The Kingdom of Saudi Arabia is one of the fastest growing economies in the Middle East. In 2013, the government increased its budget by more than 20% than the previous year, to approximately 820 Billion Saudi Riyals ($219 Billion). Additionally, Saudi’s King Abdullah pledged more than $500 billion on social welfare and infrastructure projects over the next few years. Saudi Arabia’s increased spending is part of its policy to create economic diversification and reform, in turn decreasing their dependence on oil revenue and creating new jobs for the local population.
A large proportion of the Government’s spending, approximately 300 billion Riyals, has been allocated to capital expenditures on investment projects and social infrastructure. Ambitious plans include building 539 new schools and universities, as well as the development of several new cities in the sprawling desert kingdom.
The biggest beneficiary of this expansionary policy is the construction industry. Demand in the construction and associated sectors, such as residential and commercial real estate development, will increase exponentially, representing an excellent market opportunity for foreign investors and international corporations seeking to enter the Saudi market.
Applicability of Islamic Finance
Construction projects in Saudi Arabia are typically either public or private. The governing law which applies to all contracts, including construction, is Shari’a, or Islamic, law. General principles of Islamic Finance are applicable, such as the duty to act reasonably, in good faith, and to mitigate losses.
In the private sector, within the construction sector specifically, the Islamic Finance principle that applies is the “istisna’a” contract, which is a contract for the sale of an asset that is yet to be constructed or manufactured. Using this structure, the party providing capital, the financier, enters into a contract with the purchaser of the building to be constructed. Usually the financier, whether a bank or investor, will then enter into a back-to-back construction contract with a general contractor for the project. The financier realizes a profit from the spread between the cost of the construction contract and the price of the purchase contract.
Public Works Contracts
However, in the public sector, specific regulations and a complex legal framework govern bidding for public works, as well the interpretation and enforcement of underlying contracts. While still generally subject to Islamic Law principles, public works contracts are considered administrative contracts and are subject to the Government Bids and Procurement Law, implemented with associated regulations.
Recent amendments in the law and a shift in policy by the government to attract foreign direct investment have made it easier than ever for a foreign company or investor to establish business operations in Saudi Arabia. Although there are a variety of business organizations in Saudi Arabia, the most commonly used by foreign companies in undertaking construction projects are Limited Liability Companies (LLCs). That is due to the relative ease of incorporating an LLC (as opposed to, for example, a Joint Stock Company), minimal capitalization requirements, and the requirement of less corporate governance formalities.
The actual procedure of establishing an LLC in Saudi Arabia is typically a two-step process: (1) First, the foreign partner applies to the Saudi Arabian General Investment Authority (SAGIA) for a foreign investment license; (2) Second, once SAGIA issues the license, the partners in the proposed LLC apply to the Ministry of Commerce and Industry in order to incorporate the company. Once approved, the Ministry will certify the formation documents of the LLC and issue a commercial registration certificate–which permits the LLC to begin operating in the Kingdom legally.
Saudi Arabia is a lucrative market for foreign companies and investors. At a time when the market in the United Arab Emirates is beginning to get stagnant and saturated, Saudi Arabia remains ripe with opportunities. However, the cultural, political, and legal landscape is complex and varies dramatically from that of countries such as the USA or in Europe. Unaccustomed foreign companies or investors should seek out advisory or legal firms who are proficient and have expertise in Saudi Arabia.
Disclaimer: These materials have been prepared by Wassem M. Amin, Esq. for informational purposes only and are not legal advice. The material posted on this web site is not intended to create, and receipt of it does not constitute, a lawyer-client relationship, and readers should not act upon it without seeking professional counsel.
Wassem M. Amin, Esq., MBA is an Associate Attorney at Dhar Law LLP in Boston, MA and is the Vice Chairman of the Middle East Committee as well as the Islamic Finance Committee of the American Bar Association’s International Law Section. Wassem has extensive experience in the Middle East region, having worked as a consultant in the area for over 9 years. Wassem currently focuses his practice on Business Immigration (EB-5 Regional Center and Investor Representation) and International Business Transactions. For more information, please visit the About Us page or http://www.dharlawllp.com.