for any damage caused to the company due to the transaction in question. This principle also extends to shareholders, whose right to vote is restricted with regard to matters concerning their personal interest or the interests of their relatives (Art. 374/I TCC). Furthermore, shareholders who have taken part in the management may not vote for the discharge of directors (Art. 374/II TCC). Another instance of conflict of interest pertains to relations between managers and auditors. According to the TCC, relatives up to the third degree of members of the board of directors may not be appointed as auditors (Art. 349 TCC). The CMB Principles and securities legislation contain more detailed rules regarding independence of auditors, as explained below.82 4.2.3.2.3 Related-party transactions These regulations concerning conflicts of interest are unfortunately not sufficient to prevent the abuse of company assets. Such abuse may take place in many other ways, for example by letting the company get into transactions granting favourable non-market conditions to related persons, giving loans or loan guarantees or granting other corporate or financial opportunities. Such transfers of the company’s resources to third persons including the controlling shareholder are referred to by some researchers as ‘tunnelling’.83 The CMB Principles pay special attention to such related-party transactions and contain provisions regarding their disclosure. Firstly, the acquisition or ——————————————————
See section 4.4.2 below. Explained by the image of ‘removing assets through an underground tunnel’. See S. Johnson, R. La Porta, F. Lopez-de-Silanes and A. Shleifer, ‘Tunneling’, in K.J. Hopt and E. Wymeersch, eds., Capital Markets and Company Law (Oxford, Oxford University Press 2003) p. 611. This type of illegitimate abuse of company assets, usually conducted in favour of controlling shareholders, has unfortunately been witnessed all too frequently in Turkey, especially with regard to banks. The public press has labelled this behaviour as ‘hosing’ (hortumlama) as in using a hose to drain out the assets. Johnson, et al. show that such behaviour is not exclusive to emerging markets but also takes place in developed economies. 82 83
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disposal of shares by an individual or group of shareholders beyond certain thresholds 84 must be disclosed to the public as soon as such information is received by the company (II/2.1). If any voting agreements come to the company’s knowledge, these must also be disclosed, as voting agreements can create controlling blocks. In addition, the ultimate real person shareholders must be revealed. Since flotation levels in Turkish companies are low and even listed companies are ultimately held by families or natural persons, the CMB deems that the public has a right to know the real owner of a listed company. This helps to identify the circle of related parties with whom the company might have business relations. This information is required to be included in the annual report and financial statement footnotes (II/2.2). In general, information should be provided on the legal and economic relations between the company and any natural or legal persons with whom the company may have a direct or indirect relationship regarding capital, management or audit (I/2.1.3). The Principles also require the disclosure of all transactions between the company and other companies which are controlled by the former’s directors, managers or shareholders owning more than 5 per cent of the shares or in which the same persons may have a capital participation of more than 5 per cent (II/2.5). These disclosure requirements are all in line with the OECD Principles.85 Secondly, the CMB Principles state that the company should not give direct or indirect loans to any directors and should not act as surety or give any guarantees or other security in the interest of directors (IV/4.4). There are no binding restrictions regarding such loans or guarantees under current Turkish company law.86 Finally, it should be added that, as a general rule, capital market law prohibits all methods of covertly transferring the company’s profits or diminishing the company’s assets. Article 15, final paragraph, of the CML states that public companies may not diminish their profit or assets by entering into disguised transactions with other enterprises or persons directly or indirectly related to the company by way of management, audit or capital, whereby prices or fees applied are substantially different to comparable transactions. Entering into such transactions leads to criminal liability under Article 47 of the CML. .
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84 These are: 5 per cent, 10 per cent, 25 per cent, 33 per cent, 50 per cent and 66,7 per cent. A 5 per cent shareholding constitutes a minority in public companies. Other thresholds may be important for quorums. 85 OECD Principles, p. 52. 86 The Draft TCC, however, prohibits any loans to be given by the company to directors (Art. 395) or shareholders (Art. 358). Furthermore, it is stated that transactions between the company and shareholders may only relate to the businesses of the company and shareholders (any transactions by shareholders for non-business purposes are therefore excluded) and may only be at arm’s length (Art. 358 Draft TCC).
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Stakeholder protection
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In line with the OECD Principles, the Turkish Corporate Governance Principles also contain a section on stakeholders. This section points to the interests of persons other than the shareholders, which the company should look out for while carrying out its activities. However, this part of the CMB Principles does not lay down detailed obligations, unlike the parts on shareholders or the board. Employees, customers, consumers and suppliers are mentioned specifically under the heading of stakeholders. In addition, it is stated that the company should pay attention to its social responsibility and respect the environment and public health. The company is also called to behave in an ‘ethical’ way and is even required to formulate and disclose its own code of ethics. According to the Principles, the company must respect the stakeholders’ rights established by law or through mutual agreements and provide effective redress in the case of a violation of these rights. If the rights of stakeholders are not regulated by law, the company must protect them in good faith within the limits of the company’s means, while also observing the company’s reputation. The company should also inform stakeholders about company policies and procedures concerning the protection of their rights. 4.3.2
Whistleblowers
Following the OECD Principles, an addition was made to the CMB Principles in 2005 regarding so-called ‘whistleblowers’. It is stated that the company must give all stakeholders, including employees and their representatives, the opportunity to communicate to the management their concerns about illegal or unethical company practices. It is further stated that the rights of these persons must not be compromised for communicating such concerns. 4.3.3
Employees
With regard to employees, Turkish law does not provide any mechanisms for their participation in company management. The participation of employees or other stakeholders in the management is a matter that is mentioned only by way of a recommendation in the Principles, that is to say, it is not one of the complyor-explain obligations. If the company so chooses, it may develop mechanisms supporting the participation of stakeholders, especially employees, in the management. However, no explanation must be given in the corporate governance compliance report in the case of a failure to do so. The Principles also include a section on the general rules that must be followed with regard to human resources policies. Accordingly, a company must
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treat all of its employees equally, grant them equal opportunities and not discriminate between them according to race, religion, language or gender. The fundamental rights of the employees must be respected, they must be given a safe working environment and they must be protected against physical and psychological maltreatment. The Principles also state that job definitions and performance criteria must be established and such criteria must be employed in determining payments and other benefits. Furthermore, the opinion of the employees and any relevant labour unions with regard to such issues as payment, career, training and health must be heard, and employees must be informed of any decisions or developments that may affect them. According to the 2004 CMB Survey, 56 per cent of listed companies have stated that they are applying mechanisms to allow employees to participate in company management. However, since no details were provided about these mechanisms, the extent to which employees can make an impact on company management is not known. Furthermore, 76 per cent of the companies stated that they have written procedures on recruitment and 82 per cent have training plans and programmes in place for the development of their employees. Seventy-four per cent of the companies stated that job descriptions, performance and promotion criteria have been established and announced to their employees. These figures show that listed companies pay attention to their human resources and apply established rules and procedures on recruitment, development and promotion. The same cannot be said, however, about corporate social responsibility, as the same survey revealed that only 33 per cent of the companies have a disclosed policy on social responsibility. 4.4
Disclosure and transparency
4.4.1
In general
The CMB Principles contain very detailed rules about disclosure and transparency. The main principle is that disclosure should be made on time and that information must be accurate and complete and presented in a clearly comprehensible and construable manner. Furthermore, equal and cost efficient access must be provided. Finally, information should be prepared in a way which will assist interested persons in their decision-making (II/1.1). According to the Principles, each company must set up a disclosure policy, setting out the ways and means that will be used to provide information to the public. In this context, the company must announce through which channels of information and how often announcements will be made, so that interested persons will be able to know how they can access information on that company. According to the 2004 CMB Survey, only 23 per cent of companies have such a disclosure policy in place.
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With regard to the content of information, the Principles contain various provisions that have been mentioned above,87 such as provisions concerning relatedparty transactions or transactions with the company’s securities. In addition, any developments that may affect the price of securities, substantial changes in the company’s financial situation and the company’s dividend policy must be disclosed (II/1.3). It should also be noted that a very detailed communiqué on the disclosure of material events has existed in capital market legislation for over ten years.88 This communiqué requires the company to make ad hoc disclosures, inter alia, concerning any important changes in the company’s capital structure or management control, tangible and financial fixed assets and activities, investments, financial structure and management structure. Failure to comply may lead to monetary fines. Furthermore, the Istanbul Stock Exchange may delist a company or halt transaction of its securities because of failure to disclose required information. The CMB Principles also promote the active use of the company’s website for disclosure,89 as an inexpensive and easily accessible medium for investors (II/1.11). The website should also be made available in English for foreign investors. The Principles also state the minimum recommended content for such websites. The 2004 CMB Survey states that 81 per cent of the companies have a website, but it is not known whether such sites are used effectively by the companies. 4.4.2
Financial reporting and audit
4.4.2.1
In general
Turkish capital market legislation already contains very detailed regulations concerning accounting and audit. Therefore, the Principles do not bring a substantial improvement. The Principles stipulate that financial statements and annotations must be prepared in a way that discloses the true state of the company and in accordance with international accounting standards. Auditors must be independent. Under the Principles, roughly stated, independence means abstinence from any relationship, benefit or influence that may impair the auditor’s professional judgement and impartiality. Auditors are required to be rotated after five accounting periods for a break period of at least two accounting periods. Consulting and auditing services may not be given simultaneously to the same company. These principles are but a summary of the detailed and mandatory regulation contained in capital market legislation, which is explained below. ——————————————————
See section 4.2.3.2 above. Communiqué Series VIII No. 39 on the disclosure of material events (RG, 20 July 2003, No. 25174), replacing the previous communiqué issued in 1993. 89 The Draft TCC mandates all joint stock and limited liability companies to have a web page and sets out the minimum content that must be posted on such pages (Art. 1524). 87 88
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Accounting standards
Financial statements are one of the main sources of information for investors. It is essential to have an accounting system that will lead to an accurate, transparent and comparable presentation of financial information and an audit system that will ensure the reliability of the information presented. Financial reporting and audit have therefore been matters on which the CMB has been working closely in the past years. With regard to accounting standards, the CMB issued a communiqué in November 2003 which brought its mandatory accounting standards into line with the International Financial Reporting Standards (IFRS).90 Public companies are obliged to report according to the CMB’s IFRS-compatible standards since 1 January 2005. Most recently, the Turkish Accounting Standards Board 91 translated the full IFRS into Turkish, and this translation has been certified by the International Accounting Standards Board. It may be expected that these standards will replace the CMB’s communiqué that currently applies. Furthermore, the CMB has released a new communiqué adopting the standards issued by the International Valuation Standards Committee,92 which listed companies have to use when making any valuations in accordance with capital market legislation. .
4.4.2.2.1 External independent audit and auditor’s independence Public companies have to be audited by external independent auditors 93 in accordance with the principles and standards set up by the CMB in a communiqué,94 which was amended in 2002 and 2003 following the principles introduced by the .
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90 Communiqué Series XI No. 25 on accounting standards in the capital market (RG, 15 November 2003, No. 25290 bis), last amended by Communiqué Series XI No. 26 (RG, 21 December 2004 No. 25677). This communiqué contains 33-IFRS compatible accounting standards. Companies also have a choice of directly applying the IFRS. 91 The Turkish Accounting Standards Board (TASB) was established by an amendment to the Capital Market Law in 1999 and began functioning in 2002. The goal of the Board is to develop national accounting principles and standards. The Board has completed an IASBapproved translation of the IFRS and introduced it in April 2006 and has announced that a separate set of principles will be drawn up for small and medium-sized enterprises. The Draft TCC grants the TASB the authority to issue accounting standards for Turkey which are in full compliance with the IFRS. Exceptions can be made for small and medium-sized enterprises and for special sectors. All merchants will have to comply with these standards issued by the TASB (Art. 88 Draft TCC). 92 Communiqué Series VII No. 45 (RG, 6 March 2006, No. 26100). 93 The Draft TCC contains a radical change concerning audit: companies will no longer have auditors as one of their organs, but all joint-stock companies whether publicly or closely held will be subject to external independent audit. Furthermore, the audit shall be conducted according to international audit standards (Art. 397). 94 Communiqué Series X No. 16 on independent audit in the capital market (RG, 4 March 1996, No. 22570), last amended by Communiqué Series X No. 21 (RG, 20 March 2003, No. 25054).
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Sarbanes-Oxley Act and the EU Commission’s Recommendation on the statutory auditor’s independence.95 According to this communiqué, auditors must be ‘independent’ and exercise their profession in an honest and impartial way. They have to abstain from any conflicts of interest and interventions that may have an impact on their integrity or impartiality and have to report their opinion regardless of how direct or indirect interests of others may be affected.96 Independence will be impaired in cases where the partners, managers or auditors of an audit firm or the spouses or relatives up to the third degree of such persons (i) receive any direct or indirect benefit or promise of such benefit from the client; (ii) have any direct or indirect shareholder relationship with the client or with any of the partners of the client or any companies controlling or controlled by the client; (iii) occupy a managerial position in the client or one of its affiliates; (iv) have a credit relationship with the client or one of its affiliates; or (v) if the client has failed to pay audit fees relating to past years for no valid reason; or (vi) if the audit fee is substantially different from market levels or is contingent upon the results of the audit.97 In 2002, further additions were made to the concept of independence. According to these additions, independent audit firms and their auditors are not permitted to give any services relating to consulting, bookkeeping, valuation, actuary, internal control support, arbitration or other expert services to clients for whom they serve as independent auditors.98 In addition, consulting companies that are directly or indirectly controlled by an independent audit firm may not give consulting services to companies that receive audit services from this independent audit firm. Another change that was introduced in 2002 is that an independent audit firm may not serve the same client for more than five accounting periods and may not be reappointed before the expiry of two accounting periods. Independent auditors’ practices are under the surveillance of the CMB. As of 2005, 94 independent audit firms with approximately 2,000 independent and certified accountants have been authorised by the CMB to conduct independent accounting in Turkey.99 Independent audit firms are liable for damages that may be caused by wrong or misleading information or opinions contained in their audit reports (Art. 16/V CML). ——————————————————
95 Commission Recommendation 2002/590/EC of 16 May 2002 – Statutory Auditors’ Independence in the EU: A Set of Fundamental Principles. 96 Communiqué Series X No. 16, Art. 10. 97 Ibid., at Art. 11(1). The Draft TCC contains similar criteria for independence of auditors. 98 Ibid., at Art. 11(2). 99 Speech by the President of the CMB at a conference on 12 April 2006 marking the presentation of the certified translation of the IFRS into Turkish, available in Turkish at: .
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4.4.2.2.2 Audit Standards The most recent development regarding financial reporting and audit is the adoption of international audit standards by the CMB. In a communiqué dated 12 June 2006,100 the CMB introduced independent audit standards that are fully compatible with the International Standards on Auditing (ISAs) issued by the International Federation of Accountants (IFAC). The communiqué contains a table of comparison showing which parts of the communiqué corresponds to which ISA. The new independent audit standards apply to the auditing of financial tables from 31 December 2006 onwards. 4.4.2.2.3 Internal control and audit Changes coming as a reaction to big corporate scandals also introduced the concept of an audit committee. Again in 2002, the CMB made it mandatory for listed companies to set up an audit committee consisting of board members, the majority of which must be non-executive.101 The main duty of the audit committee is to monitor the functioning and effectiveness of the company’s accounting system, financial disclosure, independent auditing and internal control system. The selection of the independent auditor and the carrying out of the independent audit must be done under the supervision of the audit committee. The audit committee must evaluate the compliance of the company’s financial statements with the relevant accounting standards, as well as their truth and accuracy. According to capital market legislation, listed companies must also have an internal control system. This can be carried out by the company’s statutory auditors or by specially appointed persons. The internal control system aims to ensure that management policies are correctly implemented, that the company is run in an organised and efficient way, that the assets are protected, that irregularities and fraud are prevented and that the bookkeeping is done in a timely and correct manner.102 Independent auditors are also required to evaluate the efficiency of the internal control system. 4.5
Board of directors
The OECD Principles state that the corporate governance framework should ensure the strategic guidance of the company, the effective monitoring of management by the board and the board’s accountability to the company and the ——————————————————
100 Communiqué Series X No. 22: ‘International Audit Standards in the Capital Market’ (RG, 12 June 2006, No. 26196 bis). 101 Communiqué Series X No. 16, Art. 28/A. 102 Ibid., at Art. 28.
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shareholders. In order to achieve this framework, they emphasise the importance of rules of conduct for board members, which include acting ‘on a fully informed basis, in good faith, with due diligence and care, and in the best interest of the company and the shareholders’.103 The board is required to treat all shareholders fairly, apply high ethical standards and take into account the interests of stakeholders. A list of key functions that the board should fulfil are listed in the OECD Principles, including reviewing and guiding corporate strategy, risk policy, annual budgets and business plans, setting performance objectives and monitoring performance. Other topics covered include the remuneration of key executives and board members, the selection and composition of the board and especially the involvement of independent members. The CMB Principles treat all of these topics extensively, dealing in detail with the board’s key functions, principles of conduct, selection and composition, remuneration and committees to be set up by the board. 4.5.1
Key functions of the board
As already mentioned, the Turkish joint stock company has a one-tier board. According to the CMB Principles, the board is the company’s highest strategic decision-making, managerial and representative organ. The company’s vision and mission should be determined by the board and disclosed to the public. The board should approve the strategic targets formed by the executives and approve the company’s annual budgets and business plans.104 The board is responsible not only for setting the company’s strategy and performance targets but also for carrying out an effective review of the company’s performance and the attainment of its objectives and targets. This process includes a retrospective review of the company’s activities and ensuring that the results are reflected in a true and accurate way in the company’s financial statements. It also entails an evaluation of future risks that the company may face and setting up a risk management and internal control mechanism 105 (IV/1.3). In order to fulfil its duties properly, the board must be provided with easy access to all kinds of information in a timely manner (IV/2.4). .
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OECD Principles, p. 59. In practice, however, companies may be found where the board exists only in appearance and the directors consistently sign the decisions made by the controlling shareholder. See the survey of the Turkish Corporate Governance Association (2004), op. cit. n. 21. 105 The Draft TCC also requires listed companies to set up ‘an early risk recognition and management committee’ in order to identify, mitigate and manage risks that may endanger the existence, development or continuation of the company (Art. 378 Draft TCC). For non-listed companies, the Draft TCC requires such a committee to be set up if the auditor deems it necessary. 103 104
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Composition of the board
The members of the board are elected at the general shareholders’ meeting by simple majority. This means that in companies where a controlling block of shareholders exists, all of the members of the board can be elected by the majority shareholder. Since the TCC does not impose any independence requirements, the board may be under the de facto control of the majority shareholder. The CMB Principles introduce a requirement stating that at least one third of the directors should be independent. The Principles also provide a long list of criteria to define independence (IV/3.3.5), including: not representing any share classes in the board; not owning more than 1 per cent of shares; having no family members who are managers or controlling shareholders in the company or who own more than 5 per cent of the share capital; having no employee/shareholder/business relationship with the company or affiliated companies in the last two years; having no employee relationship in the past two years with the company’s auditors or other companies rendering consulting, management or other services to the company or with the company’s substantial suppliers; and having no financial gains from the company other than from his work as a director. Furthermore, the Principles state that directors’ fees should be commensurate with performance and must be kept at a level not damaging independence. Finally, the Principles ask the independent members of the board to provide a written declaration to the board stating that they are independent within the meaning of the legislation, the company’s articles and the criteria introduced by the Principles (IV/3.3.6). The Principles also state that the majority of the board should be made up of non-executive directors, thus giving the board a more supervisory quality. Likewise, companies are asked to separate the position of CEO from the position of chairman of the board, in order to free the board from the domination of the executive management and not to compromise the board’s supervisory role (IV/3.2.1). Currently, it seems that in many companies the board of directors is in the hands of the controlling shareholders who usually occupy director’s chairs, and the CEOs do not really have a very strong position, since the controlling shareholders/directors are directly involved in day-to-day management.106 The existence of independent and non-executive directors may help to limit the domination of controlling shareholders over the board of directors if these directors are truly independent. According to the 2004 CMB Survey, only 26 per cent of companies stated that they had independent directors, although the CMB stated doubts as to whether all the independence requirements had been met. By contrast, 78 per cent of listed companies stated that they had non-executive directors on their board. However, it is not known whether the non-executive ——————————————————
106
Forbes Magazine ( Turkish edition) (March 2006). See also n. 21 above. .
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directors had the requisite power and qualification to carry out a supervisory role.107 The TCC does not contain any requirements regarding the qualifications of directors.108 The CMB Principles on the other hand state that directors must have the necessary professional qualities, knowledge, experience and diligence to perform their functions. The 2004 CMB Survey revealed that only 15 per cent of companies have provisions in their articles of association imposing requirements of knowledge, education or experience on the board of directors, which shows that more professionalism is required in this area. 4.5.3
Rules of conduct and duty of care
The CMB Principles aim at guaranteeing a certain ethical standard and diligent conduct for the board of directors. As a general rule, the board of directors should conduct its activities in a fair, transparent, accountable and reliable manner (IV/2.2). In order to provide accountability, the duties and responsibilities of the board must be clearly stated in the articles of association and, if duties are to be delegated, this must be done in a clear and understandable way. The board members should conduct self-assessment and performance evaluations, which should also affect their remuneration (IV/4.3). The board is expected to observe ethical standards while carrying out its duties. Board members should not accept material benefits that may impair their fairness or induce them to act against the company’s or the shareholders’ interests. They should not compete with the company’s business or enter into business relationships with the company itself in order to avoid conflicts of interest unless they obtain the company’s approval,109 and they should not attend meetings that relate to their personal interests or those of their spouse or blood relatives or inlaws up to the third degree.110 Furthermore, board members should respect the ——————————————————
107 According to the IIF Task Force Report on Corporate Governance in Turkey, op. cit. n. 21, at p. 8, ‘[a]lthough many company boards have non-executive members, they tend to form small minorities and to play little role in the board, typically following the majority shareholder line. They also tend to serve mostly on the boards of subsidiaries, which reduces their influence.’ 108 The Draft TCC on the other hand requires at least half of the directors to have a university degree (Art. 359). 109 This rule already exists under the TCC. However, the CMB principles (IV/2.8) call for an increased majority (three-quarters of the capital) for granting approval, while under the TCC a simple majority is sufficient (Arts. 335, 372). According to the CMB Survey, approximately 50 per cent of companies have granted approval for board members to compete with the company. Such approval is usually given in company groups where the same person may be acting as a board member in more than one company. 110 The same rule exists under Arts. 332 and 349 TCC.
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confidential nature of information relating to the company and should not use such confidential information for their own personal benefit or for the benefit of others (IV/2). With regard to the duty of care, the CMB Principles state that board members must act ‘with prudence and in good faith’, which – according to the Principles – means that they should show ‘the minimum care and diligence that would be required for similar events under similar conditions’ (IV/2.3). This rule, however, seems to be incomplete, since it fails to indicate the subject of the comparison. In other words, the hypothetical person whose conduct should be taken as a criterion is not specified. For example, is the conduct of the board member to be compared with the minimum care and diligence that would be required of a person of average intellect, a ‘diligent merchant’, any director or that specific director? Since this element is missing in the rule, the rule does not seem applicable. Secondly, this rule in fact does not introduce a standard that goes beyond the already existing standards in Turkish law. Although Article 320 of the TCC concerning the duty of care is not clear-cut and has given rise to various arguments as to whether a subjective or an objective criterion is imposed, it can be said that board members are subject to an objective standard of duty of care, which is the care that would be exercised by a careful, honest director with common sense under similar conditions.111 The question whether the CMB Principles should be taken as criteria in establishing the standard of duty of care must be answered negatively. If it could be said that a board has breached its duty of care when its conduct is not compatible with the CMB Principles, then the Principles could no longer be described as voluntary. However, if the company makes a declaration of compliance with the Principles, then the board should obey the Principles until the company decides otherwise. 4.5.4
Liability
The Principles state that directors shall be jointly and severally liable for any breach of their duties, which is already the case under the TCC.112 As a pure recommendation which does not require an explanation in the case of noncompliance, the Principles suggest that directors should return to the company ——————————————————
111 Helvacı, op. cit. n. 37, at p. 46; O. İmregün, Anonim Ortaklıklar (Istanbul 1989) p. 231; Pulaşlı, op. cit. n. 37, p. 460. Cf., Çamoğlu, Poroy and Tekinalp, op. cit. n. 37, at para. 580 et seq., who state that the personal qualities, knowledge and experience of the director in question must also be taken into consideration in the assessment of the level of care required. 112 The Draft TCC changes the system of absolute solidarity to a system of ‘differentiated solidarity’, which means that the degree of fault and the amount of damage attributable to each director will be taken into account in determining the level of solidary liability (Art. 557 Draft TCC). This is the system applied in Swiss company law (Art. 759 OR).
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any financial or other benefits they have received from the company for their services in the three years preceding a bankruptcy if such benefits were considerably higher than any comparable benefits. Another provision which is introduced as a pure recommendation is that, before they assume their positions, directors should sign a written statement that they will comply with the law and the company’s articles of association, internal regulations and policies and that, in the case of a breach, they will jointly and severally indemnify the damages that may be suffered by the company, its shareholders and stakeholders. This provision goes beyond the existing law on the liability of directors. Under the current law, stakeholders other than company creditors cannot call for the liability of directors. Furthermore, joint and several liability does not exist if there is a delegation of duties (Arts. 336/II, 319 TCC) and liability is waived if the director can prove that he is not at fault (Art. 338 TCC). The recommendation in the CMB Principles asks directors to subject themselves to a stricter regime. The fact that this provision is only a recommendation falling outside the scope of the comply-or-explain rule also leaves its adoption completely up to the directors, making it unlikely that it will be implemented. 4.5.5
Remuneration
In line with the OECD Principles, the CMB Principles state that shareholders must be given the opportunity to state their opinion about the remuneration of directors and senior management (I/3.4.14) and that compensation for directors should be determined by the general assembly (IV/4.2). This is already the case under Turkish law. According to the TCC, the remuneration of directors is one of the items on the agenda of the ordinary general assembly (Art. 369 TCC). The corporate governance committee, which is required by the CMB Principles to oversee compliance with corporate governance rules, is given the duty to make proposals for remuneration packages on a performance-related basis. The board is also asked to evaluate itself both as a board and on a director basis and justify the remuneration received (IV/4.4) In current company practice, however, remuneration hardly seems to be attached to performance. According to the 2004 CMB Survey, only 4 per cent per cent of the companies stated that they have a performance-based remuneration policy. It must be remembered, however, that the concentration of ownership and the domination of the shareholders over the management actually results in the elimination of agency costs such as exorbitant remuneration. In fact, the industry practice in Turkey seems to be exactly the opposite, where board members are paid very low or no fees, which acts as a disincentive to serve on boards.113 Remuneration, however, may still be a problem in companies where controlling shareholders can arrange for family members or ——————————————————
113
IIF Task Force Report, op. cit. n. 21, at p. 8.
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close relations to be appointed to the board or to other posts so that they can obtain an income.114 Hence, performance-based remuneration may help against such a problem. The CMB Principles state that the amount of fees and other benefits paid to each board member and manager and the performance evaluation of the corporate governance committee must be disclosed in the annual report of the company (II/3.2.2). 4.5.6
Committees
As explained above,115 the Principles require an audit committee to be set up by the company. Another committee that is required is the corporate governance committee, which is meant to oversee compliance with corporate governance principles and make proposals to the company board to improve their application (IV/5.7). This committee also has the task of setting up a transparent system for identifying and evaluating candidates eligible for the board of directors, as well as principles and practices regarding the evaluation of the performance, career planning and reward of the board members and executives. Therefore, the corporate governance committee should act as a nomination and remuneration committee in one. However, since the Principles only call for this committee to set up a system for identifying candidates, the candidates may not necessarily be nominated by the corporate governance committee itself. It was stated above 116 that, in practice, nomination rights are often given to specific classes of shareholders who thus secure means of having board members elected. It seems that one of the duties of the corporate governance committee should be at least to set up a system whereby the nominees may be introduced in detail to all shareholders and shareholders may voice their concerns about the qualification of the nominees and risks of conflicts of interest. Each of the committees must have at least two members, both of whom must be non-executive. Where more members are appointed, the majority must be nonexecutive (IV/5.3). The majority of the members of the corporate governance committee should be independent. The committees are advisory in nature, and the board is responsible for making final decisions (IV/5.5). .
5.
DEGREE OF IMPLEMENTATION
It is still too soon to judge the degree of implementation of the CMB Principles. The 2004 CMB survey to which reference has been made in various parts of this ——————————————————
114 115 116
For similar findings, see IIF Task Force Report, op. cit. n. 21, at p. 7. See section 4.4.2 above. See section 4.1.5 above.
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article only reflects the situation in the first year of application of the Principles, roughly between July 2003 and July 2004. The results of this survey show that there is ample room for improvement in application. Compliance may improve in time as companies get acquainted with the Principles and market reaction becomes stronger.117 6.
CONCLUSION
In 2003, the Turkish Capital Market Board introduced a set of Corporate Governance Principles that apply on a comply-or-explain basis. Each listed company is required to issue a report disclosing the extent to which it complies with these principles and its reasons for non-compliance. The board of directors and the company can be held liable by investors for deceiving them with wrong or misleading information contained in the report. The CMB Principles are compatible with the OECD Principles on Corporate Governance. They also take into consideration specific problems of Turkish corporate law and practice. Turkish corporations and capital markets are characterised by the existence of concentrated ownership, whereby shareholders owning a controlling block of shares dominate the company’s management. In most companies, a separation of ownership and control and the related agency problems does not exist. Although concentrated ownership reduces agency costs, it also leads to the problem of abuse of the minority. The CMB Principles and other legislation in this field try to strengthen the position of the individual shareholders vis-à-vis the controlling block of shareholders. They aim especially at facilitating the shareholders’ right to information and participation in the company management; limiting special class rights that distort the one share-one vote principle and grant specific classes of shareholders the power to elect one or more members of the board; bringing financial and non-financial reporting and auditing systems up to international standards; and providing better protection for company assets by disclosing and restricting related-party transactions. They also include provisions on balancing the board structure by means of independent and non-executive directors and monitoring committees such as the audit committee and corporate governance committee. Although these mechanisms were initially developed in market-oriented systems as a response to agency problems and the abuse of power ——————————————————
117 It seems that even in countries that have had a longer acquaintance with corporate governance issues, such as the United Kingdom or Canada, application of the corporate governance principles may need improvement. According to the OECD’s Survey on Developments in Corporate Governance, two-thirds of British companies do not fully comply with the standards of the Combined Code three years after its introduction, and only one third of Canada’s top 313 firms meet all corporate governance disclosure requirements set by the Toronto Stock Exchange’s guidelines. For these and other examples, see the OECD Survey, para. 44.
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by the management, the application of these principles in an insider-controlled system may nevertheless prove helpful in exerting discipline on controlling shareholders.
