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Enhanced Out Of Court Financial Restructuring Scheme – Insolvency/Bankruptcy


1. Introduction

Upon the Turkish Lira currency crisis of August 2018, the
Turkish real sector encountered a liquidity shortage due to a
considerable amount of foreign currency borrowings. To avoid the
negative impacts of the liquidity shortage and bankruptcy of
financially distressed businesses, the Banking Regulatory and
Supervisory Agency (“BRSA“) introduced
an enhanced out-of-court financial restructuring
(“FR“) scheme with the Regulation on
Restructuring of Debts Owed to the Financial Sector entered into
force on 15 August 2018
(“Regulation“)1.

The Regulation authorised the Banks Association of Turkey
(“BAT”) for; (i) drafting the rules and
procedures for FR; (ii) drafting a template financial restructuring
framework agreement (“FRFA“) to be
executed by and between the financial market actors; and (iii)
setting out the rules and procedures for financial restructuring
agreements, to be executed by and between the debtor and its
creditors on an individual basis
(“FRAs“).

The BAT classified FR in two categories, large-scale and
small-scale, depending on the amount of the restructured debt, and
correspondently prepared two separate template FRFAs for each
category. Template FRFAs entered into force with the approval of
BRSA. Execution of any of the FRFAs is optional and so far, more
than 50 financial market actors executed the small and large-scale
FRFAs.

Once an FRFA is executed, creditors, who are signatories to the
FRFA, are obliged to take part in the FR and cannot take
enforcement action against the debtor during the FR, unless there
is a breach of the underlying FRA by the debtor. Another
consequence of being a signatory of an FRFA is the binding effect
of the FRA. Within this context, if an FRA is signed with necessary
quorum, all FRFA signatories are obliged to restructure the debts
of the respective debtor regardless of whether they were
signatories to the FRA or not. These two elements represent the
major differences between the FR and contractual out of court
financial restructuring.

The FR, known in the market as “New Istanbul
Approach”, is akin to the Istanbul Approach, a financial
restructuring scheme applied in Turkey during early 2000s upon two
consecutive banking sector crises that occurred in November 2000
and February 2001. As a previously practiced and familiar method,
the current scheme is widely accepted by the credit market, and
many financially distressed debtors benefitted from the scheme so
far. As per the Financial Restructuring Monthly Report of May 2022
published by the BAT, for the period between October 2019 and May
2022, the debts restructured amounted to approximately TRY 220
billion as 798 debtors executed financial restructuring agreements
with their creditors under the enhanced out of court financial
restructuring scheme.

2. Availability Period of the FR

The legal basis of the FRFAs is the provisional article 32 of
the Banking Law numbered 5411 and dated 19 October 2005
(“Banking Law“). The provisional article
32 was published on 19 July 2019 with a validity of two years upon
its publication, subject to a subsequent extension with the
approval of the President of the Republic of Turkey for additional
two years. Accordingly, the availability period has been extended
to 19 July 2023 with the Presidential Decree numbered
42992.

3. Financial Restructuring Framework Agreements (FRFAs)

The FRFAs regulate the criteria for eligibility of debtors, the
application procedures, and the general principles applicable to
the FR and FRAs as well as dispute resolution mechanism, among
others. The FRFAs are also akin to intercreditor agreements since
they regulate the relationship between creditors and set out the
rules for decision making processes.

The FRFAs may be executed by creditor institutions, foreign
creditor institutions, international organizations as well as other
creditors as defined under the FRFAs. Once executed, the
signatories are considered to have accepted the relevant FRFA in
the form and substance approved by the BRSA, and any reservations
made to the FRFA by any signatory are invalid.

Any amendments to the FRFAs are subject to unanimous affirmative
votes of the signatory creditor institutions and approval of the
BRSA.

3.1. Requirements for Creditor Institutions

The Regulation and the FRFAs define creditor institutions as
banks, including development, participation and investment banks,
financial leasing, factoring and financing companies established in
Turkey; all banks and other financial institutions established
abroad provided that such foreign corporations made facilities
available to the relevant debtors; multilateral banks and
institutions having direct investments in Turkey; special purpose
vehicles founded by the above-mentioned creditors for debt
collection; and investment funds founded for debt collection as per
the Capital Market Law numbered 6362 (“Creditor
Institutions
“).

Creditor Institutions will be able to take part in FRs and be
bound by the provisions of the FRFAs for so long as the executed
FRFA is in force. The foreign creditor institutions and
international organizations, which are authorized in extending
facilities under the jurisdiction of their operations and extended
facilities to the debtor (“Foreign Creditor
Institutions
“), on the other hand, will be bound by
the provisions of the FRFAs and take part in an FR by executing the
relevant FRFA on an individual basis. In relation to the
small-scale FR, Creditor Institutions who have not signed the
small-scale FRFA, can only take part in the FR with the affirmative
votes of at least two Creditor Institutions and the Creditor
Institutions representing at least 2/3 of the total receivables
(“Qualified Majority“) provided that
such Credit Institutions execute the small scale FRFA on an
individual basis, as well.

Creditors, other than the Creditor Institutions, such as
commercial creditors (“Other
Creditors
“), can also be parties to the FRFAs and
take part in the FR by executing the relevant FRFA on an individual
basis. In relation to the large-scale FR, Other Creditors must also
obtain the approval of the other Creditor Institutions involved in
FR, with the affirmative votes of the Qualified Majority.

Once a Foreign Credit Institution and Other Creditor take part
in the FR, such creditor will have the same rights and obligations
as the Creditor Institutions have under the relevant FRFA.

3.2. Consortium of Creditor Institutions
(CCI)

CCI is the decision-making and coordinating body, established
specific to each large-scale FR, comprising of the relevant
Creditor Institutions, Foreign Creditor Institutions and Other
Creditors taking part in the scheme. CCI decides on the matters
with the affirmative votes of the Qualified Majority, unless
otherwise stated under the large-scale FRFA. CCI must conclude
discussion and decide on any matter within 10 business days from
the commencement date of the discussions.

Several CCIs can be established for a debtor or a debtor group
subject to a particular FR, if decided by the CCI. To accelerate
the process, the CCI may decide to continue negotiations through a
committee, which is led by the leader bank and comprises of a
sufficient number of CCI members. Despite the establishment of such
committees, voting rights will be practiced by all the members of
the CCI.

The CCI members do not have to conduct physical meetings since
the large-scale FRFA sets out the legal basis for conducting
electronic communications and electronic voting in cases of
necessity.

3.3. Requirements for Debtors

All companies established in Turkey, other than the institutions
subject to the Banking Law, the Financial Leasing, Factoring and
Financing Corporations Law numbered 6361, the Law on Payment and
Securities Settlement Systems, Payment Services and Electronic
Money Service Providers numbered 6493, and Article 35 of the
Capital Markets Law numbered 6362, with the exception of investment
partnerships, can be debtors under the FRFAs and benefit from the
FR, provided that such debtors have defaulted on their payments or
likely to have payment difficulties on due dates, and comply with
other requirements, varying subject to the scale of the FRFA.

To benefit from the small-scale FR, total amount of debt to be
restructured must be less than 100 million TL whereas to benefit
from the large-scale FR total amount of debt to be restructured
must be at least 100 million TL. The total amount of debt may be
calculated as the whole or partial debts of a debtor or group of
debtors, provided that each debtor in the group is in the same risk
group. Regardless of the thresholds, any debtor or debtor group
might be subject to the large-scale FR with the affirmative votes
of the Qualified Majority.

Once it is determined that a debtor may benefit from the FR, the
Creditor Institutions must express their affirmative opinions on
the prospect of a successful rescue of such debtor. In relation to
the large-scale FR, either independent audit firms or similar
institutions appointed by the Qualified Majority or the Creditor
Institutions themselves if accepted by the debtor, shall review the
financial position, and assess the feasibility of an FR. In
relation to small-scale FR, the Creditor Institution, which
accepted debtors’ FR application
(“CIADA“), assesses the feasibility.
However, in both small and large-scale FRs, affirmative opinion of
the Qualified Majority on the prospect of a successful rescue of
the debtor, is required after feasibility assessments.

If a judgment is rendered for the debtors’ bankruptcy before
the restructuring, such debtor cannot be subject to FR; and if a
judgment is rendered for the debtors’ bankruptcy during the FR,
the FR will terminate.

3.4. Application Procedure, Leader Banks, and Duration
of FRs

Small Scale FRs

In the small-scale FRFA, the debtors must submit their
application to the Creditor Institution having the highest amount
of receivables. The application must contain the Application Form
and Letter of Undertaking, which are annexed to the FRFA, as well
as other necessary documentation and information detailed therein,
including but not limited to the list of all debt including cash
and non-cash risks, and contact information of the creditors, list
of all movable and immovable assets with encumbrances included
therein, list of all pending lawsuits and execution proceedings,
short, mid and long term action plans and business plans other than
the FR, for the successful rescue of the debtors, the debtors’
balance sheets and profit and loss statements for the last three
years certified by the tax office, and the debtors’
shareholding structure.

The Creditor Institution, to whom the application is made, may
reject the FR application by informing the debtor with its reasons
in writing. In such an event, the debtor has the right to submit
another application to the second and third Creditor Institutions
having the highest amounts of receivables, respectively. The CIADA,
the Creditor Institution accepting the application, is responsible
for managing and monitoring the FR until the execution of the FRA,
as the leader bank. If none of the Creditor Institutions accept the
application, the FR will be terminated. Once the process is
terminated in such a way, the debtor can only reapply to the FR
upon the expiry of a 6-month period.

The small-scale FR is aimed to be successfully completed with
the execution of an FRA within a maximum of 65 business days upon
the debtors’ first application, if not terminated during the
process.

Large Scale FRs

Debtors must submit their application to one of the three
Creditor Institutions, having the highest amounts of receivables.
The application must contain the Application Form and Letter of
Undertaking, which are annexed to the FRFA, as well as other
necessary documentation and information detailed therein, including
but not limited to the list of all debt including cash and non-cash
risks and contact information of the creditors, list of all movable
and immovable assets with encumbrances included therein, list of
all pending lawsuits and execution proceedings, short, mid and long
term action plans and business plans other than the FR, for the
successful rescue of the debtors, debtors’ balance sheets and
profit and loss statements for the last three years certified by
the tax office, and list of all local and foreign subsidiaries.

If the Creditor Institution applied is of the opinion that the
application must be denied on the ground that the application is
made in bad faith, contrary to the banking practices, or that the
application contains unacceptable conditions, Qualified Majority
shall decide whether to terminate the FR or not.

The Creditor Institution having the highest amount of
receivables shall be the leader bank who shall be responsible for
managing and monitoring the FR until the execution of the FRA. Such
leader bank has the right to assign its duties to the Creditor
Institution having the second or third highest amount of
receivables provided that such institution consents to such
assignment. With the affirmative votes of the Qualified Majority,
another leader bank may also be selected by the Creditor
Institutions. In the event of such election, each Creditor
Institution shall have voting rights proportionate to its
receivables and candidate receiving the highest number of votes
shall be elected as the leader bank.

The large scale FR is aimed to be successfully completed with
the execution of an FRA within 90 days upon the debtors’
application. Such period may be extended for a maximum of 90 more
days, with the affirmative votes of the Qualified Majority. If an
FRA cannot be executed within such 180 day period, the FR process
shall terminate.

A debtor can apply to the large-scale FR for two times,
regardless of the successful completion or failure of the first
application.

3.5. Standstill Period

The Standstill Period is one of the primary consequences of the
FR as the commencement of the FR prevents the Creditor
Institutions, Foreign Creditor Institutions and Oher Creditors, who
are creditors in the relevant FR, from taking legal action against
the debtor to protect the existing legal status, security structure
and existing assets of the debtor. During the Standstill Period,
such creditors cannot initiate execution proceedings against the
debtor, and can only continue with ongoing execution proceedings if
the suspension of such ongoing proceedings would result in loss of
rights considering statute of limitations, and cannot apply to
other legal remedies in relation to their receivables which are
subject to the FR.

In cases where any of the Creditor Institutions has commenced
execution proceedings prior to the debtors’ FR application, and
(i) date for the sale has been determined upon seizure; or (ii) a
legal action on cancellation of a tender is ongoing; or (iii) an
executory commitment has been undertaken; or (iv) a case for
cancellation of action is pending, such actions will not be
suspended or otherwise affected from the FR, if not waived by the
relevant Creditor Institution in its sole discretion. If such
actions are ongoing and not waived, large-scale FRs may be
terminated with the affirmative votes of the Qualified Majority;
and small-scale FRs are deemed as terminated if such actions
prevent the debtor from continuing its business operations.

In relation to large-scale FRs, the Standstill Period commences
once an FR application is duly submitted by the debtors to the
competent Creditor Institution, and the application is shared with
other Creditor Institutions by such creditor. During the first CCI
meeting, the continuation of the Standstill Period will be decided
with the affirmative votes of the Qualified Majority. The creditors
remaining silent in the first CCI meeting are deemed as expressing
a positive opinion.

In relation to small-scale FRs, the Standstill Period commences
once the debtors’ FR application is accepted by the CIADA and
shared with the other Creditor Institutions.

The Standstill Period shall continue after the execution of the
FRA provided that the debtor complies with its obligations arising
from the FRA.

The Standstill Period may be terminated with the affirmative
votes of the Qualified Majority in large-scale FRs and by the CIADA
in small-scale FRs, if the debtor does not comply with its
obligations under the Application Form and Letter of Undertaking
submitted during the application.

During the Standstill Period, the debtor, its shareholders, and
its affiliates must refrain from taking any action that may result
in an unequal treatment among the Creditor Institutions.

3.6. Restructuring Methods

The FRFAs set out sample restructuring methods such as (i)
redetermination of maturity; (ii) extension of additional funds for
capital expenditures or investments; (iii) liquidation of
subsidiary business activities of the debtors; (iv) increasing
debtors’ capital, changing its management and/or shareholding
structure, conducting initial public offerings, selling
debtor’s assets and/or subsidiaries; (v) establishing pledges
and usufruct rights on the shares of the debtor in favour of the
Credit Institutions; and (vi) establishing securities on the assets
of the debtor’s shareholders as well as their first degree
relatives. Any other method the Creditor Institutions may deem
necessary for the successful rescue of the debtor can also be
applied to the relevant FR by the decision of the Creditor
Institutions.

In relation to large-scale FRs, the restructuring methods, which
are subject to the affirmative votes of all Credit Institutions,
are as follows: (i) waiver from the principal amount, accrued
interest, default interest, default penalty, or any other amount
arising from the loan relationship in part or in full; (ii) release
of the securities in part or in full; (iii) transfer or assignment
of all receivables arising from the debtor’s principal amount
or interest payment obligations to special purpose vehicles or
investment funds established as per Capital Markets Law numbered
6362 against a remuneration in kind or cash or subject to condition
of collection; (iv) liquidation, sales or otherwise removal from
the balance sheet of receivables arising from the debtor’s
principal amount or interest rate payment obligations in part or in
full against remuneration in kind. Unless otherwise decided by the
Credit Institutions, any amount waived thuswise will be deducted
pro rata from the receivables of the Credit Institutions.

3.7. Interest Rate Applicable to the Restructured
Debt

In large-scale FR, as a principle, the interest rate applicable
to the restructured debt is decided with the affirmative votes of
the Qualified Majority. However, an interest rate lower than 75% of
the TRY reference interest rate can only be applied with the
affirmative votes of at least two Creditor Institutions
representing 90% of the total receivables

In small-scale application, a TRY reference interest rate-based
floating interest rate depending on the maturity is applicable.

3.8. Repayment Plan of the Restructured
Debt

As a principle, the repayment plan shall be applicable to the
restructured debt as a whole, in both large and small-scale FRs.
However, separate repayment plans can be agreed for Credit
Institutions having receivables below the threshold determined by
the Qualified Majority provided that (i) the feasibility report
anticipates such structure; (ii) the Qualified Majority consents;
and (iii) the Leader Bank or CIADA, as applicable, makes such a
proposal.

3.9. Additional Financing under the FR

In relation to small-scale FRs, providing additional financing
to the debtors is arbitrary, and each Credit Institution may extend
additional funds to the debtor at its sole discretion. In case of
additional financing, any amounts recovered from the enforcement of
the secured assets will be primarily applied to the repayment of
the additional funds extended.

In relation to large-scale FRs, all banks, which are signatories
to the FRA, must extend additional funds, pro rata to their
receivables, to the debtor by the decision of minimum two CCI
member banks representing at least 90 % of the total receivables of
the CCI member banks. Furthermore, any Credit Institution may
extend additional funds to the debtor with the affirmative votes of
the Qualified Majority. In case of additional financing, any
amounts recovered from the foreclosure of the secured assets will
be primarily applied to the repayment of the additional funds
extended.

Borrowings from third parties, other than the CCI members, is
also available under the large-scale FR with the affirmative votes
of the Qualified Majority.

3.10. Securities under the FR

The protection of the existing securities of the Creditor
Institutions is an essential principle of the FR. FRAs must contain
provisions on the seniority and protection of the existing
securities and collection and realization of the secured debts and
assets. As per the FRFAs, any amounts recovered from the
enforcement of the senior secured assets will be deducted from each
instalment amount equally so that the number of instalments and
maturity of the senior secured debt remains unchanged.

Without prejudice to the principle of protection of the existing
securities, any security to be established under the FR will be
established on a pro-rata basis and any prior encumbrances attached
to such secured assets, other than existing senior securities, will
be removed with the establishment of the securities. In large-scale
FR, Creditor Institutions might deviate from the principle of
establishment of securities on a pro-rata basis with their
unanimous decision.

4. Termination of the FR

The FR is or may be terminated if (i) a judgement is rendered
for the debtors’ bankruptcy; (ii) the FR application of the
debtor is not accepted; (iii) the FR period expires before the
execution of an FRA; or (iv) the ongoing execution proceedings are
not waived by the relevant Credit Institutions.

In relation to large-scale FRs, the FR might also be terminated
with the affirmative votes of the Qualified Majority of the CCI
members if execution proceedings, amounting more than 25 % of the
total debt subject to the FR, are initiated by the entities who are
not parties to the FRFA during the FR process and such execution
proceedings are not eliminated within a cure period of 30 days. In
any case, such cure period cannot exceed the large-scale FR maximum
duration which is 180 days.

5. Financial Restructuring Agreements (FRAs)

FRAs are the final products of the FR, setting out the
negotiated terms and conditions of the relevant restructuring. An
FRA must contain provisions on (i) the amount of receivables of
each Creditor Institution; (ii) amount to be repaid and the
repayment schedule; (iii) the acts constituting breaches and the
consequences of such breaches; (iv) the pricing (e.g. interest
rate, commissions and other fees); (v) the criteria for monitoring
and auditing the debtor; (vi) the authority to review the accounts
and documents of the debtor; (vii) the security structure; (viii)
other obligations of the parties; and (ix) any other matter deemed
appropriate by the Credit Institutions and agreed between the
parties including grace periods, interest periods, representations
and warranties, events of default, acceleration etc.

Small-scale FRAs and large-scale FRAs differ from one another on
the application of the principle of freedom of contract. While
large-scale FRAs provide more freedom and flexibility to parties,
small-scale FRAs must be prepared in line with the sample FRA,
drafted by the BAT. In addition, commercial terms applicable to
small-scale FRAs are also restricted under the provisions of
restructuring parameters of the small-scale FRFA. The restructuring
parameters, as detailed under the small-scale FRFA, restrict
significant commercial terms such as maximum length of maturity and
grace periods, minimum annual repayment obligations, frequencies of
instalments and minimum repayment requirements, applicable floating
interest rates and their calculations, amount of the restructuring
commission, compulsory currency of the restructured debt and the
repayment schedule amendments. To eliminate the application of the
restructuring parameters, the Creditor Institutions may decide on
the application of the large-scale FR with the affirmative votes of
the Qualified Majority.

Most important aspect of the FRAs is that once the Creditor
Institutions representing 2/3 of the total receivables execute the
FRA, all Creditor Institutions are obliged to restructure the
relevant debt in line with the provisions of such FRA.

6. Dispute Resolution

The Regulation refers, any dispute arising from non-compliance
with the FRFA, to arbitration. As per the Regulation and the FRFAs,
an arbitral tribunal, comprising of three arbitrators, must be
established by BAT and such tribunal will issue awards by simple
majority. If deemed necessary, the tribunal may be established on
an ad hoc basis. The details of the rules and procedures applicable
to the tribunals are annexed to the FRFAs.

The arbitral tribunal shall issue the arbitral award within 5
business days from the receipt of application. Arbitral awards are
final and binding for all Creditor Institutions who are parties to
the FRFA.

The FRAs, on the other hand, shall be subject to Turkish law,
and any dispute arising out of the FRAs may be resolved by the
Turkish courts.

7. Conclusion

Enhanced financial restructuring schemes, as out-of-court
contractual debt restructuring arrangements supported by
legislation, are commonly practiced schemes during times of
economic difficulty, and are available for a temporary period. Such
financial restructuring schemes have objectives of macro-economic
importance such as safeguarding the continuity of employment,
restoring the growth of the real sector, and indirectly keeping
currency depreciation and inflation under control.

The FR, as an enhanced financial restructuring scheme entered
into force with similar objectives and aims to create real value in
the Turkish economy by reassuring the companies in financial
difficulties to continue their business. The FRFAs are designed
29658

to expedite the FR process and simplify the FRA negotiations by
setting out the exemplary contractual workouts, maximum durations
of negotiations, and the framework of the relationship between
creditors including decision-making mechanisms.

Although the FRFAs restrict the freedom of contract and oblige
market actors, who are signatories to (i) take part in the FRs;
(ii) refrain from taking certain actions against the debtors during
the Standstill Period; and (iii) take part in the restructuring
once the conditions of the FRAs are accepted by the Creditor
Institutions representing 2/3 of the total receivables, it is not
compulsory for all credit market actors to execute the FRFAs. Any
market actor who is of the opinion that such enhanced restructuring
scheme is not in line with its commercial purposes does not have to
execute the FRFA and may initiate regular insolvency proceedings or
commence other out-of-court restructuring methods even if the
debtor applies for FR.

Footnotes

1. The Official Gazette dated 15.08.2018 and numbered
30510

2. The Official Gazette dated 15 July 2021 and numbered
31542.

The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.



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