MUMBAI: Do the shareholding ‘arrangements’ in Gulf countries between the foreign shareholders, who really own the business, and nationals, who are known as ‘sleeping partners, pose a risk for the original owners?
The foreign ownership law in the GCC countries such as UAE, Qatar and Kuwait disallows foreigners from owning majority shareholding in businesses there, except the UAE free zones where foreigners can have 100% ownership.
In a good number of businesses while the foreigners invest the most or full, legally the majority shareholding on official records are in the names of GCC shareholders and this ‘system of trust’ has not really been red-flagged and has worked in most cases.
But this has not removed the inherent risk in the system. Should the ‘sleeping partner’ assert his rights, the original investor has no option but to concede ownership to the majority shareholder on record. The GCC laws do not adequately provide for the rights of minority shareholders.
For instance, documents released in connection with the recent IPO of a leading Indians-owned company with GCC-wide operations cautioned: “Whether initiated by a regulator or in a dispute with a local nominee shareholder, these shareholder arrangements may be held to violate local law, the penalties for which could include criminal sanctions against us, the closure of our business in the country or fines.”
The risk factors further state that, “in the event of a dispute with our local shareholders, our shareholder arrangements may be void if they violate local law, which could reduce our corporate and economic rights in the affected business to that of a minority shareholder.”
With the corporate laws the world over having seen key changes and many countries having incorporated additional checks and balances, the GCC ‘arrangements’ also have come in for scrutiny within the corporate world. Though the risk factors in ‘black and white’ may not raise alarm among the Indian business community in the GCC as their trust is time-tested, the risk factors cannot be glossed over, according to corporate experts.
While the UAE, Qatar and Kuwait allow foreign ownership in companies up to 49 per cent, Oman allows up to 70 per cent, whereas Bahrain and Saudi allow foreigners to own full interests in their business. Within the UAE offshore centres and free zones, the foreign ownership can go up to 100 per cent.
Interestingly, the foreign investors get around this ownership challenge by executing internal agreements between the GCC partners and the foreign shareholders outside the Corporate Law, and these ‘loose agreements – as some legal experts call this, form the cornerstone that determine the dividends (profit) and the management control in such businesses.
While there are hundreds of large businesses with turnover running into hundreds of millions of dollars, a big chunk of them are ‘owned’ by Indians – though not on official government records. There are really big names too on the list.
“The foreign ownership laws provide that nationals must hold a majority of the shares of our subsidiaries incorporated in each of the UAE, Kuwait, Qatar and Jordan. Further, in Oman nationals are required to hold at least 30 per cent of the shares of our Omani subsidiaries,” the IPO document explained.
In fact, the foreigners have typically entered into shareholder arrangements with local shareholders that provide foreign investors with management control and a majority of the dividends or profits from their business, notwithstanding their minority legal shareholding.
The local shareholder acts as nominee for the foreign majority shareholder for the purpose of fulfilling foreign ownership requirements, and the local shareholder is only entitled to an annual fee (irrespective of actual profits) and is not involved in the company’s management.
The foreign shareholders consolidate their minority shareholding in these businesses in their financial statements on the basis of these shareholder arrangements. In many cases, these shareholder arrangements are effected through trust agreements in GCC states, where legal recognition of concepts of trusts or beneficial ownership is uncertain.
Moreover, the enforceability of such arrangements remains subject to applicable local laws of these jurisdictions, for example, the Proxy Law in Qatar and the Concealment Law in the UAE. There can be no assurance that foreign shareholders will be able to continue to exercise control over their subsidiaries in these jurisdictions, if such arrangements are held to be unenforceable, including on account of these arrangements being interpreted by relevant authorities as contrary to the spirit of such local laws.
“If we are unable to enforce our rights as a beneficial shareholder due to a conflict between the shareholders’ agreement
and the constitutional documents of the company, the local laws provide that the constitutional documents prevail, and our inability to enforce the shareholders’ agreement may adversely affect our business and results of operations,” the document elaborated.