THE NEW UAE COMMERCIAL COMPANIES LAW: A COMPARATIVE VIEW
The new draft Companies Law (“New Law”) as approved by the Federal National Council introduces some incremental reforms to the existing Companies Law (“Existing Law”), but mostly maintains the fundamental framework and features of the old provisions.
Whilst the New Law introduces some new concepts and approaches, most of the essential features of the Existing Law are maintained. Despite media speculation, the New Law applies the same conservative approach in relation to foreign ownership restrictions under the Existing Law, so foreign investors are limited to 49%. Also, the New Law does not allow sell-downs in IPO deals.
By the same token, the majority of board seats, including the chairman of the board, of public joint stock companies must be held by UAE nationals. Founders of public joint stock companies continue to be restricted by a lockup period of two years under the New Law, which defeats sell-down exist options in IPOs. Also, the New Law has not reformed the governance of limited liability companies through introducing a proper board of directors’ structure, but has maintained the old form of governance by “managers”. However, the restriction on the number of managers under the Existing Law (namely five managers) has been lifted under the New Law.
On the other hand, the New Law introduces some new concepts. For example, the New Law:
- allows for sole-shareholder companies, either in limited liability or private joint stock companies;
- addresses employees’ incentive share schemes;
- enables shareholders in pubic joint stock companies to sell their preemption rights (rights issue);
- facilitates strategic share placements by public joint stock companies within pre-emptive complications;
- prohibits financial assistance (in line with the international market practice);
- enables the legal pledge of quotas in limited liability companies. Some other reforms are discussed below in details.
This note aims to shed some light on the main differences between the New Law and the Existing Law, the fresh concepts enacted under the New Law, and to highlight the practical impact of these differences.
This note follows the same sequence of the New Law.
- Article 5 – Free Zone Companies – Free zone companies are exempted from the application of the New Law. However, it is to be noted that article 5 states that there will be a Cabinet decree that will set out the conditions which should be followed in registering free zones companies in case these companies wish to operate onshore or outside the borders of the free zone in question.
- Article 6 – Corporate Governance – The New Law provides that private joint stock companies will be subject to corporate governance rules provided that such companies are composed of more than 75 shareholders. A ministerial decree setting out the applicable corporate governance rules will be issued in due course. The expected corporate governance rules will include financial penalties on board members, managers and auditors of any defaulting company.
- Article 8 – The Concept of “sole founder” – The New law provides for the first time the concept of having a company with a sole founder. This applies on private joint stock companies and limited liability companies.
- Article 10 – Local Ownership – The New Law continues to follow a conservative approach in respect of local ownership restrictions, so companies must be owned 51% by the UAE nationals or 100% by GCC nationals.
- Article 24 – Exclusion of Liability – The New Law introduces an explicit clause stipulating that any provision in the articles of the company allowing the company or any of its subsidiaries to agree to exclude any person from their current or previous liability towards the company will be void. However, this article does not address the provisions that may be agreed upon between the shareholders in separate shareholders agreement (in particular between nominees and beneficial owners) whereby one of the shareholders is excluded from liability. Unexpectedly, this clause prohibits the exclusion of liability in general without limiting the exclusion to liability arising out of gross negligence or willful misconduct, as provided under the Civil Code.
- Article 26 – Companies Accounting Books – New obligations are imposed on companies to retain their accounting books for a period of not less than five years from the end of each financial year. This is a new requirement under the New Law that is not provided for under the Existing Law. This provision comes in line with similar requirements in other Middle Eastern jurisdictions. Also, companies may retain electronic versions of their documents provided that these documents will be saved in compliance with a decree to be issued by the Minister.
- Article 28 – Financial Year – Each financial year may not exceed 18 months and should not be less than six months. This clause will have an impact on calculating the lockup period in public and private joint stock companies, as it will shorten the two/one financial year(s) required with respect to the founders of public/private joint stock companies. Likewise, it will affect the timeline required to convert a limited liability company to a public joint stock company as provided for under article 275 of the New Law.
- Article 32 – offering of shares to public – This article explicitly prohibits any company (either in one of the free zones or onshore) from making any advertisements or marketing to invite general public to subscribe in shares without obtaining the prior approval of SCA. Under the Existing Law, there is no explicit provision prohibiting such practices, but rather it is a matter of practice and unwritten rules followed by SCA.
- Article 36 – Retention of Documents - Similar to article 26 referred to above, article 36 provides that the Minister will issue a decree setting out the time limit for companies to retain corporate documents.
Rules Governing Limited Liability Companies
- Article 71 – Sole ownership –Article 8 provides that a limited liability company may be established by one natural or corporate person. This approach follows free zone regulations which allow the incorporation of a free zone establishment (FZE), which originally is a common law concept. Under the Existing Law, limited liability companies may only be established by a minimum of two founders and a maximum of fifty. The maximum limit of fifty partners still applies under the New Law.
- Article 79 – Pledge of Quotas1 (shares) - The New Law provides that limited liability quotas (or shareholdings) may be pledged. The Existing Law is silent in respect of pledge of quotas, and so it is questionable whether quotas can be pledged legally. This new development will assist raising of debt finance by owners of limited liability companies and will enhance the security package that can be offered to the financiers. Pledge of quotas will add another level of comfort to beneficial owners of quotas (foreign investors) in respect of their shareholding relationship local registered owners (nominee).
- Article 80 – Preemption Rights – preemption rights are still mandatory by operation to law under the New Law, as is the case under the Existing Law.
- Article 83 – Company’s Managers – Under the New Law, companies may appoint one or more managers without setting out a maximum number of managers. Under the Existing Law, the maximum number of mangers is five.
- Article 86 – Competition – Under the New Law, manager(s) of a company may not be allowed to operate any business in competition with the business of the company in question. Defaulting manager(s) will be discharged and compensate the company accordingly. This matter is not addressed under the Existing Law.
- Article 93 – Invitations to General Assemblies– Invitations to general assemblies need to be sent out 15 days before the date of the meeting or less than 15 days if all partners agree. Under the Existing Law, the notice period required is 21 days which may not be abridged.
- Article 96 – Quorum for General Assemblies – Under the New Law, general assemblies will not be valid unless attended by partners owning 75% of the capital of the company. If the quorum is not satisfied in the first meeting, the second meeting shall be called for within 14 days from the first meeting, which shall not be valid unless attended by partners owning 50% of the capital of the company. If the quorum is not satisfied in the second meeting, a third meeting shall be called for after the lapse of 30 days from the date of the second meeting, which shall be valid regardless the quorum attended such meeting. This means that the existing difficulties in achieving quorum general assemblies for public joint stock companies at the first attempt have been magnified by the New Law. Resolutions of general assemblies shall only be valid if approved by partners owning at least 50% of the capital of the company. Under the Existing Law, general assemblies may only be valid unless attended by partners owning 50% of the capital of the company. If the quorum is not satisfied in the first meeting, a second meeting shall be called for within 21 days from the first meeting, which shall be valid regardless of the quorum attended such meeting. Any amendment to the articles of the company requires the approval of partners owning at least 75% of the capital of the company.
- Article 103 – reference to joint stock companies rules – Article 103 of the New Law refers to the rules governing joint stock companies with respect to any matter which is not addressed under the rules of limited liability companies. Such reference is not provided for under the Existing Law.
Rules Governing Public Joint Stock Companies (“PJSC”)
- Article 107 – Number of founders - PJSC may be established by a minimum of five founders. Under the Existing Law, PJSC requires a minimum of 10 founders. This article will facilitate the constitution of PJSC, in particular in the set up phase before offering the company’s shares to public.
- Article 112 - Founders’ committee – The New Law provides that founders committee shall be composed of three members without setting out a maximum limit. Under the Existing Law, founders committee should be between three to five members.
- Article 117 – Founders’ ownership – The New Law provides that founders may own a minimum of 30% and a maximum of 70% of the capital of the company. Under the Existing Law, founder may own a minimum of 20% and a maximum of 45% of the capital of the company. This article will have an impact in relation to encouraging investors to promote an IPO without facing the risk of losing their control of their business, as they are allowed to own up to 70% of the company and offer 30% to public. This will also promote IPOs for companies that have good financial standing and do not require additional capital inflows which are high compared to their pre-existing issued capital. Unfortunately, the New Law does not facilitate or permit sell-downs by existing shareholders, an avenue already available in most developed markets. Such a reform would have greatly encouraged new IPO transactions.
- Article 123 – Underwriters – For the first time in the UAE the New Law recognizes the role of underwriters. Under the Existing Law, underwriting activity is not addressed. There will be a ministerial decree regulating the underwriting activities to subscribe for unsubscribed shares and resell them again in the stock market. The facilitators of underwriting could enable the IPO market to flourish and attract leading global financial institutions to act as underwriters and develop the UAE capital market.
- Article 124 - Subscription period – Subscription period opens for a period of a minimum of 10 days and a maximum of 30 days. Under the Existing Law, the subscription period opens for a period of a minimum of 10 days and a maximum of 90 days.
- Article 129 – Book Building - The New Law refers explicitly to a book building mechanism in relation to the pricing of newly issued IPO shares. The detailed regulations governing and regulating book building will be issued later. Pricing is to be determined at the discretion of the issuer and the banks at a valuation that is acceptable to investors, the issuer and the selling shareholder(s).
- Article 131 – Constitutional General Assembly – Under the Existing Law, constitutional general assembly requires the attendance of shareholders owning at least 75% of the capital. However, the New Law provides that the constitutional general assembly shall be valid if attended by shareholders representing 50% of the capital of the company. This article comes as an attempt to facilitate and expedite the process for incorporation.
- Article 143 – The Composition of the Board of Directors – Board of directors under the New Law should be composed of a minimum of three members and a maximum of 11. Under the Existing Law, board of directors should be composed of a minimum of three members and a maximum of 15.
- Article 144 – Election of Board Members/Expert board members – The New Law provides for cumulative voting at any election of board members. Cumulative voting is not provided for under the Existing Law, but rather it was under the applicable Corporate Governance rules. The voting mechanics will allow each shareholder to distribute voting powers amongst various board candidates. This should increase the chances of minority shareholders achieving board representations. The Existing Law also allows the general assembly to appoint “expert” board members who are not shareholders provided that the total number of “expert” board members may not exceed one third of the total number of the board of directors.
- Article 151 – Nationality of Board Members – The requirement under the Existing Law that the majority of board members and the chairman should be UAE local nationals continues to apply under the New Law.
- Article 156 – Board Meetings - Under the New Law, the board of directors shall meet at least four times a year. Such requirement is not provided under the Existing Law. This is something that has been dealt with separately under the Corporate Governance rules.
- Article 170 – Voidance of resolutions - Any resolution not in compliance with the provisions of the New Law, or adopted without consideration to the company’s interests in favor of a particular group of shareholders, causing damage to them or providing a private benefit to the members of the board of directors or to third parties may be revoked. Proceedings for annulment are time barred on the expiry of 60 days from the date of adopting the resolution contested. Under the Existing Law, the applicable prescription period is one year.
- Article 172 - Invitations General Assemblies– General assembly invitations need to be sent out 15 days before the date of the meeting or less than 15 days if 95% of the shareholders agree. Under the Existing Law, the notice period required is 21 days and cannot be abridged.
- Article 193 – Issued and Authorized capital – The New Law provides that the issued capital of PJSC shall be not less than AED 30 million. In addition, the company may decide to have an authorized capital which may not exceed twice the value of the issued capital. Under the Existing Law, the capital of PJSC shall be not less than AED 10 million (in practice AED 20 million), and the concept of “authorized” capital is not addressed. A new set of rules will be issued to allow companies to increase its issued capital within its authorized capital. By way of explanation, the authorized capital is not more than a notional concept which has no financial implications or effect. In other jurisdictions, it only allows the board of directors of joint stock companies to increase the issued capital within the limits of the authorized capital by a board resolution instead of having an extraordinary general assembly resolution. So the difference between authorised capital and issued capital is analogous to the difference between an approved loan facility and a partially drawn approved loan facility. For example, if the authorized capital of a company is AED 100 million and its issued capital is AED 30 million. The board members of such company can increase the issued capital with any amounts until they reach the ceiling of AED 100 million with a board resolution only instead of holding an extraordinary general assembly. Any increase of capital in excess of the 100 million (authorized capital) should be pursuant to a resolution from the extraordinary general assembly of the company. Therefore, the authorized capital is merely to facilitate procedural matters associated with capital increases. In the UAE, there will be a ministerial decree that will set out the procedures by which the issued capital can be increased within the authorized capital. As for the issued capital, the Companies law allows the shareholders to pay 25% only of the issued capital of a company upon its incorporation and the remaining 75% should be completed within 5 years. For example, if the issued capital of a company is AED 40 million, the shareholder of this company can pay AED 10 million on the date of incorporation and the remaining AED 30 thousand (75%) over five years.The general assembly has the right to authorize the board of directors to execute the capital increase resolution, provided that the board will execute the capital increase resolution no later than one year from the date of the general assembly’s resolution. Under the Existing Law, the board of directors has five years to implement any capital increase resolution of the general assembly.
- Article 193 – Board’s Authorization - The general assembly has the right to authorize the board of directors to execute the capital increase resolution, provided that the board will execute the capital increase resolution no later than one year from the date of the general assembly’s resolution. Under the Existing Law, the board of directors has a period of five years to execute the capital increase resolution of the general assembly.
- Article 197 - Sale of Entitlements to Rights Issue – Shareholders have preemption rights to subscribe for their company’s capital increase (Rights Issue). Under the New Law, shareholders are allowed to sell their entitlements under the rights issue to other existing shareholders or to third parties. Under the Existing Law, this is not possible.
- Article 207 – Nominal Value of the Share – The New Law provides that the nominal value of the share is to be paid within three years from the date of incorporation. Under the Existing Law, the nominal value of the share is to be paid within five years from the date of incorporation.
- Article 215 – Restrictions on the Transfer of Shares – The founders’ lockup period of two years provided for under the Existing Law remains the same under the New Law.
- Article 222 – Financial Assistance – The New Law prohibits companies from providing financial assistance to assist one of its shareholders to subscribe or buy its shares or bonds. The rationale for the prohibition is that the capital of the company will not be protected if the company assumes financial risk in a transaction relating to its own shares.
- Articles 223/224 – Strategic Investor – The New Law allows companies to increase its capital and allot the newly issued shares to a Strategic Investor without applying the preemption rights of the existing shareholders to subscribe for the capital increase in question, provided that the Strategic Investor carries out similar or complementary activities to the company. The definition of Strategic Investor is set out in 1 above. In addition, the Strategic Investor has to have issued at least two financial statements. This is a new development that is not addressed under the Existing Law.
- Article 225 – Debt Capitalization – The New Law explicitly states that a company may convert its debt to equity. This is not addressed under the Existing Law.
- Article 226 – Employees Share Scheme – The New Law explicitly addresses the possibility of issuing employees incentive share scheme. SCA shall issue a decree regulating employees share scheme. The Existing Law does not address this issue.
Rules Governing Private Joint Stock Companies (“PrJSC”)
- Article 255/256 – Private Joint Stock Companies – Under the New Law, a number of not less than two founding members may incorporate a PrJSC. The founding members will fully subscribe to the capital, which must not be less than 5 million Dirhams. The Existing Law provides a number of not less than three founding members may incorporate a private joint stock company with a capital not be less than two million Dirhams. Under the New Law, PrJSC may also be incorporated by a sole founder.
- Article 264 – Lockup Period – Under the New Law, there is a lockup period of one financial year from the date of incorporation. Under the Existing Law, the lockup period is for two financial years.
- Articles 266/269/272 – Introduction of New Corporate Status – The New Law sets out a new set of rules that governs new corporate legal structures such as, holding companies and subsidiaries. In addition, it addresses investment funds for the first time. A new set of rules and decrees will be issued to regularize these new legal structures.
- Penalties Chapter - A new penalties chapter has been introduced by the New Law which is more extensive than the existing chapter under the Existing Law.
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1. Technically, the capital of limited liability companies composes of “quotas” rather than “shares” in case of public and private joint stock companies. Even though, “shares” is still the commonly used term for limited liability companies.