Islamic Finance – Islamic Capital Market – Sukuk Musharakah
Since both Sukuk Musharakah and Sukuk Mudarabah are equity-based arrangements, they are comparable. However, a Musharakah contract only has certain characteristics. These include I the requirement that both parties to a Musharakah contract contribute capital to the venture; (ii) the requirement that, while a PSR may be negotiated, loss sharing must be proportionate to capital contribution; and (iii) the right of both parties to participate in the management of the venture. An identified business venture, such as improving the amenities at an airport, is funded by both the firm and investors. The capital may be provided in kind, such as forklift vehicles, or in cash. The business and investors will split the profit, if any, in accordance with the PSR that was reached. According to the Tanazul concept of waiver, it is also acceptable to waive some profit in the company's favour. Given that Sukuks are thought to act like fixed-income instruments, investors would expect to receive the expected periodic profit distribution, say biannually. Both the Mudarabah and the Musharakah do not involve debt-based funding. No party is required to make a set payment in the form of income or profit, and the invested capital is not guaranteed.
0 Comments
Islamic Finance – Islamic Capital Market – Sukuk Mudarabah
Mudarabah is a partnership contract whereby one party provides the money and the other provides the management and entrepreneurship skills. The investors, the issuer (which is the company), and the manager (Mudarib), who will oversee the business venture, are all required for a Sukuk structure to collect the required capital. The manager (Mudarib) will not be liable for the loss, unless it was brought on by his negligence or misconduct. These are two additional characteristics of a Mudarabah contract. Neither the capital nor the profit are assured. (iii) the Profit Sharing Ratio (PSR) can be revised with the agreement of both parties. The decision of the investors to forego their right to the profit is based on the principle of Tanazul, a Shari'ah principle that permits one party to a contract to give away his right or entitlement to another party for no consideration. (iv) The capital providers may agree to limit the rate of return, with the remaining amount being given to the manager as an incentive or performance fee. In reality, the business may issue the Sukuk directly or set up a Special Purpose Vehicle (SPV), being a remote entity, to issue Sukuk Mudarabah to facilitate the partnership between the investors and the manager. An SPV is a company that has been specifically established to retain Sukuk assets, keeping them apart from the issuer's other assets. The assets that an SPV typically holds are held in trust for the advantage of the Sukuk investors. This entity cannot be served with a liquidation order by the issuer's debtors. The SPV was established to safeguard the interests of Sukuk investors. The money received from a Sukuk Mudarabah subscription will be used to pay for the venture's company operations. The business could be in the building, manufacturing, trading, service, mining, or oil extraction industries. The investors will receive the earnings, if any, based on a predetermined PSR. As previously stated, investors may agree to limit their profit to, for instance, 10% of the capital even though the profit is based on a ratio or percentage, such as 1/3:2/3 or 30%:70%. The manager will receive the balance as a performance fee after waiving the rest. Islamic Finance – Islamic Capital Market - Sukuk Ijarah is accepted everywhere
Due to the Sukuk Ijarah's representation of ownership rights in non-financial assets, the trading of Sukuk Ijarah has gained widespread recognition. However, this structure does not deserve to be called an asset-backed securitisation. When the originator has a "put option," the asset transfer to the SPV/issuer is not a "true sale," according to the law. Islamic Finance – Islamic Capital Market - The dangers of a Sukuk Ijarah
Investors in Sukuk Ijarah assume two types of risk: the market risk associated with the leased asset as well as the originator's capacity to pay the rental. Most Sukuk Ijarah structures have a clause where the originator agrees, under the principle of Wa'd (a unilateral binding promise), to purchase back the leased asset if the lessee defaults on the rental payments in order to address the market risk problem. The price to be paid is equal to the quantity of the outstanding principal (less the future rental payments, which are payable by the lessee). Future rental payments are waived in any case of default because it is against the law to make the lessee pay the rental without providing a matching usufruct or benefit. This provision, known as a "put option," allows investors to "put to the originator" the chance to buy the rented asset at a predetermined formula. Islamic Finance – Islamic Capital Market - Floating or fixed rent payments
The Sukuk Ijarah's structure allows for either a set or floating rental payment based on a benchmark that is updated prior to the start of a new rental period. Rental will be updated every six months in accordance with the London Interest Based Selling Rate for the Malaysian Global Sukuk Ijarah (LIBOR). As long as the lessee and the lessor consented to this benchmark before signing the lease agreement, it is acceptable according to Shari'ah principles. Despite the benchmark's conventional nature, the structure is still legitimate because it has no dealings with interests. The benchmark serves as simply a point of comparison when determining the fund's cost, which will serve as the foundation for the new rental. The framework contains neither payments nor interest charges. Islamic Finance – Islamic Capital Market – Sukuk Ijarah
The Sukuk Ijarah, which is based on a sale and leaseback idea, was the first Islamic fixed-income instrument or Islamic security to be recognised by the global market. The idea of asset-based securitization was first presented in 2002 when Sukuk Ijarah was developed through the Malaysian Global Sukuk Ijarah. These leased assets are represented by securities, also known as Sukuks, that are issued out of them. These securities reflect an undivided and proportionate beneficial ownership of the leased asset, and they can be traded if a willing buyer and vendor are present. A ground-breaking innovation in providing investors with Islamic fixed-income securities was the creation of Sukuk Ijarah. Sukuks are tradable on the secondary market free from any Shari'ah restrictions because they reflect the ownership right of the leased asset as opposed to Islamic bonds or notes, which only represent pure receivables. The Sukuk Ijarah's diagrammatic structure demonstrates that the originator, who is the owner of an asset, initiates the process of its issuance. In order to make the principal and rental payment to the investors, the originator leases the asset back from the SPV for an amount equal to (x + y). Because they contributed the funds to buy the asset from the originator through an SPV/issuer, the investors are considered to be the proprietors of this asset. In the sense that the asset has been packaged and divided into pieces, an asset-based securitization has now occurred. All ownership rights and a stake in the asset are being purchased by investors who bought these units. The investors are similarly eligible to receive the rental payment once this asset is leased back to the originator since they are the asset's owners and lessors. Islamic Finance – Islamic Capital Market - Islamic Sukuks' characteristics, categories, and method3/7/2023 Islamic Finance – Islamic Capital Market - Islamic Sukuks' characteristics, categories, and method
The structure of Islamic bonds, which are essentially distinct from Sukuks, was covered in the preceding chapter. Sukuks are monetary-denominated participation certificates of equal unit value given to investors, in contrast to an Islamic bond, which is essentially a debt certificate or a "IOU". Sukuks were created through securitization, just like Islamic bonds. A Sukuk's subject matter of securitization is neither an obligation/debt nor a payment, in contrast to Islamic bonds. When tangible assets, usufruct rights, or an interest in a project are combined into securities that represent proportionate ownership, the procedure is referred to as a sukuk. Receivables or financial assets are not involved in a Sukuk transaction. Each holder of a sukuk has an unequal beneficial stake in the underlying assets. Consequently, in the case of Sukuk Mudarabah and Sukuk Musharakah, holders of Sukuk are qualified to receive a portion of the income produced by the pertinent assets. Regarding Sukuk Ijarah, the lease rental payments made by the lessor/obligor to the issuer/SPV are what produce the revenues, which are then proportionately distributed to Sukuk Ijarah investors. It's critical to realise that Sukuks, unlike bonds, are not "IOU" or loan certificates. Sukuks are usually certificates that show an investment in an asset or a project, typically an asset or a project that generates income. Investor returns are neither fixed nor guaranteed; instead, they depend on how well the fundamental asset performs. Prior to the creation of Sukuk Ijarah, the Malaysian market in particular had a difficult time issuing Islamic bonds or notes because the trading of these securities was founded on the idea of selling debt. This is so that Riba transactions are avoided. These Islamic bonds are basically based on receivables securitization, and any trading of these securities must be based on par value. The majority of academics believe that receivables reflect financial assets. In order to prevent the Riba element, which calls for an equal quantity in the exchange of money, the trading of those securities must be based on face value. Islamic Finance – Islamic Capital Market - Malaysian conventional bonds verses Islamic bonds3/7/2023 Islamic Finance – Islamic Capital Market - Malaysian conventional bonds verses Islamic bonds
The table above demonstrates how structurally comparable Malaysian Islamic bonds are to conventional bonds. The only difference between conventional bonds and Malaysian bonds is that in Malaysian bonds, the obligation to pay the investor results from Islamic contracts, and the coupon payable to investors represents the profit margin or mark-up resulting from a sale contract rather than an interest payable under a loan contract. This is the most basic Islamic security framework that mimics the behaviour of traditional bonds. The fundamental component of Islamic bonds, in contrast to the Sukuk framework, is the securitization of receivables. Receivables rights are represented by the securities issued, which can be sold or passed to third parties on the secondary market. Debentures, which are basically unsecured promises to pay a sum backed by the overall creditworthiness of the issuer, are what Islamic bonds are. The grade of the issuer is used to let investors know whether the issuer has the financial resources to make timely principal and coupon/profit payments. It is evident that the Islamic contracts have imposed obligations on the issuer who receives cash funding in some manner. The issuer will use the proceeds from these contracts to support general working capital needs or any other purposes, provided that the use of these proceeds complies with Shari'ah. The trading of these securities, which is founded on the Bay al-Dayn principle of the sale of debt, is very divisive on the international market. Islamic Finance – Islamic Capital Market – Istisna bond
Bonds of Istisna The Istisna' bond, used in Malaysia, has been modelled after the same idea. Istisna' is essentially a buy order contract for a future-delivery of an asset. The asset's selling price, delivery date, and method of payment can all be agreed upon by the buyer and seller. Due to the fact that the financier (investor) is neither the contractor/manufacturer nor the final user/buyer, parallel Istisna' appears to be more practical in contemporary Islamic finance than simple Istisna'. This is because, as was already discussed in chapter one. The (ultimate) buyer, the financier, and the manufacturer must all be autonomous participants in a parallel Istisna' arrangement. Sukuk Istisna, a Malaysian custom, is founded on two parties. Therefore, it remains subject to a "Inah contract," which is not recognised globally. In accordance with this arrangement, the project owner or party that has been granted a construction contract (the issuer) will engage into an Istisna' sale contract with the investors for a price of "x," which is payable either up front or dependent on the project's progress. This sum is equal to the quantity of financing that the issuer needs. The issuer will sell a good (to be supplied in the future to investors) at a price of "x" under the terms of this first Istisna' contract. The investor(s) will then engage into another Istisna' contract to sell the same asset to the issuer at "x+y" to be paid in the future using Istisna' Sukuks/bonds, as required by the first Istisna' contract. It goes without saying that since this securitization is based on receivables, trading in securities derived from this structure is not permitted on a global scale. Global Shari'ah issues are also raised by the use of a "Inah contract" in this construction contract rather than a true parallel Istisna contract, which would involve three different parties. Islamic Finance – Islamic Capital Market - Inah Contract
The "Inah" deal is what gives rise to the receivable. In accordance with this agreement, the issuer sells the investor an asset for a fixed price, "X," payable immediately, and the investor agrees to buy back the asset at a higher price, "X+Y," payable later. This can be interpreted as either the issuer having a future responsibility to pay "x+y" or as the investor having a receivable that is due and payable. This receivable's liability to be paid has been transformed into securities that investors can purchase. The contract of 'Inah is only recognised in Malaysia in terms of Shari'ah. The Securities Commission (SC) of Malaysia views a 'Inah as a valid contract that could result in the creation of securitized Islamic debt. According to the Shafi'i school of law, which also happens to be the official school of law in Malaysia, Malaysian scholars and authorities have primarily relied on the formal requirements of a valid contract without considering the purpose or content of the contract. According to this methodology, the "Inah contract" is considered to be a valid contract because it includes all necessary components, including an offer and acceptance, an offeror and an offeree, a topic matter, and a consideration. This school of law does not take into account the parties' desire to enable cash financing rather than buy an asset. |
AuthorAnything you need to know about finance, money and business Archives
May 2023
Categories
All
|