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ISLAMIC BANKING AND FINANCE:ISLAMIC BANKING AND FINANCE:
WHATS IN IT FOR CANADIANWHATS IN IT FOR CANADIAN
COMPANIES?COMPANIES?
Mohammad FadelMohammad FadelCanada Research Chair in the Law and Economics of Islamic LawCanada Research Chair in the Law and Economics of Islamic Law
University of Toronto Faculty of LawUniversity of Toronto Faculty of LawOctober 16, 2006October 16, 2006
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OVERVIEW OF ISLAMIC BANKINGOVERVIEW OF ISLAMIC BANKING
SECTORSECTOR
Centers of Islamic FinanceCenters of Islamic Finance
MalaysiaMalaysia
Persian GulfPersian Gulf
United Arab Emirates (Dubai)United Arab Emirates (Dubai)
BahrainBahrain
England ????England ????
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Historyof Islamic BankingHistoryof Islamic Banking
Local Islamic banks formed in the 1970s inLocal Islamic banks formed in the 1970s inMuslim countries such as Malaysia, PakistanMuslim countries such as Malaysia, Pakistanand Dubaiand Dubai
Originally emphasized jointOriginally emphasized joint--venture structuresventure structuresakin to private equityakin to private equity
Quickly evolved to provide shortQuickly evolved to provide short--term creditterm creditfacilities by using thefacilities by using the murbahamurbaha structurestructure
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HistoryofIslamic Banking (II)HistoryofIslamic Banking (II)
With increase in scale, Islamic banksWith increase in scale, Islamic banksbegan to branch out to more complexbegan to branch out to more complexfinancing schemes, including:financing schemes, including:
Retail banking, including, deposit taking andRetail banking, including, deposit taking andconsumer lendingconsumer lending
Bonds (Bonds (sukksukk))
MediumMedium-- and Longand Long--term leasesterm leases (ijra)(ijra)
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HistoryofIslamic Banking (III)HistoryofIslamic Banking (III)
Impact of 9/11Impact of 9/11 Reverse Capital FlightReverse Capital Flight
Perception of hostile climate in many WesternPerception of hostile climate in many Western
jurisdictions, in particular, the United States, led tojurisdictions, in particular, the United States, led torepatriation of dollars by Arab investors to Middlerepatriation of dollars by Arab investors to MiddleEastern banksEastern banks
Islamic banks, along with conventional banks in theIslamic banks, along with conventional banks in the
region, benefited from this reverse flight of capitalregion, benefited from this reverse flight of capital
Increase in Oil Prices Led to Dramatic Increase inIncrease in Oil Prices Led to Dramatic Increase inLiquidity in the GulfLiquidity in the Gulf
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Historyof Islamic Banking (IV)Historyof Islamic Banking (IV)
Conventional Banks Open IslamicWindowsConventional Banks Open IslamicWindows
Conventional banks began to respond to requestsConventional banks began to respond to requests
from Muslim clients to offer products that compliedfrom Muslim clients to offer products that compliedwith Islamic lawwith Islamic law
As the size of the potential market became clear,As the size of the potential market became clear,
conventional banks responded with the creation ofconventional banks responded with the creation ofdivisions dedicated to Islamic bankingdivisions dedicated to Islamic banking
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HistoryofIslamic Banking (V)HistoryofIslamic Banking (V)
Conventional International Banks withConventional International Banks withIslamicWindows:IslamicWindows:
CitigroupCitigroup HSBCHSBC
Deutsche BankDeutsche Bank
UBSUBSABN AMROABN AMRO
Standard Chartered BankStandard Chartered Bank
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Historyof Islamic Banking (VI)Historyof Islamic Banking (VI)
Almost all regional banks have followedAlmost all regional banks have followedthe international banks in creatingthe international banks in creatingIslamic windows and some haveIslamic windows and some haveconverted, or are in the process ofconverted, or are in the process ofconverting, to the Islamic banking modelconverting, to the Islamic banking model
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SizeofIslamic Banking SectorSizeofIslamic Banking Sector
No precise measure of size of deposits held inNo precise measure of size of deposits held inIslamic banks or Islamic divisions ofIslamic banks or Islamic divisions ofconventional banksconventional banks
Ranges from a low of $250 billion to a high of $750Ranges from a low of $250 billion to a high of $750billionbillion
As much as $300 billion held in Islamic investmentAs much as $300 billion held in Islamic investmentfunds awaiting investment opportunitiesfunds awaiting investment opportunities
Arab investors hold approximately $800 billion ofArab investors hold approximately $800 billion ofassets in European banks, with a growing trend toassets in European banks, with a growing trend toinvest that money in Islamic productsinvest that money in Islamic products
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RoleofIslamic Financein WorldRoleofIslamic Financein World
Credit MarketsCredit Markets Demand SideDemand Side
Sovereign DebtSovereign Debt
International AgenciesInternational Agencies
Corporate DebtCorporate Debt
Project FinanceProject Finance
Consumer DebtConsumer Debt
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Sovereign Islamic DebtSovereign Islamic Debt
In recent years, several Islamic Countries andIn recent years, several Islamic Countries andtheir instrumentalities, as well as nontheir instrumentalities, as well as non--IslamicIslamiccountries, have issued sovereign debt in thecountries, have issued sovereign debt in the
form ofform ofsukksukk::
Department of Civil Aviation, Dubai: $1 billionDepartment of Civil Aviation, Dubai: $1 billion
Qatar: $700 millionQatar: $700 million
Pakistan: $600 millionPakistan: $600 million
Malaysia: $600 millionMalaysia: $600 million
German State of SaxonyGerman State of Saxony--Anhalt:Anhalt: 100 million100 million
Bahrain: $79.5 millionBahrain: $79.5 million
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International AgenciesInternational Agencies
International Agencies Have IssuedInternational Agencies Have Issued SukkSukkin recent years:in recent years:
Islamic Development Bank: $400 millionIslamic Development Bank: $400 million
World Bank: $200 millionWorld Bank: $200 million
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Islamic Corporate DebtIslamic Corporate Debt
Private Issuances ofPrivate Issuances ofSukkSukk::
DPWorld: $3.5 billion 7.5%DPWorld: $3.5 billion 7.5% sukksukk, convertible into, convertible into
equity at the time of a qualifying initial public offeringequity at the time of a qualifying initial public offering
National Central Cooling Company: $200 million,National Central Cooling Company: $200 million,rated BBBrated BBB-- by S&Pby S&P
Listed on London Stock ExchangeListed on London Stock Exchange Previous issuance by same issuer listed on LuxembourgPrevious issuance by same issuer listed on Luxembourg
Stock ExchangeStock Exchange
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Islamic Corporate Debt (II)Islamic Corporate Debt (II)
Global issuance ofGlobal issuance ofsukksukkhas exceededhas exceeded$20 billion$20 billion
Dow Jones CitigroupDow Jones Citigroup
SukkIndex Comprised of sevenComprised of seven sukksukk
$2.8 billion aggregate principal amount$2.8 billion aggregate principal amount
Each issue rated at least A by S&PEach issue rated at least A by S&P
Average tenor 3 yearsAverage tenor 3 years
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Islamic Corporate Debt (III)Islamic Corporate Debt (III)
Biggest challenge thus far is limited secondaryBiggest challenge thus far is limited secondarytrading market fortrading market forsukksukk
Demand forDemand forsukksukkhas far exceeded supply;has far exceeded supply;offerings typically oversubscribed, even afterofferings typically oversubscribed, even aftersubstantial upsizing of the offering at timessubstantial upsizing of the offering at times
DPWorld offering originally contemplated for $2.8DPWorld offering originally contemplated for $2.8billion but was upsized to $3.5 billion to meet excessbillion but was upsized to $3.5 billion to meet excessdemand; no road show needed to market the offeringdemand; no road show needed to market the offering
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Islamic Financeand ProjectIslamic Financeand Project
FinanceFinance Infrastructure projects in the Gulf regionInfrastructure projects in the Gulf region
largely financed on a corporate basis untillargely financed on a corporate basis untilthe midthe mid--1990s1990s
Sadaf, a joint venture between Shell Oil andSadaf, a joint venture between Shell Oil andSaudi Arabian Basic Industries CorporationSaudi Arabian Basic Industries Corporation(SABIC), first important project finance(SABIC), first important project finance
transaction in Gulf region, closed in 1995transaction in Gulf region, closed in 1995 Project Finance now preferred structure forProject Finance now preferred structure for
infrastructure investmentinfrastructure investment
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Islamic Financeand ProjectIslamic Financeand Project
Finance (II)Finance (II) Islamic sources of capital traditionallyIslamic sources of capital traditionally
played minor role in project finance in Gulfplayed minor role in project finance in Gulf
In recent years, however, no deal gets doneIn recent years, however, no deal gets donewithout a substantial Islamic tranchewithout a substantial Islamic tranche
Financing needs exceed capacity of commercialFinancing needs exceed capacity of commercial
banks and export credit agenciesbanks and export credit agencies Desire of project hosts to diversify sources ofDesire of project hosts to diversify sources of
capital and take advantage of local capital to thecapital and take advantage of local capital to theextent feasibleextent feasible
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Islamic Financeand ProjectIslamic Financeand Project
Finance (III)Finance (III) Rabigh Refinery and Petrochemicals Project,Rabigh Refinery and Petrochemicals Project,
Kingdom of Saudi ArabiaKingdom of Saudi Arabia
$9.9 billion total cost, of which $5.8 billion was debt$9.9 billion total cost, of which $5.8 billion was debt
$4.1 billion equity split 50$4.1 billion equity split 50--50 between Saudi Aramco50 between Saudi Aramcoand Sumitomo Chemicaland Sumitomo Chemical
$2.5 billion loan provided by Japan Bank for$2.5 billion loan provided by Japan Bank forInternational CooperationInternational Cooperation
$1 billion loan from Saudi Public Investment Fund$1 billion loan from Saudi Public Investment Fund $1.7 billion commercial loan$1.7 billion commercial loan
$600 million Islamic tranche$600 million Islamic tranche
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Islamic Financeand ProjectIslamic Financeand Project
Finance (IV
)Finance (IV
) YANSAB ProjectYANSAB Project
$5 billion greenfield petrochemical project$5 billion greenfield petrochemical project
$3.5 billion debt:$3.5 billion debt: $1.067 billion, 13$1.067 billion, 13--year tranche from Saudi Public Investmentyear tranche from Saudi Public Investment
FundFund
$850 million, 12$850 million, 12--year Islamic trancheyear Islamic tranche
$700 million export credit agencies tranche$700 million export credit agencies tranche
$533 million 12$533 million 12--year commercial bank trancheyear commercial bank tranche
$350 million working capital facility$350 million working capital facility
ABN AMRO was sole arranger, underwriter andABN AMRO was sole arranger, underwriter andbookrunner on dealbookrunner on deal
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Islamic Financeand ProjectIslamic Financeand Project
Finance (V)Finance (V)
Future Demand for Project FinanceFuture Demand for Project Finance
Last two years saw $40 billion of project finance inLast two years saw $40 billion of project finance ingulf regiongulf region
Saudi Arabia estimates it will invest $90 billion inSaudi Arabia estimates it will invest $90 billion indomestic power generation over the next fifteen yearsdomestic power generation over the next fifteen years
Other states in the gulf also investing heavily inOther states in the gulf also investing heavily ininfrastructure projects, particular petrochemicalinfrastructure projects, particular petrochemical
There will be a continuing demand in the region forThere will be a continuing demand in the region forcapital to invest further expansion of the regionscapital to invest further expansion of the regionsinfrastructureinfrastructure
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OpportunitiesforCanadianOpportunitiesforCanadian
BanksBanks Deal flow shows no sign of abatingDeal flow shows no sign of abating International banks have shown an ability toInternational banks have shown an ability to
compete successfullycompete successfully
Because of the size of new deals, Islamic banksBecause of the size of new deals, Islamic banksneed to partner with international banks to takeneed to partner with international banks to takeadvantage of their larger distribution networksadvantage of their larger distribution networks
Success ofSuccess ofsukksukk issues means thatissues means thatconventional market investors have grownconventional market investors have grown
comfortable with their structure and will invest incomfortable with their structure and will invest inthem so long as credit profile meets investorsthem so long as credit profile meets investorsneedsneeds
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OpportunitiesforCanadianOpportunitiesforCanadian
Banks (II)Banks (II)
Success in penetrating markets for arrangingSuccess in penetrating markets for arrangingcredit could lead to mandates in upcomingcredit could lead to mandates in upcomingequity offeringsequity offerings
Future opportunities to advise in connection withFuture opportunities to advise in connection withan inevitable consolidation of banks in the Gulfan inevitable consolidation of banks in the Gulfregionregion
Opportunities for wealth management of wealthyOpportunities for wealth management of wealthyIslamic investorsIslamic investors
Merrill Lynch identified 300,000 U.S. dollarMerrill Lynch identified 300,000 U.S. dollarmillionaires in the Middle Eastmillionaires in the Middle East
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OpportunitiesforCanadianOpportunitiesforCanadian
IssuersIssuers
Canadian Issuers, public and private, mayCanadian Issuers, public and private, mayconsider tapping the Islamic capital marketsconsider tapping the Islamic capital markets
Because of Islamic finance is assetBecause of Islamic finance is asset--based, Canadasbased, Canadasmining industry is a natural fit with the structures somining industry is a natural fit with the structures sofar developed in Islamic financefar developed in Islamic finance
Because of highBecause of high--liquidity of Islamic banks and Islamicliquidity of Islamic banks and Islamic
investment funds, issuers who tap this market may beinvestment funds, issuers who tap this market may beable to obtain relatively favorable pricing relative toable to obtain relatively favorable pricing relative tothe conventional marketthe conventional market
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OpportunitiesforCanadianOpportunitiesforCanadian
Infrastructure FirmsInfrastructure Firms
Because of infrastructure boom in Gulf region,Because of infrastructure boom in Gulf region,large premiums have been paid on Engineering,large premiums have been paid on Engineering,Procurement and Construction contractsProcurement and Construction contracts
Successful competition for infrastructureSuccessful competition for infrastructureprojects inevitably requires support of exportprojects inevitably requires support of exportcredit agencycredit agency
Export Development Canada would have anExport Development Canada would have animportant role to play in promoting Canadianimportant role to play in promoting Canadianfirms expertise in the regionfirms expertise in the region
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ConclusionConclusion
Islamic finance and conventional finance areIslamic finance and conventional finance arequickly converging in the Gulf regionquickly converging in the Gulf region
As conventional investors gain more comfortAs conventional investors gain more comfort
with Islamic structures, cost differential betweenwith Islamic structures, cost differential betweenIslamic products and conventional productsIslamic products and conventional productshave almost disappearedhave almost disappeared
As a result, Islamic products may be moreAs a result, Islamic products may be morepractical because they appeal to both Islamicpractical because they appeal to both Islamicand conventional investorsand conventional investors
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Conclusion (II)Conclusion (II)
It is not too late for Canadian banks toIt is not too late for Canadian banks tocompete for business in the Islamiccompete for business in the Islamicfinance arenafinance arena
To do so successfully, they will need toTo do so successfully, they will need toestablish a presence in the region, asestablish a presence in the region, ashave their competitorshave their competitors
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