The new KSA companies law

Middle East, Saudi Arabia

The Kingdom of Saudi Arabia (“KSA”) remains one of the biggest and most exciting economies in the Middle East attracting foreign investment from all over the World. The legal framework in KSA presents certain limitations to domestic and foreign investors, compared with the structures and concepts commonly seen across Europe, the US and Asia. This is a common feature across the Middle East, which has resulted in businesses typically structuring their holding vehicles in common law-based jurisdictions such as ADGM or DIFC, to sidestep the limitations of local law. However, governments across the region are reacting to this dynamic by adapting their corporate laws to bring in the level of sophistication that domestic and international investors prefer.

On 28 June 2022, the KSA Cabinet of Ministers adopted a new companies law (the “New Companies Law”) that will replace the current Companies Law of 2015 as well as the Professional Companies Law of 2019.  The New Companies Law introduces significant changes to modernise the Saudi corporate law framework, designed to enhance the ease and flexibility of operating in KSA for existing businesses, while also attracting further foreign investment into the KSA market. Below are some of the key changes introduced by the New Companies Law:

  1. Simplified Closed Joint Stock Companies

  2. The New Companies Law created a new company form called the Simplified Closed Joint Stock Company (the “SCJSC”). SCJSCs combine all the benefits of an LLC in terms of no minimum share capital, ease of management, ease of establishment, ease of making shareholders’ resolutions as well as the benefits of a Closed Joint Stock Company (“CJSC”) in terms of the ease to trade shares, creating any type of special shares like non-voting shares or premium shares. 

    The shareholders of a SCJSC can now add restrictions on transfers of shares in the SCJSC’s by-laws. These restrictions can either be a restriction on selling the shares for a period not exceeding 10 years, or an open-ended restriction that an approval from the other shareholders must be obtained before selling the shares. 

    Another condition that can be added to the by-laws of SCJSCs is forcing any of the shareholders to sell its shares for a fair value unless the by-laws provides another mechanism for evaluating the shares. The New Companies Law does not specify which shareholders can force which other shareholders to sell their shares, or the circumstances that this situation is permitted in – this is left as a matter for the shareholders to agree on when signing the by-laws. This leaves the potential therefore for the by-laws to include call options over shares (though, potentially not put options), which could pave the way for use in management incentive schemes, where managers participating in equity incentive schemes could be obliged to sell their shares either to the company or to the other shareholders if such managers leave the company. This is a particularly important development and will be interesting to see how the authorities and courts implement and enforce terms in SCJSC by-laws under this provision.

    The SCJSC is meant for accommodating the booming venture capital market in KSA as well as for experienced investors.

  3. Squeeze-out procedures recognised

  4. A significant addition to the regulatory framework of JSCs, CJSCs and SCJSCs is that shareholders owning 90% or more of the total voting shares can force the owners of the remaining 10% to sell their shares for a fair value. This empowers the majority shareholders in that case to take greater control over the Company in the context of a planned sale or other material corporate transactions.

  5. Shareholders’ Agreements
  6. The New Companies Law finally settles a regulatory gap in KSA related to shareholders’ agreements. In the past, such agreements were not properly recognized by courts, and court practices were not consistent in this regard given that the Articles of Association of a company already governs the relationship between the shareholders. However, the New Companies Law specifically recognizes such agreements and even allows for such agreements to be incorporated into the Articles of Association if the shareholders want to.

  7. Drag-along and Tag-along Rights

  8. Another regulatory gap that the New Companies Law resolves is the drag-along and tag-along rights. Despite being common, they were difficult to enforce in the past. However, the New Companies Law allows for such rights for LLCs, CJSCs and SCJSCs and will give investors significantly greater confidence entering into joint venture arrangements in KSA where these mechanics can be crucial to investors’ future planning.

  9. Issuing Security Instruments for LLCs

  10. Creating security instruments for LLCs in the past was practically difficult due to the lack of relevant regulatory framework. The New Companies Law now allows LLCs to pledge their shares, issue Sukuks or any other debt instruments.

  11. Allowing for Varying Dividend Distribution

  12. The old Companies Law allowed companies to have varying dividends distribution among the shareholders despite their ownership percentage in accordance with Sharia Law, but this did not properly materialize on ground due to the ambiguity of being compliant with Sharia Law. The New Companies Law deleted the reference to Sharia Law, allowing shareholders to agree on whatever percentages that suit them.

  13. Removing the Restrictions Associated with the Number of Board Member and their Compensation

  14. In the old Companies Law, the board of directors of CJSCs and JSCs were limited to 11 members, with the compensation being limited to SAR500,000 per year. The New Companies Law lifted both restrictions allowing for a greater range of talent to be engaged at Board level, and for the top performing directors to be remunerated accordingly allowing businesses to attract and retain the best leadership talent.

  15. Fiduciary Duties of General Managers and Board Directors

  16. The New Companies Law touched on the fiduciary duties of the company’s general manager or board member, which was not properly regulated in the past, and court practices were not consistent in this regard. A company general manager or board member will not be liable for the adverse effects of a decision suffered by the company, provided that the general manager or board member:

    1. Does not have personal interests in the decision;

    2. Is sufficiently aware of the matter to the required extent given the surrounding circumstances, all in accordance with the manager’s reasonable belief; and

    3. Genuinely and reasonably believes the decision is in the company’s best interests.

    The burden of proof will be on the injured party to show that any or all of the criteria were not met before any liability attaches to the general manager or board member.

  17. Recognizing the Concept of Apparent Authority for SCJSC

  18. The concept of apparent authority of the general manager is recognized only for SCJSCs, where the general manager of such company type can make any decisions whatsoever even if such decisions are out of the manager’s powers. The same concept is also recognized for the board of directors of CJSCs and JSCs but with certain limitations related to third-parties. A CJSC or JSC will not be bound if the third-party knew such decision is out of the board’s powers.

  19. Easing the Requirement to have a Certified Auditor for Small and Very Small entities
  20. “Small” and “very small” Saudi-owned companies are not required to have certified auditors. A small company is a company that has between 6 and 49 employees with an annual turnover of SAR3 to 40 million, a very small company has up to 5 employees with a total turnover of less than SAR3 million. However, foreign companies will still be required to have auditors even if such companies qualify as a small or very small companies.

  21. Allowing Arbitration for Shareholders’ disputes

  22. The New Companies Law allows for arbitration to be agreed on between the shareholders, and write the relevant provisions in the Articles of Association or by-laws of the company.