Settings up corporates (7): The legal framework of corporate governance – Overview!

We will adopt leading international standards and administrative practices, helping us reach the highest levels of transparency and governance in all sectors”! Under the slogan “An ambitious nation.. Effectively governed..” the previous words came to confirm the keenness of the Kingdom of Saudi Arabia to take corporate governance measures in all sectors of the state.

The concept of governance has become increasingly apparent with the issuance of the Saudi Capital Market Authority’s Corporate Governance Regulations that clarify the rules and standards governing the company’s management to ensure that companies adhere to the best corporate governance practices that ensure the protection of the rights of shareholders and stakeholders, and this was followed by the issuance of the Saudi Arabian Monetary Agency’s Corporate Governance Regulations for Listed Companies Under the banking and insurance sectors.

Because of the importance of corporate governance, ALF Law Firm offers this article as part of a series of articles on setting up corporates to know about the concept of governance, its importance, and objectives, in addition to an overview of the legal framework of corporate governance in KSA.

What does corporate governance mean!!

According to the International Finance Corporation (IFC), corporate governance can be defined as “the system by which companies are managed and their business controlled”. According to the Organization for Economic Co-operation and Development (OECD), it can also be defined as “a set of principles that encourage markets transparent and efficient, provide protection for shareholders and stakeholders, and hold the board of directors accountable for its responsibility to the company and shareholders.”

The Corporate Governance Regulations issued by the Board of the Saudi Capital Market Authority defined it as “rules for leading and directing the company that includes mechanisms to regulate the various relationships between the board of directors, executive directors, shareholders, and stakeholders, by setting special rules and procedures to facilitate the decision-making process and to impart a character of transparency and credibility to it in order to protect the rights of Shareholders and stakeholders and achieve fairness, competitiveness, and transparency in the market and business environment.

In general, governance expresses a structure that includes elements and processes that are linked and arranged as foundations for good and rational management, through which the best use of existing resources is made, and they are properly managed according to certain criteria that lead to the continuation of companies in performing their economic role, such as efficiency, transparency, effectiveness, financial and administrative accountability, and sustainability.

Why corporate governance?!

The Saudi Capital Market Authority answers this question simply by saying: “The companies that effectively apply the principles of governance enhance the level of confidence and confidence of their shareholders on their investments, because this is an indication that the board of directors and the executive management are aware of the risks surrounding the company and thus their ability to manage these risks and limit Including, which helps the investor to make his investment decision, taking into account other basic criteria for investment, because corporate governance is an effective practice that leads to attracting investors and gaining their confidence because of its advantages, the most important of which is providing justice and transparency to all stakeholders.

The Board of Directors of the Saudi Capital Market Authority also set nine main objectives for the issuance of the regulation that included the general legal framework for corporate governance, which is the Corporate Governance Regulation, and these objectives are:

1- Activating the role of shareholders in the company and facilitating the practice of their rights.

2- Clarifying of the functions and responsibilities of the Board of Directors and the Executive Management.

3- Activating the role of the Board of Directors and the committees and developing their efficiency to enhance the decision-making mechanisms in the company.

4- Achieving transparency, integrity, and fairness in the financial market, its dealings, and the business environment, and promoting disclosure therein.

5- Providing effective and balanced tools to deal with cases of conflict of interest.

6- Strengthening oversight and accountability mechanisms for the company’s employees.

7- Setting the general framework for dealing with stakeholders and observing their rights.

8- Increasing the efficiency of supervision of the companies and providing the necessary tools for that.

9- Educating companies about the concept of professional behavior and urging them to adopt and develop it in a manner that suits their nature.

It is clear from the above, that corporate governance can be considered a “safety valve” for small and large companies alike, as it helps their continuity and development, in addition to contributing to companies’ avoiding financial and administrative failure, activating the principle of reward and punishment.

The implementation of governance also leads to attracting more capital by creating a safe, stable, smooth, easy, and responsible investment environment that is capable of protecting investors’ properties, in addition to allowing creditors the opportunity to assess credit risks and monitor the company’s financial position.

On the other hand, governance contributes to reducing corruption by increasing supervision and internal control over the distribution of funds and decision-making.

The legal system of corporate governance in KSA!

During its current legislative revolution, the Kingdom of Saudi Arabia was keen to include and obligate the new legal systems to the rules and applications of governance whenever possible, so that these systems could support the ambitious vision of the Kingdom and follow its reform approach by setting determinants that serve public interests and private rights.

Looking at the Saudi Companies Law issued by Royal Decree No. (M/3) on 28/1/1437, as well as the new Saudi Companies Law (1443), which will replace it this year, we find that the two systems included the application of governance procedures and rules starting from the establishment stage, and during The company’s practice of its work, its transformation, its merger, and its liquidation, as well as the rules of liability for the damages caused or incurred by the company due to one of the founders, managers, or any of the shareholders, auditors or liquidators who knew its secrets by virtue of his position therein.

Also, on May 16, 1438, the Board of the Capital Market Authority issued a corporate governance regulation, based on the Companies Law issued in 1437, and the regulation was amended on 1/6/1442 to keep pace with the rapid developments and changes in KSA.

Where we find in the companies’ law – for example, but not limited to -, clear rules at the establishment stage, the most important of which is related to the necessity of writing its founding contract and publishing it, and providing the competent ministry with a copy of that contract, in addition to obligating companies to put their name, registration number, type and address of their head office on all contracts and clearances, and an indication of the amount of the company’s capital and the paid-up capital.

We also find rules related to the rights and obligations of the partners and the prohibition of one of them from obtaining any benefits without the consent of the rest of the partners, in addition to their right to a judicial claim and compensation for any damages resulting from the violation of these rules. It also included the rules for a partner’s withdrawal and/or the exit of some partners, and the obligation to determine each partner’s share of profits and losses.

We find that the law has dealt with all the principles of governance in its texts, with regard to the rules regulating joint-stock, limited liability, holding, and foreign companies, and how they are transformed and merged, in addition to the penalties for not taking any of the governance measures stipulated in the law.

On the other hand, article (94) of the Corporate Governance Regulations under the title “Implementing Effective Governance” stipulates that:

“The board of directors sets corporate governance rules that do not conflict with the mandatory provisions of this regulation, and it must monitor their application, verify their effectiveness, and amend them when necessary. In this regard, it must do the following:

1- Verify the company’s compliance with these rules.

2- Review and update the rules in accordance with the legal requirements and best practices.

3- Reviewing and developing the rules of professional conduct that represent the company’s values, and other internal policies and procedures to meet the company’s needs and in line with best practices.

4- Keeping the members of the Board of Directors always informed of developments in the field of corporate governance and best practices, or delegating this to the Audit Committee or any other committee or department.

To be continued..

This was an overview of the legal framework for corporate governance in the Kingdom of Saudi Arabia. At ALF Law Firm, we are proud that we have experts in the field of applying corporate governance procedures and rules in all types of companies and ensuring their compliance with laws and regulations.