Prof. Dr. Mohd. Ma’sum Billah CONVENTIONAL BANKING CONVERGENCE WITH ISLAMIC BANKING – IMPACT & IMPLICATIONS Prof. Dr. Mohd. Ma’sum Billah www.drmasumbillah.blogspot.com

Areas of Convergence Regulatory Authorities Regulatory Bodies Management Financial Principles Instruments Products Marketing

PRINCIPLE OF MURABAHAH “Sale contract between the bank and its customer for the sale of goods at a price which includes the bank’s profit margin” Bank is the seller, Customer is the buyer. Murabahah = Cost Plus Common Mechanism = Deferred Lump Sum Sale

PRINCIPLE OF BAI-BITHAMAN AJIL(BBA) Bai-Bithaman Ajil (BBA) is known as Deferred Instalment Sale. A contract of “buying and selling” of an asset between a bank and a customer. BBA = Cost Plus Common Mechanism = Deferred Instalment Sale

PRE-REQUISITE UNDER BBA i) Buyer ii) Seller iii) Merchandise iv) Price of the merchandise v) Aqad/Contract (Offer and Acceptance)

MODES OF BAI-BITHAMAN AJIL FINANCING OPERATION Customer identifies the asset to be acquired. Bank purchases the asset from the vendor The bank resells the asset to the customer plus bank’s profit margin Customer repays by installments within agreed period

CONSUMER FINANCING PRODUCTS House Financing Study Financing Unit Trust Financing Other Consumer Financing e.g Share Financing

LETTER OF OFFER Similar to Conventional Letter of Offer. The difference are:- Pricing - Bank Purchase Price - Bank Selling Price Repayment Grace Payment Period Security Documentation Takaful Penalty (compensation clause) Opening of Wadiah Savings Account

BBA DOCUMENTATION

PROPERTY WITH TITLE Property Purchase Agreement Property Sale Agreement Charge Document (Form 16A & Annexure)

PROPERTY WITHOUT TITLE Property Purchase Agreement Sale Agreement Cum Assignment Deed Of Assignment

COMPARISON BETWEEN CONVENTIONAL LOAN AND BBA FINANCING PRODUCT CONVENTIONAL BBA FEATURES LOAN FINANCING Concept Base on loan principle Base on buy and sale (borrowing and lending) principle Pricing Pegged against BLR Fixed profit rate applied Repayment Varies as BLR Repayment is fixed fluctuates Total Amount Known only at the end Known upfront Payable of the period

OTHER CONSUMER FINANCING Example Share Financing Apply the principle of BBA, Murabahah

PRINCIPLE OF BAI ISTISNA’ Bai Istisna is a contract on acquisition of goods by specification or order by the financier, where the price is paid progressively to the seller in accordance with the progress of a job completion. It is a buy and sale contract whereby a buyer (financier) purchases a contract or order from a seller (customer) and subsequently appoints the seller as an agent to make an asset or goods that he requested. Istisna = Cost Plus

PRINCIPLE OF BAI ISTISNA’ The seller must complete the asset/good within a period of time. The buyer and seller will fix the price of the asset/goods and method of payment. When the goods is delivered/completed, the financier will sell the completed goods to the customer. Applicable to : Bridging Financing Contract Financing Project Financing Made to Order

PRINCIPLE OF BAI AL-DAYN Bai Al-Dayn is a “Debt Trading” The Bank purchases the customer's rights to the debt at a discounted price (i.e invoice price minus bank's profit margin) which is normally securitised by a Bill of Exchange. Upon maturity customer purchases back his debt from the Bank at full invoice price. Bai Al-Dayn = Discounting of Debt

IJARAH (LEASING) This is IBD’s new product and still under development Only one case (pilot case ) so far Apply the concept of leasing Type of leasing Financial lease Operating lease

Financial lease Maintenance is borne by lessee Lessee will acquire the asset at the end of the tenor Lessee will enjoy capital allowance Lessee will not enjoy tax exemption on rental paid

Operating lease Maintenance is borne by lessor Lessee has no right to purchase the asset at the end of the tenor Lessor will enjoy capital allowance Lessee will enjoy tax exemption on rental paid

Other features This product is offered on selective basis This product is offered for new equipment or equipment that enjoy capital allowance in Malaysia. The bank will ensure the profit rate charge on customer will commensurate with capital allowance enjoyed by the Bank IBD to assist on computation aspects

COMMERCIAL FINANCING PRODUCTS Asset/Working Capital/Other Financing Small Entrepreneur Fund (TUK) Small Medium Industries Financing (TIKS) Fund For Food (3F) Rehabilitation Fund For Small Medium Industries

ASSET/WORKING CAPITAL/OTHER FINANCING Concept This financing can apply the concept of Bai Bithaman Ajil or Murabahah Issues of collateral Secured by same property Different property Corporate guarantee

SPI FUND FOR SMALL ENTREPRENEUR (TUK) SPI Fund for Small Entrepreneurs or widely known as Tabung Usahawan Kecil (TUK) is aimed at providing an efficient and systematic delivery system to channel financing ranging from RM2,000 to RM50,000 for the benefit of the small entrepreneurs in the country.

SMALL MEDIUM INDUSTRIES FINANCING (TIKS) This financing is similar to Tabung Industri Kecil dan Sederhana (TIKS) in Conventional Banking. It involves two relationship:- Bank and customer Bank and Bank Negara

Bank and customer Bank gives financing to customer by using principle of BBA or Istisna’ or Murabahah. For example Bank gives financing 6.5% to customer. Bank and Bank Negara Bank sells the loan to Bank Negara at 4.0% (current BNM funding rate) using the concept of Bai Al-Dayn. Therefore, Bank’s profit margin is 2.5%.

Pricing In Letter of Offer, bank gives financing rate of 10.5% to customer. In actual payment, customer makes repayment to the bank base on financing rate of 6.5% The difference 4.0% is a rebate to the customer.

SPI FINANCING UNDER FUND FOR FOOD (3F) This financing is similar to Fund For Food in Conventional Banking. It involves two relationship:- Bank and customer Bank and Bank Negara

Bank and customer Bank gives financing to customer by using principle of BBA or Istisna’ or Murabahah. For example Bank gives financing 4.0% to customer. Bank and Bank Negara Bank sells the loan to Bank Negara at 1.0% (current BNM funding rate) using the concept of Bai Al-Dayn. Therefore, Bank’s profit margin is 3.0%.

REHABILITATION FUND FOR SMALL AND MEDIUM INDUSTRIES This financing is similar to Rehabilitation Fund for Small and Medium Industries in Conventional Banking. It involves two relationship:- Bank and customer Bank and Bank Negara .

Bank and customer Bank gives financing to customer by using principle of BBA or Istisna’ or Murabahah. For example Bank gives financing 5.0% to customer. Bank and Bank Negara Bank sells the loan to Bank Negara at 1.0% (current BNM funding rate) using the concept of Bai Al-Dayn. Therefore, Bank’s profit margin is 4.0%.

CORPORATE FINANCING PRODUCTS Islamic Securitization Property Financing Asset Financing Equipment Financing

ISLAMIC SECURITIZATION Requirement = Financing must be executed under any underlying financing contracts permitted under Syariah.

COMMON FINANCING CONTRACTS FOR ISLAMIC SECURITIZATION Murabahah = Short-term Working Capital Financing BBA = Long-term Financing Ijarah Common Feature : Element of Profit Margin Built-in Trading Concept : Bai Al-Dayn (Debt Trading)

In Malaysia, the common Islamic Securities is Debt Based Securitization. First Example Year 1990 Company Shell MDS Sdn. Bhd. Concept Used BBA Amount RM125 million

STATISTICS(30/6/99) 22 issues amounting to RM 8.071 billion (excluding Malaysian Government/Government Agencies issuance) 15 issues of Islamic Commercial Paper amount RM 6.181 billion 7 issues of Islamic Corporate Bonds amount RM 1.890 billion

RHB GROUP ISLAMIC FINANCE INITIATIVE Example…… RHB GROUP ISLAMIC FINANCE INITIATIVE RHB Bank Facility Gas District Cooling (KLIA) Sdn. Bhd. Murabahah Notes Issuing Facility Year 1999 Function Arranger Amount RM 207 million

RHB GROUP ISLAMIC FINANCE INITIATIVE RHB Sakura Facility Sarawak Shell Berhad Musyarakah Bond Year 1994 Function Lead Arranger Amount RM 560 million

RHB GROUP ISLAMIC FINANCE INITIATIVE RHB Sakura Facility Petronas Gas Berhad Islamic Debt Securities Year 1995 Function Joint Lead Manager Amount RM 800 million

RHB GROUP ISLAMIC FINANCE INITIATIVE RHB Sakura Facility KLIA BBA Bonds Year 1997 Function Co-Advisor Amount RM 2.2 billion

RHB GROUP ISLAMIC FINANCE INITIATIVE RHB Sakura Facility Petronas Gas Berhad Murabahah Notes Issuing Facility Year 1997 Function Lead Arranger & Agent Amount RM 900 million

RHB GROUP ISLAMIC FINANCE INITIATIVE RHB Sakura Facility Petronas Gas Berhad BBA Bonds Year 1999 Function Lead Arranger Amount RM 500 million

PROPERTY FINANCING BBA based financing and Istisna’ based financing Common Tenors = 5 years to 7 years Reasons For BBA/Istisna’ = Lock in Cost

ASSET FINANCING Murabahah/BBA based financing Any form of tangible asset Receivables as a form of asset (Murabahah financing)

EQUIPMENT FINANCING Ijarah based financing No system support at this point of time Big ticket items on an ad-hoc basis Expect to launch in early 2000

Shari’ah Compliance Authority Claims & Distributions Mechanisms For Conventional Convergence in to Islamic Banking Regulatory Frameworks Harmonization of Existing Laws Shari’ah Guidelines Shari’ah Compliance Authority Shari’ah Advisor / Consultant Shari’ah Advisory Body Shari’ah Compliance is Mandatory Management Headed by Muslim Mixed Staff Allowed Operations Adapting Shari’ah Standard Product Innovations Screening the Existing Product with Shari’ah Standard Shari’ah Justified Product Harmonization Between Conventional & Islamic is Encouraged so long not contrary to Shari’ah Fund Management Segregated & Transparence A/C Marketing Composite Allowed Finance Knowledge with Shari’ah Guidelines Investment Shari’ah Justified Avenues Halal Counters Halal Returns Benefits Service Charge Investment A/C Ihsan A/C Claims & Distributions In Accordance with the Terms & Conditions Unjustified / Unreasonable Claim & Distributions are not Allowed 20

THANK YOU WASSALAM