IB1005
DEPOSITS AND FINANCING PRACTICES
OF ISLAMIC FINANCIAL INSTITUTIONS
CHAPTER 9 : MUSYARAKAH JOINTVENTURE FINANCING
COMPILED BY
HAMDAN HJ IDRIS, BSc Econs, MBA (Islamic Banking & Finance)
Certified Professional Trainer (MIM)
Industry Expert
INCEIF
PRESENTED BY
HJ MAHMUD HJ BUNTAT, MBA (AUOL, UK), DBM (Swansea Inst., UK), CIL (UIA)
Part-time Lecturer (INCEIF)
Former Head of Islamic Banking Division, OCBC Bank (Malaysia) Bhd
Chapter 9 : Musharakah Joint
Venture Financing

When Islamic banks are not allowed to make
profit by making loans to customers, what are
the alternatives available?

Theoretically, Islamic banking can offer two
categories of financial contracts. First, it deals
with asset-based financing such as, such as
murabahah, salam, istisna’ and al-ijarah.
Secondly, an Islamic bank can pursue business
on the basis of partnership such as mudarabah
and musyarakah.
•
How would Islamic finance respond to the
requirement of capital and risks associated with
the new business?

To answer this question, the musyarakah
contract can be useful. It is useful to remember
that musyarakah is not a financial contract
meant for banking alone. In fact it is meant for
any ordinary financial transaction.

In Islamic jurisprudence, the term shirkah is
commonly used to denote musyarakah. Shirkah
means “sharing.”

It can be classified into two, namely shirkat-ulmilk and shirkah-ul-aqd.

Shirkat-ul-milk is a joint ownership of two or
more persons in a particular property.

Shirkat-ul-aqd means a partnership affected by a
mutual contract, which can be translated as a
‘joint commercial enterprise.’ Shirkah-ul-aqd is
divided into three categories:1. Shirkat-ul-amwal - All partners invest some
capital as well as expertise into the new
business.
2. Shirkat-ul-‘amal - Involves only services
rendered by partners.
3. Shirkat-ul-wujuh - Where no capital input is
required. The business purchases goods on
credit and sell them cash.
• The profit generated from the business of shirkat
will be distributed among the partners at an
agreed ratio or percentage.
•
Of the three types of shirkat-ul-‘aqd, the first
kind, namely shirkat-ul-amwal, is associated with
musyarakah financing.

In fact, the term musyarakah is not readily found
in books of Fiqh.

It was casually used in Islamic banking
literatures to imply shirkat-ul-amwal as it deals
with capital investment

Let us look again at the role of musyarakah/
shirkat-ul-amwal in all business set up.

In fact, all forms of modern business
organisation today are based on musyarakah
with the exception of sole proprietorship and a
sleeping partnership.

In musyarakah all partners are required to take
active role in running the business.
Musharakah Financing
Shirkat
(Partnership)
Shirkat-ul ‘Uqud
(Contractual Partnership
Shirkat-ul Milk
(Holding Partnership
Inheritance (Faraid)
Wills (Wasiyat)
Al-Mudarabah
(Trustee
Partnership)
Shirkat-ul Amwal
(Partnership in
capital)
Shirkat-ul Mufawada
(equals shares)
Shirkat-ul
‘Amal (Abdan)
(Partnership in work)
Shirkat-ul ‘Inan
(unequals shares)
Shirkat-ul-Wujuuh
(Receivable Partnership)

What are the rules available in musyarakah on
the distribution of profit? There is no single
definite rule available but here are some opinions
of Muslim jurists.

According to Imam Shafi’i, each partner receives
a profit exactly in the proportion of his
investment.

Imam Ahmad contented that the ratio of profit
may differ from the ratio of investment if it is
agreed between partners with their free consent.

A middle view was adopted by Imam Abu Hanifa
that the ratio of profit may differ from the ratio
of investment under normal conditions.

Despite the differences in opinion on profit
distribution, the jurists are unanimous with
regard to two principles:-
First Principle,
•
The distribution of profit cannot be determined in
an absolute or lump sum amount.

This is because there is no certainty of profit in
the venture. In other words, in a financing
contract Islam only allows a predetermination of
profit in ratios but not in the absolute sum.
Second principle;
•
All jurists agree that each partner shall suffer
loss exactly according to his capital investment.

However, this does not imply that musyarakah is
only confined to a limited liability company.

If the loss exceeds the paid-up capital, the
balance could be raised from the partners’
personal assets.
Application of Musharakah
Contract for Venture Capital

Venture capitalists provide equity funds to small
business, especially start-ups.

At a later stage, they provide capital for a
company that expects to go public within a year.

Venture capitalists supported entrepreneurs with
capital in exchange for an ownership stake of the
business.

Unlike banks and unit trust investors, venture
capitalists work closely with entrepreneurs and
investee companies.

In this manner, the venture capital business
elucidates the Islamic system of profit-loss
sharing

Not only it injects risk capital, venture capitalists
also provide value-addition such as reviewing
business plan, giving financial advice and
improving networking.

The essential element in Islamic venture capital
is the profit-loss sharing system (PLS) than runs
on the principle of al-ghurm bil ghonm (i.e. the
entitlement to return is related to the exposure
of risk).

One of the highlights of venture capital
investments is the due-diligence process
conducted by the venture capitalists.

It serves to investigate the characteristics of the
entrepreneur who is seeking financing.

Both the behavioural and mental traits of the
entrepreneur will be assessed to measure his
level of trustworthiness (amanah).

Conducting the due-diligence on the
entrepreneur is therefore compulsory (wajib) to
prevent undue moral hazards that may
undermine the venture.

A venture capitalist usually makes profits
through capital gains generated from sale of
shares upon exiting either via public listing or by
stock repurchase by the investee company.

They are not interested in a venture on
permanent basis.

In this way, one must closely studies the nature
of the venture capital partnership and see
whether it fits in the musyarakah framework.

Division of ownership in venture capital is not
based on relative monetary investment of the two
parties.

Rather, determining percentage of ownership
usually involve a number of uncertain investment
outcomes such as expected revenues, profit
margin and price-earning ratio in order to obtain
the current value of the company.
•
Most of the rules on musyarakah are fiqh i.e.
they are derived from human understanding of
the Quranic teachings about justice and equity.

The fuqaha (Islamic jurists) uses reason (‘aql)
when they exercise ijtihad (independent
thinking) on pertinent issues involving welfare
(maslahah) of the people.

When exercising Ijtihad they are guided by the
Quran and will not make opinions based on
whims and fancies.
• The fuqaha must look into this issue on
ownership determination as it (i.e. owneship
shares) is a parameter bearing legal claims once
profits are realized

The issue of gharar (ambiguities) is a cause for
concern since ownership is determined by
estimated and projected variables such as:
- Projected profit of venture
- Price-Earning ratio (P/E)
- Venture capital return (VCR)

Gharar must be avoided in Islamic law of
contract (‘aqd), otherwise the contract is deemed
null and void.
 Have
a good day 
 May God bless you
 Thank you & Wassalam