Authors: Corporate Law Department, Atty. Mustafa Şahin

Introduction

Capital increase in joint stock companies should not be regarded merely as a technical transaction aimed at strengthening the financial structure of the company. A capital increase is also a corporate action that may lead to the reshaping of the shareholding structure, alteration of the balance of rights and interests of existing shareholders, enabling the entry of new investors and, in certain cases, an effective transformation of the corporate strategy of the company. For this reason, capital increase constitutes one of the most heavily regulated areas of joint stock company law both in terms of the financing needs of the company and the protection of shareholders.

The Turkish Commercial Code No. 6102 (“TCC”) regulates the principles relating to capital increases in joint stock companies within a comprehensive and systematic framework and sets forth in detail different methods such as capital increase through capital commitment (external sources), capital increase from internal resources and conditional capital increase. Within this framework, the capital increase regime under the TCC provides a balanced system that both protects the rights of existing shareholders and enables new investors to participate in the company.

I. Legal Nature and Statutory Framework of Capital Increase

In joint stock companies, capital increase constitutes a corporate transaction resulting in an amendment to the provision of the articles of association relating to capital. Therefore, capital increase is not merely a financial transaction but also a corporate law transaction in the nature of an amendment to the articles of association. Pursuant to Article 456 of the TCC, capital increase is effected through amendment of the articles of association. Accordingly, the decision to increase capital falls, as a rule, within the authority of the general assembly; however, under the registered capital system, such authority may also be exercised by the board of directors within the limits granted by the articles of association, within the framework of an amendment to the articles of association to be made on the basis of the law and a general assembly resolution.

The adoption of a capital increase resolution alone is not sufficient. The increase becomes effective upon registration with the trade registry. The function of registration in this respect is constitutive rather than declaratory. Article 456/3 of the TCC also introduces an important time regime, stipulating that capital increase resolutions that are not registered within three months from the date of the general assembly or board resolution shall become invalid.

In addition, pursuant to Article 457 of the TCC, the board of directors must prepare a statement depending on the type of capital increase. Such statement must explain matters such as that the increased portion has been fully subscribed, the required payments have been made, the legal and economic appropriateness of in-kind contributions or set-off, the existence of internal resources in case of capital increase from internal sources, and the reasons for any restriction of pre-emptive rights.

II. Distinction Between the Fixed Capital System and the Registered Capital System

In order to properly understand capital increase methods in joint stock companies, the distinction between the fixed capital system and the registered capital system must first be clarified. The distinction set forth in Article 332 of the TCC is decisive for determining the corporate body authorized to resolve on capital increases. While fixed capital refers to the capital fully committed in the articles of association, registered capital refers to the ceiling capital indicating the upper limit of the authority granted to the board of directors to increase capital.

Under the fixed capital system, the capital increase decision is, as a rule, taken by the general assembly. Under the registered capital system, however, provided that authority is granted in the articles of association and for a period not exceeding five years, the board of directors may increase capital up to the registered capital ceiling. Article 460 of the TCC allows this possibility even for non-public joint stock companies. When exercising such authority granted by the general assembly, the board of directors must comply with the limitations set forth in the articles of association and the provisions concerning privileged shares, pre-emptive rights and issuance of shares at a premium.

III. Capital Increase Methods

Within the systematic structure of the TCC, three principal methods of capital increase are recognized in joint stock companies: capital increase through capital commitment (external sources), capital increase from internal resources, and conditional capital increase.

A. Capital Increase Through Capital Commitment – Capital Increase from External Sources

Capital increase through capital commitment refers to the classical increase whereby new assets are injected into the company from external sources. Such increase may be in cash or in kind. Pursuant to Article 459/1 of the TCC, under the fixed capital system, all shares representing the increased capital must be subscribed either in the amended articles of association or in participation commitment letters. The second paragraph of the same article requires that the participation commitment be unconditional, in writing, and made within the framework of Article 461 of the TCC regarding pre-emptive rights. The participation commitment letter must specify the number, nominal value, type and class of the shares subscribed, the amount paid in advance, the commitment period and any share premium.

It should particularly be emphasized that participation commitment constitutes the most typical mechanism enabling the entry of a new investor into the company. In practice, the expression that an investor “participates in the company through capital increase” generally refers precisely to this mechanism. In other words, an investor becomes a shareholder mostly not through share transfer but by subscribing to the increased capital and acquiring newly issued shares. For this reason, participation commitment is not a subsidiary but rather a central element of the capital increase regime.

With respect to cash capital, Article 456/1 of the TCC introduces an important limitation: except for increases from internal resources, a capital increase through capital commitment may not be effected unless the cash consideration of the shares has been fully paid. Furthermore, if funds permitted by legislation to be added to capital exist on the balance sheet, in non-public companies, such funds must also be simultaneously converted into capital in order for a cash capital increase to be made. However, deviation from this rule is possible if all shareholders are represented and the decision is taken unanimously at the general assembly. This regulation under Article 462/3 of the TCC constitutes a mixed protection mechanism that evaluates external and internal capital increases together.

Capital commitment must be made unconditionally in the amendment to the articles of association or in the participation commitment letter. At least twenty-five percent of the nominal value of the committed shares must be paid prior to registration, and the remaining portion must be paid within twenty-four months at the latest. The board of directors is responsible for ensuring that the committed share prices are paid within the prescribed period.

If the capital contribution obligation is not fulfilled within the prescribed period, the shareholder falls into default without the need for notice pursuant to Article 482 of the TCC and becomes liable to pay default interest. However, in order for the shareholder to be deprived of the rights arising from the participation commitment and for the shares to be forfeited, a proper notice must be served by the board of directors granting a one-month period pursuant to Article 483 of the TCC. If payment is not made within the granted period, the board of directors is authorized under Article 482/2 to forfeit the shareholder and to sell the relevant shares and replace them with others. The forfeited shares may be allocated to existing shareholders or third parties, taking into account the interest of the company and the principle of equal treatment.

Furthermore, pursuant to Article 456/3 of the TCC, the capital increase resolution must be registered with the trade registry within three months; if the increased capital is not validly subscribed within this period, the resolution becomes invalid.

B. Capital Increase Through In-Kind Contributions

Capital increase through capital commitment may also include contributions in kind rather than cash. Article 459/3 of the TCC explicitly provides that Articles 342 and 343 of the TCC shall apply mutatis mutandis. Accordingly, assets to be contributed in kind must be transferable, capable of being valued in monetary terms and free from any limited real right, attachment or injunction; moreover, their value must be determined by court-appointed experts.

Immovable property, movable property, intellectual property rights, trademarks and patents, license rights, business enterprises, participation interests and transferable receivables may be contributed as in-kind capital. In practice, it is also possible for a shareholder to contribute receivables owed either by the company or by third parties as in-kind capital, provided that such receivables are due and transferable.

This regime is a requirement of the principle of capital protection; since overvaluation of in-kind capital may prejudice both company creditors and existing shareholders.

C. Capital Increase from Internal Resources

Capital increase from internal resources refers to the conversion of funds already existing within the company into capital. Article 462 of the TCC explicitly regulates this method. Under this method, no new assets enter the company; however, certain items included in the liabilities side of the balance sheet and freely disposable are transferred to the capital account. Capital increase from internal resources is regarded as a special type of increase which does not create a new inflow of capital in economic terms but nevertheless produces all legal consequences of a capital increase.

In capital increases from internal resources, no additional payment is requested from shareholders. As a consequence, bonus shares are issued to shareholders. However, pursuant to Article 457 of the TCC, the board of directors must state in its declaration from which sources the increased amount is derived and confirm that such sources actually exist within the assets of the company. In addition, trade registry practice requires the existence of such resources to be evidenced by a certified public accountant or auditor report.

D. Conditional Capital Increase

Conditional capital increase enables holders of conversion or subscription rights attached to debt instruments similar to bonds, or employees, to acquire shares upon the occurrence of certain conditions. Articles 466, 467 and 468 of the TCC contain provisions protecting both existing shareholders and holders of conversion or subscription rights. Within this framework, the right of shareholders to be offered shares is preserved, and it is also ensured that conversion or subscription rights are not rendered worthless by subsequent transactions.

E. Capital Increase with Share Premium

In capital increases through capital commitment, shares may be issued at a price above their nominal value. This amount, referred to as share premium or issuance premium, represents the difference between the nominal value of the share and the issuance price. Under the system of the Turkish Commercial Code, share premium does not constitute freely distributable profit but is treated as an equity item and may only be used in accordance with statutory provisions.

Capital increase with share premium serves, in particular, to protect the economic position of existing shareholders in the event of entry of new investors. Through this method, the company may obtain a higher amount of financing while the nominal capital increase remains limited. Furthermore, share premium performs an important function in aligning the share value with its real economic value.

IV. Pre-emptive Rights

Pre-emptive rights constitute one of the fundamental shareholder rights intended to preserve the proportional position of existing shareholders within the capital following a capital increase. Pursuant to Article 461 of the TCC, each shareholder has the right to acquire newly issued shares in proportion to their existing shareholding. This right is regarded as a mechanism serving the protection of shareholders’ economic and managerial positions and is considered one of the primary tools preventing dilution.

Pre-emptive rights are not absolute. Under Article 461 of the TCC, such rights may be restricted or removed for justified reasons. In such case, the board of directors must, within the scope of Article 457 of the TCC, explain in its statement the reasons for the restriction or removal of pre-emptive rights and the principles governing such restriction. In practice, restriction or removal of pre-emptive rights is often considered for the purpose of facilitating investor entry. However, since the exercise of this authority directly affects the balance of interests among shareholders, it is crucial both to concretize the “justified reason” criterion stipulated in the law and to evaluate the transaction within the framework of the principle of equal treatment. Otherwise, interference with pre-emptive rights may lead to corporate disputes and litigation by shareholders in case of violation.

Furthermore, pursuant to Article 461/3 of the TCC, the board of directors determines the principles governing the exercise of pre-emptive rights and grants shareholders at least fifteen days to exercise such rights; this period starts from the date of announcement. This statutory period constitutes a minimum protection period allowing shareholders to assess whether to participate in the capital increase.

V. General Assembly Quorums and Regulatory Dimension

Since capital increase results in amendment of the capital clause of the articles of association, it constitutes an amendment to the articles of association in terms of legal nature. Therefore, Article 456 of the TCC applies and the decision is adopted by the general assembly.

Article 421 of the TCC applies with respect to general assembly quorums. Accordingly, amendments to the articles of association relating to capital increase require the presence of shareholders representing at least half of the capital at the first meeting and the affirmative vote of the majority of votes present. At the second meeting, representation of at least one-third of the capital is sufficient. However, if the capital increase infringes the rights of privileged shareholders, approval of the special meeting of privileged shareholders is also required pursuant to Article 454 of the TCC.

The fact that capital increase constitutes an amendment to the articles of association also has consequences regarding the presence of a Ministry representative at the general assembly. Pursuant to Article 32 of the Regulation on General Assembly Meetings of Joint Stock Companies and Ministry Representatives, a Ministry representative must be present at all general assembly meetings of companies subject to Ministry approval for establishment and amendments to articles of association. In other joint stock companies, a Ministry representative must also be present at general assembly meetings where the agenda includes capital increase or decrease, transition to the registered capital system, exit from the registered capital system, increase of the registered capital ceiling, amendment of the scope of activity, merger, division or conversion. Accordingly, except for single-shareholder joint stock companies, a Ministry representative must be present at general assembly meetings where capital increase decisions are discussed, regardless of whether the company is subject to approval. Decisions adopted in the absence of a required Ministry representative are invalid.

VI. Trade Registry Dimension

Adoption of a capital increase resolution by company bodies does not mean that the transaction is completed. Capital increase becomes effective upon registration with the trade registry. Therefore, registration constitutes a constitutive element rather than a complementary one. Under the TCC and Trade Registry Regulation, the legal consequences of capital increase arise only upon registration.

Required documents vary depending on the type of capital increase. In the fixed capital system, a notarized copy of the general assembly resolution must be submitted, whereas in the registered capital system, a board resolution is submitted. Additionally, the amendment text, board declaration, auditor or CPA report, attendance list and, where necessary, Ministry representative documentation must be filed.

Where capital increase is made through cash commitment, documents evidencing subscription and bank letters confirming payment are required. For in-kind contributions, court-appointed expert valuation reports must be submitted. For increases from internal resources, CPA or auditor reports confirming the existence of the resources are required.

Participation commitment letters must also be submitted where new shareholders participate. Where pre-emptive rights are restricted, the board declaration must also be filed.

Upon approval, the capital increase is registered, and the amended capital becomes legally effective.

Conclusion

Capital increase constitutes an important tool not only for financing needs but also for restructuring the shareholding structure, establishing relationships between incoming investors and existing shareholders, and determining control over the company. Accordingly, capital increase transactions must be structured not only in compliance with statutory procedures but also in a manner compatible with the company’s structure. Such structuring is decisive not only for legal certainty but also for the economic success of the company and both existing and prospective shareholders.