issue no. 165 - julyâ€“september 2007 / rajabâ€“ramadan 1428

GLOBAL PERSPECTIVE ON ISLAMIC BANKING & INSURANCE

ISSUE NO. 165JULY–SEPTEMBER 2007

RAJAB–RAMADAN 1428

MALAYSIA: LEADING THE WAY

POINT OF VIEW: STRUCTURED DERIVATIVESIN ISLAMIC FINANCE

IIBI RECEIVES ODL QC ACCREDITATION

FAIR FINANCE: INCLUSIVEBANKING

PRIVATE EQUITY – MODERN DAYMUSHARAKAH?

CASE STUDY: FIRST DAWOOD ISLAMIC BANK

PUBLISHED SINCE 1991

24 Malaysia: Leading the way

www.newhorizon-islamicbanking.com IIBI 3

NEWHORIZON Rajab–Ramadan 1428

Features

Regulars

10 The loan shark hunter

16 Structured derivatives in Islamic finance: keeping one step ahead of ibaha, or providing valuable protection?

18 Financing the Poor: Towards Islamic Microfinance

22 Sixth sense

CONTENTS

46 RATINGS & INDICESMSCI World Islamic Index, sector performance, sector weights and Top 20 constituents.

47 CALENDAR A comprehensive diary of upcoming Islamic finance events across the globe.

50 GLOSSARY

34 ACADEMIC ARTICLEPrivate equity – modern day musharakah?

38 IIBI NEWSCambridge workshop review; Introduction of the new logo;ODL QC accreditation.

40 IIBI LECTURESJuly, August, September lectures.

05 NEWSA round-up of the important stories from the last quarter around the globe.

14 APPOINTMENTS

32 ANALYSISLooking through the Islamic windowAnalysis of the performance of eight banks offering Islamic banking services in Malaysia.

24

44 Tales from the production line

An in-depth report on the Islamic microfinancesymposium held at Harvard University.

An interview with Warren Edwardes, CEO of London-based Delphi Risk Management.

Faisel Rahman, CEO of UK loans firm, Fair Finance,talks about how his company lives up to its name.

With a Muslim population of 16.3 million people, Malaysia’s high demand forShari’ah-compliant financial services is met by the committed support of theindustry from the country’s government and the central bank.

Zafar Alam, global head of private investor products and Islamic banking at ABN Amro, expounds on product development for Shari’ah-compliantfinance.

Nikolaus Schwarz, CEO of a new entrant to thePakistani Islamic banking market, First Dawood IslamicBank, reflects on the industry’s state of play in thisIslamic heartland.

4 IIBI www.newhorizon-islamicbanking.com

NEWHORIZON July–September 2007

Executive Editor’s Note

EXECUTIVE EDITORMohammad Ali Qayyum,Director General, IIBI

EDITORTanya Andreasyan

IIBI EDITORMohammad Shafique

CONTRIBUTING EDITORSTom AlfordDon Brownlow

NEWS EDITORJames Ling

IIBI EDITORIAL ADVISORY PANELMohammed AminAjmal BhattyStella CoxDr Humayon Dar Iqbal KhanDr Imran Ashraf Usmani

SENIOR DESIGN CONSULTANTBecky Ellison

JUNIOR DESIGN CONSULTANTEmily Brown

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SUBSCRIPTION IBS Publishing Limited8 Stade Street, Hythe, Kent, CT21 6BE, United KingdomTel: +44 (0) 1303 262 636Fax: +44 (0) 1303 262 646Email: [email protected]: newhorizon-islamicbanking.com

©Institute of Islamic Banking and InsuranceISSN 0955-095X

This third issue of NewHorizon in 2007, which comesout in Ramadan – the Holy Month for Muslims, marks a number of positive developments in Shari’ah-compliantfinance around the globe, as well as – no less important –developments within the Institute itself. You may havenoticed the new look of the IIBI’s logo on the cover of the magazine. This encompasses a fresh take on thetraditional crescent-shaped logo that has been an integralpart of the Institute’s brand for the last 16 years. Thecombination of three crescents in the new logo representsthe key objectives of the Institute: education, promotionand the implementation of Islamic finance in all its forms.

Also, the IIBI has received accreditation from the UKguardian of quality in open and distance learning, ODLQC, which marks a major step forward in this type ofIslamic finance education. The Institute is currentlydeveloping a new range of courses (in both Islamicbanking and insurance) aimed at the widest scope of takers around the world.

As part of the IIBI’s global reach strategy, NewHorizonnow becomes available online, with regularly updatednews and recruitment sections, a calendar of upcomingevents and, of course, complete contents of the currentand previous issues of the magazine.

This issue of NewHorizon brings you, amongst otherthings, a comprehensive analysis of Islamic finance inMalaysia; an assessment of the Islamic banking market in Pakistan through the eyes of its newest player, FirstDawood Islamic Bank; and a review of a controversialdebate on how structured derivatives can fit into Shari’ah-compliant finance. And there is much more to read andreflect upon within the pages of the magazine. We hopethat NewHorizon will help you to do exactly what theIIBI’s slogan states – to discover new perspectives.

EDITORIAL

Deal not unjustly,and ye shall not be dealt with unjustly.

Surat Al Baqara, Holy Quran

This magazine is published to provide information on developments in Islamic finance, and not to provide professional advice. The views expressed inthe articles are those of the authors alone. The Publishers, Editors and Contributors accept no responsibility to any person who acts, or refrains fromacting, based upon any material published in the magazine. The Editorial Advisory Panel exists to provide general advice to the editors regardingmatters that may be of interest to readers. All decisions regarding the published content of the magazine are the sole responsibility of the Editors,and the Editorial Advisory Panel accepts no responsibility for the content.

Mohammad Ali QayyumDirector General, IIBI



First Islamic bank launchedin Kyrgyzstan

NEWS

The Islamic Financial ServicesBoard (IFSB) believes that theabsence of a clear regulatoryframework is hindering the growth of the takafulindustry. The standard-settingorganisation believes that the growth of the sector is

stunted by a lack of legal and regulatory certainty, andresultant inadequacies in riskmanagement. It is calling for a dialogue within the industry to adapt current insuranceregulations to meet thespecificities of Islamic finance.

IFSB calls for takaful regulation

The first half of 2007 hasseen the global sukuk markethit a new high with marketvalue totalling $24.5 billion,75 per cent growth from the same period last year. This figure comes from IFISAnalysts’ Sukuk MarketReport First Half 2007.

The report covers the periodJanuary to June 2007, andshows that the internationalsukuk market has grown by 83.3 per cent over the

past year. Also in the reportwas a league table of sukukbook runners. CIMB Islamictopped the overall table,having issued $3.15 billion indomestic and internationalbonds. It also topped thedomestic table with a total of $2.87 billion issued inMalaysia.

The largest international bookrunner was Deutsche Bank,aggregating $952 million insukuk issuance.

Global sukuk market hits new high

The Pak-Qatar group hasbecome the first company to receive a family takafullicence from the Securitiesand Exchange Commission of Pakistan (SECP). This nowmakes it the first company tohave both family and generaltakaful under one umbrella in the country.

The group has set up two separate companies: Pak-Qatar Family Takafuland Pak-Qatar GeneralTakaful. These companiesdiffer in the types of productsthey will offer. The generaltakaful company will offerproducts covering property,auto, marine, engineering and other areas, whereas thefamily takaful company will

offer financial protection forfamilies in the case of death ordisability to the breadwinner,health benefits, educationplans, retirement income plansand other savings schemes.

The group’s backing comesfrom Qatari investors. It hasbacking from Qatar IslamicInsurance Company, QatarIslamic Bank, QatarInternational Islamic Bank,Qatar National Bank and the Amwal Group. The SECPgranted both companies theirlicences on 16th August.Family Takaful has a paid-upcapital of $8.26 million(Rs500 million) and GeneralTakaful has a paid-up capital of $4.95 million (Rs300 million).

Pak-Qatar receives first family takaful licence

in Pakistan

Kyrgyzstan

direction of Islamic financefollowing a technical assistancegrant from the IDB. There havebeen recent legal changes inKyrgyzstan to try to make it a regional leader in Islamicfinance. Under these lawchanges double taxation onIslamic leasing operations hasbeen abolished and incometaxes on corporate and personalincome have been reduced. In the last issue (April–June2007), NewHorizon extensivelyreported on the development of Islamic banking in thispredominantly Muslim CIScountry.

EcoBank, the first bank inKyrgyzstan to open an Islamicwindow, has been officiallylaunched. The bank was arecipient of funding from theIslamic Corporation for theDevelopment of the PrivateSector (ICD) which wasrepresented at the launch byCEO Dr Ali Soliman. Alsopresent was the nation’spresident H.E. KurmanbekBakiev and H.E. Dr Ahmed M Ali, president of the IslamicDevelopment Bank (IDB) group.Representatives of the ICD andIDB were in the country for aseries of meetings to discuss the

www.newhorizon-islamicbanking.comIIBI 6


Responsible Lending finds that 90 per cent of paydaylending revenues are based on fees stripped from trappedborrowers, with 91 per cent of payday loans going toborrowers with five or moreloan transactions per year. Thisfigure is virtually unchangedfrom its 2003 findings.

The report also notes that thetypical payday borrower paysback $793 for a $325 loan. The Center concludes that‘predatory payday lending nowcosts American families $4.2billion per year in excessivefees’.

Mahdi Bray (above), MASFreedom Foundation’s executivedirector, is calling for payday

Extreme riba comes under attack in US

loan operations to be shutdown. ‘This form of lendingcannot be justified in any form of scripture in Judaism,Christianity, or Islam,’ he says.He adds that ‘as Muslims, weknow that our Holy Quranprohibits usury in commerce’.With payday loans seeminglyrepresenting the most extremeform of this practice, MAS‘completely supports theconsumer advocates whodemand an end to this form of financial exploitation’.

MAS has drawn support from the first elected Muslimrepresentative in Congress,Keith Ellison. He is co-sponsoring an act of federallegislation, known as the PayDay Loan Reform Act of 2007,which has already beenpresented to the House ofRepresentatives. Similar legis-lation, which would severelylimit the interest rates applied to these loans, is currentlybefore the Washington, DC City Council.

In the UK, Faisel Rahman’s FairFinance organisation is seekingto counter similar lendingpractices (see p10 in this issue).

NEWS

The Muslim American Society(MAS) has linked up withmembers of the Washington, DC interfaith community in aprotest against so-called paydayconsumer loans.

Supporters of the MAS FreedomFoundation and the interfaithcommunity joined in a Julydemonstration, centred on acapital city-based loan shop,protesting against the $28billion a year industry whichthey criticise for unfairlytargeting poor and minoritycommunities with loans subjectto interest rates often in excessof 400 per cent.

A counter-demonstration wasmounted by a number of loanshop employees who wavedplacards proclaiming their ‘love’ for their loan customers.

MAS’s Ibrahim Ramey was not impressed. ‘They love theircustomers in the same way thatliquor stores love alcoholics,’ hesays. ‘These people prey on poorand financially desperate people,and participate in the economicexploitation of communities.’The practice of making paydayloans has also attracted the

attention and anger of consumeradvocates throughout the US.They are supporting legislationat local, state, and federal levelsto regulate the industry.

The loans, typically offered tolow-income people with little or no access to establishedfinancial institutions, can meaninstant credit for severalhundred to several thousanddollars. The borrower handsover post-dated cheques to thelender, usually timed to coincidewith the receipt of a pay cheque.

Apart from the ultra-highinterest rates, problems oftenstart when borrowers cannotmeet the full repayment of their loan, forcing them either to extend it for a fee or add to it – techniques known in theindustry as roll-over and loanflipping.

Each loan extension compoundsthe interest accrued on the loan. This, he adds, makes the original amount of moneyborrowed ‘almost impossible to re-pay’.

A November 2006 report by the US-based Center for

Bahrain-based AlbarakaBanking Group has beenlicensed to establish a newsubsidiary in Syria.

The Islamic banking giant hastargeted the country becauseof the economic and trade

relationships it has with the rest of the world.

The subsidiary, to be calledAlbaraka Bank Syria, willprovide Islamic bankingproducts and services toindividuals and companies.

Albaraka eyes Syria and Asia

A branch network has beenplanned to cover the main cities in the country.

The bank will start itsoperations by the end of this year with an authorisedcapital of $100 million.

The Bahraini banking group isplanning further expansion intonew countries. Asia seems to bethe next target, with a reported$300 million to be invested in operations in India, China,Indonesia, and Malaysia overthe next four years.

7 IIBIwww.newhorizon-islamicbanking.com

NEWHORIZON July–September 2007NEWS

Software suppliers are seeingincreased popularity for theirIslamic banking offerings in theMiddle East. Some of the biggestvendors have recently had winsfor their systems at a variety ofIslamic financial institutions inthe region.

Meezan Bank has decided totake the T24 Islamic model bankfrom Swiss vendor Temenos. Setup five years ago, Meezan Bankis a purely Islamic bank withover 60 branches in Pakistan.

According to Temenos’ generalmanager for the Middle East,Juan Cerudo, with ‘largeexpansion plans’ to increase itspresence to 250 branches in thenext five years, the bank ‘felt aninternational banking systemwould help them take their plans forward’.

Another Pakistani bank withsimilar ambitious growthstrategy, Bankislami, has alsobeen busy with its systemsselection. On the core back

office side it has opted foriMAL from Kuwait-based Pathto be deployed across the bank’s19-branch network. The otherselected system is the XM3 anti-money laundering solution fromUS vendor Haydrian. The wincame out of the vendor’sKarachi office, and is its first inPakistan.

Albaraka Banking Group (ABG)has selected UK-based Misys’Equation for three sites:Bahrain, Beirut, and Durban in South Africa. ABG is madeup of ten banks in differentgeographies around the world,and is one of the largest Islamicbanking groups in existence.

Equation will be implementedfirst in Bahrain in the course of twelve months. The SouthAfrican site is most likely to be the next on the list. Theinstallations are set to take less time in each instance; thesecond is scheduled for tenmonths with this reduced tonine for the final project.

Islamic systems fly off the shelfin the Middle East

governor of Bank NegaraMalaysia (central bank), for‘outstanding contribution to the development of an Islamic capital market’ for her role in establishing Malaysia as the most developed Islamiccapital market in the world.

Lord Eddie George (interviewedin New Horizon, April-June2007), former governor of theBank of England (central bank),also won an award for‘outstanding contribution to thedevelopment of Islamic financein the UK’.

The Investment Dar has wonthe award for ‘most innovativefinancing transaction’ for itsacquisition of the Aston MartinCar Company at the inauguralIslamic Finance Awards. Thetransaction, completed in mid-June, was worth £479 million($965 million). The deal wasmade up of 60 per cent financedthrough equity contributionswith the rest funded through amurabaha facility arranged bythe London branch of WestLB.

Also recognised at the awardswas Dr Zeti Akhtar Aziz,

The largest ever M&A(Mergers and Acquisitions)transaction in Islamic bankingis set to see another foreigninvestor enter the Turkishbanking industry. SaudiArabia’s National CommercialBank (NCB), the largest bankby assets in the Kingdom, isattempting to buy a 60 per

NCB in largest ever Islamic banking M&A transaction

cent equity stake in TürkiyeFinans Katilim Bankasi.

Türkiye Finans is a participationbank. These are Shari’ah-compliant banks that do notcharge or pay interest on loansor deposits, but instead offercustomers participation in theirprofits. The bank was formed as

the result of a merger betweenAnadolu Finans and FamilyFinans in 2005. The bank isjointly owned by BoydakGroup and Ülker Group; at the end of the last financialyear it had a 125-branchnetwork, and assets of $3.2billion. Under the terms of the deal NCB, which is being

advised by White and Case,would pay around $1.08 billionfor its 60 per cent stake in thebank. The remaining 40 per cent of the company would beequally split between Boydakand Ülker. The deal is subject to regulatory approval, and isexpected to close by the end of the first quarter of 2008.

Aston Martin deal wins Islamic finance award

Aston Martin



Kuwaiti banks target UK for new Islamic subsidiaries

Two Kuwaiti banks are tryingto set up subsidiaries in the UK.Boubyan Bank and SecuritiesHouse have both targeted thecountry as a location for newIslamic financial institutions.

Boubyan Bank has entered theUK market with a 20 per centstake in Bank of London andthe Middle East (BLME). The new institution recentlyreceived authorisation from the Financial Services Authority(FSA) to launch as a standalone,wholesale, Shari’ah-compliantbank.

The bank, which is based inLondon, will focus on fourmain business lines. These areIslamic treasury and financialinstitutions; corporate banking;private banking and investmentmanagement; and investmentbanking.

BLME has raised $347 million(£175 million) from itsinstitutional shareholders. The remaining 80 per cent notowned by the Kuwaiti bank is held by a combination offinancial institutions,investment companies andemployees. Humphrey Percy has been appointed as CEO of the new bank.

Also trying to enter the UK isSecurities House. The companyhas set up a wholly-ownedpublic limited company in theUK and applied for a licencefrom the FSA. The licence it hasapplied for would allow it to actas a deposit-taking bankingentity within the UK. Securities

NEWS

House says that the newcompany will be established inLondon as a Shari’ah-compliantwholesale investment bank. Itwill focus on Islamic capitalmarkets, Islamic treasurybusiness and asset management.The new company will have apaid-up capital of $396 million(£200 million) and David Testahas been appointed as its CEO.

The UK is trying to establishitself as a hub for Islamicfinance and two new Islamicbanks goes some way toconsolidating this position. The UK government has the set aims of entrenchingLondon’s position as a globalgateway for Islamic finance with sukuk seeming to be themain point on its agenda.

The UK’s plans for the tradingof sukuk were set out by theneconomic secretary Ed Balls atThe London Islamic FinancialServices Summit in January(NewHorizon, January–March2007). These have been backedup by his successor Kitty Ussherat the first meeting of the UK’sIslamic Finance Experts Group.

At the meeting, the groupdiscussed the feasibility of theUK government issuing the firststerling sovereign sukuk, withthe discussion focusing on thepotential benefits of issuing a sukuk. The group also talked about recent marketdevelopments, and how thebusiness and Islamic comm-unities could work together todrive Islamic finance forward in the UK.

It has been a busy time forShari’ah-compliant mortgageprovider Sakana HolisticHousing Solutions. TheBahrain-based financialinstitution has signedagreements making it thepreferred Islamic mortgageprovider for two developmentsin the Kingdom. It has alsobecome the first lender inBahrain to offer mortgagefinance for more than onemillion Bahraini Dinars.

The first deal is with Bahrainiproperty developer Al Saraya.The intention is to allow morebuyers to enter the market by taking advantage of amortgage which is in line withtheir faith. Under the terms of the agreement, Sakana willprovide finance approval forpotential buyers interested inAl Saraya properties such asthe recently completed AlMarsa floating city in theAmwaj Islands.

The deal was signed by SakanaCEO R Lakshmanan (belowright) and Al Saraya generalmanager Yasser Al Sharrah(below left).

This deal follows on from an earlier memorandum ofunderstanding signed withanother domestic propertydeveloper, Durrat Al Bahrain. It sees Sakana become thepreferred Islamic mortgageprovider for the largest luxuryresidential, commercial andresort development in theKingdom.

These are the latest in a stringof partnerships that Sakana has entered into across theKingdom. According toLakshmanan, the reason forsigning agreements like these is to ‘facilitate the home buying process’.

The Islamic lender has alsoextended its line of mortgagecredit to $3.32 million(BD1.25 million). This is thefirst time a mortgage of thisvalue has been available to thepublic in the Kingdom. Prior to this offering, to receive aline of credit of this valuepeople would have to apply for a commercial loan. Themortgage can be taken out forone property, or split over a number of investments. There will be a period of threemonths for the borrower todecide how to allocate thefunds which can be used tofinance residential, commercialand investment properties.Sakana is jointly owned by two of Bahrain’s leading banks,Bank of Bahrain and Kuwaitand Shamil Bank.

Bahraini developments select Sakana as preferred Islamic mortgage provider

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October 2007 marks a landmark point in the development of NewHorizon, the journal of the Institute of Islamic Banking and Insurance.

As the phenomenon of Islamic finance continues its explosive growth, NewHorizon constantly seeks to improve its coverage of all the important issues, combined with complete and convenient access.

For the first time, anyone can read all of the published material via the internet. Whilst the major articles are available for analysis at your leisure, there will be no need to wait for the quarterly publication for news stories, which will be updated weekly.

All material will be archived and can be searched and accessed, using convenient keyword look-up.

Our ‘On The Move’ articles will keep you abreast of personnel changes worldwide, and our recruitment section will let you search for job opportunities in the world of Islamic finance, or advertise to fill those specialist vacancies. Whether you are seeking staff or a new challenge locally or globally, NewHorizon will be your first port of call for all recruitment issues.

www.newhorizon-islamicbanking.comshould always be kept in your ‘Favourites’ section on your PC, and accessed regularly. Make sure that you are always up to date and fully informed on all the key Islamic finance topics and views.

To access premium content you will need a username and password. To apply email: [email protected]

tool in helping to attract the unbanked poor and in encouraging them to seek their economic upliftment. Both Islamic financeand microfinance share the noble goal of a society free from economic elevation.

Fair Finance is a small, not-for-profit operation, but it is growing. When it firstopened its doors for business, it employedtwo debt advisors, two loan officers, an administrator and Rahman himself. Theteam has now been boosted to twelve, threeof whom are lenders, with the remainderdebt advisors.

While Fair Finance operates on conven-tional interest-based principles, its commit-ment is very much to responsible lending.Rahman estimates Fair Finance has savedhis customers almost the same total as thefirm’s first year total book-value in excessive


NEWHORIZON July–September 2007PROFILE

and Haringey, together making up a culturally diverse community of about 1.5 million people. It’s a naturally vibrant community but also represents a meltingpot of one of the UK’s highest concentra-tions of the financially dispossessed, righton the doorstep of the world’s financial capital.

With such an obvious disparity, Rahmanwas motivated from the outset by ‘the challenge of injustice’. From this standpointhis challenge to society is to seek an answeras to why the poor pay more for servicesthat the rest of us take for granted and toaddress the issue of why they are excludedfrom enjoying the benefits of a growingeconomy.

With Fair Finance, he is not just asking thequestions, he is taking positive action. Andthrough Fair Finance he is throwing downthe gauntlet to mainstream financial-providers to think about what they aredoing to an increasing mass of people. Underscoring his point, Rahman amusinglymisappropriates NatWest Bank’s advertisingtagline which states that ‘there is anotherway’. Indeed there is according to Rahman – and it doesn’t involve using the services of NatWest.

Islamic finance, with its primary goal of social justice and the eradication of interest,is still seen by many as an option mainly forthe rich and not for the often neglected anddisadvantaged poor. Microfinance, thoughbased on charging interest to poor clients,has demonstrated successes as a finance

No one could accuse Fair Finance boss,Faisel Rahman, of not doing his homeworkbefore setting up the business. Having spentfive months as an intern with Nobel PeacePrize winner, Muhammad Yunus’ GrameenBank – an organisation devoted to bankingthe unbanked in Bangladesh – he moved onto research microfinance for a year at theWorld Bank.

And following a stint as a trainee under-writer at Lloyds of London, Rahman, theson of Bengali immigrants to London, isnow putting to good use his worldly experi-ence and solid belief that finance should beinclusive not exclusive. Fair Finance waslaunched in April 2005 using the £5000($10,000) limit on Rahman’s personal credit card.

His aim was, and still is, to deliver ‘a single,holistic organisation that could provide arange of financial services to financially ex-cluded individuals’ who are generally thepoor and unbanked segment of society. Thistranslates into solid debt advice and a saferfinancial alternative to the loan sharks thatprey upon some of the UK’s poorest com-munities, primarily in London’s east-endboroughs which have a large Muslim population: Rahman’s first office was lo-cated in the heart of a council-run housingestate in Stepney in the London Boroughof Tower Hamlets.

To meet increasing demand, a second officehas opened in the London Borough ofHackney. The catchment area also takes inthe boroughs of Newham, Waltham Forest

The loan shark hunter For UK loans firm, Fair Finance, losing a customer to the mainstream financial markets is a signof success. As a link between the financially excluded and the financially included, it offers fairand equitable access to credit as well as advice and support which, although interest-based,bears close resemblance to some of the principles supporting Islamic finance. There may besome lessons to be learnt by Islamic banks. Tom Alford, NewHorizon’s contributing editor, talks to CEO, Faisel Rahman.

Faisel RahmanFair Finance


NEWHORIZON Rajab–Ramadan 1428 PROFILE

payments to less scrupulous lenders. Someof these will charge more than 1000 (yes,one thousand) per cent APR to the peopleleast able to afford it. As a mark of whatthis represents, in its first year of trading,1000 people approached for a loan, ofwhom more than 300 were accepted forloans, worth around £500,000 ($1 million).This year, the loan book has reached 500from over 2000 applicants. The word isspreading amongst this sprawling conflu-ence of the unbanked and unbankable.

Perhaps most prevalent in the sort of com-munities in which Fair Finance operates arethe so-called door-step lenders. Agents ofthese firms literally knock on doors offeringsmall personal consumption loans – perhapsa few hundred pounds – often for basiccommodities such as fridges and cookers.This industry serves over two million peoplein the UK alone, subjecting customers tostarting interest rates of more than 400 percent; this can be discounted to around 200per cent if the customer proves to be a goodpayer. ‘What we wanted to do was developa method that would allow us to get to those people and offer them an alternative,’ says Rahman. With his Grameen Bank microfinance training, he also saw that there was potential to help a growing armyof skilled individuals ready but not able tostart their own businesses. ‘We wanted to

lend to people who had recently been bankrupted but wanted to start a business,and to people who had never been in the financial system but wanted to start a business,’ he says. The latter group includes recent immigrants to the UK who, throughno fault of their own, simply don’t have anycredit history and are unable to access main-stream funding to grow their ideas.

Fair Finance loans to consumers typicallystart at around £600 ($1200) over 14months, with business loans extending to

around £2000 ($4000) over 30 months. Interest rates reflect the higher risk and arehigher than current UK credit card levels.But they are nowhere near the loan sharknumbers. As a not-for-profit organisation it does not have to serve shareholders de-manding high returns on their capital invest-ments. And with the largest personal loanrising to just £2000 ($4000), Rahman statesthat Fair Finance is leaving its market fo-cused on the ‘very poor’.

The company has two distinct borrowertypes that serve to highlight an interestingdichotomy in the financial market. On theone side, there is financial exclusion, and on the other, financial exploitation. For the latter group, who often have too muchcredit, Rahman saw a desperate need fordebt advice to ensure that these people hada way of managing their finances, finding away to stick to their payment plans and todeal with the practical and emotional fall-out from consumer debt. ‘In a way,what we are trying to do is what the bank-ing industry did about 15 or 20 years ago,’he says. ‘And that is to actually talk toclients.

‘Our priority is about making responsibleloans, which I don’t think is happening thatmuch,’ he notes, pointing out that there isoften an ill-judged separation between

collection and lending operations withinsome of the high-pressure loans companies.Forming a financial pincer movementaround the vulnerable – by incentivising onedepartment to lend as much as possible andthen incentivising a different department tocollect as much as possible – does not createan environment conducive to sensible lending practice for the customer.

But there is a problem: the unbanked areseemingly subject to an infuriating bankingCatch-22 which means an individual cannot

In a way, what we are trying to do is what the banking industrydid about 15 or 20 years ago. And that is to actually talk to clients.

get credit without a credit history. But howcan an individual get a credit history without having credit?

One of the major problems for the financially excluded, therefore, is buildingup a credit history that can help them break free from the murky world of door-step lending. Even if someone does pay up regularly on a 400 per cent APR loan, they will still not be taken seriously by themainstream, simply because they are not in the system.

Fair Finance sees itself as an intermediary in a position to create ‘an appropriatecredit history’ for its customers on its own database. This data can filter through tothe mainstream and help build a bridge between the two worlds.

This falls into line with Fair Finance’s thirdstrand of activity which sees it involved insocial policy and campaigning. Rahman iskeen to promote issues of over-indebtednessand exploitative lending. ‘In a sense, our organisation is part delivery, part service,’he says. ‘It’s about offering a real, fair financial deal to people.’

He certainly has the ear of some of the mostinfluential individuals and organisations inthe UK financial industry. The company itself was officially declared open for business by Anna Bradley, the director ofthe FSA at the time, and Stephen Timms,chief secretary to the Treasury and MP forthe local East Ham of London ward. Theinvolvement of the wider financial commu-nity extends to the boardroom too, withmembers of the Royal Bank of Scotland(RBS) taking their place at the helm.

Rahman views the development of relation-ships with the traditional banking and fi-nance world as a vital part of the plan. Buthe acknowledges that deeply held attitudesand beliefs will not change overnight. ‘Getting them to be involved and see an alternative has always been the first stage,’he says. ‘Getting them to change their practices is a much longer-term thing and I don’t think we can see any real changesyet.’

Part of the problem of exclusion he attrib-utes to the automation of many of the basicbanking processes. This, he believes, has al-lowed banks to generate more profits in lesstime ‘because they can spend less on train-ing staff and use IT systems’ instead. Auto-mated links to credit bureaux, for example,whilst no doubt efficient, do not allow allthe facts to be considered. Simply feedingpersonal data into a system and waiting foran automated loan decision does not favourindividuals who do not exactly fit thebanks’ criteria. The three key criteria areemployment, credit history and home own-ership. Anyone falling outside of what is acceptable to the banks will be given a dis-proportionately high risk rating, whetherthe individual is a bad risk or not.

‘By making the systems faster and more efficient, they have dropped a whole load of people outside the system,’ Rahman says.‘Getting a bank to change that system isgoing to be very hard.’

Fair Finance is trying to show that it is possible to lend to people and develop anunderwriting methodology that can be efficient as well as equitable: it’s not simplyabout lending to them, it’s about giving advice too. Cold, hard risk assessment technology is therefore not used by Fair Finance. It prefers the human touch.

Every potential customer will be offered aninterview and part of this time will be takenup with an in-depth review of the individ-ual’s finances. This review considers every-thing including the financial minutiae such as how much is spent each week on cigarettes (if the applicant is a smoker) and entertainments. This process creates an accurate picture of what is affordableand whether the loan is even appropriate. Loan delinquency still happens, but Rahman believes his team can tell quitequickly whether a late payment is a matterof ‘won’t pay or can’t pay’, the latter beinghandled sympathetically. Actual bad debtlevels in the first year ran at just over oneper cent. Provision in the budget was for tenper cent. ‘It is quite a risky market in many

directly with one of their few big-hittingsupporters, RBS, which seemingly under-stands the principles behind an organisationlending to people that it would not normallyentertain. But RBS also knows that onceFair Finance’s customers have hauled themselves into the mainstream with a good credit rating, it has a ready-madeclient-base. ‘It’s the kind of partnership that we are trying to encourage with other banks,’ says Rahman hopefully.

Fair Finance did have a working relationship with Barclays, but the UK’sthird largest bank has since moved on toother areas. All is not lost though, and thetwo businesses are back and talking to eachother once more. Fair Finance also has theear of a number of ‘strategic banks’ such as UBS and Citibank; the latter is trying tomake a bigger UK consumer presence hav-ing bought the Egg credit card business.

In a move calculated to spread the goodword, Rahman is seeking to offer Fair Finance’s skills and knowledge of the sectorto the banks to show them how they can deliver their services through his business.But he explains that it has been ‘extremelyhard’ to engage other banks into this agenda. He cites some of the largest banksin the world as being ‘completely disen-gaged’ from the financial exclusion agenda,and from that of ensuring that finance canbe provided for all those outside the system.

There is a potential market out there, as RBS has seen, and he is clearly disap-pointed that some financial institutions lackthe foresight to reach out beyond their safemarkets, perhaps for fear of damaging theirquarterly results. Persuading banks to sharea vision is one thing, but drumming up thecapital to keep that vision going is quite another.

Fair Finance is registered as an industrialand provident society (IPS). This means that any investment is at risk and any one investor is capped at £20,000 ($40,000).This could restrict its investment appeal andgrowth potential. But aside from its own



ways, because people are poor and thingschange rapidly,’ Rahman says. ‘The trick isto be flexible and ensure that the productyou deliver is appropriate to their needs.’

Of course, there is a world of difference between processing a few thousand peoplea year and a few million, but Rahmannonetheless believes he can prove to thebanks that the people they have forgottenare potentially people they should be lending to. The inclusion of enthusiasticRBS personnel on the Fair Finance board ispartly about demonstrating what lending inthe Fair Finance target community is like.But Rahman admits that, whilst it has a lot of high-level support in principle from the big banks, it has received very little practical commitment.

The big banks could hardly be more awareof the issue. The UK government’s TreasurySelect Committee frequently hounds themfor excluding poor people. But, as Rahmannotes, that positive response at the top isstill taking time to be converted into posi-tive action on the ground.

Some banks are making token gestures byoffering the basic bank account concept to the unbanked. These are no frills affairswith practically no services offered, no interest payments, no advice and no credit-scoring payoff. It is questionable whetheranyone would really want to place what little money they have into an account thatdid nothing for them. ‘The banks will saythey are trying to do something, but whatthey are delivering are products and servicesthat are inappropriate to the needs of poorpeople,’ complains Rahman with justifica-tion.

This is precisely the point where Fair Finance makes its entry as an intermediary:an organisation that can sit below thebanks, but above the loan sharks, money-lenders, cheque-cashers and pawn shops.

Having moved on from the early days ofsupporting loans with his personal creditcard, Rahman and Fair Finance now work

PROFILE

more ambitious plan. In the mid-term hecan see the programme drawing up to £15million ($30 million) of investment, allow-ing it to be rolled out across London andperhaps beyond. ‘There is no reason why all finance shouldn’t be fair finance,’ hesays, obviously aware of the marketing po-tential of such a statement. ‘What we offerwill not only compete with the sub-primemarket but also show the mainstream mar-ket that there is a better way of deliveringfinancial services – one that puts people before profits.’

Rahman believes that Fair Finance is veryclearly an ethically rooted organisation with a not-for-profit structure that has a

lot of resonance with the Islamic finance principles of justice and equality.

He believes that with the right type of ethically-minded investors in Islamic finance institutions, there is real potential to create an investment partnership to deliver a Shari’ah-compliant model throughFair Finance (in both its consumer and microfinance products) that is relevant and appropriate to the poor communities of London. As many of his existing clientsare poor Muslims living in deprived neigh-bourhoods, the potential for working with more people excluded from the system is a compelling argument for those who want to use Islamic finance principles to make a difference in their lives.

While the straightforward moral and ethicalarguments for using finance as a tool for inclusion and as a means to alleviate the financial problems of the poor are not always perceived as beneficial to financial institutions, with people like Rahman committed to the principles of a fairer financial system, it could ultimately help to create a more equitable society free from economic exploitation.



self-generated funds (it reinvests 100 percent of its profits), Fair Finance has fairlysolid backing. The list includes: social investors (who, in some cases, have put in up to that cap) as well as banks such as RBS which have lent money at preferen-tial rates; sympathetic charitable invest-ment funds that approve of the work being done; government funding made accessible because Fair Finance is not onlyhelping to create businesses through its microfinance programme, but also helping to manage debts through its advice pro-gramme; and a number of London housingassociations that pay for advice dispensedto tenants.

It’s a diverse range of capital, but it has notbeen easy to maintain the flow. ‘When youare a small organisation like ours, it is veryhard to find the capacity-building resourcesto grow the infrastructure of the organisa-tion itself, to be big enough to be sustain-able,’ notes Rahman. The VC community,for example, is quite prepared to invest alot of money quickly into a small numberof agencies to make a systemic and sustain-able change. But in Fair Finance’s sector,where the business model is less well under-stood, Rahman reports that investors onlywish to drip-feed the funding over a longerperiod of time.

This makes it hard to reach the kind ofscale that the business needs in order to besustainable. Sticking resolutely to the remit of delivering services to customers not in-vestors makes it even harder to raise thefinance. The conscience of Fair Financemeans that it has to be ‘very tough’ aboutmaking sure it gets finance that doesn’t in-terfere with its job of delivering a service to the poor and excluded.

Naturally, Fair Finance is interested in encouraging more private and social investors. With a new form of tax reliefbeing introduced that will give such in-vestors a return, it may well drive that interest forward. ‘We’re hoping to use that to raise a substantial amount ofmoney,’ says Rahman.

The real challenge for him and his teamthough is to locate potential investors whoaren’t too risk-averse and who want to seetheir money doing good things in the community without looking for the kind ofreturns that the major retail or investmenthouses offer. The new tax relief on offershould bring some immediate measure of return for those that do venture this way. But Fair Finance is also placing great storein a new investment deal. Anyone investingfor a five-year period will receive an annualdividend of 8.33 per cent of what they haveput in, with the capital returned at the endof that time. It’s still a risk, says Rahman,asking investors to believe in the businessmodel.

This plan, he says, could become part of aportfolio offered by ethical investment IFAs,a number of whom he is in discussion with.The issue has also been raised with a number of banks as a proposition for their private wealth clients. Rahman claims ‘quite substantial’ interest to date.

Explaining the attraction of such an invest-ment, he maintains that this is a movementthat people are beginning to see more often.‘It’s kind of in vogue to talk about socialbusinesses that can make a return, especiallywith Muhammad Yunus recently winningthe Nobel Peace Prize.’

It could put corporate and social responsi-bility beyond the PR department and intothe mainstream of what investors want todo, he believes. ‘Everybody wants to seehow they can make their money work more than just simply making a return.’

The target for the first year of this newstrand of investment is £1 million ($2 mil-lion). If it can achieve this and demonstratethat it is benefiting those who really needthe money, he feels Fair Finance will be wellplaced to go back to the investors with a

There is no reason why all finance shouldn’t be fair finance... It’s about offering a real, fair financial deal to people.

PROFILE

Abu Dhabi Islamic – he has been on thebank’s board.

AXA Insurance Gulf has named PaulBromley as strategic development manager,responsible for the management of lifebusiness development in the Gulf Region.Bromley has 38 years’ experience in finance,life assurance and family takaful, 12 ofwhich he acquired working in the MiddleEast for Zurich Financial Services, SaudiBritish Bank and SALAMA.

Bank of London and the Middle East(BLME), an Islamic investment bankrecently established in the UK, has namedHumphrey Percy as CEO. Percy has over 30 years’ experience in banking. Yacob Al-Muzaini, chairman and managingdirector of BLME’s major shareholder,Kuwait-based Boubyan Bank, has beennamed chairman of BLME. Derek Weist hasbeen appointed head of structured finance.

Bahrain-based investment bank GulfFinance House (GFH) has appointed a new chairman, Esam Janahi, who has held the position of CEO since the bank’sestablishment. Janahi is one of the foundersof GFH and currently also chairs BahrainFinancial Harbour, Energy City Qatar andBayan Holding Company.

Bradley Brandon-Cross (left) hasbeen appointedCEO of the BritishIslamic InsuranceCompany, which iscurrently awaitinglicence from the

UK’s Financial Services Authority (FSA)to commence operations. Brandon-Crossis a co-founder of Rubicon, an insuranceservice provider in the UK.

Bahrain-basedBankMuscatInternational(BMI) hasappointed anew CEO,AndrewBainbridge(left). He joinsBMI from

Barclays, with 18 years of experienceworking at Barclays’ sites in the UK,Europe, Africa and the Middle East.

major contribution to establishing andlaunching Tejoori.

Bahrain-based investment bank, IthmaarBank, has appointed Michael McKinlayas executive director, private equity. Withover 25 years’ experience in banking andinvestments (of which 15 years have been in the Middle East), McKinlay will ‘addtremendously to the bank’s pool ofinvestment expertise’, according to Michael P Lee, CEO of Ithmaar.

Tan Sri Abi Musa Asa'ari Mohamed Nor,former secretary-general of the Ministry of Agriculture and Agro-based Industry,Malaysia, has been appointed chairman ofthe Pilgrims Fund Board (Tabung Haji, TH).TH is a Malaysian corporation that providesfinancial services to Muslim pilgrims.

Abu Dhabi Islamic Bank has namedRagheed Najib al-Shanti as acting CEO andKhamis Buharoon as managing director ofthe bank. These appointments follow theresignation of Ahmed Darwish Al-Marar asmanaging director. Buharoon joins the bankfrom the UAE-based Commercial BankInternational, while Shanti is already with



On the move

APPOINTMENTS

Sultan Choudhury has taken the role ofcommercial director at the Islamic Bank of Britain (IBB), the UK’s first Shari’ah-compliant financial institution. He will beoverseeing sales, marketing and operationsfunctions of the bank.

International Islamic Financial Market(IIFM) has made a number of appoint-ments. Khalid Hamad, executive director,banking supervision at the Central Bank of Bahrain, has been named new chairmanand Mubarak El Tayeb El Amin, associatedirector, treasury at the Islamic Develop-ment Bank, has been appointed vicechairman.

Saleh Al Omair has been named CEO of a new takaful company currently beingestablished in Saudi Arabia. The companywill be a joint venture between domesticAhad Insurance Company and Bahrain-based Solidarity, one of the world’s largesttakaful operators.

Mrs Ilke Toklu has been appointed generalmanager of Dubai-based Tejoori Limited,the world’s first independent Islamicinvestment company to be listed on theAlternative Investment Market of theLondon Stock Exchange. Toklu made a

Volaw Trust &CorporateServices Limited,a fiduciaryservices providerbased in Jersey,has appointedJames Hume(left) as CEO

of the company’s new office in Dubai.Hume has extensive knowledge of Islamicfinance and over 25 years’ experience inprivate banking and trust services.



In the conventional banking world, banksare able to use an array of derivativeproducts to manage risk – often to reducerisk, but sometimes to generate risk so thatthey can benefit from the increased returnsthat risk brings. Islamic financial institutions(IFI) also need to manage risk, not only interms of the institutions’ own treasurymanagement but also to create products thatallow their customers to do the same, forexample, in order to reduce an individual’sor corporation’s exposure to currency risk.

Edwardes thinks that derivatives havegained a reputation for being dangerousgambling instruments following the debaclesat Procter & Gamble, Bankers Trust and thewidely publicised excesses of Nick Leeson atthe defunct Baring Brothers. IFIs, in order toremain Shari’ah-compliant, must qualifytheir products and strategies through thescholars that provide supervisory authority.

There are various prohibitions in Islamregarding banking that must be abided byand in this regard the Shari’ah prohibitsuncertainty (gharar) and gambling (qimar). As a result, many of the structures that havebeen created to provide the characteristics of conventional derivatives while stillmaintaining Shari’ah compliance areproprietary and are often not generally

POINT OF VIEW

Structured derivatives in Islamic finance:keeping one step ahead of ibaha, or providing valuable protection?The mention of ‘structured derivatives’ often arouses connotations of wild excesses of risk taking and of high volatility, whereas the actuality is that these products were originallydeveloped to provide low-cost protection, or hedging, against unwanted market trends. To findout how these products can fit into Islamic finance, Don Brownlow, NewHorizon’s contributingeditor, spoke to Warren Edwardes, CEO of London-based Delphi Risk Management andmember of the IIBI’s informal Board of Governors.

openly available. But, according toEdwardes, ‘there is the concept of ibahawhich means that if something is not bannedthen it is permitted’. Under this principle, hecautions that ‘because something appears tobe similar to something that is banned, thendon’t assume that it too is banned’. Hepoints out that ‘looking at some of thefinancial products on the market, it seemsthat everything is possible using murabaha.Who am I to disagree, bearing in mind theprinciple of ibaha?’

He points out that using ‘murabaha aninvestor can “invest” in an “arm’s lengthSpecial Purpose Vehicle” [a specially formedcompany] that in turn could create “trades”in anything – from options to futures towarrants’.

In any event, he argues that derivatives canbe seen as permitted by saying ‘murabahaand salam could be regarded as derivatives:one is buying or selling something withdeferred payment [murabaha], the other is buying or selling something for deferreddelivery [salam]. They are derivativesbecause one is buying/selling for futurepayment and the other is buying/selling for future delivery – forward payment or forward delivery. So derivatives arepermitted because murabaha and salam

Should the Islamic financeindustry be scurrying aroundtrying to replicate each andevery complex derivative ratherthan focus on what is actuallyneeded?

are permitted’. These instruments can beregarded as ‘forwards’ in the conventionalmarket. Forwards were one of the firstderivative types to be developed for theconventional markets back in the mid-1980s.

Additionally, there are two other conceptsthat Edwardes believes are relevant – thoseof arboun and wakala. Arboun is a conceptof down-payment for something; wakala isan agency agreement where an agent is paida fee for performing a management functionor a management service.

The IIBI defines arboun as a down-paymentfor the delivery of a specified quantity of acommodity on a pre-determined date. Thiscan be regarded as having similar propertiesto that of an option in the conventionalmarket. Edwardes comments that ‘it is adown-payment that provides a right –similar to an option, but why use terms that are provocative?’ Under wakala amanagement company may be paid a fee to provide ‘dynamic delta hedging’, forexample, to manage foreign currency risk.(The ‘delta’ is a measure of volatility so, forexample, if the market is as likely to go upas go down then the future is 50:50, or 50per cent likelihood of movement so it has adelta of 0.5.)

In his book, ‘Key Financial Instruments:understanding and innovating in the worldof derivatives’, Edwardes examines theconcept that all banking products are builtfrom four pillars: deposits, exchange,forwards and options. He thinks that, asalmost anything is permitted in conventionalbanking, Islamic banking is no different,merely a special case. Just as conventionalproducts can be built from the four pillars so too can Islamic products be built usingIslamic equivalents. He suggests that ‘tocreate Islamic derivatives without gettingclose to the edge, go back to first principles,to when derivatives were first created’.

Back in the 1970s, US and UK companiesmade back-to-back loans to hedge foreigncurrency exposures – a forerunner ofcurrency swaps. ‘Instead of using back-to-back loans, Islamic products can be created

NEWHORIZON Rajab–Ramadan 1428 POINT OF VIEW

using Islamic equivalents of back-to-backmurabaha, back-to-back ijara, or back-to-back sukuk,’ says Edwardes.

There is a major problem facing IFIs interms of ‘the lack of tools available for riskmanagement and risk profile alteration’, he thinks. The need to address asset liabilitymanagement and the yield curve manage-ment in IFIs should be met and catered for.Edwardes asks: ‘Should the Islamic financeindustry be scurrying around trying toreplicate each and every complex derivativerather than focus on what is actuallyneeded?

‘Maybe the way ahead is not to talk aboutstructuring Islamic derivatives with all of the connotations of gambling anduncertainty; let’s focus on financial takaful,’he suggests. Going back to basics andaddressing the problems that derivativeswere originally designed to address may be the way forward. Islamic banks wouldthen have Shari’ah-compliant tools that would help solve the real asset/liability and risk management issues faced by Islamic institutions, both financial and commercial.

17 IIBI

...To create Islamic derivativeswithout getting close to theedge, go back to first principles,to when derivatives were firstcreated.

Warren EdwardesDelphi Risk Management




The Islamic finance sector has for some timefocused on the development of its business,including the standardisation and conso-lidation of the industry. This approach has marginalised a large number of‘unbankable’ members of society. Micro-finance is one such area that has beenneglected by the industry, and manyfinancial institutions around the world are working to address this – not just forphilanthropic reasons, but because this is a vast sector on which they can capitalise. The Islamic International Ratings Agency(IIRA) is currently involved in discussionswith the Islamic Development Bank as tohow to promote microfinance in Muslimcountries. Financial institutions such asDeutsche Bank and the Islamic Bank ofThailand have also decided to venture intoShari’ah-compliant microfinance. Otherefforts are under way on an experimentalbasis, although it is more difficult to provide a detailed account of these.

While Islamic finance aspires to create anequitable economy, it has in the eyes ofmany become a banking system for the rich.Conventional microfinance, meanwhile, has demonstrated success as a tool to helpreduce poverty and encourage economicgrowth in neglected, rural parts of theworld, but the flip side of this coin revealscriticism of the industry’s tendency to chargethe poor exorbitant interest rates and fees.These are often necessitated by the hightransaction costs incurred in microfinance,including the provision of services to

Financing the Poor: Towards Islamic Microfinance

This symposium held at Harvard University brought together a diverse group of internationalspeakers and a number of noted individuals from the microfinance and Islamic finance sectors.Nazim Ali, director of the Islamic Finance Project (IFP) at Harvard Law School, gave theopening address, and reports on the event for NewHorizon.

monitor and supervise entrepreneurialendeavours, health insurance, and so on.With the two industries sharing the common goal of social justice, the aim ofthe IFP symposium was to bring togetherrepresentatives from both, so that eachparty could learn from the other and move towards a viable system of Shari’ah-compliant microfinance.

The IFP symposium wanted to explore the role of the Islamic finance industry as a source of funding for microfinancinginitiatives and to serve as a medium topromote alternative financial instrumentswithin the Islamic finance industry. Withmany microfinance services offered on anot-for-profit basis, the viability ofharnessing traditional Islamic financialinstitutions that use zakat and waqf as asource of funding was discussed. Alsoconsidered was the potential collaborationbetween industry and academia to providebetter tailored microfinance models whichwould serve the needs of increasinglysophisticated microfinance institutions,while simultaneously creating alternatives,with lower service costs and increasedaccountability and transparency, forborrowers on the ground.

Misconceptions about intangible hurdleswhich have to be overcome within theIslamic finance industry, as well asmicrofinance, were aired within thesymposium. Many suggestions were offeredas means of overcoming sources of mutual

SYMPOSIUM REVIEW

Microfinance is not reaching the poorest of the poor, eventhough this is its purpose, andloans are going to activitiesunrelated to entrepreneurship.Islamic finance could, inprinciple and in practice,correct these defects.


NEWHORIZON Rajab–Ramadan 1428 SYMPOSIUM REVIEW

misunderstanding, with a view to betterserving the poor, particularly in Muslimeconomies. Communication is key.

Baber Johansen, acting director of theIslamic Legal Studies Program and affiliatedprofessor at Harvard Law School, chairedthe symposium. He opened the session bycommenting on the burgeoning interest infinancing the poor and the Islamic financeindustry’s long-standing desire to promoteequitable economic development. In hisopinion, this offers a strategic approachtowards a charitable goal.

Robert Annibale, global director ofmicrofinance for Citigroup, was the firstkeynote speaker. He shared his insights into both Islamic finance and microfinance. He described microfinance institutions asself-styled ‘bankers of the poor’, originallyrooted in domestic, local markets butincreasingly expanding into larger marketsand offering a broader range of services. He noted that the high operating costs,passed on to the customer in the form ofhigh interest rates, are a hurdle for the poor.Annibale encouraged institutions to try tomake their operations more cost-effective,because the customer inevitably pays forany inefficiencies. He felt that this waswhere there is potential for Islamic financeto make a difference.

Under conventional microfinance, risk isborne by borrowers and rarely held by the institutions. Non-governmentalorganisations (NGOs) and other non-profit institutions offer efficient services tosupplement their lending, but these servicesadd to the cost base. Islamic finance focuseson interest-free methods of providingcapital, because the Shari’ah holds lendingto be a purely charitable exercise, ratherthan a means of making a profit. Islamicfinance is also accustomed to methods ofrisk–reward sharing between the institutionand the borrower.

Taking a step back, Annibale then reviewedthe market, highlighting the work of theMicrofinance Information Exchange and itstransparent analysis of microfinance groups.He noted that there were only small-scale

microfinance offerings across North Africaand Pakistan and that competition in thispart of the world would be beneficial.Indonesia and Bangladesh, on the otherhand, have more developed microfinancemarkets. In fact, microfinance institutionsenjoy greater penetration than traditionalcommercial banks in Bangladesh.

Microfinance has grown significantly in India, but the industry there faces anumber of restrictions, imposed to protectcustomers from very high interest rates, aswell as objections raised against usury andexploitation from religious leaders. In hisclosing remarks, Annibale stressed that the industry is in need of competition and innovation if it is ultimately to be of benefit to its customers.

Aamir Rehman, former global head ofstrategy at HSBC Amanah, presented thesecond keynote address on behalf of IqbalKhan, HSBC Amanah’s founding CEO.Rehman considered the extent to which the Islamic finance ethos is compatible with the spirit of microfinance. From theperspective of the Shari’ah, Islamic financeshould focus on ethics and values thatencourage community-based, alternativeprogrammes to promote genuine economicactivity. As a nascent industry, however, itstill faces a number of challenges to itscredibility in the finance world. As a result,it has focused less on the alleviation ofpoverty in the past because it has beenworking to meet world-class bankingstandards and to serve its clients in aShari’ah-compliant way. At the same time as being seen as a viable system of financing,it has had to prove itself to be profitable aswell. While the social goals of the Shari’ahare important, Rehman stressed that Islamicfinance has to meet commercial standardsfirst. He added that the industry has had to move from a consumer-debt industry to a savings industry, dovetailed by micro-finance, because it assists businessdevelopment and economic activity.

If Islamic finance and microfinance couldconverge, the industry could reach a threebillion person market. Trade, Rehmanreminded the audience, has played an

integral part in the spread of Islam andIslam has a long history of valuing tradeand entrepreneurship. Moving on, Rehman described how traditional banksseek growth through the expansion ofcustomer debts while Islamic banks havetried to move away from this debt-basedapproach. He could envisage a paradigmshift in Islamic finance away from a‘Shari’ah-compliant’ to a ‘Shari’ah-based’industry, which uses its commercial servicesto partner with microfinance institutions with access to rural and poor communities.

Following these two keynote speeches,proposals for, and case studies of, Islamic microfinance were presented in the symposium’s first panel session. Thesession was moderated by Asim Khwaja,associate professor of public policy for the JFK School of Government, HarvardUniversity.

Opening with an alternative view ofmicrofinance, Samer Badawi of theConsultative Group to Assist the Poor(CGAP) expressed the view that, while there is evidence to support the value of microfinance, there is also alarmingevidence to the contrary. Microfinance is not reaching the poorest of the poor, even though this is its purpose, and loans are going to activities unrelated toentrepreneurship. Islamic finance could, in principle and in practice, correct thesedefects.

Professor Hans Dieter Seibel from the University of Cologne, Germany,presented a case study on Indonesia, thelargest Muslim country in the world, with a mixed history of Islamic microfinance.Seibel noted that Islamic microfinancebanks have statistically not done wellcompared with their conventionalcounterparts. Absentee ownership, together with a lack of competence inIslamic finance, have been partly respon-sible for this, but mudarabah savings andfixed deposits have still been successful.Seibel also emphasised that a proper legal framework and regulation of interest rates are important factors in the success of Islamic microfinance.



The second session was moderated bySamuel L Hayes, III, Jacob Schiff professoremeritus of the Harvard Business School.The panellists spoke of the challenges of integrating Islamic finance withmicrofinance. Shari’ah scholar SheikhNizam Yaquby noted that the fight againstpoverty is an important one for Islam andfor microfinance. But he pointed out that,unlike conventional microfinance, Islamdoes not allow exploitation with higherreturns. Nadeem Hussain, president andCEO of Tameer Microfinance Bank,expressed his reservations that the lack of fundamental assets make it difficult toapply microfinance to Islamic finance.

The speakers also contended, however, thatthese issues could be resolved if people fromthe Islamic finance and microfinance sectorswere to work together. Aamir Rehman and Robert Annibale reiterated that ahybrid model, integrating philanthropic and commercial goals, or a not-for-profitmodel using charitable sources such aszakat, offer a relationship between theIslamic finance and microfinance industries.

Michael Ainley of the UK Financial Services Authority (FSA) compared thecurrent development of microfinance with Europe’s transition from credit unions and community banks to its contemporaryeconomic system. Ainley also noted theimportance of effective government reg-ulation and supervision of the industries in this process. Aqil Abdus Sabur, interimpresident of the Philadelphia CommercialDevelopment Corporation, linked thediscussion through microfinance aspractised by the Prophet Muhammad’s(PBUH) companions over a thousand years ago.

The panellists offered closing remarks,reminding the audience of Islam’s history in finance and the scope of potential forIslamic microfinance. This is a project thatis growing in the US and the UK, as well asin the rest of Europe, the Middle East, andAsia. As Sheikh Nizam Yaquby advised thesession, however, it is important to bear inmind that the goal is to eliminate poverty,not to cloak goals to exploit people.

Contrasting Afghanistan with Indonesia,Siraj Sait, a senior lecturer in law at theUniversity of East London, talked about the Global Land Tool Network (GLTN),which uses Islamic land tools as a means ofempowering the poor. The goal is to createpro-poor, scalable, and replicable tools; tocross-fertilise generic tools with Islamictools; and to define stakeholders. He alsohighlighted end-user scepticism overShari’ah compatibility and lack of stateregulation as representing challenges for the industry.

Taha Abdul Basser, a Ph.D. candidate atHarvard University, presented a paper by Dr Muhammad Anas Zarqa, advisor to the International Investor company. Basserexplained that, as a young industry, Islamicfinance still has to focus on social justice. Inorder to do so, it has to be more convincingto its clients and it needs to hone managerialtalent. Basser discussed the viability of theIslamic instrument of monetary waqf (cashtrust) as a means of financing Shari’ah-compliant microfinance. In addition toinitial donations, a monetary waqf furthermobilises temporary funds that can beextended to the productive poor asmicrocredits. Basser presented Dr Zarqa’sopinion that there should additionally betwo tiers of philanthropic guarantors for a monetary waqf to strengthen its securitystanding: guarantors of liquidity andguarantors of losses. Not only would this help to increase the credit standing of a waqf, but it would also attract aconsiderable quantity of temporary funds.

Saif I Shah Mohammed, from the ColumbiaUniversity School of Law, spoke next. Heagreed with Badawi that microfinance hadbeen over-hyped. Mohammed was of theview that a partnership between Islamicfinance and microfinance would offer thebest approach, especially in the case ofBangladesh. He pointed out, however, thatIslamic microfinance institutions need toovercome distrust in the microfinancemarket and clarify terms that have in thepast caused confusion. Mohammed alsoappealed to Shari’ah scholars to take aproactive role in clarifying these terms for the population.

SYMPOSIUM REVIEW

If Islamic finance andmicrofinance could converge,the industry could reach a three billion person market.

I like to believe that we are oneof the last banks to get anIslamic licence [in Pakistan].

Nikolaus Rafiq Schwarz,FDIB CEO

dynamic segment, especially while furthercompetition is effectively being stifled. Infact, the Karachi-based single-branch FDIBis touting aggressive growth plans byscheduling another eight offices for openingthis year alone.

The percentage of booked Islamic assets todate is proof-positive for Schwarz that thereis considerable ‘room for growth’, to thepoint where the market, despite what SBPsays, could even ‘digest a couple moreIslamic financial institutions’.

The mention of Malaysia in the openingparagraphs is no idle reference. Schwarzbelieves the development of the Islamicbanking market in Pakistan is taking asimilar route to that of the South East Asian country.

Here, the government has a highlysupportive Islamic banking framework thatit has built up over the past 15 or 20 years,allowing it to harbour almost a quarter ofall banked assets in the country.

Malaysia and Pakistan share a structuralapproach to banking that is not found in theGCC for example, being considerably morein favour of universal banking operations,whereas the GCC region prefers to offermore niche investment and private banking-type services.

Whether Pakistan can emulate Malaysia’seconomic pattern is yet to be seen, ofcourse. But FDIB’s wide-open remit to catch as much corporate and consumertrade as possible seems to be in tune withthe brandishing of its heroic growth



issuing any more new banking licences inthe foreseeable future. ‘I like to believe thatwe are one of the last banks to get anIslamic licence [in Pakistan],’ says FDIB’sCEO, Nikolaus Rafiq Schwarz, convincedof FDIB’s good fortune.

And as the head of a new, lean operationwith a universal banking remit, Schwarz issetting his sights on taking advantage of this

CASE STUDY

Despite Pakistan being an Islamic country,its banking market has to date remainedmostly served by non-Islamic institutions.But, as with the Malaysian market some 20 years ago, it is changing – and changing fast. With the total assets of Islamicbanking institutions in the country almosttripling to 54 billion rupees ($899.1million) in the fiscal year 2006, from 18.8billion rupees ($313.02 million) at the endof 2005, the local market is taking on adecidedly wholesome new shape.

Although Islamic-banked assets currentlyonly represent around three per cent of thetotal in Pakistan, Islamic banking is clearlyreaching out to its people more than ever. It is now available in 16 cities in all fourprovinces of the country through fully-fledged Islamic banking operations – bankssuch as Meezan Bank, Al Baraka IslamicBank, BankIslami Pakistan, EmiratesGlobal Islamic Bank, and Dubai IslamicBank Pakistan. But in addition to theseexclusively Islamic financial institutions,some 39 branches of eleven conventionalbanks are also providing exclusively Islamicbanking services to their customers.

And with the likes of Qatar Islamic Bankknown to be looking to make an entranceinto Pakistan, it could not have been morefortuitous for First Dawood Islamic Bank(FDIB) to have opened its doors last Aprilas the sixth fully Islamic bank in thecountry, just as the State Bank of Pakistan’s(SBP) attitude to licensing changed.

It now looks rather as if SBP is to draw aline under the 40 or so banks currentlyoperating in the country and will not be

Sixth sense It’s a well known fact that the take-up of Islamic banking is expanding at a rate of knots acrossthe globe. But how is it faring in an Islamic heartland such as Pakistan? Tom Alford,NewHorizon’s contributing editor, talks to a new entrant in that market, First Dawood IslamicBank, to find out the state of play.

Shari’ah-permissible raw materials andcommodities. In addition, an ijara wa iqtina(Islamic leasing) facility provides finance forthe purchase of machinery and equipmentfor new projects and business expansion.

Car ijara and housing finance are availablefor the salaried and self-employed, while thediminishing musharakah facility providesfinance for capital expenditure in theconstruction and manufacturing industries.In the trade finance realm, as a first inPakistan, FDIB is also offering under the Al-Mustaqeem brand, a service ijaraproduct, a post-shipment export facility and a local goods supply finance product. ‘FDIB is also offering a very innovativerunning musharakah facility,’ says Schwarz.

The bank’s first tough test will come in theform of regional commercial competitionfrom global banks such as HSBC Amanah,Deutsche Bank and Citibank. These tier oneinstitutions are potentially a threat to asmall operation like FDIB.

Although he believes many of the Islamicoffshoots of the global players in Pakistando not really cover ‘the full spectrum ofcorporate finance and consumer finance’,Schwarz is realistic enough to acknowledgethat if any of these banks decided to stepinto the fully-fledged Islamic bankinglimelight with a fuller set of products, theirvast scales of economy would be ‘verydifficult’ to overcome.

For now though, he remains ‘veryoptimistic’ about FDIB’s prospects.Although over the next twelve months or so the bank intends to stay within Pakistan’sborders protecting its rapidly expandinglocal interests, the exponential growth ofIslamic banking in the region will surely see FDIB adding to its client base.

There’s no shortage of willing customers.Indeed, wherever an Islamic financialinstitution opens in Pakistan, Schwarz,clearly happy to scoop up the new business,reports waves of clients ‘closing their ac-counts with non-halal banks’ and movinginto the world of Shari’ah-compliantbanking.

experience to stand a chance of seriouslycompeting with the bigger, more establishedplayers in Pakistan.

The technology may help deliver efficiencyand customer delight, but how does itsproduct-set stand up? Although Schwarzdescribes FDIB’s initial offering as ‘plainvanilla’, he is quick to explain that this is allpart of the plan to get the single-branchoperation established before engaging inmore complex and exotic instruments for itscorporate and private customers. ‘First weneed to establish ourselves as a crediblefinancial institution in Pakistan,’ he states.

The follow-on offering is likely to include a unique (for Pakistan) ijara product toenable customers to save for their Hajj and Umra. Continuing the Malaysianconnection, this sort of product has beenavailable in that country since 1963 and isnow administered by Lembaga TabungHaji, or the Pilgrim Fund Board ofMalaysia.

FDIB is also looking to offer differentiationin structured finance products, partly as abenefit of its major shareholders’ ownbanking know-how. ‘This is what we would like to focus on in the comingmonths,’ says Schwarz, stressing that theidea is not to create two pillars of bankingwhere an investment banking divisionworks ‘in parallel’ with a corporate bank-ing division: ‘It confuses customers,’ saysSchwarz.

With the emphasis on being a unifiedoperation, FDIB is looking to expand itsclient portfolio quickly but progressively.After eight to twelve months of growth, itintends to return to its clients with moresophisticated offerings and engage in someserious cross- and up-selling.

For now though, FDIB’s ‘plain vanilla’offering encompasses deposits under thebranding of Al-Mustaqeem, such as current accounts, saving accounts, termdeposits, receipts and basic bankingaccounts. It also delivers Al-Mustaqeembranded financing which includes amurabaha facility for the purchase of



strategy. Although in terms of capitalisationit is, in Schwarz’s words, ‘a lot smaller thanmost of the Islamic institutions’, FDIB is still in a reasonably strong financial position to reach out to the local market in flamboyant fashion.

Prior to opening its doors for business, it had secured initial capital of two billionrupees ($33.3 million), with its three majorinvestors each taking a 21 per cent stake.Bahrain-based Unicorn Investment Bank,Pakistan’s First Dawood Group, and theIslamic Corporation for the Development ofthe Private Sector (a unit of Jeddah-basedIslamic Development Bank) are now happyto promote the aggressive growth planespoused by Schwarz and his board. Inaddition to the branches to be opened by the end of this year, the blueprint talks of afurther 18 branches and offices openingthroughout 2008.

On a practical level, expansion by thisdegree holds no fear for Schwarz and histeam. ‘What we are doing is pretty modular,’he says explaining the physical layout ofeach branch. Indeed, every office follows aformula and is practically pre-built andslotted into the chosen premises. ‘We canopen a new small branch in about fourweeks,’ he claims.

The expanding network will be held strongby state-of-the-art Shari’ah-compliant coretechnology from Sungard System Access.This has been assessed in close co-operationwith Yasaar Ltd, an international Shari’ahconsultancy, with thorough attention fromone of its most eminent scholars, Dr DaudBakar.

The core technology will be complementedby the most effective delivery channels forthe region which will include branch,internet, call centre and SMS banking (‘very important in Pakistan’).

Schwarz sees technology as one of the bank’skey differentiators. ‘We have to try to bemore technology-driven than other bankshere,’ he declares. He is, of course, mindfulthat FDIB needs to offer a rich package ofproduct, technology and customer

CASE STUDY

Putrajaya Mosque, Malaysia

25 IIBI

COUNTRY FOCUS: MALAYSIA

Malaysia and the GCC (Gulf CooperationCouncil) countries are the key players in the global Islamic finance market today. TheMiddle East has led the way in launchingthe modern notion of Shari’ah-compliantfinancing, with the first commercial Islamicbank – Dubai Islamic Bank – appearing in the United Arab Emirates in 1975(although the Islamic banking experimenthad begun a decade earlier in Egypt,proving unsuccessful at that time for anumber of reasons). The establishment of Dubai Islamic Bank in the UAE precededthe creation in the same year of IslamicDevelopment Bank in Jeddah, which hadturned the theoretical ideas of bankingaccording to Shari’ah into practice. Anumber of other GCC countries followed,including Kuwait, with the opening ofKuwait Finance House in 1977, and theKingdom of Bahrain with Bahrain IslamicBank, launched in 1979.

A few years later, Malaysia embarked on its own Islamic finance development project,something that had its roots in the 1960s,when the revival of Islam in the country had really taken hold (the country’s Muslimpopulation today comprises 16.3 millionpeople, over 60 per cent of Malaysia’s total population). Up until then, Muslimsperforming pilgrimage to the Holy Land in Saudi Arabia could not save money tofinance their journey through conventionalbanks as their transactions involved usury.In response to this need, the governmentfounded the Pilgrims Fund Corporation,also known as Tabung Haji or TH for short,which commenced operations in the early1960s and continues to function today. Its

main purpose has always been to enableMuslims to save for their pilgrimage andother beneficial purposes in a Shari’ah-compliant way and to ensure the pilgrims’welfare during their journey by providingvarious facilities and services.

In 1983/4, the Malaysian governmentpassed the Islamic Banking Act (IBA) and the Takaful Act, the legal basis forestablishing Shari’ah-compliant banks and insurance companies in the country.This legislation has provided the country’scentral bank, Bank Negara Malaysia(BNM), with the authority to supervise and regulate Islamic financial institutionsand takaful operators. In 1983, the firstShari’ah-compliant bank was launched –Bank Islam Malaysia Berhad.

This was the take-off point for thedevelopment of Islamic banking in thecountry. Since then, the government hasintroduced a number of supportingmeasures, and beyond all doubt, this highlevel of government support has played asignificant, if not major, role in establishingMalaysia as a leading centre for Shari’ah-compliant finance on a global scale.

Bank Islam remained the only Islamic bank in the country until the early 1990s,originally catering primarily to the financialneeds of the Muslim population, but grad-ually extending its services to the generalpublic regardless of their faith. Today, thebank has a network of over 90 branchesacross Malaysia and offers around 50innovative Islamic financial products and services.

In 1993, Bank Islam saw its first competitorarrive, surprisingly not in the form ofanother domestic Islamic financialinstitution, but as an Islamic window of a conventional foreign bank, StandardChartered. It was not until 1999 that thesecond fully-fledged Shari’ah-compliantbank, Bank Muamalat Malaysia Berhad,was launched. The reason for this ratherslow start can be explained by the Asianfinancial crisis (also known as the EastAsian currency crisis), which developed in 1997, affecting Malaysia amongst otherAsian countries. BNM took a number of measures to overcome this period ofeconomic unrest, including setting a fixedexchange rate for the national currency, the ringgit, which remained fixed until2005.

Nowadays, there are eleven Islamic banksand eight conventional banks with Islamicwindows operating in Malaysia. Four of them commenced operations in 2006. The number of branches offering Islamicbanking products and services rose from766 in 2005 to 1167 in 2006.

Shari’ah-compliant products and servicesoffered in the country’s banking markettoday are based on a variety of Islamicconcepts including bai bithaman ajil (sale of goods on a deferred payment basis), mudarabah (profit and loss sharing),musharakah (joint venture), murabaha (the bank buys and sells items required bythe customer at a mark-up), ijara (leasing),qard hasan (microfinance), and istisna(contractual agreement for manufacturinggoods and commodities).

This ‘Asian tiger’ is on top of the game with its Islamic banking and insurance marketsextensively developed and firmly established. Tanya Andreasyan, NewHorizon’s editor, reflectson the commitment displayed by the Malaysian government to facilitate and promote Shari’ah-compliant finance both domestically and globally.



Malaysia: Leading the way

COUNTRY FOCUS: MALAYSIA

Robust development can also be observedin the takaful (Islamic insurance) sector,with four new players setting up operationslast year, effectively doubling the totalnumber of takaful operators in the region(bringing the number to eight) and in-creasing the industry’s revenue to 8.2 percent of the total insurance sector revenue.

Currently, the takaful business carried outin Malaysia can be broadly divided into two categories – family and general. Thefirst category is described as ‘a combinationof long-term investment and a mutualfinancial assistance scheme’ by BNM. Itincludes takaful mortgage plans, takafulplans for education, and health and med-ical takaful for both individuals and groups.Contributions paid by participants to these schemes are split and credited to theParticipants’ Special Account (on the basisof tabarru – a donation covenant) and theParticipants’ Account (for savings andinvestments only).

The second category is ‘purely for mutualfinancial help on a short-term basis, usuallytwelve months, to compensate its part-icipants for any material loss, damage ordestruction… arising from a misfortune that might inflict on his/her properties orbelongings’. It offers a number of covers,such as fire, motor, marine, aviation andtransit takaful schemes. The contributionspaid into the general takaful fund arewholly based on the principle of tabarru.

To support further development of thetakaful and retakaful industry in Malaysia,BNM is inviting ‘strong and qualified’retakaful players to set up their operationsin the country. This was announced byBNM at the 3rd International Conventionof Takaful and Retakaful held in KualaLumpur in August of this year. Under thisinitiative, retakaful operators licensed bythe central bank will be able to conducttheir business in ringgit and internationalcurrencies. There is also the choice ofcarrying out operations as an incorporatedentity or as a branch. Foreign applicants are welcome too – they can operate throughjoint ventures with Malaysian companies. It is expected that a strong retakaful market

will, firstly, fulfil the need of takafuloperators for retakaful support and,secondly, reduce the industry’s dependencyon conventional reinsurance support.

Needless to say, both Islamic insurance(although this industry still experiences anumber of challenges, including shortage of talent) and Islamic banking in Malaysiahave evolved dramatically since their earlydays when the range of Shari’ah-compliantproducts and services was very basic. Twodecades ago, Bank Islam offered only ahandful of deposit and financing products,whereas today it has expanded its rangefrom traditional savings and investmentofferings to include leasing, stockbroking,unit trust management and treasury-relatedproducts.

Another key player in the Malaysian Islamicbanking market, CIMB Islamic BankBerhad, is also tangible proof of the in-dustry’s extensive development. Althoughthis bank was officially launched just fouryears ago, the experience and roots of itsmanagement go all the way back to the1990s, to Bank Muamalat. ‘Of course, wehave evolved in different ways since then,’states Badlisyah Abdul Ghani, chiefexecutive of CIMB Islamic. ‘We haveevolved in all aspects of the industry:consumer banking, investment banking,asset management, takaful and privatebanking.’

With an extensive range of sophisticatedIslamic products, Shari’ah-compliant banksare enjoying rivalling their conventionalcounterparts right across the board. Forexample, prices for Islamic and conven-tional retail banking products and servicesare about the same. On the bond issuanceside, Islamic bonds are ‘more attractive toconsumers in terms of pricing’, according to Ghani, as they are ‘always cheaper thanconventional bonds, typically five to tenbasis points so’. As a result, he says, ‘thereare more investors chasing Islamic bondsthan there are supplies’.

In addition to competing with conventionalfinancial institutions, Islamic banks inMalaysia are, naturally, also engaging in

Petronas Twin Towers, Kuala Lumpur

26 IIBI

COUNTRY FOCUS

healthy competition with each other for a slice of the Islamic finance pie. ‘It hasalways been a highly competitive market,’says Ghani. ‘But we are experiencing a more exciting market – the methodology in marketing is different now; banks domore marketing than before. Whilst beforeit was more word of mouth, now it is moreexplicit advertisement. The market is be-coming more aware of Islamic banking andfinance now.’ Although many people feelthat the competition has recently ‘heatedup’, he adds, it is actually the same players(with the inclusion of some new ones) with‘a bit more of market awareness thanbefore’.

There is, however, a very important re-striction in the field of advertising imposedby BNM, and this is a strict prohibition ofusing Shari’ah as a marketing tool. ‘A bankcannot go into the market and start con-demning somebody else’s product, sayingthat it is not halal or less halal than theirbank’s,’ says Ghani. This is done in order to protect the consumer. If an Islamic ban-king product is present in the Malaysianmarket, it means it has been approved bythe Shari’ah Advisory Council for IslamicBanking and Takaful (SAC) – the ultimateauthority on Shari’ah compliance inMalaysia, established by the central bank.This way, consumers can be certain that the products they are buying are Shari’ah-compliant. ‘We did away with the incessantdebate that has no place in Shari’ah,’ statesGhani.

Each and every Islamic financial institutionin Malaysia licensed by the central bankmust have its own Shari’ah board, whichsubordinates to SAC. People sitting on theseboards must be qualified and endorsed bySAC. The Shari’ah board of a Malaysianbank is responsible for dealing with relevantmatters in that particular bank and rulingon the compliance of the bank’s productsand services with Shari’ah law. But beforeintroducing any Islamic banking product or service to the market, the board passes it to SAC for approval. Once sanctioned by BNM and SAC, it becomes available to all banks to take on board if they wish. ‘The Malaysian regulator does not dis-

27 IIBI


NEWHORIZON Rajab–Ramadan 1428 COUNTRY FOCUS: MALAYSIA

criminate against any school of law underShari’ah,’ says Ghani. ‘A decision made byany school of law, as long as that school oflaw is recognised under Shari’ah, will beendorsed by the central bank. And themoment it is endorsed, it becomes availableand eligible as a Shari’ah-compliant productfor the whole market.’

This approach is very different to someother Islamic finance centres, such as forexample, Bahrain, which is also among theworld’s leading Islamic finance hubs. There,the central bank’s supervisory Shari’ahboard does not centralise the decision-making process concerning Shari’ahcompliance issues of individual banks and does not interfere in these processes.

Ghani believes that the Malaysian app-roach is advantageous, as it results instandardisation and harmonisation withinthe industry. ‘I’ve always believed that theregulator must regulate the Islamic bankingindustry, and that includes regulatingShari’ah,’ he says, adding that such tacticsalso help in cutting the costs of research and development, and in facilitating thegrowth of Islamic finance.

And the industry is indeed growing. TheMalaysian government is encouragingdomestic banks to go global. Last year

it introduced a tax incentive to motivateMalaysian financial institutions to expandoverseas.

In tune with this initiative, Bank Islam hasadopted a ‘go global’ attitude since last yearwith the arrival of new shareholder, DubaiInvestment Group; and RHB Group, one of the largest financial services corporations in the country, with Malaysia-based RHBIslamic Bank under its umbrella, has takenits operations across Asia and now coversSingapore, Indonesia, Thailand, thePhilippines and Brunei.

CIMB Group (of which CIMB Islamic ispart) currently has a presence in twelvecountries. ‘We undertake Islamic financeand banking, in one form or another,wherever we are present,’ explains Ghani. ‘It all depends on the demand in the par-ticular market. Of course, the pre-dominantbusiness for us overseas is whole-sale – ininvestment banking, sukuk issuance, projectfinancing and so on.’

In their turn, foreign finance groups havebeen keen to enter the Malaysian market.Qatar Islamic Bank, Al-Rajhi Bank(headquartered in Saudi Arabia) and KuwaitFinance House are among those who haveset up subsidiaries in Malaysia. In Januaryof this year they were joined by Asian

Finance House (owned by investors fromGCC countries) and, several months later,HSBC Malaysia, which already had a well-established presence in Malaysia in the field of conventional finance, was grantedan Islamic banking licence. According toHSBC Malaysia’s CEO, Irene Dorner, nowthe bank will be able to open more branches– five in the first year and increasing to 15over a two-year period.

With plenty of experience to share,Malaysia also offers assistance indeveloping Shari’ah-compliant financeoutside its borders. In a recent meetingbetween the prime ministers of Malaysiaand Thailand, the question of cooperationin the field of Islamic banking was high on the agenda. The meeting focused onwidening and strengthening the bilateralrelationship between these ‘Asian tigers’.Malaysia’s prime minister, Datuk SriAbdullah Ahmad Badawi, stated that hiscountry was prepared to offer the necessaryassistance (including technical aspects) toestablish Shari’ah-compliant banks inBangkok and southern Thailand. ‘We willhave talks in the near future to furtherdiscuss this matter,’ he announced at thepress conference following the meeting.

And closer to home, Islamic financecontinues to go from strength to strengththanks to a number of recent initiativesfrom Bank Negara Malaysia and thecountry’s government. The MalaysiaInternational Islamic Financial Centre(MIFC) initiative was launched to promoteIslamic financial products and services ininternational currencies for the globalmarket.

This is often referred to as a ‘one-stop shop’for Islamic banking by industry specialists,and it is set to compete with such prominentMiddle Eastern hubs as Bahrain (extensivelycovered in the January–March 2007 issue of NewHorizon), Dubai International Financial Centre and Qatar FinancialCentre. London, with its drive to become a market leader in this field (for full storysee NewHorizon, April–June 2007), also has to make room for MIFC on the worldstage.Kuala Lumpur


NEWHORIZON July–September 2007COUNTRY FOCUS: MALAYSIA

‘MIFC is effectively the next phase in thedevelopment of the industry,’ says Ghani.First, the Malaysian government con-centrated on establishing a ‘stable andsustainable domestic Islamic financialmarket’. Now, the market is ready for ‘non-domestic transactions’. If the country hasuntil now focused on the development ofthe ringgit market, now the time is right for developing the international currencymarket ‘using the existing intermediariesthat have been doing business in Malaysiafor some time and also encouraging newplayers to come in’.

One of the principal objectives of MICF is to establish Malaysia as a centre fororigination, distribution and trading ofsukuk. It was Malaysia who pioneered this Shari’ah-compliant type of governmentbond in 2001. The main difference betweenconventional and Islamic bonds is that, in conventional finance, bond trading islargely about making the most of interestrate developments, while Islamic financerequires real, concrete assets to back theShari’ah-compliant papers.

Other countries followed, with thephenomenon of sukuk taking off andexpanding its boundaries beyond South East Asia and the Middle East to reach as far as Europe. The UK government,together with the country’s regulator, theFinancial Services Authority (FSA), iscurrently laying the legislative foundationfor the issuance of sukuk.

A strong regulatory framework, a widerange of Islamic bond instruments andexperienced personnel give Malaysia theright to claim that it can provide, in thewords of Dr Zeti Akhtar Aziz, BNM’sgovernor, ‘a total solution’ for issuing andtrading Shari’ah-compliant bonds. In 2006,the total value of Malaysian sukuk issueswas RM42 billion ($12 billion), whichaccounted for over half of all local bondsissued that year. On a global scale, thesefigures show that Malaysia has achieved animpressive 67 per cent of the world’s totalsukuk issues. At the opening of the 2ndMalaysian Islamic Finance – Issuers andInvestors Forum 2007, held in Kuala

Lumpur earlier this year, Dr Aziz stated that‘Malaysia not only represents the largestsukuk market in terms of outstanding size,but also in terms of numbers of issuance’.

She also emphasised that, in order to‘position Malaysia as an attractive gatewayfor the issuance of sukuk’ and ‘deepen and widen the bond and sukuk markets’,Malaysia has taken further steps to liber-alise the foreign exchange administrationrules. Now, both ringgit and non-ringgitdenominated instruments can be issued inthe country’s capital market. To reduce thecost of Shari’ah-compliant bonds issuance, a number of tax deductions, or evenexemptions in some cases (for example,non-resident investors receiving profits anddividends from ringgit and non-ringgitIslamic instruments issued in Malaysia areexempt from withholding tax), have beenintroduced. In addition, Dr Aziz pointed out that ‘there is a stamp duty exemptionfor ten years on instruments relating toIslamic securities under the MIFC’.

Such innovations have been welcomed byindustry players. According to Dato’ JohanRaslan, executive chairman, Pricewater-houseCoopers (PWC) Malaysia, ‘the widerange of tax exemptions across the Islamicfinance spectrum will further establishMalaysia as a key Islamic finance centre’.PWC is a multinational corporation pro-viding assurance, tax and advisory services,including those relating to Shari’ah-compliant finance.

The human resources factor is also high onthe Malaysian government’s agenda. ‘Whenyou develop an industry from scratch, youconcentrate on talent development andtraining,’ says Ghani. But what is just asimportant is ‘the experience gained fromworking in a very robust and dynamicIslamic banking industry for the last 24years’. Even without formal training, a lotof Malaysian bankers are very sought-after,both in the country and abroad, thanks totheir level of expertise and hands-onexperience.

Among the most recent measures adoptedby the country’s government in the field of

I think Malaysia is the onlycountry in the world that has putin place a very comprehensiveset of legislation regulation asguidelines for the industry... So,now it is a matter of the playersdoing the business.

Badlisyah Abdul GhaniCIMB Islamic Bank Berhad


NEWHORIZON Rajab–Ramadan 1428 COUNTRY FOCUS: MALAYSIA

the country, continues Ghani, ‘all sectors of the population are included in main-stream economy activities’.

So what does the future hold for Islamicfinance in Malaysia? In the debt capitalmarket, Islamic papers have alreadysurpassed conventional papers in terms of total outstanding, exceeding 70 per centof the total issuance, with this numberexpected to grow further.

The Islamic banking sector currentlycomprises up to 15 per cent of total bank-ing assets and it is only a matter of timeuntil a similar pattern of substantial growthis observed in the capital markets sector.The government’s target is 20 per cent by2010 and the expectation is that it willcomprise half of the total market by 2015.

‘In the next few years Islamic banking willbecome one of the main components of thefinancial market in Malaysia, if not themainstream,’ Ghani believes. ‘It is definitelyhere to stay.’

human resources is an ‘executive green light’ given to the MIFC secretariat by thecountry’s immigration department to speedup applications for long-term work permitsfrom expatriates. This, according to Dr Aziz,‘will hopefully facilitate the greater move-ment of talent and expertise in the area of Islamic finance in Malaysia’.

Industry players agree unanimously that the country’s government is very committedto facilitating the growth of the Shari’ah-compliant financial sector. Issuing securities(the Government Investment Issue, GII), was among the Malaysian government’searly initiatives to help Islamic banks meetliquidity requirements (GII are considered to be liquid assets) and invest their surplusfunds. And, no less important, it allowed the banks to invest according to Shari’ahlaw. The rates of return, regularly set by a dividend committee, consisting ofrepresentatives from various financial andeconomic government bodies, vary de-pending on a number of factors (e.g. theinflation rate and macroeconomic conditionsat the time).

Islamic Interbank Money Market (IIMM) is a good example. It is described as ‘a short-term intermediary to bridge betweenthe Islamic banks and SPI [Skim PerbankanIslam or Islamic Banking Scheme] instit-utions and their instruments’ by the centralbank.

‘I think Malaysia is the only country in the world that has put in place a verycomprehensive set of legislation regulationas guidelines for the industry,’ says Ghani. In addition to the afore-mentioned legis-lative acts and changes to already existinglaws, the government has also introducedguidelines on the reporting framework ofIslamic financial institutions and guidelinesfor the Shari’ah committee management offinancial institutions. According to Ghani,Malaysia is the only country to have IslamicIPO guidelines and is the first country tohave an Islamic stock exchange. ‘We are notjust talking about it or considering it, it hasalready been put in place,’ he states. ‘So,now it is a matter of the players doing thebusiness.’

Another major aspect that distinguishes theMalaysian Islamic finance market is that itsgrowth and development do not depend onoil wealth, which is largely the case in theGCC countries. ‘In Malaysia, it has nobearing or correlation whatsoever with oil wealth,’ affirms Ghani. The country’sShari’ah-compliant industry was developedpurely from the perspective of economicinclusivity.

He explains: ‘When we first starteddeveloping the industry, we wanted toensure that Muslims in Malaysia wouldhave the ability and the means to accessfunding, and from there to be included inmainstream economy activities. Too manyMuslims at that time were not banking butinstead keeping money “under the pillow”.So, we started the whole industry from adevelopment perspective.’ This strategycontinued and the ‘benefits are clear to beseen’. Now that the Malaysian financialmarket is ‘fairly robust in both convent-ional and Islamic’ sectors and there is a‘stable social and political environment’ in

Ubudiah Mosque, Malaysia


NEWHORIZON July–September 2007ANALYSIS

increased from 43 per cent in 1999 to 53per cent in 2005. This was followed byIslamic banks, whose share increased from32 per cent in 1999 to 39 per cent in 2005.

Total financing has reached RM67.4 billion($19.34 billion), recording an increase of391 per cent compared to 1999 with asharp rise witnessed in consumer spending.Two major components stand out as themajor drivers for this sector: purchase ofresidential property and purchase ofpassenger cars.

As for the major financing concepts, creditsales (bai bithaman ajil, ijara, murabaha,and istisna) remain dominant in theMalaysian market. The 2005 BNM AnnualReport shows nearly 70 per cent of thefinancing granted by Islamic bankinginstitutions as sales and lease-based modes.The major financing concept is still baibithaman ajil even though its market sharedecreased from 48 per cent in 2001 to 41per cent in 2005. In second place is ijara,which increased from 27 per cent to 32 percent during the same period. Murabahacomes in third place with its market sharealmost the same during that time (7 per centin 2001 and 6.9 per cent in 2005).Musharakah and mudarabah continue torepresent a very small percentage (1.4 percent in 2001 and 0.3 per cent in 2005).

The asset quality of the Islamic bankingsystem has further improved during theperiod from 1999 until 2005. Although theabsolute figure of non-performing financinghas increased, the non-performing financingratio as a percentage of total loans hasdecreased. The net non-performing

Looking through the Islamic windowTamer ElGindi, economist for the Japan External Trade Organization, examinesIslamic banking in Malaysia, and the performance of eight banks that offer bothconventional and Islamic banking.

Malaysia is classified by several economistsand analysts as a hybrid market in the fieldof Islamic finance. With the introduction ofso-called ‘Islamic windows’ in 1993,conventional financial institutions gained anopportunity to tap into the Islamic segmentof the country’s financial market.

The development of Shari’ah-compliantfinance in the country was not just throughthe establishment of Islamic banks, therewas a complete framework adopted by theMalaysian government represented in itscentral bank, Bank Negara Malaysia(BNM). BNM publishes annual reportswith regard to the financial system as awhole, in addition to a specific section onIslamic finance. The figures used hereregarding the general analysis are limited to2005, as the 2006 BNM Annual Reportdoes not separate Islamic bankingoperations.

The Malaysian financial system

The economic expansion witnessed in theMalaysian economy is reflected in thefigures of its financial system. During 2006,the current account remained in surplus, thesavings rate remained high, internationalreserves increased, and external debtdeclined. The largest component in thebanking system is commercial banks,followed by BNM, then Islamic banks. The share of commercial banks stood at44.1 per cent of the total financial system in 2005, while the share of Islamic banks’assets reached 2.3 per cent during the sameperiod. There is an ongoing focus by theMalaysian government on expanding theIslamic financial sector, and this was seen

in the establishment of four additionalIslamic banks during 2005.

The performance of the Islamic banking system in Malaysia

The Islamic financial system has beenshowing impressive results in recent yearsand BNM has been able to incorporate itinto the overall financial system. Accordingto the 2005 BNM Annual Report, themarket share of the Islamic financial systemin Malaysia has expanded. The marketshare of Islamic assets has increased toreach 11.3 per cent of total assets, depositsreached 11.7 per cent of total deposits, andfinancing reached 12.1 per cent of totalfinancing.

In terms of profitability, net income of theIslamic banking sector reached RM3.2billion ($0.92 billion) in 2005, recording a134 per cent increase compared to 2001. Atthe same time, pre-tax profits increased toreach RM1.5 billion ($0.43 billion) in 2005with an increase of 338 per cent comparedto 1999. The better profitability hasresulted in an increase in return on assets,which reached 1.5 per cent in 2005 (1999:1 per cent), and an increase in return onequity which reached 21 per cent (1999:17.5 per cent).

In terms of assets, these exceeded theRM100 billion benchmark for the first timeand reached RM111.8 billion ($32.08billion) at the end of 2005, signalling a 209per cent increase compared to the RM36.1billion ($10.36 billion) in 1999. The largestmarket share of total Islamic assets remainsin commercial banks. Their market share


NEWHORIZON Rajab–Ramadan 1428 ANALYSIS

financing ratio has declined from 8.2 percent in 1999 to 6 per cent in 2005.

Finally, there was ample liquidity in theIslamic banking system with total depositsrecording a 238 per cent increase from1999. The major bulk of deposits remain in Islamic banking system (IBS) commercialbanks followed by Islamic banks. IBS com-mercial banks along with Islamic banksconstituted 81.7 per cent of the total sectorin 1999, which later increased to 93 percent in 2005.

Analysis of the performance of the banks

The following analysis of the performanceof the eight commercial banks that offerIslamic financial services alongsideconventional services, for a period of eightyears, is based on their audited annualstatements from 1999 to 2006. The banksreviewed are: Standard Chartered BankMalaysia Berhad, Overseas ChineseBanking Corporation Limited (OCBC)Malaysia Berhad, HSBC Bank MalaysiaBerhad, Affin Bank Berhad, CitibankBerhad, AmBank Group, Maybank, andHong Leong Bank. The analysis ofperformance focused on three areas:profitability, liquidity, and asset quality.

Return on assets, return on equity, andreturn on deposits were all higher in Islamic banking operations compared toconventional ones. This supports theargument that better and more efficientmanagement is able to turn customers’deposits into net earnings and profits.

It also supports the view that Islamic bankswill tend to seek to invest in the mostprofitable projects since they know, forgranted, that profits will not accrueregardless of the status of the project.

Liquidity ratios have also shown superiorperformance in favour of Islamic bankingoperations. This is very consistent with thebelief that Islamic banks do not dependmainly on loans as is the case in theconventional system. In the conventionalsystem, loans represent an essential part in

the well-being of the bank. As a result, lesscash is available at those banks comparedto Islamic ones. Once again, this issupported by the higher cash deposits ratiorevealed in Islamic banking operationscompared to conventional ones. Islamicbanks also face less financial pressure asthey do not engage in the excessive loansthat their counterparts do. However, it must be mentioned in this regard that a bigproportion of Islamic banking operations is dominated by credit sales methods suchas bai bithaman ajil, ijara, and murabaha.Although these types are classified as debt-based modes, there is one major differencebetween them and their conventionalcounterparts. In the conventional system,the majority of the loans are used for thepurpose of establishing new projects orrefurbishing old ones and a smaller part is used for personal credit. In Islamicbanking operations, most if not all debt-based modes are used for personalpurposes. These types of financing areusually less risky than project financing.

The dominance of credit sales in Islamicbanking operations does stand in the way ofsome additional benefits though. These arethe benefits that are not purely economicbut social as well, being partnerships thatrepresent a commitment to society. On thecontrary, with credit sales most of thebenefits usually accrue to a specific personor household who would like to acquire acertain commodity or property.

Asset quality ratios also reveal superiorperformance in favour of Islamic bankingoperations. The lower net non-performingloans (NPL) ratios for Islamic banking

operations reveal better asset qualitymanagement. In this regard, there is one major reason that could help explainthe lower ratios seen in Islamic bankingoperations compared to conventional ones. In the conventional system, a bigproportion of the loans offered to clientsare business loans. Should economicconditions deteriorate or a project facedifficulties, the investor will not be able to repay the initial loan, not to mention the compounded interest sums. A smallerproportion of loans are offered to cust-omers for personal needs. In Islamicbanking operations, most of the debt-based modes are for personal usage. Therisk evident in this type of financing is to some extent lower than that taken for theestablishment of new projects. As a result,net NPL ratios are lower in Islamic bankingoperations compared to conventionaloperations.

Islamic banks also encounter a smaller ratioof write-offs as a percentage of total assetsbecause Islamic banks are consideredpartners in the projects in which they areengaged. Thus, there is no incentive forthem to write off any of their accountswhen a project faces difficulties. On thecontrary, they are likely to wait until theproject adjusts itself and profits return to accrue once again.

In conclusion, the data used here hasproved the superiority of Islamic bankingoperations compared to conventional onesand emphasised the negative outcomes ofsuch a debt based system compared to thebenefits of an Shari’ah-compliant finacialsystem.

CONVENTIONAL BANKING ISLAMIC BANKING

Return on Assets 0.94% 1.30%

Return on Deposits 1.20% 1.69%

Return on Equity 13.47% 16.20%

Cash Deposits Ratio 17.38% 18.93%

Loan Deposits Ratio 77.69% 66.08%

Write Offs -1.31% -0.43%

Non-Performing Loans 7.57% 5.02%

perception of it as being so based) is criticalto the sustainability and differentiation of the Islamic finance industry.

Private equity – the elusivemusharakah solution?

As in certain forms of the conventional private equity market, the concept ofrisk/profit and loss sharing is an importantfundamental principle of Islamic finance –the principle of musharakah. The Arabicterm musharakah is not actually found inclassical Islamic texts on fiqh (jurispru-dence) and was coined later within texts relating to Islamic financing modes. Fiqhtexts refer to the concept of ‘shirkah’ whichis translated as meaning ‘sharing’ and issub-divided into two categories: shirkatul-milk (the joint ownership of a particularproperty by two or more people); andshirkatulaqd (joint commercial enterprise).

Whilst the principles of Shari’ah require that loss must be shared in proportion tothe capital invested, whereas profit sharecan be set at agreed levels, in general the Islamic model for business financing encourages profit and loss sharing throughequitable financial and contractual arrange-


NEWHORIZON July–September 2007ACADEMIC ARTICLE

The importance of equity-based solutions to the Islamic finance industry

While growing rapidly, the Islamic financeindustry today faces a number of challenges.This is unsurprising, perhaps, given its age.Academics and industry practitioners alikehave identified a number of issues, rangingfrom an absence of secondary markets, a lack of consistency and uniformity ofstandards within Shari’ah compliance to the shortage of qualified professionals withan adequate understanding of both theIslamic and the conventional sides of theequation.

A key challenge, increasingly cited, is theperception of Islamic financial products asbeing overly engineered and mimickingconventional products. Previouslyunaccepted products, such as derivativesand hedge funds are coming to the fore. Inaddition, the extensive use of tawaruq andother structuring methods to create cashloans is raising the question as to theauthenticity and direction of the industry.Many analysts are referring to thephenomenon of ‘Shari’ah arbitrage’, class-

Private equity – modern day musharakah?

Islamic finance has been widely acclaimed as the fastest growing sector within the financialarena. Much of this development has occurred within the debt and related capital marketssectors – sukuk, commodity murabaha, and so on. In the mainstream financial world, a parallelarea which has also witnessed incredible growth levels in recent years is the private equity (PE)sector. Now accounting for nearly a quarter of the UK workforce, the meteoric rise of the PEplayers has not gone unnoticed. Omar Shaikh of Ernst & Young’s Private Equity TransactionAdvisory Services practice, explores some of the interesting parallels between these twopreviously obscure, but now high profile, mainstream alternative financial products.

ing Islamic products as another series ofstructured products, which create‘wrappers’ to overcome restrictions.Indeed, grass root opinion in the UKstruggles to deal with the benchmarking of Islamic home financing against LIBOR.

The argument that Islamic home financingcharges a ‘profit or rent rate’ not an interestrate begins to lose credibility when usersrealise that the ‘profit or rent rate’ isbenchmarked against interest rates.

A number of industry practitioners, such asIqbal Khan (founder and ex-CEO of HSBCAmanah), believe that a change in mindsetis called for, by which Islamic productswould become ‘Shari’ah-based’ as opposedto ‘Shari’ah-compliant’. Similarly, TariqSheikh (founder of RHT Partners)comments that ‘in essence Islamic finance is an equity-based, not debt-based system,and we need to develop Islamic productswhich are more in line with the “spirit” ofthe law, as much as they currently are withthe letter of the law.’

A banking system based on faith andcredibility (and more importantly the


NEWHORIZON Rajab–Ramadan 1428 ACADEMIC ARTICLE

ments. On the face of it, the private equitymodel seems to provide a naturalmusharakah-based solution with a proventrack record of success within the conventional system.

Demystifying private equity

The term ‘private equity’ represents adiverse set of investors who typically take a majority equity stake in a private limitedcompany.

In Europe, the term ‘private equity’ issynonymous with ‘venture capital’ and isused to cover funding at all stages of abusiness life cycle. In the United States,‘venture capital’ refers specifically toinvestments in early stage and expandingcompanies, whilst ‘private equity’ relates to involvement in more mature businesses –through management buy-outs and buy-ins,for example.

PE firms are typically structured aspartnerships with two key components: the General Partnership (GP), that is, themanagement team responsible for makingthe investment decisions; and the LimitedPartnership (LP), the providers of thecapital. The LP commits funding and allowsthe GP to draw down as required forinvestments that meet an agreed profile. A hurdle rate is typically set by the LP torepresent a minimum investment returntarget for the GP. Returns in excess of thisare split with the GP on a pre-determinedrate (often referred to as ‘carry’).

An alternative asset class

Traditionally, PE sits within the broaderfinancial investment spectrum as analternative investment class, as representedin the table below. This table has beenadapted from a special paper on ‘Why andhow to invest in private equity’, publishedby the European Private Equity and VentureCapital Association (EVCA).

The deal process

Private equity provides medium- to long-term finance (usually three to seven years),

in return for an equity stake in potentiallyhigh-growth, unquoted companies. In thecourse of the holding period, the focus ofthe PE firm is to improve the profitability of the company, hence increasing the valueupon exit. A study on PE exits in 2005,conducted by Ernst & Young’s commercialadvisory team, analysed the key techniquesused by PE firms to increase value andmeasured the impact of these on the internalrate of return (IRR). Results showed thatthe top three interventions by an active PEfirm leading to value creation lay in:

❏ Restructuring part or all of the business

❏ Changing the CEO and/or the CFO

❏ Effecting cost improvements

Industry challenges facing PE

Recent market sentiment, coupled with theinherent risks of unprecedented levels ofgearing in an environment characterised by creeping interest rates, has producedsignificant public concern around the tacticsof the PE firms. Old baggage and negativeconnotations associated with the leveragedbuy-out (LBO) firms of the past, appear tobe resurfacing, with strap lines such as ‘PE –locust or lifeline?’ being used by thebusiness press.

The market impact, control and taxmitigation techniques used by PE firms are currently the subject of considerableregulatory and government scrutiny in theUK. This is placing more pressure on PEfirms to increase their level andtransparency of reporting, and is alsoprompting changes in tax laws to capture a

greater share of the bonus payouts earnedby the GPs’ ‘carry element’ upon exits. Perhaps one of the biggest challenges facing PE firms is that they have fallenvictim to their own success, to the extentthat there are a number of new players inthe PE arena – hedge funds, for example.This has culminated in an environmentwhere too much capital is chasing too fewquality deals.

The Middle East private equityexperience

Since Islamic finance is more mature withinthe Gulf region, it is interesting to see howthe PE industry has developed there and toreview current developments in that region.

The ‘sell down’ model

The PE structure described in an earliersection is in common use in the UnitedStates and Europe. Some Middle East-basedfunds, however, use a ‘sell down’ model.Here, the LP is represented by a consortium,typically of tiered high net worthindividuals. The GP will identify the target, undertake the due diligence, agreeprinciple terms with the investor group andthen make the acquisition. Normally, the GP will mark up the price before sellingdown the stake to the various investors, as per the pre-agreed terms.

The petrodollar influence

The current increase in the petrodollar has made the Middle East region flush withliquidity and has resulted in an enormousamount of infrastructure investment andcorporate acquisition activity, both regional

Commodities

Currencies

Interest Rates

Natural resources

Alternative Investments

Private Equity

(VC)Growth capital

Buy-outMezzanine Capital

Hedge Funds

Long/shortGlobal MacroEvent driven

Arbitrage

Real Estate

OfficeRetailREITS

Residential

36 IIBI www.newhorizonislamicbanking.com

NEWHORIZON July–September 2007ACADEMIC ARTICLE

and overseas. Examples of this activity are:Travelodge and the Doncasters Group, bothacquired by Middle East investor, DubaiInternational Capital (DIC); and the recentacquisition of Aston Martin by InvestmentDar, the Kuwait-based Islamic PE firm.

Analysts have estimated that the regioncurrently has approximately $1.5 trillion ofexcess liquidity. Part of this cash has beendirected towards Shari’ah-compliantinvestments resulting in sukuk issues beingcommonly oversubscribed and Islamicbanks being highly capitalised.

A report by the Gulf Venture CapitalAssociation (GVCA) indicated that $7.1billion had been raised in PE funds in 2006,up from $4.3 billion in 2005. Total PE fund sizes have reached $14 billion, whichis a significant increase over the $78 million experienced in 2001. Earlyindications show that this growth rate iscontinuing with funds over $9 billionhaving already been raised in the first half of 2007.

Increase in overseas interest

The Middle East is seeing increased interestfrom overseas players attracted by the

impressive growth rates in the region. In the past year alone, a number of multi-national banks have opened offices in theGulf and analysts at HSBC estimate thatnearly one third of global project financespend is currently going into Middle Eastprojects. The Carlyle Group has alsoopened offices in Dubai from which it intends to increase its participation in regional PE deals.

The Survey of Limited Partner Interest in Emerging Markets Private Equity, conducted by the Emerging Markets Private

Equity Association (EMPEA) in April 2006found that, of the 300 LPs contacted, 65 per cent of respondents expected to increase their commitments to the emergingmarkets within the next five years. Portfoliodiversification was cited as a key reason.

Shari’ah-Compliant private equity

A study carried out by CORECAP showedthat Islamic PE promised to be one of thefastest growing areas within the PE and Islamic finance spaces. Fund-raising activityhas increased with over $4 billion of Islamicfunds announced in 2006. The Middle East region is seeing a number of new Shar-i’ah-compliant boutique firms springing up:Venture Capital Bank, which launched a $100 million real estate fund; and RHTPartners, which was involved in theAED750 million Dubai Madaares educationdeal. Abraaj, an established regional player,also raised a $2 billion Shari’ah-compliantfund towards the end of 2006.

In an environment of rising interest ratesand pent-up demand in the Shari’ah space,the possibility of using Shari’ah-compliantfinancing as ‘tranches’ within conventionalPE transactions presents an interesting opportunity. Many Middle East investors

are attracted to the idea of partnering withthe likes of Blackstone, KKR, Apax and Per-mira and, as with sukuk financing, if theprice and structure is right, Islamic financecould provide a useful source of diversifiedfunding for conventional PE firms.

Conclusion

Like private equity, Islamic financecontinues to enjoy a period of stronggrowth. PE provides an attractive outlet for musharakah-based investment forinstitutional Islamic funds. This is resulting

in a greater number of Islamic banksbecoming involved in PE deals by setting up their own PE funds. Islamic banksshould be aware however that the PE modelrequires a broader mindset which extendsbeyond financial engineering to includeoperational improvements, as this is a keyarea for driving value. To engage effectivelyin PE deals, Islamic banks need to ensurethat they have the appropriate resources –experienced individuals with proven trackrecords or, alternatively, they shouldconsider partnering up with existingboutiques or deploying a ‘fund of funds’approach.

At a community level

From a UK community perspective, thecross-over into the retail and SME marketremains a key challenge. Perhaps Islamicfinance can take on a pioneering role in this segment by adapting early stage PEtechniques and applying them to the owner-managed, small business market,that is, businesses below £1 million ($2 million) in value. This is where themajor part of the UK business community‘grass-roots’ need lies.

The challenge is open to the Islamic financeindustry and practitioners to successfullypioneer a new form of financing. The likesof conventional PE, addressed with Islamictenets firmly in place, should result in thebest of both practices.

The opportunity to innovate, as opposed toimitate, has never been more timely, as thesector is embryonic and not fixed in itsstructures. Creating a new identity, rootedin strong financial success, and changing the current paradigm will go a long waytowards differentiating Shari’ah-compliantfinance and adding credibility to theindustry.

This is what the PE asset class has managedto do in the conventional sphere and, as aresult, the Islamic finance industry at largecan take great hope and inspiration thatsimilar equity-based success is achievable in its own market.

The likes of conventional PE, addressed with Islamic tenets firmly in place, should result in the best of both practices. The opportunity to innovate, as opposed to imitate, has neverbeen more timely...



form, as these often appeared tomimic conventional structures.

In the next session, Dr Dar gave some practical examples of innovation from the industry.He drew attention to the waydevelopments had been achi-eved gradually, in incrementalsteps, and highlighted areaswith the potential for furtherinnovation.

Ms Rahim followed with adiscussion of the various legal issues encountered whenstructuring Islamic financialproducts. As the prevalent civillaw is not always compatiblewith Shari’ah law, hurdles andchallenges can crop up from a legal perspective whenstructuring products – in bothMuslim and non-Muslimmajority countries. Ms Rahimexplained some of the problemsand possible solutions for these,with the help of examples.

In the ensuing session shedescribed an innovativeoverdraft facility, elaborating on its underlying structure andworkings, and explaining thebasis of its Shari’ah-compliance,while touching upon issuesrelating to the facility, which are regarded by some ascontentious.

Dr Dar took back the Chair to talk about the task ofstructuring Islamic structured

IIBI NEWS

Mohammad Shafique, IIBI editor of NewHorizon and programme development co-ordinator,presents a summary of this three-day residential workshop organised by the Insitute and held on 10th–12th August 2007 at Clare College, Cambridge, UK.

Structuring Innovative Islamic Financial Products

The shortage of well-trained and skilled personnel, with athorough understanding of boththe theory and practice ofIslamic finance, together with a belief in the concept and totalcommitment to it, is one of themajor obstacles to the growth of Islamic finance. While theindustry is growing at a rate of15–20 per cent per annum, theaddition of new products tomeet the needs of existing andnew customers in a highlycompetitive global financialenvironment is key tomaintaining and boostingbusiness.

This three-day interactiveworkshop focused on issuesaffecting the development and evolution of the Islamicfinancial sector in the context ofinnovation in Islamic financialstructures and techniques. Thepresentations and lecturessought to define the underlyingtechniques used in developinginnovative Shari’ah-compliantproducts and structures, toexplore the legal issues faced in structuring these productsand to develop skills to helpfoster innovation in Islamicstructures with the help of reallife examples from the industry.

There have been significantdevelopments in Islamicstructured products recently –funds of different types (hedgefunds, private equity and

multiple asset class platforms)and capital market structures,as well as retail, corporate andinvestment banking products.The aim of this workshop wasto introduce participants tothese new developments, whileat the same time engaging themand encouraging dialogue anddiscussion. Examples ofdifferent types of structures

were put forward in every case,to help participants to improvethe skills needed for innovationin Islamic finance.

The workshop was run by DrHumayon Dar, CEO of BMBIslamic (a London-basedShari’ah advisory firm) and aprominent Islamic economistwith considerable experience in Islamic financial innovation. Dr Dar was assisted by DrSalman Khan and Ms HalizaAbd Rahim.

After providing an overview of the workshop, Dr Dardiscussed the prerequisites and key ingredients of Shari’ah-compliant innovation. Theseincluded knowledge of cutting-edge developments in thefinancial sector allied with adeep understanding of Shari’ahand a grasp of the needs ofpotential customers.

Workshop group photo

Dr Khan then explored anumber of innovativedevelopments in Islamic retailbanking products, with a majorfocus on consumer finance.Although products were beingoffered by Islamic banks underdifferent names, the coreprinciples were often eithermurabaha or tawaruq (or baial-ina in the case of Malaysia).A number of highly pertinentquestions were raised byparticipants as to the substanceof the products rather than the

in association with the IIBI. Theupdated logo with its new colourpalette, imagery and typeface, isa clear evolution from earlierversions, yet at the same time it retains some of the mostrecognisable components of theold appearance.

It was important for the IIBI topreserve the crescent shape andthe IIBI letters but, equally, togive it a more contemporary feel. Although the crescent shape isnow an internationally acknow-ledged symbol of Islamic faith, it pre-dates Islam by severalthousand years.

The Institute of Islamic Bankingand Insurance (IIBI), serving theIslamic finance industry since1991, has introduced a newlook and updated its logo aspart of its rebranding strategy.

The aim is to enhance the IIBI's brand recognition bothnationally and internationally.Potential funders and

supporters of the Institute will also recognise a fresh anddynamic style which it is hopedwill encourage them to supportthe organisation's futuredevelopments.

The project was carried out by Gavin Krasner of UK design consultancy firm, Spring London(www.springlondon.com),


NEWHORIZON Rajab–Ramadan 1428 IIBI NEWS

products. This is one of themost controversial areas inIslamic finance but, increasingly,structured products are gainingacceptance in the market andnew products are beingapproved by eminent Shari’ahscholars.

Dr Dar elaborated on some ofthe structures, related Shari’ahmatters, issues pertaining toliquidity of the products and,above all, marketability issues.

In the following session, DrKhan explained the workings ofShari’ah-compliant hedge funds.

He considered their role andhow they are perceived withinthe overall financial landscape,their potential and whether ornot there is actually a need forsuch financial vehicles in theIslamic financial arena.

Dr Dar continued with adiscussion of recent innovationsin sukuk: the demand, theproducts and the potential ofsukuk in the Islamic financeindustry.

He followed this with anexplanation of fiqh issues instructuring options, forwards

and futures contracts, providingexamples of concepts, needsand the Shari’ah permissibilityof these contracts, based on thesalam contract of sale.

The closing session, deliveredby Dr Khan who was assistedby Dr Dar, offered a step-by-step approach to designinginnovative Islamic financialproducts.

Iqbal Khan, founder and ex-CEO of HSBC Amanah andalso a member of the IIBI’sinformal Board of Governors,was the principal guest on the

final day. He delivered theclosing address on the futureprospects and challenges facingthe Islamic finance industry,highlighting a number of issueswhich will be critical for theindustry’s growth and relevanceto mainstream finance.

This was followed by an award ceremony, in the courseof which Mr Khan presentedcertificates to the participants,who represented financialinstitutions and professionalbodies from Saudi Arabia,Kuwait, United Arab Emirates,Canada and the UK.

Whereas the crescent has beenan identifiable part of the IIBIlogo through-out, the letters IIBIare now more prominent. Onthe one hand the new lookembodies continuity, while onthe other it symbolises newbeginnings.

The combination of threecrescents in the new logoreflects the three key objectivesof the Institute: education,promotion and implementationof Islamic finance in all itsforms.

The IIBI letters are set at anupward angle both to reflect the

IIBI's forward momentum andto acknowledge the Creator.

The Institute’s slogan –'Discover New Perspectives' – is also an integral part of theoverall appearance andperception of the new IIBI

identity. It strives to promotethe Islamic approach in finan-cial dealings, which may also be found in other faiths,offering opportunities to allfinancial institutions and to all individuals to discover new perspectives capable ofdelivering the full benefits of socio-economic justice.

Discover new perspectives

New logo

Previous logo

Previous logo

Previous logo


NEWHORIZON July–September 2007IIBI NEWS/LECTURES

July: The new UK tax law on sukuk

Promoting Islamic finance

Mohammed Amin, partner,PricewaterhouseCoopers LLPdiscussed the changes in Finance Act2007 and its impact on the issuanceand trading of sukuk (Islamic bonds) in the UK.

Mohammed Amin MA FCA AMCT CTA (Fellow) is a tax partner atPricewaterhouseCoopers LLP anduntil recently led its finance andtreasury network. He specialises in the taxation of Islamic finance, and is a member of the Islamic Finance Experts Group, which advises the UKGovernment on Islamic financestrategy.

The lecture was chaired by MrsJosephine Crimmin, assistant directorin CT & VAT Product and Process,Her Majesty’s Revenue and Customs(HMRC).

Sukuk, plural of sakk, are Islamicinvestment instruments which representtheir holders’ undivided ownership interestin the underlying assets and theirentitlement to the revenue from those assets. They have some features of shares in terms of entitlement to ownership but no voting rights, and also some features of conventional bonds (interest-bearingsecurities) by providing income on amonthly or quarterly basis (as set out in the sukuk instrument) from the underlyingassets. However, technically, they are neithershares nor bonds but a hybrid of both, withmore resemblance to bonds. Sukuk are oneof the most rapidly growing types of Islamicfinancial instrument in terms of issuance

levels. In order to strengthen the position of London as a leading global financialcentre in Islamic finance and also to meet its objective of financial inclusion for allmembers of the public irrespective of faith,the UK Government has made changes inFinance Act (FA) 2007 to facilitate theissuance and trading of sukuk, referred to in the Act as alternative finance investmentbonds (AFIB).

After giving an overview of sukuk, Amindiscussed the AFIB legislation in FA 2007.He explained that it was not feasible for the Government to issue separate sets of tax rules for different religious communities e.g. Muslims, Jews, Hindus, Christians etc.Instead, the legislation was drafted inneutral language, although clearly intendedto facilitate the issuance and trading ofsukuk.

He said that AFIB rules treat sukuk asconventional bond securities for taxpurposes subject to certain rules. Forcorporate investors the tax law for loanrelationships is applied and for individualinvestors the tax treatment is similar to that of an interest-bearing debt instrument. No capital gains tax is applicable if thesukuk is sterling denominated and notconvertible into shares. No withholding tax is applicable if the AFIB is listed on arecognised stock exchange. Amin discussedthe criteria for being a recognised stockexchange for the listing of sukuk.

He mentioned that a consequence of theAFIB rules is that, in general, there shouldbe no value added tax or stamp duty landtax/stamp duty on transfers of sukuk. Also,any discount on a sukuk issue is taxableunder the same rules as apply to discountson conventional debt instruments.

Amin then discussed ijara and mudarabahsukuk structures and went on to describethe effect of the AFIB rules on the issuanceand trading of sukuk with these structures if undertaken in the UK.

The Open and Distance Learning QualityCouncil (ODL QC), the UK guardian ofquality for the sector, has accredited theIIBI as a provider of open and distancelearning. The Post Graduate DiplomaCourse (PGD) offered by the Institute is making a positive contribution to theIslamic banking system by equippingstudents with a comprehensiveunderstanding of the concept andoperations of the system. So far, studentsfrom 52 countries have enrolled. The IIBIis currently developing a number of newdistance learning courses, both in Islamicbanking and finance, as well as in Islamicinsurance, as part of its professionaldevelopment programme to provide skill-based education and training tothe industry.

UK-based Durham University has alreadyaccorded recognition to the Institute’sPGD course as an entry qualification tothe University’s research M.A. as well asits modules on Islamic economics andShari’ah-compliant finance.

ODL QC Chief Executive, Dr DavidMorley, welcomed the accreditation.‘Distance learning is the ideal methodwhereby an organisation such as IIBI canreach a global market with an effectiveand authoritative course,’ he said. ‘This isa sector of the financial industry which is rapidly growing in importance; it is apleasure to see the Institute supporting and encouraging that growth with a first-rate provision.’

‘The accreditation by ODL QC is a majorstep forward to Islamic finance educationby distance learning,’ stated MohammadQayyum, IIBI director general. ‘The IIBI isexpanding its range of courses aimed atreaching the largest number globallyseeking to be well-versed in the principles,concepts and practice of Islamic bankingand insurance.’

IIBI receives new accreditation

On developing a secondary market forsukuk, he said that reasonable steps havebeen taken to accommodate the trading ofsukuk in the UK and no further changes areneeded in tax law. However, it may need ahigher volume of issuance to facilitate thedevelopment of a secondary market forsukuk as at present most sukuk are on issue acquired by ‘buy and hold’ investors. He mentioned that the UK Government iscurrently considering whether to issuesterling denominated sukuk.


NEWHORIZON Rajab–Ramadan 1428 IIBI LECTURES

As Islamic banking grows and the volume of the industry increases, more and morefunds are becoming available to be investedon a Shari’ah-compliant basis from investorsranging from the risk-averse to risk-takers.With this development, the need forShari’ah-compliant wealth management is increasing, and continual productinnovation is essential. Islamic investmentcertificates are a fine addition to theShari’ah-compliant investment productrange.

First, Lomonaco briefly described thestructure of Islamic investment certificates.Normally, these certificates are issued in the form of limited recourse certificates,with recourse strictly limited to an equityportfolio held in a trust. The performance of each certificate is linked to an indexwhich represents the performance of aspecific asset class and additional featureslike capital protection and regular dividendscan be added at the request of the investor.Prior to issuance, each Islamic investmentcertificate is submitted to Shari’ah scholarsto receive Shari’ah certification.

He then gave a short outline of the screeningcriteria for Shari’ah-compliant investments,which exclude investment in all haram(prohibited) activities proscribed in Shari’ahlaw. For example, the business activitiesscreen excludes stocks of companiesinvolved in pornography, alcohol, pork,arms dealing, conventional insurance andtobacco, while the financial positioningscreen excludes stocks of companies thathave more than 33 per cent of their marketcapitalisation (based on the 12-monthtrailing average) in any one of the following:

❏ the interest-bearing debt of the company❏ cash and interest-bearing securities of

the company❏ accounts receivable of the company.

He then discussed the level of liquidity inthe Gulf Cooperation Council (GCC) regiondue to high oil prices resulting in demandfor Shari’ah-compliant investment products.

He went on to describe the profile ofinvestors, which ranges from the purists(who want to make investments in a tra-ditional way) to the more progressive andopportunistic Islamic investors (those whowill consider investing in any asset class that is Shari’ah-compliant). He thenexplained some products available toIslamic investors such as the capital pro-tected note on the Middle East IslamicIndex Tracker and Islamic protected noteson commodity baskets and the globalproperty fund.

Lomonaco also explained the mechanism of investment based on an Islamic in-vestment certificate: the investor acquires an Islamic investment certificate and theproceeds are transferred into a trust andinvested in Shari’ah-compliant equities forthe entire duration of the investment. At theend of the investment period, the equitiesare sold to a reputable third party (aninvestment bank) which pays a price thatreflects the initial cost of the Shari’ah-compliant equity portfolio plus a profitcalculated by reference to a benchmark. Anumber of scholars have allowed the use ofa wide range of benchmarks such as Islamicand conventional equity indexes, LIBORrates, commodities and funds, in effectgiving the Islamic investor indirect exposureto these asset classes without actuallyinvesting in them.

After the presentation, attendees askedmany questions which included: how thetarget index is fixed; whether the use ofprofit rate swap with wa’ad is allowed inShari’ah; the secondary market trading ofinvestment certificates; and what the normaltimes to maturity are.

Lomonaco concluded the session by sayingthat, while Islamic investment certificatesmay not be an ideal product from a Shari’ahpoint of view, they have certainly expandedthe investment horizon in Shari’ah-compliant investments and may be in-strumental in further innovation.

August: Islamic investmentcertificates – the latestinnovation in Islamic wealth management

Ruggiero Omar Lomonaco, head ofIslamic investor products at ABNAmro, discussed the importance ofIslamic investment certificates for the Shari’ah-compliant investmentlandscape and how these are filling the huge gap in Islamic investmentportfolios by providing access to assetclasses and pay-off profiles, whichwere until recently unavailable toShari’ah-compliant investors.

Lomonaco is responsible forstructuring and sales of Shari’ah-compliant private investors’ products at ABN Amro. Prior to joining ABNAmro, he was director of the wealthmanagement group at HSBC Amanah,where he spent nine years structuring

and developing a wide range of Islamicinvestment products.

The lecture was chaired by RichardThomas, managing director, GlobalSecurities House (UK) Ltd.

July lecture


NEWHORIZON July–September 2007IIBI LECTURES

Neil D Miller, partner, Norton Rose,presented his views on key issues andassociated risks faced by the Islamicfinance industry and made suggestionsto overcome these challenges.

Miller is head of Islamic finance atNorton Rose, a UK-based internationallaw firm. His practice focuses on alltypes of Islamic financial productscovering a wide range of asset types,investment classes and industrialsectors. He also advises on Shari’ahgovernance issues.

The lecture was chaired by Ms StellaCox, managing director of DDGI Ltd, aglobal investment advisory firm; she isalso a member of the IIBI’s informalBoard of Governors.

September: How riskproof is Islamic finance?

The recent turmoil in the stock marketstriggered by defaults in the sub-primemortgage sector in the US is a reminder of the potential pitfalls of credit practices in the conventional system. This is perhapsa timely opportunity to consider whetherIslamic finance, which prohibits the lendingof money for interest and propagates fairand just practices in financial dealings, islikely to be any more resilient to thesejitters.

After discussing the key structures used inIslamic finance which include trade-basedmodes like murabaha and ijara, agency-based modes like wakala, and profit andloss sharing modes like mudarabah andmusharakah, he explained that the Islamicfinance industry faces two main risks: one is reputational risk (whether the theory of Islamic banking is being reflected in its practice) and the other is banking risk(whether risks are mitigated for its various

financial instruments). He said that whilstIslamic financial theory focuses on profitand loss sharing practices, in reality, themajority of transactions undertaken so farare through trade-based methods (such asthe various modes of murabaha), which maybe Shari’ah-compliant but their substancemay not necessarily reflect the long-termsocio-economic objectives of Shari’ah.Miller explained that the transition fromShari’ah-compliant to Shari’ah-based will,over time, be very important in order toclear con-fusion in the minds of customersand the public, and to silence the critics ofIslamic banking products who complain that many existing products appear toreplicate conventional structures.

He went on to suggest that participants inthe industry need to be aware that while the industry is being sustained by demand-led phenomena at the moment, this couldchange. If the scholars (or the community)

start to require more Shari’ah-basedproducts, the pressure to move away fromtransitional products will grow.

Miller then highlighted several of the tax, legal and regulatory issues which arehindering the implementation of profit andloss sharing structures in many jurisdictions.

Whilst some Muslim majority countries(such as Malaysia and increasingly the Gulf States) have made amendments in their tax, legal and regulatory frameworksto facilitate the growth of Islamic financialinstitutions, there are many countries in theMuslim majority world where less progresstowards enabling the environment forIslamic finance is being made.

A continuing issue stems from the divergenceof Shari’ah scholars’ opinions – although thisis less of an issue when it comes to ruling on transactions because the limited number of scholars actually maintains a degree ofconsistency. Also, it may not be satisfactorythat ad hoc transaction-led fatawa shoulddetermine policy.

Apart from the Shari’ah Supervisory Council of Bank Negara Malaysia (thecountry’s central bank), there is no inter-national or central body to develop andoversee the process of fatwa issuance infinancial matters.

It remains to be seen as the Islamic financeindustry grows whether or not this situationwill lead to structural problems, or if theprocess will evolve towards a satisfactorysolution.

Miller discussed the issue of the governinglaw clause in Islamic financial contracts. This remains an area where difficulties can arise and in the English law context hementioned that advisers need to understandthe implications of the Shamil v Beximcojudgements in this area. In many countries(including Muslim majority countries),Shari’ah law is not always compatible withlocal company law, so care has to be taken to avoid accusations of Shari’ah arbitragewhen seeking to achieve both legal certaintyand Shari’ah compliance.

He also mentioned the need to think moreabout the value of international arbitrationas well as panels with expertise in Shari’ah-compliant finance to resolve issues, especiallyin cross-border Islamic finance transactions.

He concluded the session by stating that, if the Islamic finance industry is to ensure a sustainable long-term future, it mustcontinue to differentiate itself fromconventional finance. Practitioners andShari’ah scholars should consider thesubstance as well as the form whenundertaking and approving Islamic financial transactions and must seek to maintain the robustness and uniquecharacter of Shari’ah-compliant financialproducts.

September lecture

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In addition, the third volume also focuses on the guarantee and commitment business. Wakala (agency), kafalah (surety), rahan (collateral), and takaful (insurance) are integral elements of this business, and are therefore closely interrelated subjects. The contents of this volume will provide invaluable advice as to how Islamic laws are implemented and practiced (or adapted for implementation and practice) by Islamic financial institutions in the modern marketplace.

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NEWHORIZON July–September 2007INTERVIEW

With Islamic finance, it’s all well and goodsaying that you offer ethical, Shari’ah-compliant finance, but you also need theproducts to back this up. The man taskedwith doing this for the Islamic side of Dutchbank ABN Amro is global head of privateinvestor products and Islamic banking,Zafar Alam.

The bank started its Islamic side in Dubainearly three years ago, with its main focusbeing on debt liability and financing. Thisstrategy provided initial success with, asAlam puts it, ‘some substantially large dealslocally in UAE and in Saudi Arabia, but also in a few other places such as Turkey’.Although that focus is still there, theemphasis has now shifted slightly.

According to Alam, the bank is now lookingat ‘asset size and asset investment productsthat are more Shari’ah-compliant and moreacceptable for our own Shari’ah board, aswell as those of other banks who would liketo buy the products’. This shift of emphasiscertainly seems to have paid dividends forthe bank. ‘More and more people want usto give them solutions that are Shari’ah-compliant on the financing side as well asthe investment side,’ says Alam.

So how does a bank like ABN Amro, whichcaters for both conventional and Islamicfinance, set about designing new products?‘Product development always starts withwhat the customer wants,’ explains Alam.‘From customer demand you need to discussa finer solution,’ he says. This is the stagewhen the product team will look to meet theneeds of the customer, whilst still keepingwithin the principles of Shari’ah. ‘Duringthis process you are always directly in touchwith your Shari’ah board.’ At the start of a

project, a basic framework is agreed uponwith the client and Alam says that then,‘you go back to the drawing board and,working with the client, you come up withthe product’. During the productdevelopment stage, ‘you need to draw onyour own knowledge and experience ofIslamic finance to know what is Shari’ah-compliant, and what will be acceptable to your Shari’ah board’.

Alam has experience developing productsfor conventional banking, as well as Islamicfinancing. Even though he says there are‘large differences’ between developingproducts for the different forms of finance,there is an overlap when it comes toexperience. ‘Conventional is much morepublic distribution driven, it is driven bydifferent considerations, yet there is aknowledge base, and you can use thisknowledge capital for Islamic finance,’ he says. ‘In terms of basic products you doget your ideas from what is being sold inconventional finance,’ he explains, ‘but youneed to know what you need to do to makeit compatible with Islamic finance.’ Thisoverlap means that there is some similaritybetween conventional and Shari’ah-compliant products, and it is this linkagethat develops the knowledge capital.

This technique of developing Islamicproducts out of conventional ones issomething that Alam is willing to employ,explaining that ‘we use some of the existingplatform for new Islamic offerings’. There isa ‘common thread’ that runs betweenconventional and Islamic products at thebank. ‘Our practice is to develop indices inthe bank for retail,’ he says. ‘You can copythese indices to make an Islamic side for theproject as well.’ This process of product

Tales from the production line Zafar Alam, global head of private investor products and Islamic banking at ABN Amro, gives NewHorizon the low-down on product development for Islamic finance.

More and more people want usto give them solutions that areShari’ah-compliant on thefinancing side as well as theinvestment side.

Zafar AlamABN Amro


NEWHORIZON Rajab–Ramadan 1428 INTERVIEW

development is proving to be successful,according to Alam, and has led to ‘the mostpopular Islamic product, the LLP structuredindex’.

The product range at ABN Amro hasdeveloped over the last three years. ‘We started out with traditional murabahaand mudarabah products, now we havemoved into sukuk and project relatedfinancing on the asset side,’ he explains.Having started creating its new product line,the bank is not resting on its laurels. Alam isvery aware of the constant drive for newand better Islamic finance products: ‘on thestructured side there’s always something inthe making’.

The bank is not restricted to corporatefinance; it also has a retail presence inPakistan, Malaysia, and Saudi Arabia. Alam and his team have worked ondeveloping consumer finance products and this has led to some interesting newproducts. ‘A lot more work has been doneto come up with an Islamic credit card andmortgage in Pakistan, and we are workingon more things for Malaysia,’ he says.

A good product range is a factor that ishelping to attract investors to Islamicfinance. According to Alam, it is not onlyMuslims who wish to put their money intoinvestments that do not contradict theirfaith, ‘there is a much wider demand thanpurely traditional Islamic investors, it ismuch more widely used’. There are twomain reasons he sees for this. The first is theethical side of Shari’ah-compliant finance:‘Islamic finance is based on ethics, and it’ssomething that is acceptable to conventionalinvestors.’ The second reason is that, forsome markets, Islamic finance is the onlyway for investors to enter. ‘Some of theexposures you want to get in the MiddleEast are only possible through Islamicfinance and Islamic products.’ For ABNAmro this creates a cross-over betweenconventional and Islamic finance clients.‘We see the conventional investor,traditional fund manager and traditionalasset manager using Islamic finance to gainexposure to asset classes they wouldn’tusually get.’

Alam can see a bright future for Islamicfinance, with the bank’s research indicatingthat ‘the total pool of Islamic money hasgrown in multiples; it is closer to $1 trillionin terms of what funds are available’. Alamattributes this growth in part to rising oilprices. ‘This adds capital from thegovernment level, down to the individuallevel, and that tends to have a multiplyingeffect.’ This money in the system means that people are looking for new investmentopportunities, ‘from the traditional short-term trade financing products, to long-term

not exclude European investors from thebank’s Islamic offering. According to Alam,‘in terms of distributing the product, we dothat for investment products on theinstitutional rather than retail side’.

Product development, it would seem, is anarea that will keep driving the success anduptake of Islamic finance. In order to keepdriving this growth, the industry will needmore and more customer-driven innovativeproducts that will expand the Islamicinvestment portfolio.

projects, such as financing in betweenpeople to buy investment products’. This is a shift away from traditionalShari’ah-compliant investments.‘Traditionally, the emphasis on Islamicbanking has been very short-term; theinvestment horizon and commitments arenow becoming longer-term,’ he explains.

At present, ABN Amro is the subject of tworival merger bids, one from UK-basedBarclays, and the other from a consortiumof European banks made up of RBS, Fortisand Santander. The future of the bank at themoment is very much linked to which ofthese bids is accepted. Alam does not believethe Islamic side of the business will beunduly affected by whichever bid issuccessful. ‘The merger partners are allaware of the need from a client side, it’s allabout what the clients are looking for, not aproduct offering,’ he says. One of thebenefits he sees coming out of any potentialmerger is opening up the UK market. ‘The UK is a growing market, but we don’thave a retail presence. It would become animportant market for us with the mergedpartner.’ In fact, at present, the Islamic sideof the bank does not have a retail presenceanywhere in Europe. This, however, does

In terms of basic products you do get your ideas from what isbeing sold in conventional finance... but you need to know whatyou need to do to make it compatible with Islamic finance.


NEWHORIZON Rajab–Ramadan 1428 RATINGS & INDICES

MSCI World Islamic IndexBelow is the performance of the MSCI World Islamic Index over the last month, together withsector performance since inception, sector weights and the Top 20 index constituents, providedby MSCI Barra, an indices, risk and return portfolio analytics provider. Detailed information onthe MSCI Global Islamic Indices can be found on MSCI Barra's website www.mscibarra.com

SECTOR PRICE INDEX IN USD MTD WEIGHTEnergy 1031.051 1.39% 21.34%

Materials 1010.407 -0.29% 12.74%

Industrials 976.467 -0.82% 10.03%

Consumer Discretionary 925.182 -1.03% 9.55%

Consumer Staples 1009.199 -0.44% 8.63%

Healthcare 948.810 0.18% 14.94%

Financials 913.474 0.25% 1.38%

Information Technology 1039.893 0.43% 12.29%

Telecommunication Services 969.048 -0.55% 4.34%

Utilities 949.675 -1.58% 4.75%

SECURITY NAME WEIGHTEXXON MOBIL CORP 3.85%

AT&T 1.92%

BP 1.69%

PROCTER & GAMBLE CO 1.62%

CHEVRON CORP 1.49%

JOHNSON & JOHNSON 1.40%

PFIZER 1.37%

IBM CORP 1.36%

NESTLE 1.34%

VODAFONE GROUP 1.33%

TOTAL 1.26%

GLAXOSMITHKLINE 1.18%

INTEL CORP 1.18%

ROYAL DUTCH SHELL A 1.13%

HEWLETT-PACKARD CO 1.03%

CONOCOPHILLIPS 1.00%

NOVARTIS 0.96%

ROCHE HOLDING GENUSS 0.96%

PEPSICO 0.92%

COCA-COLA CO 0.87%

* as of 05/09/07



October

Diary of Events

18–20: 20th FAIR Conference, MarrakechConference to focus on opportunities and threats in conventional and Islamicinsurance and reinsurance in the participantmarkets of the Federation of Afro-AsianInsurers and Reinsurers (FAIR). Tel: +212 2246 0400Email: [email protected]

22–23: Product Development Forum inBanking & Finance, DubaiConference to focus on successfuldevelopment of financial products forconventional and Islamic banking, and to look into the best practices in new-agetechnology product development.Tel: +971 4361 6111Email: [email protected]

24–25: Islamic Finance in North America,New YorkConference to focus on growth potential for Islamic finance in North America, theregulatory and compliance issues, andcurrent innovations in Islamic financialproducts.Tel: +1 973 256 0211Email: [email protected]

28–31: 2nd Saudi Insurance Summit,JeddahSummit to cover current developments of the industry (conventional and Islamic) in the country, including significantregulatory issues. Tel: +971 4335 2483Email: [email protected]

28–1 November: The 2007 Middle EastRetail Banking Forum, DubaiConference to focus on the key issues ofconventional and Shari’ah retail banking in the Middle East. Tel: +971 4335 2437Email: [email protected]

29–30: Product Innovation in IslamicFinance, LondonConference to focus on innovative Islamicinvestment products, their structures andthe methodology behind them. Contact: Ms Bernardine MichaelTel: +603 2723 6604Email: [email protected]

29–1 November: The International IslamicFinance Forum Europe, ZurichForum to focus on expansion of Islamicfinance in the European market, includingdevelopment of sukuk and Islamic wealthmanagement and private banking.Tel: +971 4335 2437Email: [email protected]

30–31: Africa Islamic Finance Conference,JohannesburgConference to discuss the progress ofIslamic finance in Africa and to learn about the new investment destination.Contact: Ms Sarita SinghTel: +971 4336 2992Email: [email protected]

CALENDAR

31–1 November: Islamic FinancingInstruments Asia 2007, Kuala Lumpur

Conference to address thequestions and issues relating toIslamic finance and the strategies

in capitalising on opportunities in Asia.Tel: +603 2070 3299Email: [email protected]

November

New York

1–2: International Takaful Summit 2007,LondonSummit to increase awareness of Islamicinsurance principles and practices,encourage open and informal debate and provide understanding of differentviewpoints.Tel: +44 (0) 20 8426 0936Email: [email protected] www.takafulsummit.com

4–5: The World Islamic InfrastructureFinance Conference, Doha2nd annual conference to address Islamicfinance infrastructure development andprovide insights into the latest mechanismsfor financing complex transactions.Tel: +971 4343 1200Contact: Anu ThomasEmail: [email protected]

Jeddah



Events endorsed by the IIBI

CALENDAR

4–7: Middle East Islamic Banking &Finance Summit, DubaiSummit to focus on key issues, latestdevelopments and trends in the industry in the Middle East and internationally.Tel: +971 439 761 47/48Email: [email protected]

6–7 November: Islamic Real EstateFinance Forum, LondonConference to focus on Islamic housingfinance and Islamic real estate finance,including development, market trends,opportunities and performance of thesesectors.Tel: +44 (0) 20 8209 1751Email: [email protected]

7: Islamic Financial Intelligence Summit,London

Summit to cover the key issues,developments and opportunities inIslamic finance around the world.

Tel: +44 (0) 20 7775 6653Email: [email protected] www.ftglobalevents.com

12–15: Islamic Finance & Investment WorldAfrica 2007, JohannesburgConference to cover Islamic finance trendsand developments in Africa and across theglobe. Contact: Brian ShabanguTel: +27 11 463 6001Email: [email protected] www.terrapinn.com

12–15: Islamic Funds World 2007, DubaiConference to focus on Shari’ah-compliantfunds, capitalisation on the growing Islamicsukuk market and the prospects of furtherdevelopment of the industry; it is also toinclude the inaugural Master of IslamicFunds Awards ceremony.Contact: Ms Felicia SunTel: +65 6322 2770Email: [email protected] www.terrapinn.com

18: Islamic and Ethical Finance, DubaiConference to examine the positioning ofthe Islamic finance industry, and how tobroaden its appeal to socially-awareconsumers around the world.Tel: +971 4362 2438Email: [email protected]

18–19: AAOIFI–World Bank AnnualConference on Islamic Banking andFinance, BahrainConference held by Accounting andAuditing Organisation for Islamic FinancialInstitutions (AAOIFI) in partnership withthe World Bank to focus on standards andcharacteristics of the industry.Tel: +973 1724 4496www.aaoifi.com

19–21: Global Credit & Operational RiskForum 2007, Singapore

Forum to address critical issuessurrounding credit and operationalrisks, focus on risk integration

strategies for the market, and present case study examples from around Asia.Contact: Ms Tan Peng PhengTel: +603 2723 6614Email: [email protected]

20–21: International Islamic FinanceCongress, Abu Dhabi

Congress to cover various issues of Shari’ah-compliant finance,including retail banking, project

finance, sukuk, securities and derivatives.Contact: Ms Kirsty ChurchhouseTel: +971 2674 4040 ext 212Email: [email protected]

20–21: The International Financial andInvestment Institutions Forum in Syria,DamascusForum to promote the Syrian financialsector and its capabilities to attract morecapital, including tourist and real estateinvestments in traditional and Islamicbanks.Tel: +963 11 334 2771Email: [email protected]

21: Hawkamah Conference, DubaiConference to promote the development ofstrong financial markets and bankingsystems, and address the issues of corporategovernance landscape in the MENA region.Tel: +971 4362 2559Email: [email protected]

22–23: 4th Annual Bancassurance, India Conference to cover the regula-tory framework governing banc-assurance in India, assess the

reasons for entering the bancassurancemarket, and focus on the effective integration between banks and insurers.Contact: Ms Kelly Lee Tel: +603 2723 6798 Email: [email protected]

Johannnesburg

Damascus


NEWHORIZON July–September 2007CALENDAR

January 2008April 2008

Events endorsed by the IIBI

26–27 November: Asset LiabilityManagement 2007, India

Conference aims to explore thecurrent situation, key drivers,structural issues and latest

developments in ALM.Contact: Ms Kelly LeeTel: +603 2723 6798Email: [email protected]

27–28: 3rd Seminar on the Regulation ofTakaful, CairoSeminar hosted by the Egyptian InsuranceSupervisory Authority to focus on legal and regulatory challenges of the industry,corporate governance, retakaful and otherissues.Contact: Ms Farrah ArisTel: +60 326 984 248 ext 116Email: [email protected]

December

15–16: Seminar on Islamic Finance, Hong Kong Seminar jointly organised with the HongKong Monetary Authority to createawareness of Islamic financial services in Hong Kong.Contact: Ms Farrah ArisTel: +60 326 984 248 ext 116Email: [email protected]

21–22: Islamic Finance Forum, DubaiForum to explore the key tosuccess in the Islamic financeindustry and to establish where

the opportunities lie.Tel: +971 4221 3452Email: [email protected] www.ievents.ae

29–30: Islamovative Finance Asia IQ 2008,SingaporeConference to focus on the current state of play and future prospects for Islamicfinance in Asia and globally.Tel: +65 672 293 88Email: [email protected]

www.ifsb.org

27–28: National Conference on IslamicFinance (NCiF) 2007, Kuala TerengganuConference organised by Universiti DarulIman Malaysia to focus on contemporaryissues pertaining to Islamic finance.Contact: Dr Izah Mohd TahirTel: +60 9665 3758Email: [email protected]

31–1 February: 8th CEO InsuranceSummit, JakartaSummit to focus on conventional insuranceand takaful and challenges facing theindustry’s CEOs. Tel: +65 6224 5583Email: [email protected]

19–20: Eighth Harvard University Forum onIslamic Finance, Cambridge, USA The theme of the forum is ‘Innovation andAuthenticity’. It is to focus on the latestinnovations and developments in the Islamicfinance industry and the long-term impact,scope and authenticity of these ideas in the context of an Islamic community andway of life. Papers are sought in thefollowing areas:• Debt and debt-based instruments• Equity and equity-based instruments• Regulation and supervision• Beyond traditional financial servicesTel: +1 617 496 2296 Email: [email protected]

2–4: 13th Annual International Conference:Arab and Global Banking and FinancialCooperation: Challenges and Prospects,CairoConference to promote and expandArab–global financial cooperation, and to present the Islamic alternative in eachconventional financial activity covered inthe conference. Tel: +962 6550 2900 exts 127, 128, 129Email: [email protected]

5–6: Islamic Financial Services Forum: The European Challenge, FrankfurtForum to focus on recent developments andfuture challenges facing the Islamic financeindustry in Europe and across the world.

Contact: Ms Puteri NoorlelaTel: +60 326 984 248 ext 114Email: [email protected]

5–6: Takaful Conference on IslamicInvestment Management, DubaiConference to focus on how to get bestreturns on investment of takaful funds while being Shari’ah-compliant.Email: [email protected]

8–10: The World Islamic BankingConference, Bahrain

14th annual conference to focuson the key issues and action strategies of the Islamic

finance industry across the globe. Tel: +971 4343 1200Contact: Ms Anu ThomasEmail: [email protected]

Jakarta


NEWHORIZON July–September 2007GLOSSARY

arbounAn Islamic version of option, a deposit for the delivery of a specified quantity of a commodity on a pre-determined date.

bai al-inaThis refers to the selling of an asset by the bank to thecustomer on a deferred payments basis, then buying back the asset at a lower price, and paying the customer in cash terms.

bai bithaman ajil Sale of goods on a deferred payment basis – credit sale;another term used for such sales is bai muajjal. Equip-ment or goods requested by the client are bought by thebank which subsequently sells the goods to the client atan agreed price which includes the bank’s mark-up(profit).

fatwaA ruling made by a competent Shari’ah scholar on aparticular issue, where fiqh (Islamic jurisprudence) isunclear. It is an opinion, and is not legally binding.

fiqh Islamic jurisprudence. The science of the Shari'ah. This is an important source of Islamic economics.

ghararLit: uncertainty, hazard, chance or risk. Technically, saleof a thing which is not present at hand; or the sale of athing whose consequence or outcome is not known; or a sale involving risk or hazard in which one does notknow whether it will come to be or not.

Hajj Pilgrimage to Mecca. Hajj is a duty on every Muslimwho is financially and physically able to carry it out, atleast once in his lifetime. Hajj is performed in the monthof Zulhajjah – the last month of the Islamic calendar.

halalActivities, which are permissible according to Shari’ah.

haramActivities, which are prohibited according to Shari’ah.

ibahaLit: permissibility. Ibaha refers to the rule that everyeconomic transaction is mubah (permissible) unlessexpressly and specifically forbidden by the Shari’ah.

ijaraA leasing contract under which a bank purchases andleases out a building or equipment or any other facilityrequired by its client for a rental fee. The duration of thelease and rental fees are agreed in advance. Ownership of the equipment remains in the hands of the bank.

ijara wa iqtinaThe same as ijara except the business owner iscommitted to buying the building or equipment orfacility at the end of the lease period. Fees previouslypaid constitute part of the purchase price. It is commonlyused for home and commercial equipment financing.

istisnaA contract of acquisition of goods by specification or order, where the price is fixed in advance, but the goods are manufactured and delivered at a later date.

Normally, the price is paid progressively in accordancewith the progress of the job.

kafalahLit: responsibility or suretyship. In kafalah, a third party becomes surety for the payment of debt. It is acovenant/pledge given to a creditor that the debtor will pay the debt or any other liability.

mudarabahA form of business contract in which one party bringscapital and the other personal effort. The proportionateshare in profit is determined by mutual agreement at thestart. But the loss, if any, is borne only by the owner ofthe capital, in which case the entrepreneur gets nothingfor his labour.

murabahaA contract of sale between the bank and its client for thesale of goods at a price plus an agreed profit margin forthe bank. The contract involves the purchase of goods bythe bank which then sells them to the client at an agreedmark-up. Repayment is usually in instalments.

musharakahAn agreement under which the Islamic bank providesfunds which are mingled with the funds of the businessenterprise and others. All providers of capital are entitledto participate in the management but not necessarilyrequired to do so. The profit is distributed among thepartners in predetermined ratios, while the loss is borneby each partner in proportion to his contribution.

qard hasan An interest-free loan given either for welfare purposes or for fulfilling short-term funding requirements. Theborrower is only obligated to pay back the principalamount of the loan.

qimar Lit: gambling. Technically, an agreement in whichpossession of a property is contingent upon theoccurrence of an uncertain event.

rahancollateral; technically, it means to pledge or lodge a realor corporeal property of material value as security for a debt or pecuniary obligation so as to make it possiblefor the creditor to recover the debt, in case of non-payment, by selling the pledged property.

Ramadan It is the ninth month of Islamic calendar, during whichMuslims fast; it is also a time for reflection, intensiveprayer and self-restraint.

retakafulReinsurance based on Islamic principles. It is a mecha-nism used by direct insurance companies to protect theirretained business by achieving geographic spread andobtaining protection, above certain threshold values,from larger, specialist reinsurance companies and pools.

salamSalam means a contract in which advance payment is made for goods to be delivered later on.

Shari’ahRefers to the laws contained in or derived from theQuran and the Sunnah (practice and traditions of

the Prophet Muhammad (PBUH).

Shari’ah boardAn authority appointed by an Islamic financialinstitution, which supervises and ensures the Shari’ahcompliance of new product development as well asexisting operations.

shirkatulmilk Partnership by ownership, which could be automatic asin the case of inheritance by eg two brothers, or optionalsuch as two persons purchasing a property jointly (notfor a commercial purpose).

shirkatulaqd A contract between two or more persons who launch a business or financial enterprise to make profit.Generally it is termed as ‘shirkah’.

sukukSimilar characteristics to that of a conventional bondwith the key difference being that they are asset backed;a sukuk represents proportionate beneficial ownership in the underlying asset. The asset will be leased to the client to yield the return on the sukuk.

tabarruA donation covenant in which the participants agree tomutually help each other by contributing financially.

takafulA form of Islamic insurance based on the Quranicprinciple of mutual assistance (ta’awuni). It providesmutual protection of assets and property and offers jointrisk sharing in the event of a loss by one of its members.

tawaruqA sale of a commodity to the customer by a bank ondeferred payment at cost plus profit. The customer thensells the commodities to a third party on spot basis andgets instant cash.

Umra Lit: visiting or attending. It is a mini-pilgrimage toMecca which is not compulsory, but highly recom-mended, and can be performed at any time of the year.

wa’adA promise to buy or sell certain goods in a certainquantity at a certain time in future at a certain price. It is not a legally binding agreement.

wakalaA contract of agency in which one person appointssomeone else to perform a certain task on his behalf,usually against a certain fee.

waqfAn appropriation or tying-up of a property in perpetuityso that no propriety rights can be exercised over theusufruct. The waqf property can neither be sold norinherited nor donated to anyone.

zakatAn obligation on Muslims to pay a prescribed percent-age of their wealth to specified categories in the society,when their wealth exceeds a certain limit. Zakat purifieswealth. The objective is to take away a part of thewealth of the well-to-do and to distribute it among the poor and the needy.

issue no. 165 - julyâ€“september 2007 / rajabâ€“ramadan 1428

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