I remember that day in 2006 at my OECD office in Paris when a colleague told me he had received a call from the Saudi government. The gentleman on the other end of the line had been inquiring about circuit-breaker mechanisms, as the Saudi stock market was fluctuating widely. From its high earlier that year, the market had lost 65 percent of its value, inflicting significant losses on retail investors who had bought shares on margin. The next year, the financial crisis resulted in the second highest losses in the history of international financial markets following the Great Depression.

At the time, Saudi Arabia had a strong banking regulator (SAMA), established in 1952, yet its capital market regulator was a nascent institution, established only a few years earlier, in 2003. Practically speaking, investment firm licensing, securities offering regulations, as well as know-your-customer rules either did not exist or were not enforced. Accessing information about listed companies was difficult, and noncompliance with disclosure rules was not seriously enforced.

No wonder, when the phone rang in my colleague’s office, the Saudi authorities were concerned this could be their “Souk Al Manakh moment.” In a fact almost forgotten by history, Kuwait’s Souk Al Manakh was once the third largest capital market globally. It collapsed overnight in 1982, revealing a Ponzi scheme. Seeing the savings of unsuspecting retail investors evaporate, the Saudi government swiftly empowered the Capital Market Authority (CMA), which re-doubled investor education efforts and began to impose fines at a time when it was still uncommon for regional regulators to do so.

As one of its first actions to address the causes of the crisis, the CMA promulgated a corporate governance code in 2007, establishing governance rules for the companies listed on the local market. The code has since seen several revisions and is in many respects more stringent than governance codes in Europe and North America. For instance, it prohibits practices such as the combination of CEO and chair roles and is rather prescriptive on issues such as the composition of board committees, definition of related parties, and board independence requirements.

Many of its requirements are not “comply-or-explain” as they are in Europe, but rather mandatory, effectively giving them legally enforceable status. In addition, the Saudi Corporate Law, last amended in 2022, now contains governance provisions such as the requirement for even unlisted LLCs to have an audit committee. In many ways, the Saudi legal framework is stricter than in other jurisdictions in the region and around the world, especially for banks, which are subject to regulatory inspections. Other practices curb the possibility of abuse; for instance, board members’ remuneration has until recently been limited by law at $130,000 and still remains lower than in other countries.

Yet, a number of important differences from other developed-country frameworks remain. Notably,  neither sustainability nor stewardship requirements are clearly addressed in Saudi law or regulations. Introducing additional disclosure requirements similar to the European Corporate Sustainability Reporting Directive, which obliges firms with over 250 employees and 40-million-euro turnover to disclose their ESG practices, appears relevant to the ongoing development of the regulatory framework.

Already, some large family conglomerates – whose long-term sustainability is of concern to the Saudi government, especially following the meltdown of a few large family firms such as the Saudi Bin Laden Group  – have moved beyond the letter of the law. For instance, the Olayan Group has introduced a dedicated sustainability function, while the Dabbagh Group has sustainability gurus such as Paul Polman on its board of directors. In other family conglomerates, many of which – despite encouragement and incentives from Tadawul, the Saudi Stock Exchange, and the CMA, chose to remain privately held –have listed their subsidiary companies either on the main or on all the second-tier markets with reduced listing requirements.

The fact that “corporate governance” has become a buzzword in Saudi Arabia is no accident. Local companies are seeking to explore how better corporate governance can underpin their ongoing transformation, be that doing business internationally or growing a competitive edge locally. Many Saudi firms, from the Public Investment Fund (PIF) portfolio companies to listed firms are on a fast-paced growth trajectory that requires governance frameworks to be both robust and agile.

For that reason, a unique feature of the local framework is a board-level executive committee that has authority that would in other countries be given to management. Local companies where board-level decisions need to be made quickly have these committees, alongside other board committees that have outside directors who are not board members. This practice, unique to Saudi Arabia, has the benefit of bringing additional talent on the board, with the risk that these members do not technically have the same legal responsibility.

Ultimately, regardless of the ownership and sector, Saudi companies tend to face similar corporate governance challenges. Chief among them is  that approvals need to be obtained from the top of the organizsation. This centralization of decision-making is often reflected in the delegation of authority, which often requires chair or board approval of transactions that could be delegated to management committees or members of senior management.

The concept of materiality can be better reflected in both local regulations and corporate decision-making. This would result in boards and senior management having to spend less time on issues that can be delegated. Yet, the governance of subsidiaries, which are often very much material to the parent company, should be given more attention. In the absence of clear subsidiary governance policies, the key governance mechanism tends to be the appointment of subsidiary boards from the parent company’s management.

Another challenge is the creation of robust yet implementable frameworks around related-party transactions (RPTs) and conflicts of interest (COI) . Although these situations are heavily regulated in listed companies and banks, they continue to pose practical challenges given the nature of the Saudi economy and the tribal nature of its society. For instance, the implementation of Central Bank rules on RPTs leads to hundreds of transactions being flagged for board approval. In this regard, the concept of materiality is important to consider in the evolving Saudi regulatory model and its implementation.

Last but not least, state-invested companies (SOEs), which in many ways are shaping the development of the Saudi economy, are not subject to a single regulatory framework and as a result have varied practices. Since SOEs are de facto on the government’s balance sheet and are intricately connected to the rest of the economy – not least through bank lending and contracts they issue to private firms – their governance practices are of high importance to their sustainability but also to national financial stability.

The OECD, whose Corporate Governance Principles helped address the local financial crisis in early 2000 when the local market did not yet have any governance standards, has a specific instrument on corporate governance of SOEs. The relevance of this standard, updated earlier this year, to the protection of wealth in the Saudi ecosystem is high: Its adoption can protect SOEs much as the first governance standards for listed firms helped shield listed firms over 15 years ago.

This post comes to us from Alissa Kole, the managing director of GOVERN CENTER and a former manager of the OECD’s regional program in the Middle East. She launched the OECD’s collaboration with Saudi Arabia, which recently culminated in a memorandum of understanding between the Kingdom and that international organization.