Corporate Governance Framework in Saudi Arabia

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2. INTRODUCTION

This chapter generally seeks to provide a description (and, where appropriate, an evaluation) of the corporate governance framework in Saudi Arabia. Specifically, it presents information about the regulatory bodies and corporate governance legislation before and after the recent corporate governance reforms that have been pursued in Saudi Arabia. This is done by providing background information about corporate governance in Saudi Arabia. The external and internal corporate governance frameworks are then investigated. Since the study focuses on internal governance mechanisms and the construction of a compliance index, the chapter pays substantial attention to the internal corporate governance framework. In contrast, the external corporate governance environment is briefly addressed. The remainder of the chapter is organised as follows. Section 2.1 presents background information relating to the Saudi corporate governance framework. Section 2.2 discusses the corporate governance model within the Saudi corporate context. Section 2.3 describes the Saudi external corporate governance framework. Section 2.4 investigates the Saudi internal corporate governance framework, whilst Section 2.5 presents the chapter summary.

2.1 SAUDI CORPORATE GOVERNANCE: BACKGROUND INFORMATION

Until the early 1980s, there was no formally operated and well-developed equity market in Saudi Arabia. At that time, the stock market and regulations were weak, and thus unable to protect and attract shareholders and investors (Hussainey and Al-Nodel, 2008; Al-Nodel and Hussainey, 2010; Al-Matari et al., 2012). Operationally, the stock market had its informal beginnings in the 1930s with the establishment of the first joint stock company. By 1975, there were about 14 public companies. The rapid economic expansion facilitated by the oil boom in the 1970s led to an increase in the number of large public companies and banks However, the stock market remained informal until 1985, when the government tasked the Saudi Arabian Monetary Agency (SAMA) (Central Bank) with developing the stock market. From 1985, the SAMA was charged withregulating and monitoring stock market trading, until the Capital Market Authority (CMA) was established in July 2003 (SFG, 2009; Tadawul, 2012). The Saudi Companies Act issued in 1965 is the only mandatory legislation concerned with monitoring the behaviour of corporations and their officers9 (Haniffa and Hudaib, 2007; Hussainey and Al-Nodel, 2008). However, the Act does not widely address corporate governance mechanisms, apart from a limited number of mechanisms relating to board characteristics and the general assembly of shareholders. The literature suggests that Saudi Arabia is an important emerging economy (Al-Filali and Gallarotti, 2012). The Saudi stock market accounted for 44% of the total Arab market capitalisation and 25% of the total Arab GDP in 2010 (SFG, 2009; Hearn et al., 2011). Furthermore, Saudi Arabia has been a member of the G20 since 2008, largely due to the important nature of its emerging economy (Al-Matari et al., 2012).

In the 2000s, the number of listed firms and the value of market capitalisation did not reflect the importance of the Saudi economy regionally and internationally (Al-Filali and Gallarotti, 2012). Therefore, there was a growing call by academics, investors and practitioners to reform the stock market and corporate governance regime in Saudi Arabia (SFG, 2009; Alshehri and Solomon, 2012). Their suggestions included: (i) increasing market capitalisation and the number of listed firms, and allowing the direct participation of foreign investors; (ii) releasing corporate governance regulations to protect shareholders’ rights; (iii) improving disclosure and transparency; and (iv) enhancing external corporate governance mechanisms, such as the market for corporate control. Moreover, international bodies, such as the World Bank, the International Monetary Fund (IMF) and the Organisation for Economic Co-operation and Development (OECD), beganencouraging emerging countries, especially Saudi Arabia, to make corporate governance a priority and to introduce governance codes (Rwegasira, 2000; Clarke, 2004; ROSC, 2009).

Consequently, the Saudi government began pursuing corporate governance reforms as part of general economic reforms in the early 2000s (Al-Matari et al., 2012). The Saudi government established new authorities, such as the Supreme Economic Council, the Saudi Arabian General Investment Authority (SAGIA) and the Saudi Stock Exchange (Tadawul), in order to improve investment and enhance economic growth. Specifically, corporate governance reforms began in 2003, when the Capital Market Authority (CMA) was established (Al-Nodel and Hussainey, 2010).

Since the establishment of the CMA, it has been responsible for re-regulating the stock market and corporate governance regime (Alshehri and Solomon, 2012). As a corollary, the Saudi stock market witnessed substantial growth in the number of firms, market capitalisation, liquidity and visibility (Alshehri and Solomon, 2012).

In early 2004, the Saudi stock market witnessed rapid increases in share prices. This trend of rapid market growth continued until February 2006, when the stock market experienced a dramatic drop in share prices; by December 2006, it had lost over $480bn, approximately 53% of its market value. The sudden market crash highlighted a serious need to improve corporate governance mechanisms within Saudi firms (SFG, 2009; Tadawul, 2012). The Saudi Corporate Governance Code (SCGC) was therefore introduced in November 2006 by the CMA as a direct response to the market crash, with the primary aim of restoring confidence in the market and protecting investors (Al-Abbas, 2009).

2.2 THE CORPORATE GOVERNANCE MODEL IN SAUDI ARABIA

The corporate governance regime in Saudi Arabia mostly follows the Anglo-American model, with particular emphasis on protecting shareholders’ interests (Alshehri and Solomon, 2012; Seidl et al., 2013). This stems from the fact that Saudi corporate law and legislation is derived primarily from British corporate law. For example, the Companies Act issued in 1965 was derived mainly from the British Companies Act (Hussainey and Al-Nodel, 2008; Al-Matari et al., 2012). Similarly, as explained in Chapter One, the Saudi Corporate Governance Code is largely derived from the 1992 UK Cadbury Report (Aguilera and Cuervo-Cazurra, 2009; Al-Abbas, 2009; Seidl et al., 2013). For instance, the Saudi code recommends adopting a unitary-style board of directors, consisting of executive and non-executive directors (NEDs), who are primarily accountable to shareholders through a voluntary ‘comply or explain’ compliance and disclosure regime. Subsection 2.4.1 presents a discussion of the similarities between the two codes.

Despite the similarities, there are contextual differences, such as social norms, highly hierarchical social structure, and concentrated ownership structures, including state ownership, which may hinder the effectiveness of formal corporate governance mechanisms in Saudi Arabia (Al-Twaijry et al., 2002; Haniffa and Hudaib, 2007; Hussainey and Al-Nodel, 2008; ROSC, 2009; Baydoun et al., 2013). Chapter One discussed the characteristics of the Saudi corporate context. The remaining sections of this chapter discuss the external and internal corporate governance environment and the challenges facing the regulatory authorities. The Saudi corporate governance environment consists of external and internal frameworks. The external framework consists of: (i) the Ministry of Commerce and Industry (MCI), (ii) the Capital Market Authority (CMA); (iii) the Saudi Stock Exchange (Tadawul); and (iv) the Saudi Organization for Certified Public Accountants (SOCPA). The internal corporate governance mechanisms are made up of: (i) the Saudi Corporate Governance Code (SCGC); (ii) the listing Rules; and (iii) the Saudi Companies Act. In the next section, the external corporate governance mechanisms will be briefly discussed, followed by a detailed discussion of the internal corporate governance framework.

2.3 THE SAUDI EXTERNAL CORPORATE GOVERNANCE FRAMEWORK

Recently, the Saudi government established: (i) the Capital Market Authority (CMA) in 2003; (ii) the Saudi Stock Exchange (Tadawul) in 2003; and (iii) the Saudi General Investment Authority (SAGIA) in 2000. The Saudi government founded the Saudi Organization for Certified Public Accountants (SOCPA) in 1992. These authorities joined the existing authorities, including the Ministry of Finance, formed in 1932, the Ministry of Commerce, formed in 1953, the Saudi Monetary Agency (SAMA), established in 1952, and the Public Investment Fund (PIF), founded in 1971, to constitute the external corporate governance framework in the country. Each of these external governance structures are discussed in the following subsections.

2.3.1 Ministry of Commerce and Industry (MCI) The Ministry of Commerce and Industry (MCI) was established in 1953 with the responsibility to regulate listed firms’ activities. Specifically, until 2003, the MCI was the sole authority that regulated the affairs of listed firms and the organisation of the general assembly of shareholders. In 1965, the MCI issued the Companies Act, which featured a limited number of corporate governance provisions that sought to protect shareholders. In particular, the Act outlined the responsibilities and composition of the board of directors and the rights of shareholders. In 1990, the MCI released the Public Disclosure Standard in an effort to enhance voluntary disclosure and transparency. However, following the 2006 corporate governance reforms, many supervisory duties of the MCI were transferred to the CMA (CMA, 2010).

2.3.2 Capital Market Authority (CMA) The establishment of the Capital Market Authority (CMA) in 2003 was a great step forward and by far the most important external corporate governance reform in Saudi Arabia (Hussainey and Al-Nodel, 2008; Al-Matari et al., 2012). The CMA reports to the Prime Minister directly. This has given the CMA power in regulating the stock market and accelerating corporate governance reforms. In total, the CMA has formulated seven rules relating to corporate governance practices, including the 2004 Market Law, the 2004 Listing Rules, the 2005 Investment Funds Regulations, the 2005 Merger and Acquisition Regulations and the 2006 Saudi Corporate Governance Code. The CMA’s main responsibilities are to: (i) develop and regulate the Saudi stock market; and (ii) increase investors’ confidence and enhance transparency and disclosure in listed companies (CMA, 2010). To improve the corporate governance practices in Saudi listed firms, the CMA has implemented three major corporate governance initiatives in three main phases (ROSC, 2009). The first phase of governance initiatives was completed with the release of the Saudi Corporate Governance Code. Phase two of the governance initiatives is currently on-going, and is geared towards increasing the awareness and appreciation of good corporate governance practices, with particular focus on listed firms. Phase three of the governanceinitiatives involves the revision of the Saudi Corporate Governance Code in order to enhance its effectiveness by bringing it up to date with international corporate governance standards and practices. In addition to seeking to improve the internal corporate governance mechanisms and regulations, the CMA has sought to enhance the effectiveness of the market for corporate control as an active external corporate governance mechanism.

2.3.3 Saudi Stock Exchange (Tadawul)

As discussed in Section 2.1, the operations of the Saudi stock market have been formalised since 1985 (Hussainey and Al-Nodel, 2008; Tadawul, 2012). Until 1985, however, the market operated informally in the 1930s, when the Arabian Automobiles Company was founded as the first joint stock company in Saudi Arabia (Tadawul, 2012). In 1975, the number of listed firms had increased to 14 public companies. The market remained informal until 1985, when the SAMA took responsibility for developing the stock market and regulating trading (SFG, 2009; Tadawul, 2012). Since its establishment in 2003, the CMA has sought to develop the stock market by setting up the Saudi Stock Exchange (Tadawul) in 2003 (Tadawul, 2012). The Tadawul is a regulatory body that is responsible for organising the financial market. It is managed by a board of directors appointed by the Council of Ministers, including representatives of legislators, licensed Saudi local brokerage firms and listed firms.

2.3.4 Difficulties and Challenges Facing the External Governance Framework

The World Bank’s report on the observance of standards and codes (ROSC) relating to corporate governance practices in Saudi Arabia has outlined a number of challenges and difficulties currently faced by regulators and supervisory authorities in Saudi Arabia (ROSC, 2009). These challenges include: (i) a lack of managerial independence among regulatory authorities; (ii) unnecessary government and political interference; (iii) low market deepening; and (iv) weak implementation and enforcement of corporate laws (Al-Abbas, 2009; ROSC, 2009; Al-Matari et al., 2012) The following section briefly discusses some of the challenges facing the Saudi stock market.

First, the CMA reports directly to the Council of Ministers. It acts as a government agency, with its board members appointed directly by the government. As such, its independence is impeded through excessive government interventions that affect its ability to effectively monitor and regulate corporate practices (Kantor et al., 1995; Al-Matari et al., 2012). The inability of foreigners to invest directly in the Saudi stock market and the absence of foreign listed firms are examples of the influence of the government on the stock market (Al-Moataz and Hussainey, 2012). In contrast, in developed countries, such as the US and the UK, securities markets are not subject to direct government intervention (Lipton and Lorsch, 1992).

Second, related to the above challenge, the CMA is not managerially independent from the Saudi government, which also increases opportunities for political interference, thereby impeding the effectiveness of its operations (Al-Matari et al., 2012). In addition, government intervention may lack the technical know-how in supervising modern complex financial architecture. Consequently, the CMA’s capacity to implement and enforcecorporate regulations is weak, often leading to low compliance with corporate laws, as well as poor transparency, disclosure and governance practices for some provisions (Alshehri and Solomon, 2012).

Finally,  there is a lack of depth in the Saudi market. Despite the pursuance of recent reforms which sought to strengthen its stock market by increasing the number of listed firms (Alshehri and Solomon, 2012), the depth and breadth of the Saudi market is comparatively low; thus, the market requires further deepening. One of the reasons is that the Saudi stock market has not been able to attract any significant number of non-listed firms to be listed due to government restrictions (ROSC, 2009). For example, there were only 144 listed firms as of December 2010, which is not reflective of the size of the Saudi economy (Al-Filali and Gallarotti, 2012). In addition, investor/shareholder protection laws are relatively weak, often leading to insider dealings and manipulation, usually to the disadvantage of minority shareholders (La Porta et al., 2002; Piesse et al., 2012). This is typified by the 2006 stock market crash (Al-Abbas, 2009).

2.4 THE SAUDI INTERNAL CORPORATE GOVERNANCE FRAMEWORK

Until the early 2000s, corporate governance practices in Saudi listed firms were regulated by the 1965 Companies Act (Haniffa and Hudaib, 2007; Al-Abbas, 2009). Therefore, recent corporate governance reforms pursued in Saudi Arabia sought to directly improve the internal corporate governance mechanisms in Saudi firms. The constructed compliance index was constructed based on the corporate governance provisions contained in the: (i) Saudi Corporate Governance Code; (ii) Tadawul’s Listing Rules; and (iii) Companies Act. The three regulations constitute the main internal corporate governance regulatory structures within the Saudi corporate context. Therefore, the internal corporate governance mechanisms proposed by these regulations are discussed in detail in the following subsections.

2.4.1 The Saudi Corporate Governance Code (SCGC)

The Saudi Corporate Governance Code (SCGC) is considered to be a main driver in implementing good corporate governance practices across Saudi listed firms. The SCGC was the main source for constructing the compliance index used in this study. Therefore, this subsection reviews the SCGC and presents its provisions in detail. The SCGC mainly consists of four parts: (i) preliminary provisions; (ii) shareholders’ rights and the general assembly; (iii) disclosure and transparency; and (iv) board of directors.

The first part presents the preliminary provisions by providing the necessary definitions and the relationship between the SCGC and other pieces of legislation. Article 1 outlines the main purpose of releasing the SCGC, which is to regulate and improve compliance with corporate governance standards among Saudi firms. Article 1b indicates that the code constitutes the main guiding principle for all public firms listed on the Saudi stock market. To demonstrate the level of compliance with the code in annual reports, the regulator requires companies to explain any non-implemented provisions.

The second part of the SCGC discusses shareholders’ rights and general assembly provisions. Specifically, the main issue concerning the rights of public shareholders is facilitating the exercise of their rights and access to information. Article 5a states that the general assembly should be held within six months of a company’s financial year end. The date, location and agenda of the general assembly meeting shall be announced at least 20 days prior to the date of the meeting. Furthermore, an invitation to the meeting shall be published on the Saudi stock market’s website and also the website of the respective company. Article 5e requires the company’s management to facilitate the participation of the largest number of shareholders in the general assembly. However, shareholders have a right to appoint any other shareholder, who is neither a board member nor an employee of the company, to attend the general assembly on their behalf. Article 5f puts emphasis on the right of shareholders to participate in the formulation of the general assembly meeting agenda. Therefore, the board of directors shall discuss topics proposed by shareholders who own at least 5% of the company’s shares.

To reduce asymmetric information, Article 4b asserts that the board and company management should ensure full access to information by shareholders, enabling them to exercise their rights properly. This information must be regularly provided and updated every six months. In doing so, the company must use the most effective ways of communicating with their shareholders (Article 4b). Article 5j indicates that the stock exchange shall be immediately informed of the results of the general assembly meeting through the Tadawul website. Therefore, a company can be penalised if such announcements, especially price sensitive information, is delayed.

In order to maximise the participation of small shareholders in making important decisions, such as the nomination of board members, the code recommends applying a one-share-one-vote policy (Article 6b). Similarly, the right of shareholders regarding receiving dividends is clearly stated in the SCGC. Moreover, Article 7 asserts that the dividends policy should be discussed with shareholders during the general assembly. It is noteworthy that the provisions relating to shareholders’ rights and general assembly were included in the constructed Saudi Corporate Governance Index (SCGI), representing 12% of the total provisions (i.e., 8 out of a total of 65 corporate governance provisions).

Part Three of the SCGC focuses specifically on enhancing corporate transparency and voluntary disclosure. It is noted that the provisions mentioned in this particular part are deemed complementary to the Tadawul’s Listing Rules (Article 8). To enhance the board’s independence, Article 9 requires that the board’s composition should be disclosed in a firm’s annual report. Specifically, it requires corporate annual reports to include a clear classification of board members into executive directors, non-executive directors and independent non-executive directors. Similarly, a brief description of the jurisdictions and duties of the board must be provided. The firm also has to disclose the board sub-committees, such as audit, nomination and remuneration committees, indicating the names of their chairmen and members, and information about their meetings. The Saudi Code also considers the board’s compensation as an internal corporate governance mechanism. Article 9e requires listed firms to provide details of compensation and remuneration paid to each member of the board of directors and each of its top five executives, including the CEO and CFO. The SCGC does not put a ceiling on board compensation and remuneration. Article 17 points out that such payment may take the form of: (i) a fixed salary; (ii) an attendance allowance; and/or (iii) a certain percentage of the corporate profits.

In order to disclose directors’ interests in other companies, Article 9b states that firms’ annual reports should include the names of other listed firms in which a director holds additional directorships. Also, Article 18 asserts that board members cannot participate in any activity that runs counter to the company’s interests. The SCGC also requires companies to declare any punishment, penalty or preventive restriction imposed by the CMA or other regulatory, supervisory or judiciary body (Article 9). The code puts emphasis on the importance of firms’ internal control systems and evaluates the role of the system in enhancing corporate governance practices (Article 9g). The provisions discussed in this section represent about 34% (i.e., 22 out of the total of 65 corporate governance provisions) of the total corporate governance provisions contained in the constructed Saudi Corporate Governance Index.

The fourth part of the SCGC focuses on corporate governance provisions relating to the board and directors. The primary role of a board of directors is to represent the interests of shareholders (Berle and Means, 1932; Davidson et al., 1996). As a result, the code extensively discusses the role of the board of directors in five subsections: (i) main functions of the board; (ii) responsibilities; (iii) composition; (iv) board sub-committees; and (v) board meetings.

First, the code explains that the board’s main role is to reduce agency costs and maximise the firm’s value for shareholders. These functions include: (i) laying down a comprehensive strategy for the firm; (ii) establishing risk management policy and identifying areas of risk; and (iii) reviewing and updating corporate strategies and policies. Additionally, the board should supervise the implementation process and hold management accountable when objectives are not met. Article 10b recommends that listed firms draft their own corporate governance code, which should not contradict the provisions of the SCGC, in order to activate governance structures. In addition, Article 10e focuses on the behaviour of executives and employees, which should be monitored by the board to ensure adherence to proper professional and ethical standards. Furthermore, the code requires that public listed companies develop a written policy regulating their relationship with stakeholders in order to protect their rights.

Second, the code has outlined the responsibilities of the board of directors. It suggests that representation of shareholders’ interests by the board is the most important responsibility of the board. It indicates that board members must strive to achieve whatever is required to ensure the general welfare of stakeholders, not just the interests of a minority of privileged shareholders. The board chairperson is expected to ensure equal and timely access to information by all board members. Most importantly, non-executive and independent board members must be enabled to have effective and complete access to information to perform their duties and responsibilities. It can be noted that the SCGC indicates that the responsibility for running the company ultimately rests with the board, even if some of its powers are delegated to appropriate board sub-committees or thirdparties (Article 11a). Therefore, Article 11b states that responsibilities of board members must be clearly stated in the company’s articles of association.

Third, the SCGC focuses on the composition of the board. In Article 12, the code recommends that the size of the board should be not less than three and not more than eleven members. On the other hand, the number of independent members of the board shall be not less than two members or one third of the members, whichever is greater. In addition, the majority of board members shall be non-executive directors. Board members are expected to be appointed by the general assembly, provided that the duration of the appointment does not exceed three years. Additionally, the general assembly holds the power to dismiss all or some of the board members. Also, when any member resigns from the board, the company shall promptly notify the CMA and Tadawul and specify the reasons for such resignation or termination (Article 12g).

To enhance the role of the board in monitoring firm performance, the Saudi Corporate Governance Code recommends splitting the roles of CEO and chairperson. Specifically, Article 12d recommends that the board chairperson should be a non-executive director. To ensure that directors devote sufficient time to performing their roles, the code specifies that a board member shall not act as a board member of more than five listed firms at the same time (Article 12h).

Fourth, the establishment of appropriate board sub-committees and their independence are also covered in the SCGC. In order to enable the board of directors to perform its duties successfully, a suitable number of committees shall be set up in accordance with the company’s requirements (Article 13). The code mandates listed firms to establish audit, nomination and remuneration committees. As the presence of non-executive directors is important in corporate governance principles, the code requires the appointment of a sufficient number of non-executive directors in such committees. These committees shall notify the board of their performance, findings and decisions with transparency. In addition, the board shall follow up on committee activities to ensure that the committees are performing their roles as they should.

According to the code, the audit committee shall have not fewer than three members, including a member who is professionally literate in financial and accounting matters. Similarly, executive board members are not eligible to be audit committee members. Article 14c determines that the main functions of the audit committee include the following: (i) to supervise the company’s internal audit and review the internal control system; (ii) to recommend thae appointment and remuneration of the external auditor; and (iii) to review the auditor’s opinion on financial statements.

In a similar vein, the duties of the nomination and remuneration committees are concentrated on: (i) ensuring, on an annual basis, the independence of directors; (ii) drawing up clear policies regarding the compensation and remuneration of board members and top executives; and (iii) determining the strengths and weakness in the board ofdirectors and recommending strategies compatible with the company’s welfare (Article 15).

Finally, the code addresses board meetings. It asserts that board members shall perform their duties, carry out their responsibilities and endeavour to attend all meetings (Article 16). Furthermore, the board shall hold ordinary meetings regularly. Also, the board shall document its meetings and prepare records of the deliberations and voting. As discussed above, the code heavily focuses on board of directors’ mechanisms due to their importance in corporate governance. As a corollary, the majority of the corporate governance provisions contained in the constructed Saudi Corporate Governance Index relate to the role and duties of the board, directors and their sub-committees. Specifically, 54% (35 out of the total of 65 corporate governance provisions) of the SCGI provisions are related to the board of directors.

2.4.2 Saudi Companies Act and Corporate Governance Mechanisms

The first formal attempt to regulate corporate operations and activities was in 1965, when the Companies Act was introduced (Kantor et al., 1995). This Act was extensively amended in 1982 and 1985. Shinawi and Crum (1971) indicate that the primary source of the Saudi Companies Act is the 1948 British Companies Act (as cited by Hussainey and Al-Nodel, 2008). This 1965 Act briefly addresses some corporate governance mechanisms. Particularly, this Act focuses on board characteristics and provisions protecting shareholders. However, it does not address the detailed disclosure and transparency mechanisms that are contained in the SCGC and the Listing Rules and discussed above. Therefore, in this section, the internal corporate governance mechanisms contained in the Companies Act are explained briefly.

First, the section on board structure contains provisions relating to: (i) board size; (ii) the CEO and chairperson’s relationship; (iii) the board’s power; (iv) the annual board report; and (v) the frequency of board meetings. Article 66 of the Companies Act stipulates that the company is managed by the board of directors. The size of the board is determined by the company’s articles of association, but must not be less than three members. The appointment of board members is part of the shareholders’ responsibilities in the general assembly, provided their tenure does not exceed three years. However, in contrast to the SCGC, the Companies Act does not address the board’s composition. For example, it neither specifies whether independent non-executive directors should be part of the board nor the number of independent or non-executive directors that should form a board. Therefore, firms can decide their own structure according to the articles of association. Article 79 allows companies to combine the chairperson’s and the CEO’s positions in one role. As discussed in Chapter Three, this is consistent with the predictions of stewardship theory, which suggest that it is appropriate to combine the positions of the CEO or themanaging director and the board chairperson. Similarly, despite the importance of board sub-committees in ensuring corporate governance practices, the Companies Act does not stipulate the role or the number of board sub-committees that a corporation should have. This was changed in 1994 when a resolution by the Prime Minister mandated companies to appoint an audit committee to oversee and improve internal control systems, with the aim of protecting shareholders.

Second, Article 89 of the Act requires public listed companies to issue annual reports containing a board report, the main financial statements and an external auditor’s report. To ensure such information is available and accessible to the largest possible number of shareholders, the report must be published in any national newspaper issued in the same city as the company’s headquarters. Regarding the frequency of board meetings, Article 80 of the Act points out that the board of directors has to meet at the board chairperson’s invitation. However, regardless of any contrary provision in the company’s articles of association, the chairperson must call a meeting when requested by at least two directors. A board meeting shall be deemed valid if and only if attended by at least half of the board members, provided there are a minimum of three attendees. Directors who are unable to attend the board meeting have the right to delegate other members to vote on their behalf.

In order to mitigate the potential conflict of interest between agents and principals, Article 69 points out that a contract or transaction between the company and directors must be authorised by the general assembly. Furthermore, if such contracts are more than one year in length, the authorization must be annually renewed. Also, members cannot vote on any issue in which they have a vested interest. However, the chairperson, in turn, is responsible for notifying the general assembly about any personal interest of board members. The Companies Act also outlines how directors should be remunerated. Article 74 states that they should be paid a fixed bonus or a certain percentage of the profits, or may combine the two. However, the maximum annual compensation should be either about $53,000 for each director or 10% of the net profits, distributed between the members, whichever is lower. Finally, the Act also considers shareholders’ rights and how their investments can be protected. Article 87 clearly states that shareholders who own at least 20 shares have the right to attend general assembly meetings. Shareholders have the right to discuss issues relating to the company’s performance during the general assembly. Article 83 of the Act asserts shareholders’ right to appoint another shareholder (non-directors) to attend the general assembly meeting and vote on their behalf. Article 84 points out that the annual general assembly meeting should be held at least once a year, during the six months following the end of the financial year. To ensure that information is accessible for all shareholders at the annual meeting, the Act states that the annual report must be made available at least 60 days before the meeting.

In order to encourage shareholders to exercise their right to attend the general assembly meeting, Article 88 requests the publication of details of the meeting in a daily newspaper at least 25 days before the meeting. The meeting details should include the meeting agenda, date, time and location.

2.4.3 Difficulties and Challenges Facing the Internal Governance Framework

With the exception of the Companies Act, corporate governance regulations are still in their infancy, and their effectiveness has not been extensively examined empirically (ROSC, 2009; Al-Abbas, 2009). Consequently, there are a number of challenges that face regulatory authorities in their attempt to improve corporate governance practices in Saudi listed firms. The following section briefly discusses two of the main difficulties faced by the regulatory bodies in their attempt to develop an effective and efficient internal corporate governance framework.

First, compliance with the Saudi corporate governance rules is voluntary in nature, which is modelled along the UK’s ‘comply or explain’ style voluntary compliance and disclosure regime (Aguilera and Cuervo-Cazurra, 2009; Al-Abbas, 2009; Seidl et al., 2013). Saudi listed firms suffer from high ownership concentration, including government ownership (ROSC, 2009), in contrast to the UK, where ownership is relatively more diffuse (Hussainey and Al-Najjar, 2012). La Porta et al. (1999) suggest that controlling shareholders tend not to support good governance reforms, and thus the presence of large shareholders can lead to the exploitation of minority or small shareholders (Haniffa and Hudaib, 2006; Ntim et al., 2012a; Allegrini and Greco, 2013).

Finally, as discussed in Section 2.2, the internal corporate governance framework has an Anglo-American orientation. This is reflected in the way that the Companies Act and the SCGC focus on protecting shareholders’ rights. However, some provisions relating to other stakeholders have not been clearly addressed, which can lead to misinterpretation by firms and practitioners. For example, the code requires companies to set policies that regulate the relationship between the firm and its stakeholders. However, it does notexplain clearly how these provisions can be implemented and/or measured. In addition, it fails to identify specifically the different types of other stakeholders that the firm should report to.

2.5 SUMMARY

This chapter discussed the corporate governance regime in Saudi Arabia. First, it provided background information relating to the external and internal corporate governance environment. Specifically, it provided an overview of the Saudi stock market, its origins and subsequent developments.

Second, the chapter discussed the corporate governance model in Saudi Arabia. The corporate governance regime in Saudi Arabia is based on the Anglo-American model. In particular, it focuses on protecting shareholders rather other stakeholders of the firm. This is due primarily to the fact that corporate law has been influenced largely by the British Companies Act, despite apparent differences in contextual characteristics, such as religion, social norms and the legal system.

Third, the chapter investigated the external corporate governance framework in Saudi Arabia. The external framework is represented by the regulatory and supervisory bodies. Three regulators directly related to corporate governance are the Ministry of Commerce and Industry (MCI), the Capital Market Authority (CMA) and the Saudi Stock Exchange (Tadawul). This chapter also discussed some of the difficulties and challenges faced by regulatory authorities in their attempt to enhance corporate governance practices in Saudi firms. Finally, the chapter discussed the internal corporate governance framework. it addressed the regulations relating to internal corporate governance practices. In particular, governance mechanisms contained in the Companies Act, the Listing Rules and the Saudi Corporate Governance Code (SCGC) were discussed in detail. However, the main focus was on the Saudi code, since it was the main source used for constructing the broad Saudi Corporate Governance Index (SCGI) used to examine the level of compliance with the SCGC by Saudi listed companies.

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