Restructuring? Or a composition agreement?

Financial restructuring is an option that must be explored before resorting to a composition with creditors 

The economic crisis we experienced in our country in 2001 spread from the public sector to the financial sector and from there to the real sector. The decline in exports’ share of total demand and production, along with the volatility in the money markets following the shift to a floating exchange rate regime, made it difficult for our companies to forecast their costs and revenues. Many firms scaled back their operations and investments, and many even struggled to repay their debts.

As our country recovered from the crisis, we were only minimally affected by the global financial crisis that began in the U.S. in 2009. In the period leading up to the COVID-19 pandemic in 2020, the global economy was characterized by expansionary monetary policies, low interest rates, and abundant liquidity. As seen in the case of Turkey, companies in emerging markets preferred to finance their growth with external sources rather than equity during this expansionary period. However, the current environment of rising interest rates has made conditions difficult for these companies. This is because, as interest rates rise, the repayment obligations of these already indebted companies increase. As we discussed in our previous articles, the rising interest rate environment has also had a contractionary effect on demand, thereby reducing corporate revenues. Ultimately, companies began to face difficulties repaying their debts due to deteriorating cash flows.

In this article, I will discuss some of the consequences that may arise if payment difficulties occur.

What happens if we don't pay?

When a company’s payment difficulties reach an insurmountable level, bankruptcy or a composition with creditors becomes a possibility for the business owner. For a business facing bankruptcy, the question is simple: Can it pay its debts, or can it not? Since, under the Turkish legal system, formal grounds for bankruptcy generally apply, it does not matter whether a debtor subject to bankruptcy is in poor financial condition, has assets, or has liabilities exceeding its assets.

Concordat, one of the restructuring mechanisms

A composition is an institution under enforcement and bankruptcy law whereby a debtor on the brink of bankruptcy reaches an agreement with its creditors through the court to pay a certain portion of its debts. The legislature has also stipulated that if a debtor’s petition for a composition is not approved, is rejected, or is rescinded, bankruptcy proceedings may still be initiated against the debtor. Therefore, for companies experiencing financial difficulties, the concordat can be considered a pre-bankruptcy solution.

From Bankruptcy Stay to Composition

With Law No. 7101 on Amendments to the Enforcement and Bankruptcy Law and Certain Other Laws, enacted on March 15, 2018, the institution of bankruptcy deferral was abolished; at the same time, a series of regulations were introduced to make the concordat institution more effective. Prior to this amendment, the concordat had been a virtually unused practice for the 12 years since the suspension of bankruptcy had been in effect.

Under the bankruptcy moratorium system, there was a lengthy and arduous process between the debtor and the court, without creditors being involved. While a bankruptcy moratorium decision—which halts all enforcement proceedings and seizures against the debtor—leaves creditors with their hands tied, under the composition with creditors system, creditors now have a say in the matter. Under this framework, the debtor company and creditors reach an agreement through mutual negotiation; once the agreement is approved by the court, protective provisions against enforcement proceedings against the debtor take effect. This is because, by design, a composition allows the debtor company to continue its commercial operations while also enabling creditors to collect their claims.

Financial Restructuring

The financial restructuring process has taken shape and evolved over the years through a series of laws in our country. Debtors can restructure their loan obligations to banks, financial leasing, factoring, and financing companies in Turkey. With the exception of debtors against whom a bankruptcy ruling has been issued, all commercial enterprises that owe money to institutions that have signed the framework agreement may apply.

The path I identified as a “way out” in the title of this article is financial restructuring. This is because financial restructuring differs from a concordat, which we have described as a pre-bankruptcy exit option. First and foremost, it does not involve court proceedings. Furthermore, circumstances such as the freezing of claims and the suspension of enforcement proceedings—which occur when a concordat petition is accepted—do not apply in the financial restructuring process. 

From the banks’ perspective, financial restructuring is preferred over a composition agreement. Rather than putting all their claims on hold, banks—unlike in a composition agreement—make greater efforts to restructure the debtor company’s debt structure and repayment terms. Financial restructuring has a broad scope and may include not only debts but also operational strategies, asset sales, and other financial arrangements.

The concordat process continues for a specific period, subject to court approval. During this period, the company can achieve financial recovery by repaying its debts according to the restructuring plan or by meeting certain conditions. In the financial restructuring process, however, the timeframe is more flexible, depending on the company’s needs. The process can continue until the company takes steps to improve its financial situation. Therefore, we can say that this is a more voluntary and time-flexible approach.

What factors are considered when deciding on financial restructuring?

If a company in debt is confident that it can continue its operations, it should prepare a projection—taking into account its business cycle and cash flow—prior to filing for financial restructuring. Many factors, such as the structure of its debts and the number of financial institutions to which it owes money, must be carefully considered.  

If the application is approved, the creditor bank may, at its own discretion, grant the debtor company a working capital loan, restructure its debts, or defer payments. In short, while it does not—as is the case with a composition agreement—effectively suspend the collection of debts or protect against interest charges, we can clearly say that it helps a business catch its breath.

There is also an advantage for the bank here. Since the bank wants to collect its debt, the flexibility offered by the financial restructuring process allows it not only to increase the likelihood of collecting its receivables from that business—under its own control—but also to enable its customer to continue operating in the future.

For this reason, it is important for companies to be informed about the financial restructuring process before entering into a composition agreement, provided the conditions are right. However, as I mentioned above, the success of managing the financial restructuring application process depends entirely on accurate projections, as well as the company’s capabilities and good faith. It is of the utmost importance for the company to have confidence that it can continue its operations. 

The balance sheet of a company filing for financial restructuring will, of course, come under strain during this process. In fact, the company’s owners may not even want it to be referred to as a “restructured company” for the sake of their reputation. However, the financial restructuring process—with the help of experts and accurate projections—is a path that must be explored before resorting to bankruptcy proceedings. For a company, continuing to operate through this method is more important than defaulting on checks or becoming unable to service its debts. In fact, we can say that this approach is a more likely path to success for companies seeking to overcome their debt repayment difficulties.

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