Mergers in Kuwait: Legal Framework, Shareholder Protections, and Market Challenges

Merger… In Accordance with Corporate Laws, Capital Markets, and Competition Protection

• An analysis of the concept and its impact on the rights of shareholders and contractors
• Merger transactions experience economic and legal shifts and influence the positions of stakeholders interacting with the merged entities
• A merger is a voluntary agreement between two companies to unite and consolidate their operations to establish a new legal entity or company
• The parties to the merger must be prepared to address the risks of contract and agreement breakdowns that may cause transaction instability and give rise to unforeseen legal disputes.
• The purpose of mergers and acquisitions is to generate significant added value for both parties to the transaction.
• In cases of acquisition without «competition» approval or the submission of misleading information, financial penalties may be imposed up to a specified percentage of the transaction value.
• The merger generates a several-fold increase in strength and advancement regarding the stability and growth of the combined entities.
• Customers and shareholders are entitled to object to mergers if their interests are adversely affected, while regulatory authorities are empowered to consider such objections.
• The objective of mergers and acquisitions is to achieve substantial added value for both parties to the transaction.
• Creating opportunities for expansion that open new avenues for unconventional growth.
• If shareholders believe that their rights have been infringed as a result of the merger, they may seek recourse through the judiciary.
• The acquiring company is obligated to fulfill all obligations arising from contracts entered into by the acquired company.

The capital and business markets have recently undergone economic changes that have prompted numerous entities to expand their operations and economic scope, thereby driving them toward acquisition and merger transactions. Given the economic, commercial, and legal ramifications of these changes on such companies, a series of legal inquiries emerges concerning the consequences and effects resulting from acquisition and merger operations. The importance of the study, prepared by Arkan Law and Consulting Firm, rests in the impact of the merger on contracts concluded between third parties and the merged company or institution, especially when its constitutional and legal framework differs from that of the merging company. This matter is particularly significant as we are on the verge of one of the largest merger transactions between two financial institutions in the banking sector, following the recent completion of similar mergers between banking institutions. The issue arises when the merged banking institution is conventional, and the merging entity is an Islamic banking institution, or vice versa, particularly given that the legislator mandates Islamic banking institutions to comply strictly with Islamic Sharia provisions. Kuwaiti jurisprudence has firmly established the nullity of any contracts contravening Sharia within Islamic banking institutions. This forms the basis for the significance of this study. At the outset of this study, we wish to highlight the distinction between the concepts of merger and acquisition. Despite the similarity in merger and acquisition contracts in terms of the role of intermediaries, asset valuation criteria, and arrangements regarding the fate of contracts linked to those entities and shareholders’ stakes, there are two criteria to differentiate between a merger and an acquisition, namely: – the consideration granted: if the consideration granted to the shareholders is cash rather than a share in the other company, the transaction is regarded as an acquisition rather than a merger; conversely, if the consideration comprises a share in a company, the transaction is deemed a merger and not an acquisition. – Company Capital: If the company has not been dissolved following the purchase of another company’s shares, the transaction is classified as an Acquisition; however, if a new company is established or the acquiring company’s entity continues to exist, it is considered a Merger. On this basis, we undertake this study exclusively, since the significant similarity subjects both scenarios to the same scrutiny, regulatory framework, requirements, and legal issues; therefore, we will explain the concept based on one scenario, namely the Acquisition, as follows:

Firstly: The concept of merger according to the Kuwaiti Companies Law – The Kuwaiti Companies Law, as set forth in Law No. 1 of 2016, governs the merger process between companies through a series of provisions aimed at protecting shareholders’ rights and ensuring transparency of operations, and this law comprises:

1. Definition of merger

Merger is defined under Article 242 of the Companies Law as a process in which two or more companies combine to form a new legal entity, wherein the assets and liabilities are merged, resulting in the transfer of rights and obligations of the merging companies to the newly established entity.

2.Merger Procedures

• The law requires the Applicant Company for Merger to submit a formal offer to the Board of Directors of the Target Company. The offer must include all details concerning the merger, including the consideration and other conditions.
• The law mandates that the Board of Directors of the Target Company act in the best interests of the Shareholders and provide recommendations regarding the submitted offer.

3. Shareholders’ Rights

• Pursuant to the Kuwaiti Companies Law, when the Board of Directors resolves to approve a merger, shareholders are endowed with several rights to safeguard their interests and ensure their equitable representation. These rights encompass the following: The Right to Receive Information
• Shareholders have the right to access all necessary information pertaining to the merger process, which must be clear and comprehensive, including details on the terms of the transaction, the anticipated impact on the company and its operations, and the manner in which the merger will affect shareholders’ rights.

The Right to Vote

• The merger transaction must be submitted for a vote at an extraordinary general assembly meeting, and shareholders must approve the transaction by a specified majority of votes, which may be either a simple majority or a two-thirds majority of the shares represented at the meeting, in accordance with the Companies Law and the Articles of Association.

The Right to Object

• Shareholders dissenting to the merger transaction have the right to express their objection during the general meeting, and in certain cases, may also have the right to challenge the approval decision if there is evidence of bias, lack of transparency, or infringement of their rights as shareholders. Minority Shareholders’ Rights

1 – The Right to Protection from Exclusion

• The Kuwaiti Companies Law guarantees the protection of minority rights of shareholders by prohibiting the majority from adopting decisions that result in their exclusion or the unfair reduction of the value of their shares, while deemphasizing the importance of their decisions through the implementation of multiple rights and procedures aimed at safeguarding those rights.

2 – The right to submit a complaint

• Minority shareholders are entitled to lodge complaints with judicial authorities if they consider that their rights have been infringed by decisions of the Board of Directors or the majority. Such complaints may be pursued under criminal law in instances of manipulation and breaches committed by the Board of Directors, or through actions seeking the annulment and invalidation of general assembly resolutions that violate the law and the regulatory framework protecting shareholders’ rights and damaging their interests.

3 – The Right to Sell at Fair Value

• In the event of a merger between companies, minority shareholders have the right to request the sale of their shares at a fair value reflecting the true market value of the shares. The valuation must be transparent and independent to ensure the protection of minority rights, as the Kuwaiti Companies Law guarantees the rights of shareholders, particularly the minority, in the event of a decision to proceed with an acquisition. These rights ensure the fair representation of the interests of all shareholders and provide necessary protection against any practices that may harm them, thereby enhancing the integrity and transparency of acquisition procedures.

Secondly: Merger pursuant to the Kuwaiti Capital Markets Authority Law

• Capital Markets Authority Law No.7 of 2010 establishes the regulatory framework for mergers involving joint-stock companies listed on the Kuwait Stock Exchange, supervised by the Capital Markets Authority. The Law has regulated, pursuant to the provisions of Chapter Nine (Mergers and Acquisitions), several matters, foremost among them: disclosure and the mandatory tender offer for acquisition bids within the framework of the Capital Markets Authority Law, including procedures and requirements related to disclosure and transparency when submitting an acquisition offer for a company listed on the market. This procedure aims to protect the rights of shareholders and other investors by ensuring the availability of necessary information to make informed investment decisions.

1 – Disclosure

The Capital Markets Authority law requires parties intending to make a takeover bid for a listed company to provide comprehensive disclosure, including detailed information on:

• The identity of the merger applicant.
• The terms and conditions of the offer.
• The intentions and future plans for the merger regarding the company submitting the application.
• Any financing arrangements to support the offer.
• Details regarding any prior communications or agreements made with the Target Company or with members of the Board of Directors.

2 – Mandatory Tender Offer

• The merger applicant is required to submit a mandatory tender offer to all shareholders of the company subject to the merger and the consequent dissolution of its legal entity, including detailed terms of the offer for the shareholdings in the Target Company, as determined pursuant to the law and the regulations issued by the Capital Markets Authority. Mandatory tender offer requirements include:
• Submitting the offer to all shareholders, thereby providing them with the opportunity to sell their shares under identical terms.
• Presenting the offer at the same price and conditions for all the shares concerned.
• Respecting minority shareholders’ rights and ensuring fair and equal treatment for all.

3 – Procedures and timelines

• Following the initial disclosure, the Merged Company must submit the formal offer within a specified timeframe. The offer must remain open for a designated period to allow shareholders to make an informed decision regarding the merger process, evaluating whether it serves the interests of the company without conflicting with or impairing their rights. Furthermore, the Board of Directors of the receiving company must disclose the final results of the offer immediately upon its closure.

4 – Penalties

• In the event of non-compliance with these requirements, the relevant parties may be subject to legal penalties, which may include financial fines and other legal measures. This disclosure and mandatory tender offer are mandated by the Capital Markets Authority law, as they are essential to ensuring the transparency and effectiveness of the acquisition process and to safeguarding the interests of all stakeholders in the Kuwaiti capital and commercial markets.

Thirdly: Merger under the Kuwaiti Competition Protection Law

• The Competition Protection Law, issued pursuant to Law No. 72 of 2020, Article 10 of the Law on Economic Concentration, aims to prevent monopolistic practices, promote fair competition in the market, and regulate acquisition as a major commercial practice, in order to achieve the primary objectives of preventing monopoly and ensuring economic balance and transparency in commercial transactions. The Law requires several conditions to complete Merger and Acquisition operations, as follows:

Approval of the Competition Protection Authority

• The Law requires companies seeking to merge with other companies to obtain approval from the Competition Protection Authority if the merger may have a significant impact on market competition; accordingly, the Law prescribes conditions for submitting merger applications to the Competition Protection Authority in order to ensure stringent oversight of such operations, including:

Full Disclosure

• The company intending to effect a merger must submit an application containing all necessary information and data clarifying the nature of the transaction and its anticipated impact on the market. This includes furnishing details concerning the involved companies, their current market shares, the sectors in which they operate, the economic forecasts arising from the merger, and all pertinent data and information that enable the authority to make an informed decision regarding the process.

Submission of the approval request to the Authority

• The request must be submitted prior to the completion of the transaction and obtaining the Authority’s approval, to ensure that the transaction does not result in monopolistic practices, diminish fair competition in the market, or cause economic disruption within the commercial sector of the merged entities, such as: the banking sector, insurance, industrial, consumer sectors, or others.

The Applicant’s Obligation to Transparency

• The Applicant Company for Merger must disclose all details pertaining to the transaction, including any potential changes in the company’s policies or organizational structure, the future plan, the objectives of the merger, and other matters relevant to the regulatory authority and stakeholders for their review, in order to ensure the highest level of transparency and fairness.

The competitive impact analysis of the merger entails a comprehensive evaluation of the merger process’s effect on the market structure and competition among the active companies.

The analysis includes:

• Defining the market in which the merger’s impact will be assessed, whether a local market or a specific economic sector. Assessing the market shares of the merged company and the acquiring company making the offer, both before and after the merger. If the combined market share of the two companies is excessively large, this may adversely affect competition. An assessment of how the merger impacts other competitors in the market is required, including the potential for monopoly formation or a reduction in the number of key market players, as well as an analysis of whether the merger will lead to price increases, diminished consumer choice, or a decline in product and service quality. Additionally, consideration must be given to the ease or difficulty of market entry for new firms post-merger, which could mitigate negative effects on competition. The economic concentration condition guaranteed by Competition Law, considered a primary criterion in merger applications, refers to the threshold beyond which the combined market share of the merged companies may impede competition. Under the law, there are legal limits defining a specific economic concentration threshold which, if exceeded by the merger process, may be deemed detrimental to competition and thus necessitate further review or merger rejection. Should the merger exceed these limits, the concerned companies must submit an application to the Competition Committee to obtain approval. The Committee examines the application and performs a competitive impact analysis to determine whether the merger should be permitted, rejected, or subject to specific conditions. In certain cases, the Competition Committee may approve the merger on the condition that the involved companies implement measures to alleviate economic concentration, such as divesting certain assets or permitting the entry of new competitors. Compliance with the requirements of competitive impact analysis and surpassing the economic concentration threshold is essential to ensure that merger or acquisition operations do not harm competition or create monopolies in the market. Failure to comply with these conditions may result in the rejection of the merger or the imposition of legal sanctions on the concerned parties. These regulatory instruments are vital for maintaining a competitive and balanced market, thereby fostering innovation and offering consumers improved options at reasonable prices. The Competition Protection Law prescribes the penalties to be imposed on violators, which consist of the following:

1 – Financial penalties

• If the acquisition is completed without obtaining the Authority’s approval or if misleading information is submitted, the Authority may impose significant financial penalties on the company concerned. Such penalties may amount to a percentage of the transaction value or take the form of a fixed sum determined by the Authority.

2 – Transaction Cancellation

• If the acquisition leads to a significant reduction in competition or the creation of a monopoly, the Authority may decide to retroactively cancel the transaction and restore the situation to its state prior to the merger.

3 – Legal Procedures

• The Authority may initiate legal proceedings against companies that violate the laws, which may result in criminal or civil penalties against the company or its directors should the Authority find evidence of fraud or violations that raise criminal suspicion, falling within the penalties prescribed by Competition Law or the Kuwaiti Penal Code.

4 – Remedial Measures

• The Authority may require companies to implement specific remedial measures, such as divesting certain assets or separating particular divisions, to ensure the continuation of fair competition in the market. Legal Procedures during the Merger Process: Objections from Affected Parties Inside and Outside the Company «Shareholders of the target or acquiring company may submit objections during the general meetings addressing the merger process.

Through this objection, they may raise their concerns or oppose the submitted offer.

• Furthermore, affected parties outside the company, contractors, or anyone with an interest harmed by the merger process—which may infringe upon their rights and directly or indirectly affect their interests—may initiate legal proceedings through the judiciary. Should shareholders consider that their rights have been harmed as a result of the merger process, they may seek judicial remedies to annul the merger or amend its terms. For instance, if there are doubts concerning the fairness of the proposed offer or the method of executing the merger process, other affected parties, such as competing companies or entities responsible for market competition, may submit a formal objection to the Kuwaiti Competition Committee. Such objection may be grounded on the assertion that the merger process will result in market monopoly or an unjustified diminution of competition. Any party who believes that they may be harmed by the merger process may submit a complaint to the Capital Markets Authority or any other relevant regulatory body. Such bodies may include authorities responsible for overseeing transparency and disclosure in the capital market.

Procedures for Objection

• Submission of Complaints «Affected parties must submit written complaints to the competent authority, whether judicial bodies or the Authority in its capacity as the supervisor of the merger process, notifying the relevant officials within the Authority of the damages and risks resulting from the consummation of the transaction, and detailing the reasons and evidence supporting their objection».
• Investigation Procedures «The competent authority, such as the Competition Committee or the Capital Markets Authority, may investigate objections submitted by the objectors, clarify these objections, and verify their seriousness and validity. This also includes requesting additional information from the concerned parties and analyzing the merger’s impact on the market».
• Decision Making «Based on the investigation results, the competent authority may decide to halt the merger process, impose specific conditions and controls to ensure competition, fairness, and transparency in a fair economic market, or reject the objection and permit the process to proceed». The Effect of the Merger on the Contracts of the Merged Company and Its Relations with Third Parties: Transfer of Obligations and Rights
• Upon completion of the merger process, all obligations and rights stipulated in the executed contracts of the merged company shall transfer to the acquiring company. This means that the acquiring company substitutes the merged company in all contracts and legal relationships with third parties. The Acquiring Company commits to fulfilling all obligations arising from the executed contracts of the Merged Company, including the payment of amounts due, delivery of products or services, and compliance with all other contractual terms. The Acquiring Company must notify third-party contractors (contractors with the Merged Company) of the merger process and confirm the continuation of the contracts without modification. In most cases, contracts do not require modification unless they explicitly exclude the transfer of rights and obligations specifically referenced therein. Contracts of the Merged Company Containing an Arbitration Clause
• The Acquiring Company is obligated to arbitration in the event of a dispute and assumes liability as a party to the contract, unless the notification expresses the Acquiring Company’s refusal, which legally substitutes the Merged Company, on the basis that the arbitration clause is a special provision requiring explicit and direct consent from the legal representative to arrange an amendment of the agreement with a third party who is not a contracting party of the Merged Company, notwithstanding the third party’s right to rely on this clause, pursuant to the principle of legal substitution. Conversely, third parties are entitled to exercise the same right by requesting that the contracts not be enforceable against them if there is a non-assignment clause and the contract is transferred to others. Accordingly, the clause authorizes them to suspend the contract and grants the right to prior notification of the merger process, whether to continue or terminate the contract. Contracts containing an explicit clause stipulating their cancellation or amendment upon the occurrence of a merger may be terminated by the other party or subject to renegotiation of the contract terms.
• There are contracts subject to a condition, suspensive term, or pending execution; the Acquiring Company assumes responsibility for their execution and completion, or for negotiating new terms if necessary. Legal and contractual liabilities transfer to the Acquiring Company, including any breaches of contracts assigned from the Merged Company to the Acquiring Company, encompassing liability for damages, compensation arising from such contracts, and all associated legal rights.

In summary, a merger entails the transfer of all obligations and rights from the merged company to the acquiring company, thereby rendering the acquiring company the new party to all contracts executed by the merged company. The acquiring company must manage this relationship with due diligence to ensure contractual continuity and safeguard the rights of third parties generally. Specifically, there are inevitably additional issues that will arise in the event of differing legal frameworks governing the two companies, as follows: Merger of the Islamic financial institution into a conventional financial institution, and its impact on the executed contracts prior to the merger process: These legal challenges arise from the divergent legal status of each entity, some operating under the Islamic legal system, others subject to the legal rules and Islamic financial framework governed by Islamic Sharia, and others under the conventional financial system. These challenges will confront the companies subsequent to the completion of the merger transaction, which must be thoroughly prepared to address them, in order to mitigate risks of contract and agreement dissolution, which may result in instability in transactions and contractual relations, provoke litigation disputes with clients, and cause unforeseen losses. Among these challenges are:

1. Contractual Obligations:

Existing contracts are generally maintained until they are reviewed by the merging bank. These contracts include: loan agreements, deposit agreements, letters of guarantee, current accounts, overdrafts, and interest accrued during the operation of the current account. All these contractual obligations with clients were concluded under the conventional system; however, according to the acquiring company’s framework, they must comply with the Islamic legal system, which mandates amendments to contracts and terms to align with Islamic Sharia, the elimination of all usurious interest, and the establishment of new Islamic transactions that carry a new legal effect and status for prior banking and financial dealings that may precede the creation of the merged financial institution. This necessitates modifying those agreements, requiring the client’s consent to enter into new contracts and agreements, which is not permissible under the principle of legal succession, as discussed in this study on legally analogous systems.

2. Usurious Transactions:

In the event of any transactions identified as usurious or interest-bearing, the Islamic Bank must consider how to address these transactions to ensure compliance with Islamic Sharia. This may necessitate restructuring certain loans or providing alternative options to clients.

3. Assessment of Assets and Liabilities: The Islamic Bank may be required to conduct a comprehensive evaluation of assets and liabilities to ensure their compliance with Islamic principles.
4. Customer Notification:

The merging financial institution subject to the Islamic system must notify the clients of the conventional bank of the new transformations, their impact on them, the new transactional solutions, and the offers made to them, to ensure their continued engagement under the new structure, the signing of the new amendments, and the client’s right to reject such amendments.

5. Sharia Supervisory Oversight:

Among the requirements of Islamic institutions is the establishment of a Sharia committee responsible for reviewing all contracts and transactions of the financial institution to ensure their compliance with Islamic Sharia. Accordingly, all contracts and dealings of the conventional institution must be presented to this committee for its Sharia opinion prior to commencing operations as a single entity. Completing the acquisition and continuing conventional transactions under the umbrella of the Islamic institution exposes it to violations by the central bank and other regulatory authorities. Given the large volume of such transactions, the scale of violations should not be underestimated, and the acquiring company may face significant issues and penalties.

6. Client’s Refusal to Continue or Amend the Contract:

The client may reject the proposals of the financial institution subject to Islamic Sharia for any reason, whether due to unwillingness to participate in that system or due to changes in interest rates and financial benefits affecting the speed of loan repayment and interest reduction. Given the impossibility of continuing his traditional transactions, such dealings will be terminated, and the client will be required to close his account from a procedural standpoint. However, it must be acknowledged that he retains the right to claim compensation for any damages incurred as a result, since the merger served the interests of two institutions rather than the client, who structured his commercial dealings based on loans, facilities, or deposits guaranteeing the continuation of his commercial activities, which he is now obliged to cease in adherence to the new system.

Acquisition Conditions

A Merger or Acquisition in Kuwait is subject to the supervision of multiple laws and regulatory bodies, aimed at ensuring transparency, protecting the rights of shareholders, merchants, and clients, and promoting fair competition. Transparency and full compliance with applicable laws constitute fundamental conditions for submitting acquisition applications. Failure to comply may result in severe penalties, including: financial penalties, transaction annulment, and legal proceedings. These terms and penalties aim to preserve competitive balance in the market and prevent monopolies that could adversely impact the economy and consumers. Within the framework of multiple laws and regulatory bodies, the mergers and acquisitions process generally proceeds through precise procedures and stages requiring meticulous attention from practitioners in this field, to avoid incurring the penalties stipulated in the relevant regulations.

Prepared by / Dr. Fayez Al-Fadhli