• Pre-emptive Right in Joint Stock Companies
  • May 15, 2017
  • Introduction
    In the case of a capital increase made from internal resources in joint stock companies, current shareholders acquire ipso facto the gratis shares in accordance with the ratio of their current shares to the company's share capital. As to the capital increase through capital subscription from external resources, each shareholder is entitled to acquire new shares in accordance with the ratio of his/her current shares to the company's share capital. The objective of a pre-emptive right is to preserve the shareholder's shareholding ratio in the company1. Notwithstanding this principle, this right may be exceptionally restricted or removed. In this Newsletter, the nature of pre-emptive right, rules and procedures governing its exercise, and the motives for its removal or restriction, will be discussed in light of the decisions of the Swiss Federal Supreme Court and the Turkish Court of Appeals, and the pre-emptive right will be analysed within the context of the registered capital system.
    The Pre-emptive Right and Its Utilization
    Article 461 of the Turkish Commercial Code numbered 61022 (TCC) regulates the pre-emptive right in joint stock companies, as well as the principles regarding its exercise. Accordingly, a pre-emptive right is the right held by each shareholder to acquire new shares issued by the company in accordance with the ratio of his/her current shares to the company's share capital. The preamble of the article3 clearly states that the nominal value of the shares shall be taken as a basis for the determination of the right to acquire new shares.
    Pursuant to Article 461/3 of the TCC, the board of directors shall designate the principles governing the exercise of the right to acquire new shares by a resolution, and grant a period of at least fifteen days to shareholders. The registration and announcement of such resolution is mandatory. The objective of this regulation is not only to determine the period of fifteen days, but at the same time to instruct the board of directors in this regard4. As the Article specifies such fifteen-day period as a minimum, the granting of a fifteen-day period does not always mean that the board of directors has fulfilled its duty in accordance with the law, as the board of directors is also responsible for providing a term that is sufficient for the exercise of the pre-emptive right5. The date specified under the resolution for the exercise of the pre-emptive right cannot be a date prior to the announcement of the resolution6.
    Article 497 of the TCC also emphasizes that the shareholders are entitled to a pre-emptive right without any restrictions. According to this Article, in the transfer of listed registered shares, the transferee cannot exercise its rights to participate and vote in the general assembly meeting arising from its shares and other rights attached to the voting right, until the company recognizes the transfer; whereas, it is not subject to any restrictions for the exercise of the other shareholding rights, especially the pre-emptive right.
    The fourth paragraph of Article 461 of the TCC explicitly allows the transfer of the pre-emptive right.
    Main Principles Concerning the Pre-emptive Right
    The preamble of Article 461/2 of the TCC7 states that the Article specifies four principles strengthening the right to acquire new shares and, consequently, protecting the shareholders, and lists such principles, as follows:
    "(i) The pre-emptive right cannot be restricted nor removed by the articles of association. The approach of the new system is that this right shall not be removed and not even restricted, and this path shall be only followed on exception. In the event of the application of this exception, the general assembly shall resolve according to the current case. A generic clause to be included under the articles of association enabling the removal or the restriction of this right would contradict this principal approach.
    (ii) This right may be restricted or removed only upon the existence of just causes...
    (iii) Another strong protective provision is laid down under the third sentence of the second paragraph. Removal or restriction of the right to acquire new shares cannot be made for the purposes of some persons profiting (in an unjust manner), whether or not shareholders, and causing damages to some of the shareholders. The provision in question aims to avoid intragroup structural changes to the detriment of some shareholders and dilution of their shareholding ratios. This provision also expressly emphasizes the principles of equal treatment, exercise of rights in a limited way, and limitation of majority power with just causes.
    (iv) Qualified quorum constitutes a minority right due to its preventive nature."
    The just causes mentioned under the above principles and the qualified quorum are analysed under the following sections.
    The Restriction or Removal of the Pre-emptive Right
    Notwithstanding the main principle intended not to restrict or remove the pre-emptive right, the laws allows such in certain circumstances: (i) meeting the qualified quorum at the relevant general assembly meeting and (ii) existence of just cause for the restriction or removal. Even if these conditions are met, no one can take advantage of the restriction or removal of the pre-emptive right, or incur losses in an unjustified way. Moreover, the board of directors is required to declare the grounds of the restriction or removal of the pre-emptive right through a report. The registration and announcement of such report is mandatory.
    General Assembly Quorum
    For the restriction or removal of the pre-emptive right of shareholders by the general assembly resolution related to a capital increase, the affirmative votes of at least 60% of the share capital is required. This percentage cannot be decreased by the articles of association.
    Just Cause
    The pre-emptive right cannot be restricted or removed without just cause. Article 416/2 of the TCC specifies such just causes by way of illustration, in a non numerus clausus manner. These causes mentioned under the law are public offering, acquisition of enterprises, parts of enterprises and subsidiaries, as well as participation of the employees in the company.
    As it is stated in the preamble of the Article, these examples listed under the Article do not necessitate the determination of the just causes within the framework of these examples. Causes such as company's financial interests, recovery from repayment difficulty, and the purchase of technology are also just causes.
    Within the context of restriction or removal of the pre-emptive right, the equal treatment principle often becomes an issue. According to a decision of the Swiss Federal Supreme Court dated 19928, a pre-emptive right granted to the shareholders in the event of a capital increase shall be used in accordance with the principle of equal treatment. The general assembly is entitled to restrict this right only with an objective justification and, if it is necessary, for the legitimate interests of the company, for example, in the event of capital increase for the purposes of adding new shareholders to the company, or expanding the environment of investors.
    A decision of the Court in 1966 sets forth essential principles related to the pre-emptive right9. In this case, the share capital of the company has been increased, and the general assembly has resolved that shareholders, other than those who were members of the board of directors, or employees of the company could not exercise their pre-emptive rights. The objective was to decrease the participation of some shareholders to the company's profit, as they were competing with the company through working within the company's area of business. The Court resolved that the restriction of the pre-emptive right would be valid only if it had an indispensable and significant motive related to the company's progress and continuity; otherwise, it would be rendered invalid due to the violation of the principle of equal treatment. The decision states that the restriction of the pre-emptive right in the specific case caused significant material damages to the shareholders whose rights were restricted and impaired their right to vote, that there were no valid grounds for this resolution, which was in violation of the principle of equal treatment, and that the intention of protecting the company against competition could not be a valid reason for this inequality.
    In a case subject to the decision of the Turkish Court of Appeals in 199710, the share capital of the company has been increased, and all of the increased capital has been covered from the debts of the company to one of the shareholders. The Court resolved that even if this is for the payment of the debt, allowing only such shareholder to exercise its pre-emptive right prevented other shareholders to participate in the capital increase and, therefore, violated the principle of equality.
    Evaluation of the Restriction within the Scope of Share Transfer Limitations
    According to Article 461/5 of the TCC, the company cannot prevent the shareholders from exercising their pre-emptive rights on the grounds that the transfer of registered shares is limited by the articles of association. With this rule, when the company's interests in limiting the share transfers contradict the shareholders' interests in acquiring new shares, the lawmaker prefers the pre-emptive right11. On the other hand, the wording of the Article reading as "shareholders that the company granted pre-emptive right" concludes that this preference only protects shareholders' pre-emptive rights, and that those who are not shareholders, but who only exercise the pre-emptive right that they acquired, cannot benefit from such preference12.
    Pre-Emptive Right in the Registered Capital System
    Article 461/2 of the TCC states that except for the condition relating to the general assembly quorum, provisions regarding the restriction or removal of the pre-emptive right shall also apply to the board of directors' capital increase decision in the registered capital system.
    This issue is also regulated under the Communiqué on the Principles Related to the Registered Capital System in Non-Public Companies13 ("Communiqué"). According to Article 9 of the Communiqué, during the capital increase, for the restriction of the shareholders' pre-emptive rights for new shares through the decision of the board of directors, the board of directors must have been authorized in this regard by the articles of association. The board of directors' authority to restrict the pre-emptive right cannot be used so as to create inequality between the shareholders. It is also regulated under Article 9 of the Communiqué that in the event of the authorization of the board of directors to restrict a pre-emptive right by the articles of association, a declaration setting forth the justifications of this authorization shall also be submitted in the permission application of the companies willing to apply the registered capital system. This provision intends that the Ministry of Customs and Trade examine the justifications of the board of directors' authorization to restrict the pre-emptive right, and acts as an auditing authority.
    Conclusion
    In the capital increases of joint stock companies through capital subscription, the TCC grants each shareholder the right to acquire new shares in accordance with the ratio of his/her current shares to the company's share capital. This right has been regulated with clearer provisions compared to the abrogated Turkish Commercial Code numbered 676214, and new rules have been introduced. Restriction or removal of the pre-emptive right by the general assembly is only possible with the affirmative votes of at least 60% of the share capital, and provided that just cause exists. Reasons such as public offering, acquisition of enterprises, parts of enterprises and subsidiaries, participation of the employees in the company, as well as the company's financial interests, recovery from repayment difficulty, and purchase of technology shall be also considered valid; however, in any event, an evaluation shall be made taking into consideration the conditions of each specific case.

    1 Ünal Tekinalp, Sermaye Ortaklıklarının Yeni Hukuku, Değişiklikler ve İkincil Düzenlemelerle Güncelleştirilmiş 3. Bası, İstanbul 2013, p. 306.
    2 Official Gazette February 14, 2011, No. 27846. It has entered into force on July 1, 2012.
    3 Preamble of Article 461 of the TCC.
    4 Preamble of Article 461 of the TCC.
    5 Preamble of Article 461 of the TCC.
    6 Tekinalp, p. 309.
    7 Preamble of Article 461 of the TCC.
    8 ATF 117 II 290 - JDT 1992 I 318-320; H. Ercüment Erdem, "Türk ve İsviçre Hukuklarında Eşit İşlem İlkesi", İsviçre Borçlar Kanunu'nun İktibasının 80. Yılında İsviçre Borçlar Hukuku'nun Türk Ticaret Hukuku'na Etkileri, İstanbul 2009, p. 413.
    9 JDT 1966 I 264-277; Erdem, p. 413.
    10 Court of Appeals 11th Civil Chamber, E. (File Number) 1997/5583, K. (Decision Number) 1997/6609, dated 06.10.1997 (www.kazanci.com).
    11 Preamble of Article 461 of the TCC.
    12 Preamble of Article 461 of the TCC.
    13 Official Gazette October 19, 2012, No. 28446. It has entered into force on the date of its publication.
    14 Turkish Commercial Code numbered 6762 (Official Gazette July 9, 1956, No. 9353) has been abolished through the entrance into force of the TCC.