1St East and Central Africa
Conference on Islamic Banking
Introduction to Shariah Compliant
Structures and Business Applications
Mohammad Haris
Deputy General Manager,
Corporate Banking, Structured Finance
& Product Development
April 28, 2009
1St East and Central Africa
Conference on Islamic Banking
Presentation Outline
 Part I: Shariah compliant structures




Murabaha
Ijarah
Musharaka
Mudarabah
 Part II: Business solution
 Financing Requirements
•
•
Working Capital
Asset/Project /BMR Financing
 Trade Requirements
•
•
•
Imports
Exports
Fx
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Conference on Islamic Banking
Shariah Compliant Structures
Murabaha
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Conference on Islamic Banking
Murabaha
• Murabaha is a particular kind of sale
• where the transaction is done on a “cost plus profit” basis i.e.
the seller discloses the cost to the buyer and adds a certain
profit to it to arrive at the final selling price
• The distinguishing feature of Murabaha from ordinary sale is
- The seller discloses the cost to the buyer
- And a known profit is added
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Conference on Islamic Banking
Murabaha
• Since Murabaha is a sale transaction - rules of Shariah regarding
sale should be understood to judge if a Murabaha transaction is
valid
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Conference on Islamic Banking
Basic Rule for Murabaha
1) Asset to be sold:
a) must exist.
b) should be in ownership of the seller at the time of sale.
c) should be in physical or constructive possession of the
seller.
d) should not be used for un-Islamic purpose.
2) Sale price should be determined.
3) Forward sale is not allowed.
Process Flow
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Payment of Sale Price
(6)
Acceptance + Transfer of Title
(5)
Bank
Agreement for Murabaha
(1)
Customer
Offer to Purchase
(4)
Asset
(3)
Payment
(2)
Supplier
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Conference on Islamic Banking
Shariah Compliant Structures
Ijarah
Ijarah
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Conference on Islamic Banking
•
Ijarah is a term which means “To give something on rent”
•
The term “Ijarah” is used in two situations:
1. It means ‘To employ the services of a person on
wages’ e.g. “A” hires a porter at the airport to carry his
luggage
2. Another type of Ijarah relates to paying rent for use of
an asset or property
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Conference on Islamic Banking
Ijarah
• Ijarah is an Islamic alternative of Leasing.
• Leasing backed by an acceptable contract is an acceptable
transaction under Shariah.
• The question of whether or not the transaction of leasing is
Shariah compliant depends on the terms and conditions of
the contract.
• Several characteristics of conventional agreements may not
conform to Shariah thus making the transaction un-Islamic
and thereby invoking a prohibition.
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Conference on Islamic Banking
Process Flow
Transfer of title
(3)
Vendor
Payment to
Purchase
Assets
(2)
Lease Agreement
(4)
Bank
Undertaking
to Lease
(1)
Customer
Rental Payment
(5)
At the end of Contract period
client purchase the assets
And Transfer of Title
(6)
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Rules of Ijarah
1. Ownership of the leased asset remains with the Lessor
2. All rights and liabilities relating to ownership are borne by the
Lessor.
3. Subject matter of Lease should be Valuable, Identified and
Quantified.
4. The period of Lease must be determined in clear terms.
5. The Lessor cannot increase the rent unilateral
Rules of Ijarah
6.
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The Lessee is responsible for damage to the asset caused by fraud or
negligence.
7.
Normal maintenance is Lessee’s responsibility
8.
If the leased asset is destroyed, the lease will terminate.
9.
Lease rentals for the entire lease period must be fixed;
1St East and Central Africa
Conference on Islamic Banking
Shariah Compliant Structures
Musharaka
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Conference on Islamic Banking
Definition
•
“Musharakah ” means “Sharing”.
•
The word Musharakah has been derived from “Shirkah”
which means being a partner
•
Musharakah is basically a kind of partnership in which the
partners join together with different contributions, work or
obligation for the common objective of undertaking business
and trade in accordance with the principles of Shariah.
1St East and Central Africa
Conference on Islamic Banking
Types of Musharakah
Shirkat-ul-Milk
It means joint ownership of two or more persons in a
particular property.
Shirkat-ul-’Aqd
This is the second type of Shirkah which means:
A partnership effected by a mutual contract in which the
partners join together with different contributions, work or
obligation for the purpose of earning profit.
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Rules of Musharaka
Management of Musharaka
• Each partner has a right to take part in Musharaka
management.
• The partners may appoint a managing partner by mutual
consent
• One or more of the partners may decide not to work for the
Musharaka and work as a sleeping partner.
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Rules Of Musharaka
Rules for Profit Distribution
•
The ratio of profit distribution must be agreed at the time of
execution of the contract
•
The ratio must be determined as a proportion of the actual
profit earned by the enterprise
•
•
Not as percentage of partner’s investment
•
Not in lump sum amount
A sleeping partner cannot share the profit more than the
percentage of his capital.
1St East and Central Africa
Conference on Islamic Banking
Rules Of Musharaka
Illustration for Profit Distribution
•
If A and B enter into a partnership and it is agreed between
them that A shall be given Rs. 10,000/- per month as his share
in the profit, and the rest will go to B, the partnership is
invalid.
•
Similarly, if it is agreed between them that A will get 15% of
his investment, the contract is not valid.
•
The correct basis for distribution would be an agreed
percentages of the actual profit accrued to the business.
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Conference on Islamic Banking
Rules Of Musharaka
Rules for Loss
In the case of a loss, each partner shall suffer the loss exactly
according to the ratio of investment.
Profit is based on the agreement of the parties, but loss is
always subject to the ratio of investment.
20
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Conference on Islamic Banking
Processflow
Partner A
Funds
Partner B
Profit
Shariah
Compliant
Business
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Conference on Islamic Banking
Shariah Compliant Structures
Mudarabah
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Conference on Islamic Banking
Mudarabah
• This is a kind of partnership where one partner gives money to
another for investing in a commercial enterprise.
• The investment comes from the first partner who is called
“Rabb-ul-Maal” (Investor)
• The management and work is an exclusive responsibility of the
other, who is called “Mudarib” (Manager)
• Profit is shared as per agreed ratio
• All losses are borne by Investor
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Types of Mudarabah
1. Un-restricted Mudarabah
No restriction from the Rabb-ul-Mal (Investor) regarding the
business.
2. Restricted Mudarabah
Some restrictions implemented from the Rabb-ul-Mal
(Investor)
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Processflow
Depositors
Funds
Asset
Manager
Expertise
Profit
Shariah
Compliant
Assets,
Financing
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Diff b/w Musharaka & Mudarabah
Musharakah
• In Musharaka all partners invest
• Both parties can work
• Loss is shared according to contribution
Mudarabah
• In Mudarabah one party invests (Investor) and other party
works (Manager)
• Profit is shared as per agreed ratio
• All losses are borne by Investor
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Conference on Islamic Banking
Business Solution - Financing Requirement
Working Capital Financing
Using Murabaha (Sale) Mode of Financing
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Conference on Islamic Banking
Murabaha
Murabaha is a particular kind of sale where the transaction is
done on a “cost plus profit” basis
Murabaha – Illustration
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Conference on Islamic Banking
1. The Customer and the bank sign Master Financing
Agreement along with Agency Agreement.
2. Customer identifies and finalizes a purchase deal for
cotton with a supplier.
3. Customer makes a written request to the bank for the
purchase of Raw Cotton.
4. The bank disburses funds amounting to KES. 100 million
to the supplier.
Murabaha – Illustration
1St East and Central Africa
Conference on Islamic Banking
5. Agent/Bank purchases and takes possession of the Cotton.
6. The Customer then makes an offer to purchase it at KES 106
million to be paid after six months by signing the Offer.
7. The bank accepts the offer and the sale is concluded
whereby ownership as well as risk is transferred to the
Customer.
Process Flow
1St East and Central Africa
Conference on Islamic Banking
Differed payment of Kes 106 Mio
(7)
Acceptance of Sale + Transfer of Title
(6)
Bank
Agreement for Murabaha
(1)
Customer
Agency Agreement to
source cotton supplier
(2)
Offer to Purchase cotton at Kes 106 Mio in 6 months
(5)
Delivery of Cotton
(4)
Payment of Kes 100 Mio
(3)
Cotton
Supplier
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Conference on Islamic Banking
Issues in Murabaha
Rollover in Murabaha
Rebate on early payments
Penalty for late payments
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Conference on Islamic Banking
Business Solution - Financing Requirement
Asset/Project Financing
Using Ijarah (Leasing) Mode of Financing
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Conference on Islamic Banking
Ijarah
• Ijarah is a term which means “To give something on rent”
• Ijarah is an Islamic alternative of Leasing.
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Conference on Islamic Banking
Illustration
1.
Customer request financing for a truck costing Kes. 10 million.
2.
Islamic Bank agrees to finance the cost.
3.
Undertaking to lease is signed.
4.
Bank makes payment to truck supplier and take possession.
5.
Bank and customer sign the lease agreement for 3 years.
6.
The customer uses the truck and pays regular rent for 3 years.
7.
At the end of 3rd year, the customer buys the truck from the bank at
nominal value and ownership is transferred.
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Process Flow
Truck Title
(3)
Vendor
ksh10m
(2)
Lease Agreement
(4)
Bank
Undertaking
to Lease
(1)
Customer
Rental Payment
(5)
(At the end of Lease period)
Truck Title
(6)
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Conference on Islamic Banking
Difference b/w Conventional Lease & Ijarah
1. Risk and rewards of ownership lies with the owner
2. Once and if the asset is destroyed, the lease agreement is
terminated
3. Late payment penalty cannot be booked as income by the
Lessor.
4. Lease and Sale agreement should be separate and non
contingent.
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Difference b/w Conventional Lease & Ijarah
5.
The Lessor cannot increase the rent unilaterally
6.
Expenses to be borne by the parties:
7.
•
Lessor- expenses relating to the corpus of the asset
•
Lessee- actual operating/overhead expenses related to
running the asset
Rent is charged after delivery of the asset to the Lessee.
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Conference on Islamic Banking
Business Solution- Financing Requirement
Asset/Project Financing
Using Diminishing Musharaka (Partnership)
Mode of Financing
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Conference on Islamic Banking
Diminishing Musharaka
• It involves taking share in the ownership of a specific asset
and then gradually transferring complete ownership to the
other partner.
• This concept is based on Declining ownership of the financier
• Three components
1. Joint ownership of the Bank and customer
2. Customer as a lessee uses the share of the bank
3. Redemption of the share of the Bank by the customer
1St East and Central Africa
Conference on Islamic Banking
Illustration
1. Customer request financing for a property costing Kes. 10
million.
2. Islamic Bank agrees to provide financing up to 60% of the
cost.
3. Joint Ownership Agreement is executed between the bank
and the Customer.
4. Bank will purchase 60% share in the property by paying Kes.
6 million to supplier.
5. Customers pays its share of Kes. 4million.
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Conference on Islamic Banking
Illustration
6. Bank’s share is divided into sixty units.
7. Customer agrees to buyout Bank’s share (units) on monthly
basis and the Undertaking is executed by the customer.
8. Customer pays the rent for the usage of the Bank’s units.
9. Rental reduces after purchase of each unit by the customer.
10. After five years ownership of the asset is completely
transferred to the customer.
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Conference on Islamic Banking
Process Flow
Gradual Transfer of Ownership
Joint Partnership
Musharaka
Bank
Customer
Payment of Rental and Purchase of Unit
Kes 6m
Kes 4m
Supplier
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Conference on Islamic Banking
Business Solution - Trade Requirement
Trade Finance Products
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Trade Finance Products
• Sight & Usance LCs
• Import Financing through “Import Murabaha” & “Musharaka”
• Export Financing through “Musawamah & Agency” &
“Musharaka”
• Forex transactions: Spot and forward
• Collaterally Managed Assets financing through “Murabaha”
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Conference on Islamic Banking
Letter of Credit
• Shariah allows that the bank may charge service charges for
providing various services in the course of issuing LCs.
• However, these service charges should be developed keeping in
view the reasonable cost estimates.
• For example if the importer extends the LC, less service
charges should be collected as less services would be required
for extension in the period of the LC.
1St East and Central Africa
Conference on Islamic Banking
Business Solution - Trade Finance
Requirement
Import Financing
Using Murabaha (Sale), Ijarah (Leasing)
and Musharaka (Partnership) Mode of
Financing
Import Murabaha
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Conference on Islamic Banking
•
The customer opens the LC from the Bank as an agent of the
Bank.
•
The bank assumes ownership of the goods until they arrive at
the port and are sold to the customer.
•
Upon receipt of documents Bank makes payment to the
foreign supplier.
•
The Bank sells the goods to the customer on Murabaha (i.e.
cost plus profit basis. )
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Conference on Islamic Banking
Import Ijarah
•
The Importer places order with the foreign supplier on behalf of Islamic
Bank.
•
The importer signs undertaking to lease.
•
The Importer opens the LC from Islamic Bank as an agent of the Bank.
•
Upon receipt of documents Islamic Bank makes payment to the foreign
supplier.
•
The bank will enter into an Ijarah agreement with the customer.
•
After the term of Ijarah agreement is completed, the bank may sell the
asset to the importer at an agreed price.
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Conference on Islamic Banking
Import Musharaka
•
The bank and the importer will sign Musharaka Agreement.
•
The bank and the importer may agree on any profit sharing ratio.
•
The bank will make payment to the exporter after receiving the
documents.
•
Importer will sell the commodity in local market.
•
The bank and the importer will share the profit as per the agreed ratio.
CM Murabaha
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• Bank and the customer sign master murabaha agreement and agency
agreement
• Customer finalizes terms with CM company.
• Customer opens the LC thru the bank as its agent to import commodity.
• Bank makes payment upon arrival of documents
• Upon arrival of shipment, bank will release import documents to CM.
• Customer will request bank to release commodity in tranches
• Bank will release the commodity in tranches after signing offer and
acceptance.
• Bank will calculate murabaha price after adding all costs incurred to date
and applying profit rate.
• The transaction will complete once the customer has paid for the entire
consignment for its release.
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Conference on Islamic Banking
Business Solution - Trade Finance
Requirement
Export Financing
Using Musharaka (Partnership) and
Wakala (Agency) Mode of Financing
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Export Musharaka
•
The exporter has a confirmed order to export commodity backed by LC
•
The bank and the exporter will sign Musharaka Agreement.
•
The bank and the importer may agree on any profit sharing ratio.
•
The bank and the exporter will contribute their share of funds.
•
The exporter will ship the commodity through the bank in accordance
with LC terms. The documents will be couriered to the importer
•
The bank will receive export proceeds and will share it with the exporter
as per agreed ratio.
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Purchase and Agency
•
The exporter has a confirmed export order backed by LC
•
The exporter has already procured the commodity and is ready for
shipment.
•
The bank will buy the commodity prior to shipment.
•
The bank will arrange to ship the commodity.
•
The documents will be couriered to the importer.
•
The bank will receive export proceeds and will settle the o/s exposure
along with booking profit.
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Business Solution - Trade Requirement
FX Deals
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Spot Fx Deals
•
Trading of currency with another currency is allowed so far
as the delivery of one or both is not deferred.
•
The counter values of the same currency must be of equal
amount.
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Forward Cover
•
A bilateral promise to buy or sell currency on a future date is
not allowed
•
However, a promise from one party is permissible.
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Thank you
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Q&A