Saudi Arabia: The Draft Saudi Arabian Non-Profit Companies Law

1. INTRODUCTION

On 10 April 2016 – less than six months following the enactment of the Civil Associations and Institutions Law¹ and following the enactment of the new Saudi Arabian Companies Law². – the Saudi Arabian Ministry of Commerce and Industry (the "MoCI") published a draft law on Non-Profit Companies (the draft "Non-Profit Companies Law").³ The MoCI invited the public to submit comments on the draft by 17 May 2016.⁴

In the meantime, the MoCI's introductory remarks to the draft Non-Profit Companies Law give some insight as to the rationale behind the initiative.  As the MoCI explains, the draft Non-Profit Companies Law extends from the duty mentioned in the Saudi Arabian Basic Law of Governance for the Saudi Arabian State to "encourage organizations and individuals to participate in philanthropic activities".⁵

The MoCI indicates that there are essentially four main objectives pursued by the contemplated legislative instrument:

1. To support the public sector in achieving overall development goals;
2. To develop the regulatory framework surrounding non-profit work contemporaneously with the Kingdom's economic development;
3. To provide financing avenues for non-profit work and encourage financial support from philanthropists; and
4. To contribute towards the increase of the Kingdom's gross national product, encourage the economy and create work opportunities.

The MoCI provides criteria by which to characterize a company as a non-profit company.  First, non-profit companies must be operated with no final pecuniary gain to their founders or members.  Their purpose must fall within the non-exhaustive list of objectives, namely the advancement of humane, cultural, educational and other such objectives which serve the community.

Second, the MoCI also distinguishes non-profit companies from charitable associations and institutions. While charitable entities rely essentially on charitable contributions, non-profit companies would be able to exercise commercial activities and achieve financial gains, subject to these gains being reinvested by the company in the pursuit of its non-profit objectives.

The MoCI expects that the introduction of non-profit companies will help reinforce the corporate social responsibility initiatives of private companies. They will act as recipients of technical, managerial, production, and marketing know-how and experience that would be put to the use and benefit of the community.

The draft Non-Profit Companies Law comes as a very welcomed step since it would particularly help palliate important gaps in the legal framework governing endowments, since endowments usually engage in commercial activities and own revenue generating assets. Indeed, although a Supreme Endowments Council⁶ was created in 1966 and a regulatory instrument governing charitable endowments⁷ has been in place since 1973, the framework fails to establish a  process for the setup or the internal operation of  endowments.

Under current Saudi practice, and although there is no clearly formulated underlying legislation in this respect, it is possible to place corporate shares under endowment subject to obtaining a court judgment to this effect. Non-profit companies can address the current legislative void and simplify the current practice, according to the MoCI.  Non-profit companies can serve as vehicles to structure and channel endowments. endowments operated through non-profit companies can closely implement the will of the donor, while benefiting from ordinary corporate liability protections and from an ability to compete more effectively against private sector players.

2. CORPORATE STRUCTURE

According to the draft Non-Profit Companies Law, non-profit companies may be established either as limited liability or closed joint stock companies only. They would need to be registered in a special register to be maintained by the MoCI for non-profit companies. Obviously, non-profit companies would not be able to be listed publicly in light of some of the special privileges granted to them (as explained below).

3. PURSUED CHARITABLE OBJECTIVES

The draft Non-Profit Companies Law lists, non-exhaustively, examples of charitable objectives that may be pursued by non-profit companies. These include Islamic affairs, education and research, health affairs, poverty relief, environmental protection, arts and culture, sports activities, community building, human rights and infrastructure maintenance.

4. GENERAL VERSUS PRIVATE NON-PROFIT COMPANIES

The draft Non-Profit Companies Law creates, and distinguishes between, two different categories of non-profit companies: general and private non-profit companies. While the charitable objectives pursued by general non-profit companies may relate to any of the aforementioned broad objectives and aim to serve the community at large, those pursued by private non-profit companies may be confined to a defined group of beneficiaries and may relate to a narrower or altogether different scope.

5. PURSUED COMMERCIAL ACTIVITIES

The draft Non-Profit Companies Law authorizes non-profit companies to exercise any legitimate activity for the purposes of achieving the purposes described in its Articles of Association or Bylaws.

6. NAME

The name of non-profit companies must indicate their non-profit nature, as well as the value of their capital. Failure to mention this would expose the directors to being personally and severally responsible for any obligations contracted by the non-profit company.

This rule should draw many comments from the public for multiple reasons. First, the draft Non-Profit Companies Law does not specify whether the obligation refers to paid-up capital or to authorized capital. Pursuant to the Companies Law,⁸ the authorized capital of joint stock companies does not need to be fully paid upon incorporation.

Moreover, the repercussions that directors face for omitting to mention the nature or capital of the company are quite excessive. Directors usually are not involved in the day-to-day business of the company and therefore cannot guarantee that the company's executives and general staff will not inadvertently omit the mention of the company's non-profitable character or the value of its capital. At best, directors can implement internal company policy to guard against this.

Presumably, the intention behind the provision in the draft Non-Profit Companies Law is to protect vulnerable third parties against misrepresentations by companies or misunderstandings as to their non-profit nature. But this does not, in our opinion, warrant the inclusion of such potentially harsh sanctions on directors.  To the extent that the provision is intended to protect against misrepresentation, then express provision for this should be made in the law instead of including an indiscriminate sanction for all omissions. Likewise, if the provision serves to avoid misunderstandings, these could be avoided by making available to the public a special register for non-profit companies. Finally, commercial dealings by third parties with non-profit companies should essentially be similar to dealings with lucrative companies since both structures can pursue profit but only differ in the manner in which the profit is ultimately utilized. Greater risk would actually lie in transactions conducted by lucrative companies falsely claiming a non-profit dimension in order to negotiate more favorable terms in their commercial activities.

7. AMENDMENT OF CONSTITUTIONAL DOCUMENTS

The draft Non-Profit Companies Law expressly allows non-profit companies to amend their Articles of Association. The MoCI's approval is required for any modification relating to the rules for transactions involving the company's assets and any modification to the powers of the company's Board of Directors or to the company's objects.

8. INTERNAL STRUCTURING

Non-profit companies would be managed by 'members' (as opposed to 'shareholders' in the context of lucrative companies), which may be either physical persons or corporate entities.  Non-profit companies would be free to establish, in their Articles of Association or Bylaws, rules for membership and membership classes. In this regard, the draft Non-Profit Companies Law states that:

• Membership classes can be given voting rights, the right to appoint directors, and could be represented by non-tradable certificates. Exceptionally, however, members in private non-profit companies may assign their membership;
• Membership may be made subject to the payment of annual fees or the extension of monetary or in-kind contributions; and
• Membership could likewise be made subject to the provision of work and/or services to the non-profit company.

Non-profit companies would be managed by a Board of Directors. The draft Non-Profit Companies Law has put in place certain criteria for being able to act as a director. For instance, a director may not also act as an auditor or executive for the non-profit company.

9. DONATIONS

The draft Non-Profit Companies Law allows non-profit companies to collect or receive donations, or both. If donations received are coupled with certain conditions imposed by the donor, non-profit companies would be bound by them. If at any time a non-profit company finds itself unable to fulfill the donor's conditions, it must either receive the donor's approval before applying his or her donation to any end or must otherwise solicit the instructions of the competent judicial body which would rule in the "general/public interest".⁹

10. UTILIZATION OF PROFIT

As previously explained, the draft Non-Profit Companies Law allows non-profit companies to generate profit, with the understanding that no part of such profit may, directly or indirectly, be paid to the non-profit companies' members, directors or employees.

Interestingly, the draft Non-Profit Companies Law allows non-profit companies to reinvest its profits and expand its activities, but only within the limits of the proportions to be subsequently established by the MoCI by way of regulation. Such a restriction may impede the ability of non-profit companies to compete in the market.

11. CONVERSIONS AND MERGERS

The draft Non-Profit Companies Law authorizes 'normal' companies to convert into non-profits and private non-profit companies to convert into 'normal', lucrative ones.  A private non-profit company converting to a lucrative company may retain the capital which it had upon inception but must apply its past profits and reserves towards the fulfillment of the non-profit objectives which it had been pursuing.

The draft Non-Profit Companies Law also authorizes the merger of non-profit and lucrative companies, provided that general non-profit companies may only be merged with other general non-profit companies, with the approval of the MoCI.

12. LIQUIDATION OF NON-PROFIT COMPANIES

The draft Non-Profit Companies Law stipulates that, upon the liquidation of a non-profit company, proceeds must be utilized in the manner indicated in the company's Articles of Association or Bylaws. If the non-profit company was financed by way of a donation or endowment, the proceeds would be directed as per the instructions of the donor. In case that the Articles of Association or Bylaws are silent on the manner in which the proceeds would be utilized and in case that the relevant donors have left no instructions, the proceeds must be handed over, with the approval of the MoCI, to another non-profit entity that is pursuing the same or similar objectives.

13. TAX EXEMPTIONS

Perhaps one of the main advantages accorded to general non-profit companies pursuant to the draft law is exemption from the payment of Zakat (i.e., religious tax). Similarly, contributions paid to general non-profit companies may be offset against one's Zakat or tax liability.

14. FOLLOW-UP DOCUMENTATION

The draft Non-Profit Companies Law requires the MoCI to issue indicative forms of Articles of Association and Bylaws for non-profit companies. Moreover, the MoCI is required to publish complementary implementing regulations to further clarify the framework surrounding non-profit companies.

15. CONCLUSION

The draft Non-Profit Companies Law is definitely a promising step in the right direction. It is hoped that the legislative instrument, once issued in its final form, will help foster philanthropic activities and help the Kingdom's move to strengthen its private sector and diversify away from oil.

Footnotes

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