Visitors to the headquarters of Saudi Binladin Group in Jeddah are presented with an impressive spectacle, an enormous model of its most prestigious project, the Grand Mosque in Mecca.
This ostentatious display is not typical of Saudi family businesses. Most forego overt displays of wealth and privilege and, even now, the family firms that dominate the Saudi private sector are reluctant to change their ways.
This goes for their whole approach to doing business. Conservative business planning models and traditional lines of business such as trading, construction, contracting, property and light industry remain strong currencies in the kingdom. The Saudi merchant houses, active in everything from producing toothpaste to engineering services, still dominate the kingdom.
While the majority of Western family firms have long been broken up into separate companies specialising in specific sectors, an absence of specialisation among Saudi family firms has made the classic diversified corporate structure uniquely appropriate to the local business environment. “The concept of diversification has been upheld [among Saudi firms] and, given the nature of the market, it is sensible,” says Phillipp Lotter, Gulf analyst at ratings agency Moody’s Investors Service. “You do not have the degree of specialisation seen in more mature markets.”
Most Saudi family conglomerates’ core operations are diversified, buttressed by investment portfolios and sizeable land banks. Many of these firms began in real estate before branching out into industrial or service activities. The value they derive from this diversified model is evident in the fact that their corporate activities tend to complement each other – a merchant house that runs a shipping agency, for example, usually ensures its shipping lines buy their fuel from family-owned fuel providers, reinforcing the holistic nature of the business model.
But Saudi family firms are increasingly seeking opportunities beyond rent-based contracting and agency arrangements with foreign suppliers. A least a dozen Saudi family firms, such as Xenel Industries and Rajhi Steel Industries, have initiated heavyweight industrial projects, while others have entered financial services, telecoms, information and communications technology and logistics.
But as the market matures, pressure to change means the model of doing ‘everything and anything’ may no longer reap the dividends of previous years. The post-2004 Gulf hydrocarbons boom has delivered an array of business opportunities to Saudi firms, but has also thrown up challenges.
According to the head of one prominent Jeddah-based merchant family, Saudi businesses now need to hone their core competences. “If you are not a specialist in what you do, with the first blow of bad weather you will have problems,” he says.
Three years on from the kingdom’s accession to the World Trade Organisation (WTO) in 2005, the business climate has grown far more competitive. This is not simply the result of the imposition of a level playing field, ushered in on the back of WTO entry requirements. Agency laws remain intact and few foreign companies can match local family firms in terms of access to the market.
Commercial regulations restrict importing for resale and direct commercial marketing to Saudi nationals and wholly Saudi-owned companies. But there has been change. The government prepared the way for WTO entry with a series of reforms to commercial law. Since 2001, foreign companies have no longer been compelled to appoint a Saudi service agent when engaged in a contract with the government, though some government contracts still require a minimum requirement to subcontract to Saudi firms.
But the strength of family empires is such that even in the unlikely event of the agency laws being scrapped overnight, Saudi businesses would not suffer an immediate fall in profits. Suppliers value the long-standing relationships they have with their Saudi agents, and see little benefit in switching to rivals or forming their own sales channels.
“Trading has been a way of accumulating wealth and that has not been impacted either by WTO or globalisation,” says Ihsan
Bu-Hulaiga, director of Saudi Arabia-based Joatha Consulting.
The existing players have set up the local distribution networks and sales channels, making it difficult for newcomers to compete.
Yet in a wider sense, globalisation has played a decisive role in reshaping Saudi corporate strategies. For example, the government is trying to ease market entry requirements for start-up firms to boost local competition. “Many Saudi family firms used to look on the local economy as a captive market, but now the number of operators is increasing and competition is getting more intense,” says Bu-Hulaiga.
Saudi companies are being flooded with offers to participate in new start-up companies.The trend has led some to join forces to leverage complimentary skills-sets or resources.
Co-investing is relatively new for Saudi family firms, but has led some into new areas. Two prominent diversified Saudi family conglomerates, the Al-Muhaidib and Al-Fozan groups, have embarked on a series of ambitious joint projects, taking interests in new financial services firms – including Blom-invest Saudi Arabia and private equity group Amwal al-Khaleej – as well as in the jointly established petrochemicals group Injaz Project Company, the latter acquiring Turkish chemicals group Petkim in late 2007. Such orchestrated investment strategies allow Saudi family firms to maximise the returns from their extensive portfolios.
Because of their size and reach, family firms also have enviable market power. Many own dozens of businesses, with one reported to own more than 300 affiliates. Such size can imbue them with a market influence that their technological prowess or skills base might not necessarily afford.
“If you have this elaborate network of businesses and subsidiaries, you can always benefit,” says Bu-Hulaiga. “These firms have size-able market share and any foreign investor looking for a local partner will look to them to add value and help them grab market share. They look to well-established families for their support and contacts.”
Competition has advantages for Saudi firms too. “It has become more competitive,” says Muhammad al-Agil, chairman of Jarir Marketing Company, which was among the first Saudi family businesses to list as a public company. “There are more market entrants and more interest in Saudi Arabia. But it has helped keep management on its toes. We have to keep reinventing ourselves.”
Jarir’s answer to the challenge of competition has been to expand overseas and broaden its product offering, from books and office supplies to IT products. “We have managed to maintain a diversified product range, which allows us to deal with different economic cycles,” says Al-Agil.
The robust economic circumstances have clearly played to the advantage of incumbent family firms. Low interest rates have allowed firms to access cheap financing, while benefiting from strong demand in key sectors such as construction materials, engineering services and durable goods.
“These firms have more opportunities than they can make use of,” says Said al-Sheikh, chief economist at National Commercial Bank. “Competition is growing but the pie is also getting bigger.”
Economic change has also precipitated the migration into new business areas. Family-owned businesses have been active in the petrochemicals sector virtually since the outset in the 1930s, through conglomerates such as Zamil and Xenel. But with cheap financing available from the Saudi Industrial Development Fund and, until relatively recently at least, low-cost feedstock, private petrochemicals projects have opened up opportunities for enterprising Saudi family firms.
The families still seek to reap healthy returns on their investments and are willing to buy into fresh ideas. “Family businesses in the kingdom believe in acquisition,” says Bu-Hulaiga. “Even if the idea is a little ahead of its time, they will let the project grow a little and when they feel it is going to be a success, they will take an interest of around 30-40 per cent.”
Several Saudi companies have used initial public offerings (IPOs) as a convenient way of raising finance to underwrite new investment plans or an expansion of the business. “The intention is to corporatise but at the same time the access to finance direct from the market
is cheaper than going to the banking sector,” says Al-Sheikh.
In recent years, established family firms such as Al-Hokair, which is active in the textiles sector, and Aldrees, a gasoline retailer, have followed Jarir with IPOs that were all oversubscribed.
Not all need to hit the Tadawul to boost their revenues. The larger Saudi firms rely heavily on short-term funding, tapping into long-lasting relationships with local financiers. But the majority of Saudi firms have a relatively low level of exposure to the banking sector. Less than 50 per cent have bank overdraft facilities.
The reliance on retained earnings reflects the after-effect of the oil-driven liquidity boom of recent years. “The market has been profit-able for Saudi companies over the past few years so they can rely on self-financing,” says Al-Sheikh. “The larger firms have also been able to obtain cheap financing because interest rates have been low, but for small firmer firms that do not have the audited balance sheets that make banks comfortable [to lend], the cost of funding is relatively high.”
Unsurprisingly, most of the Saudi banking sector is family owned, from the Al-Rajhis’ eponymous financial giant through to the Bin Mahfouz family’s holding in National Commercial Bank. Although Saudi banks are listed, the controlling stake tends to lie in the hands of a clutch of powerful families.
Saudi family businesses now face pressure to specialise and provide services that add value to their core business. This will lead them further into new sectors such as logistics, education, retail and insurance.
The latter industry in particular was seen as a potential growth area after the government announced plans to reform the sector more than five years ago. In 2007, the first operating licenses were granted to a series of insurance companies, but family firms have so far largely steered clear of the sector, with a few exceptions such as Elkhereiji, which has partnered with UK-based Ace Group.
The explanation for this lack of appetite is simple. The regulator, Saudi Arabian Monetary Agency (Sama), has been reluctant to speed up liberalisation for fear that the Saudi family firms would quickly dominate the sector. As a result, Saudi agents have been forced to set up as full-status companies or move out of the business altogether. In essence, Sama wants insurance companies to be managed by professionals with distributed ownership, but over time several families have increased their holdings in local insurance companies.
Such resilience serves as further evidence that Saudi Arabia’s family firms are capable of reshaping their business models to fit new times. Succession battles are one thing, but most business owners are alive to the challenge of competition and globalisation, and the need to provide more than just delivery channels. “They are getting more sophisticated, making sure the business is managed like a business rather than a family affair,” says Bu-Hulaiga.
But this does not mean they will have it all their own way. “Globalisation and economic growth will attract new players to the market, and this will upset the status quo that has prevailed for the past few decades,” he says.
50% – Proportion of Saudi businesses with overdraft facilities