Saudi Arabia: Legal Analysis, Business Structures & Forms
The Saudi Arabian legal system is based on Islamic law, the Shari’a, with the Koran providing the most important source of law. Nonetheless, Royal and Ministerial Decrees are periodically issued to meet the complexities of modern life and commercialized business transactions. Such Decrees are only valid, however, if they do not conflict with Shari’a law. Also, the use of settlement or arbitration for deciding conflicts is becoming more common.
The main court is the Shari'a Court, which operates within the Ministry of Justice and deals with family, real estate and criminal matters. Appeals are made to the Shari'a Court of Appeals, and subsequently to the Custodian of the Two Holy Mosques.
The Ministry of Justice addresses disputes regarding commercial and labor matters. All cases concerning commercial disputes are dealt with through the Ministry’s Board of Grievances. The Commission for the Settlement of Labor Disputes deals with labor disputes and criminal violations of the Labor Law. The Government Administrative Judicial Committees decide matters concerning insurance disputes, unlicensed foreign capital investment and violations of customs duties.
The Board of Grievances administers disputes between Saudi Arabian government bodies and private parties as well as other matters provided for by special codes such as bribery, forgery and trademarks. Most cases are decided on their individual merits, and judges are therefore not bound by legal precedent.
Commercial Dispute Settlement
Historically, Saudis have not used commercial contracts that provide for arbitration or adjudication mechanisms outside of such mechanisms within the Saudi government. Saudi Arabia, however, has recently enacted an Arbitration Law and Regulations. As a result, the arbitration of disputes is no longer uncommon in the Kingdom.
Prevailing procedures are more time consuming than those in Europe and the United States and can cause personal inconvenience to foreigners. For example, a letter of no-objection is required from the Saudi sponsor of a foreign employee whose employment has terminated before the Government will issue an exit visa. Unfortunately, this requirement could be used to coerce or to intimidate people in certain business situations. Foreign business passengers traveling on a business visa do not require a letter of no-objection to leave the country.
The Saudis maintain, however, that they have made tremendous progress in resolving the backlog of commercial disputes, almost to the point of complete elimination. Moreover, the government no longer requires exclusive applicability of Saudi law in the resolution of private commercial disputes. In practice, however, Saudi courts tend to apply Saudi law in commercial disputes litigated in the Kingdom, even when the relevant contract contains a foreign choice of law provision and provides for a foreign forum to have jurisdiction. Business-to-business arbitration assistance, although expensive, is available from local chambers of commerce for some types of disputes.
Business Structures and Forms
Business associations are governed by the Regulations for Companies (issued in 1982, and amended in 1992). The Regulations list Business Structures and Forms, of which joint stock companies and limited liability partnerships are the most attractive to foreign investors. Additionally, there are certain Business Structures and Forms, such as liaison and technical/scientific offices, which are not specifically dealt with by the Regulations but are nevertheless subject to them.
Establishments, or sole proprietorships, although required to register with the Ministry of Commerce, are not subject to the Regulations. Such enterprises are of marginal interest to foreigners since a foreigner is not allowed to conduct business in Saudi Arabia as a sole proprietor. In addition, Saudi law forbids foreigners from engaging in business in the Kingdom under the name of a Saudi national.
Although not provided for in the Companies Law, the Ministry of Industry and Electricity and the Ministry of Commerce have issued administrative fiats that have allowed the creation of wholly foreign-owned branches. Such branches do not require a local sponsor and may enter into contracts and do business in Saudi Arabia under their own names.
The Regulations define a company as a joint undertaking to participate in an enterprise with a view to profit. Thus, a registered company is deemed to be a commercial entity, whatever its objectives may be. Upon registration, the company acquires legal personality. If it is not fully owned by Saudis it may not enjoy certain rights but would still be regarded as a Saudi company.
Every industrial or commercial establishment must be registered in the Commercial Register. Saudi participants in foreign companies and foreign branches need to obtain the consent of the Foreign Capital Investment Committee prior to registration.
Joint Stock Companies
A joint stock company is owned by five or more individuals or entities. Capital is apportioned into negotiable shares of an equal amount, and shareholders are liable only to the extent of the value of their holdings. The minimum capital requirement is two million Saudi Riyals (SR) or no less than ten million SR if its shares are offered for public subscription. The par value of each share cannot be less than SR 50, and upon incorporation, its issued paid-up capital must be no less than one-half of the authorized capital. A recent change to the Regulations allows a joint stock company to issue non-voting preferred shares in an amount up to 50 percent of its capital.
Prospective joint stock companies involving businesses such as mineral exploitation, administration of public utilities, banking and finance require authorization by Royal Decree prior to incorporation.
The management is composed of a board of directors. This board, appointed by the shareholders, must have a minimum of three members. Directors must own at least 200 shares of the joint stock company.
Limited Liability Companies
Generally, a company with foreign participation would incorporate as a limited liability company, meaning a privately held company used to set up industrial, agricultural, contracting or services projects having Saudi and foreign partners. Limited liability companies are specifically not permitted to conduct banking, insurance or savings operations. These entities may not offer subscriptions to the public to raise capital, and partners cannot transfer their interest without the unanimous consent of the other partners.
Limited liability companies may also be established in the form of partnerships limited by shares, in which the limited partner is liable to the partnership’s debts only to the extent of his capital contributions reflected in fully tradable share certificates. In practice, partnerships limited by shares are relatively rare.
A limited liability company must be registered under the Regulations for Companies as well as under the foreign capital investment regulatory regime. The various regulations do not specify minimum capital requirements for regular limited partnerships. A minimum capital of SR 1,000,000, however, is required for the establishment of a partnership limited by shares. Contribution stipulations, as well as other mandatory information, must be registered with the Ministry of Commerce.
A general partnership is an association of two or more persons who are jointly liable for the debts of the partnership to the extent of their personal fortunes. As a separate legal entity it can transact business in its own name. Partners are forbidden to transfer interests without the unanimous consent of the other partners. No minimum capital is required, and contribution terms are set forth in the partnership agreement which must be registered with the Ministry of Commerce.
Limited partnerships are composed of general partners who are liable for the partnership's debts to the extent of their personal fortunes and limited partners who are liable for partnership's debts only to the extent of their investment. Participation by limited partners in the management of the partnership might expose them to joint individual liability with the general partners. Registration requirements are the same as for general partnerships.
The name of the firm must include the name of at least one general partner. For reasons of liability, limited partners should avoid having their names included in the firm name.
As of 1991, foreign ‘free professionals’ such as lawyers, engineers and medical practitioners, may establish joint practices with partnerships that are locally licensed. The establishment of a professional partnership requires approval from the Ministry of Commerce, which sets conditions that concern the reputation of the foreign firms, the transfer of interests and minimum participation of Saudi partners (25 percent). Profits of foreign partners from such professional partnership will presumably be taxable, unlike salaries earned by foreign professionals working for local firms.
Foreign investment in joint ventures with Saudi partners has advantages. While foreign partners in a joint venture entity may hold 100 percent of the equity in some Gulf Cooperation Council (GCC) countries, there are advantages in having a local Saudi partner own 50 percent of the equity or more. For example, if a Saudi holds 50 percent of the equity in a joint venture company it enables the company to obtain an interest-free loan for up to 50 percent of the project cost, which is repayable over a period of ten years. In addition, majority Saudi-owned joint ventures are entitled to preference after wholly Saudi-owned companies in the allotment of government contracts. Trading and marketing activities aimed at Saudi individuals or wholly Saudi-owned companies, however, are forbidden to mix Saudi-foreign joint ventures by Royal Decree M/11 of 1962.
Foreign companies carrying out industrial or contracting works essential to the goals of economic development in Saudi Arabia may apply to the Foreign Capital Investment Committee for a license to establish a branch in the Kingdom. Upon receiving the license, the company may complete its registration process under the Regulation. It may be noted that, unlike a limited liability joint venture, a branch of a foreign entity is not entitled to a tax holiday. In practice, foreign companies have issued relatively few branch licenses, consistent with a general government policy of insulating the local market from direct competition.
In recent years, however, the concept of branches has been expanded to cover companies that are not involved in industrial and contracting works although the granting of such licenses is rare.
Saudi Service Agents
Foreign companies operating exclusively for the purpose of implementing government contracts are required to obtain temporary commercial registration. Such registration is available only to contractors operating in the public sector. If a foreign contractor is engaged in a governmental contract and does not have a Saudi partner, it must engage a Saudi national as an agent. In cases of certain military contracts an exception to this general rule may sometimes be made. Agents may receive compensation not exceeding 5 percent of the contract value. The agency agreement should be submitted to the Ministry of Commerce along with the application for temporary commercial registration within 30 days of signing the contract.
© 2000 Mena Report (www.menareport.com)