On June 28, 2022, the Saudi Council of Ministers in the Kingdom of Saudi Arabia (the ‘Kingdom’ or ‘KSA’) approved the new Companies Law (the ‘New Companies Law’) under Saudi Arabia Cabinet Decision No.678/1443. The New Companies Law was approved and published in the official gazette on July 4, 2022, with the legislation expected to come into effect around December 31, 2022.
The New Companies Law will replace the recently published Companies Law of 2015, as well as the Professional Companies Law of 2019 (collectively referred to as the ‘Old Companies Law’) and has been widely hailed as a catalyst in helping to diversify the KSA economy and encourage foreign investment, in line with the Kingdom’s Vision 2030.
The key updates in the New Companies Law are set out as follows:
Introduction of a Simplified Joint Stock Company
One of the more significant changes in the New Companies Law is the introduction of a new form of Company in KSA – a ‘simplified joint stock company’ (‘SJSC’) – as set out in Articles 138-155 of the New Companies Law. This decision aims to facilitate the growing demands of entrepreneurship and venture capital investment in the Kingdom. The SJSC is a flexible corporate entity which can be established by one or more persons without a minimum capital requirement. SJSCs also have simpler management structures, i.e., they can be managed by one (or more) chairman, director, or board of directors. Shareholder decisions can also be made by circulation as an alternative to a General Assembly.
Clarity on the standing of Shareholders’ Agreements
Shareholders’ agreements and family-run businesses are now recognised under the New Companies Law. Article 11 of the New Companies Law introduces charters to control the ownership, management, operations and division of profits in such companies. In light of this, the shareholders' agreement and family charter are now binding and must be included in the articles of association or bylaws of the company.
Historically, courts have not uniformly upheld such agreements, and the Old Companies Law is silent in this regard. Hopefully, this clarification in the New Companies Law would reduce uncertainty, especially in the context of intricate shareholder agreements that increasingly rely on individual contracts.
Joint Stock Companies (JSCs)
The New Companies Law also introduces several changes to the rules relating to the incorporation and governance of JSCs, which include:
- the ability to establish a JSC with only one shareholder;
- removing the cap on the maximum number of board members (which was limited to 11 under the Old Companies Law);
- permitting the issuance of different classes of shares with varying rights and obligations;
- removing the maximum cap for remunerations of board members (which was limited to SAR 500,000 per annum under the Old Companies Law); and
- granting the General Assembly powers to determine the remuneration and benefits of board members.
As a result of these positive legislative shifts, KSA JSCs will be able to appoint a greater pool of talent and professionals on the Board of Directors.
Micro and Small Company Exemptions
Article 19 of the New Companies Law exempts the requirement that small and micro businesses in KSA have a qualified auditor, presumably in an effort to foster more start-ups. The definition of a small or micro company, as well as the time period during which they are exempt, would be specified by the soon to be issued implementing regulations of the New Companies Law.
Multiple classes of shares
Article 108 of the New Companies Law allows JSCs to issue different classes of shares, such as ordinary, preferred and redeemable. There are also now provisions in place to allow a company's Articles of Association to provide for other share classes, and to grant or restrict certain rights and privileges. This move is likely to be well received by JSCs which will now be afforded additional flexibility to attract further investment.
Many jurisdictions across the globe have moved towards adopting and allowing communications such as board meetings to take place virtually, more so since the Covid-19 pandemic. Keeping in line with modern business practices, the New Companies Law also now expressly supports the use of virtual communications.
Management of the Companies
Article 26 of the New Companies Law addresses the long-debated topic of whether directors or the manager of KSA companies owed fiduciary duties to the company and its members, by imposing an express duty of care on all managers and directors.
The New Companies Law further sets out obligations on directors and managers in order for them to meet their standard of care, which includes:
- exercising their functions within the limits of the powers assigned to them;
- acting in the best interests of the company and promoting its success;
- acting independently when voting on restrictions;
- discharging their duties with reasonable and expected care, attention and diligence; and
- avoiding conflicts of interest;
- disclosing their direct or indirect interest in the business or the contracts concluded for the company;
- refraining from accepting any benefits offered to them by third parties in relation to their role in the company.
The soon to be issued implementing regulations will set out further provisions vis-à-vis duties of the directors and managers of the company.
If a transaction is found to be in breach of the conflict-of-interest provisions, the company may seek court invalidation of the transaction and order the director or manager to repay the company for any gain or benefit the individual received as a result of the violation. If a manager or director is found to be working for a company that is in direct rivalry with the company's business, the company might sue for damages in court.
Squeeze-out Procedures recognized (Drag Along)
Under Article 230 of the New Companies Law sets, 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 move empowers the majority shareholders to assert greater control over the company during corporate transactions mergers or takeover.
Drag-along and Tag-along Rights
Article 113 of the New Companies Law allows JSC shareholders to include provisions in the company’s articles of association that (a) allow shareholders owning 90% of the share capital to require the minority shareholders to sell their ownership to a third party (a ‘drag-along’ right), or (b) enable minority shareholders to sell their ownership to a third party interested in acquiring the majority shareholder's ownership (a ‘tag-along’ right). Similar rights have been provided to the partners of a limited liability company under the New Companies Law.
These rights were not expressly recognized in the Old Companies Law and also historically difficult to enforce. The provisions in the New Companies Law will now give investors greater confidence when entering into joint venture agreements.
The Old Companies Law restricted a limited liability company's access to financing only through debt route by using secondary markets. In an effort to provide greater flexibility in this respect, Article 179 of the New Companies Law allows limited liability companies to raise capital through the issuance of sukuks, debt instruments, or financing instruments. Once the Ministry issues the implementing regulations, it would become clear in terms of the nature of the debt instrument and the method for issuing debt instruments for raising capital.
Under Articles 153 and 173 of the New Companies Law now allows arbitration and other alternate dispute mechanisms for settling a dispute between shareholders, partners or dispute between the company and its directors/managers provided that the same is permitted by the company's Articles of Association.
Encouraging employees’ shares (employee’s stock options)
In a further bid to help companies in attracting and motivating a higher calibre of talent, the New Companies Law, under Article 72(2)(b) makes reference to employee incentive schemes by allowing the issuance of shares to be dedicated to employees, or options to acquire such shares after a period of time.
The New Companies Law has removed the triggering of automatic dissolution of a company by force of law where the company losses reach or exceed 50% of its share capital, and no members’ resolution is in place to allow the company to continue.
If a joint stock company's losses amount reaches half of its issued capital, the board of directors is required by Article 132 to inform the shareholders within 60 days of learning of it and to call an extraordinary general meeting of the company within 180 days of learning of it so that the shareholders can decide whether to continue operating the business and take steps to mitigate the losses or to dissolve it.
Similarly in the case of a limited liability company, Article 182 of the New Companies Law states that in the event of losses reaching half a company's capital, the company's managers must hold a partners’ meeting within 60 days to consider the continuation of the company and the relevant procedures that must follow.
We have observed that in practice the Ministry of Commerce under the Old Companies Law sua sponte would not go and dissolve companies with losses, but a case in front of the proper court from one of the partners/shareholders to ask for dissolution was necessary and could not be stopped. This update in the law will again be particularly welcomed by startups where there is likely to be a significant outlay of capital immediately after a company’s formation and before sizeable revenue can be generated.
Much like the UAE with its recent legislative reforms, the introduction of the New Companies Law only seven years after its previous version highlights KSA’s intent to continue to evolve its business landscape and bring it more in line with best practices within the global market. Many parallels can be drawn between the New Companies Law and the UAE’s Companies Law 2021 (Federal Law by Decree No.32), such as the provisions relating to the removal of restrictions on the number of managers, financial distress, dispute resolution mechanisms, director remunerations and the nomination of a single shareholder. It is anticipated that the New Companies Law will provide greater flexibility for establishing and managing companies and will hopefully circumvent the limitations faced by both domestic and foreign investors in the past. Whilst we have yet to see what impact the New Companies Law will have, the changes will likely be welcomed by both the business and legal communities in KSA.
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