Jan 06 2013
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Making the Saudi and UAE laws work in your favor
There was a steady flow of M&A, private equity and capital market deals in Saudi Arabia in 2012 and a significant improvement in the number of private equity deals in the UAE.
We witnessed growing investor appetite in real estate (particularly middle-income housing, compounds and hospitality), manufacturing, construction, petrochemicals, health care, education, IT, retail and the food and beverage sectors of Saudi Arabia. In the UAE, we have seen a growing interest in hospitality and certain residential developments in addition to sale-leaseback transactions, but investors continued to shy away from commercial real estate. In the UAE, we also witnessed a growing interest in food and beverage, finance, health care and education deals.
In both Saudi Arabia and the UAE, we have seen a growing interest in small and medium-sized businesses and venture capital opportunities for promising start-up companies and technologies. Finally, we note a growing interest by GCC investors to continue investing in foreign funds and companies and real estate in the US, UK and elsewhere in Europe with a growing interest in investments throughout Africa and Asia.
A limited liability company (LLC) still remains the most commonly used vehicle to invest in many GCC countries despite its inflexibilities in respect of exit rights. Any exit from an LLC will require the cooperation of all the shareholders of the company because any transfer of shares of an LLC is effected through the execution of amendments to the LLC's articles of association before a notary public. As a result, any shareholder can effectively block the change of ownership of the company.
A closed joint stock company (CJSC), which must have at least five shareholders in most GCC jurisdictions, offers a better alternative, especially in relation to corporate governance. However, in many GCC countries there is a lock-in period in which the founding shareholders may not sell their shares. For example in Saudi Arabia, the statutory lock-in period imposed by Article 100 of the Companies Regulations applies to the founding shareholders of a CJSC who are not allowed to transfer their shares to third parties during the first two financial years after the company's incorporation. We are aware of conservative interpretation of Article 100 so that the lock-in period also applies to new shareholders who subscribe for the CJSC's shares through a capital increase. An LLC can be converted into a CJSC, and this is usually done in preparation for a future IPO.
An investment fund authorized by the Saudi Arabian Capital Markets Authority (CMA) is increasingly seen as a much more flexible alternative when it comes to targeting a wider investor pool (including non-GCC investors), exit strategy, tax advantages and taking contractual security over fund units. Presently, it is not possible to take any security interest over shares of an LLC and while a system is being developed to take security over shares of a CJSC, such is still being developed and is untested.
In the UAE, it is technically possible to take a pledge over shares of an LLC in Dubai, but not elsewhere in the UAE. Even the system to take a pledge in Dubai is still being developed and largely untested. The UAE has recently created a similar locally domiciled funds regime, which opens up certain sectors reserved for GCC parties to foreign parties through the use of a fund structure.
Constitutional documents vs. shareholders' agreement
As far as shareholder rights are concerned, the Saudi Arabian authorities look at the company's constitutional documents (i.e. the LLC's articles of association and the CJSC's by-laws). While the Companies Regulations of Saudi Arabia do not recognize a shareholders' agreement, the provisions of any shareholders' agreement are arguably enforceable to the extent that those provisions do not contravene the company's constitutional documents, the Companies Regulations and any other applicable laws and regulations of Saudi Arabia.
Any obligation stipulated in a shareholders' agreement to take a particular action that requires the personal intervention of a party (e.g. to sell or purchase shares or to pass certain resolutions) or to refrain from taking a particular action (e.g. to manage the company in a manner that may harm the interests of the minority shareholders) is, in principle, unenforceable as the specific performance of such obligation will ordinarily be refused by a Saudi court or tribunal. Also, any action before the Notary Public in Saudi Arabia and the UAE generally requires a power of attorney or the party to take such action. Therefore, compulsory share transfer provisions (e.g. drag along rights or put and call options) are generally unenforceable in Saudi Arabia and the UAE.
The Saudi Arabian Ministry of Commerce and Industry (MOCI) retains a relatively high degree of control over what can be done with the company's constitutional documents. It can be challenging to persuade MOCI to accept any material changes (e.g. share transfers and reserved matters agreed in a shareholders' agreement) to the model articles/by-laws prescribed by MOCI although we have been successful in convincing the MOCI in regards to the inclusion of reserved matters or other minority protections into the articles/by-laws. However, an investor should be realistic and understand that every change requires approval, but experienced legal counsel will be aware of what changes are and are not realistic.
We are seeing in Saudi Arabia the use of financing from local lenders to leverage an acquisition of shares in a target company. This is a significant development as the lenders historically did not make acquisition financing available in the kingdom. A number of clients in the UAE and Saudi Arabia are actively utilizing sukuk as a means to further leverage an acquisition or bring additional capital into a deal.
In Saudi Arabia, most financing continues to be on a Shariah-compliant basis, while there is less focus on this issue in the UAE. We have also seen tremendous growth in the use of single asset locally domiciled funds, particularly in Saudi Arabia, as a means of bringing in additional funds into an investment.
We have seen an increasing trend of GCC-based private equity firms and institutional investors buying minority stakes in established Saudi and UAE businesses (e.g. food, construction and health care companies) with a view to realizing their investment through an IPO. Opportunities in the Saudi education sector keep attracting investor interest. The Saudi government has and continues to implement multi-billion educational projects, and this has created niche markets for businesses which provide support services to these projects (e.g. K-12 education, recruitment of local and overseas academic staff for universities, training of teachers, foreign language courses etc).
However, we are yet to see an IPO of a K-12 education business and are aware of one instance where CMA was uncomfortable to allow a listing of a company which operates KG schools in Saudi Arabia. However, there have been IPOs of education related businesses that do not directly operate K-12 schools.
It should also be noted that launching an IPO in the UAE continues to be a challenge. We note, however, a number of clients had successful IPOs and rights offerings in Saudi Arabia the last two years. A share sale still remains a fall back option should an IPO become unfeasible.
Deal highlights of 2012
One of the M&A highlights of 2012 is the SAR 730 million acquisition of Nesk Group for Trading Projects by Saudi-listed Fawaz Abdulaziz Al Hokair and Company. We would also mention NBK Capital's multi-million acquisition of a minority stake in Sanabel Al Salam, a leading Saudi producer and retailer of Arabic sweets and confectionary products. In addition, NBK Capital successfully exited Hanco, a leading fleet leasing and rental company in Saudi Arabia (awarded The Deal of the Year by The Banker magazine). King & Spalding acted as legal counsel on all three deals representing Fawaz Abdulaziz Al Hokair and NBK Capital. We have also been involved in forming numerous locally domiciled funds in relation to private equity transactions in Saudi Arabia and in the UAE and believe the trend will continue. For example, we represented Dubai Silicon Oasis in the formation of its venture capital fund and Jadwa, Shuaa Capital, Alinma, Al Rajhi Capital and others in relation to formation of their Shariah-compliant Saudi CMA funds.
Nabil A. Issa is a partner in the Middle East and Islamic finance group of King & Spalding, working from the Dubai and affiliated Riyadh offices. Prior to joining King & Spalding, Issa worked for leading law firms in Dubai and Riyadh and was also an adjunct professor of business law at the University of Sharjah's College of Business and Management.
Sanjarbek A. Abdukhalilov is a senior associate in the Middle East and Islamic finance practice group of King & Spalding and is based in the firm's affiliated Riyadh office. Abdukhalilov is qualified in England and Uzbekistan. Before joining King & Spalding, he worked as a corporate associate at the London office of another international law firm.
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