LEADERSHIP

Follow the leader

At least $500bn of worldwide assets are Shariah-compliant and Islamic finance is growing at a rate of more than 10% per year. As this developing sector continues to play an important role in capital markets transactions, should there be a demand for business leaders to understand and apply an Islamic form of leadership?
      The subject of leadership is crucial in Islam and many conventional leadership practices are found to be wanting. They have not performed well with holistic responsibility and profits are considered before people. It is time for Islamic influence on business to expand and nurture an Islamic approach to leadership. Just as local culture has an overwhelming influence on the way people live, it should also have an impact on business and the practice of leadership. A Shariah-inspired approach to leading should conform its practice to underlying Islamic teaching, principles and traditions. It should embrace strong core values that are behaviourally sound, values-based, mentoring in nature and result-focused. It derives its strength and stability from its ability to uphold Shariah principles. These characteristics are a proven secret for success.

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LAW

Lie of the land

The year 2009 was in many ways the annus horribulus of the Islamic finance industry in the Gulf. This was the year the full impact of the global recession moved eastwards to cloud the Middle Eastern economies. Despite the fall of Lehman Brothers, the explosion in the US sub-prime market and the Madoff scandal, most Gulf-based investors were bullish about their fortunes for most of 2008 and early 2009.
      However, as 2009 passed, many Middle Eastern investors who had geographically diversified started to feel the pain of the collapse in the value of their investments in the West. The value of the assets of sovereign wealth funds, corporates and individual investors started to dent the confidence in the Gulf. 2009 saw many regional entities getting into trouble.
      In Kuwait we saw the Global group and Dar Investment enter into restructuring of commitments, some of which were Islamic instruments. In Saudi we witnessed the public fall-out between the Saad Group and the Al Ghosaibi Group. Once again, there were defaults in Shariah-compliant products, such as the Golden Belt Sukuk. At the end of the year the regional markets were shaken by the earthquake caused by news of a potential default by Dubai World. The first liability that came under scrutiny was the Al Nakheel Sukuk.

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ART

State of the art

One will rarely find human figures in traditional Islamic works of art. The Islamic resistance to the representation of living beings comes from the belief that the creation of living forms is unique to God. Figural depiction is not far removed from idolatry.
     However, neither Islamic art nor the collecting of Islamic works of art are necessarily connected to the Islamic faith. William Robinson, head of Islamic art at leading auction house Christie’s, says: “You do not have to be Muslim, or have any knowledge of Islam, to be able to appreciate the vast majority of art produced by Islamic cultures.” Islamic art includes painting, sculpture, jewelry, carpets and ceramics produced from the 7th century onwards, much of it secular art produced in lands under Islamic influence, regardless of the artist’s religious affiliation.
     Until now Islamic art has not been regarded as a Shariah-compliant asset. When choosing art as an investment, Middle Eastern companies and individuals seem not to do it for its Shariah-compliant implications. Ryan Baird, Art Capital Group managing partner, says: “I don’t think that Shariah compliance is a driving force behind investing in Islamic art, although the impetus may be there. An extreme interpretation of art investment as a form of unacceptable speculation might counter the latter argument but, as with other assets, investors can and do donate interest or capital gains in the form of zakat to stay compliant with Islamic precepts.”

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REGULATION

Rise to the challenge

Interest in Islamic finance is growing in Europe. The uk and France have perhaps been the most public about their ambitions to develop it, but there is also serious interest in Germany, Italy and Luxembourg. One motive may be to serve a domestic Muslim population; another, not incompatible, may be to become a capital markets centre where sukuk may be issued and listed, or funds domiciled, but where most of the activity will be international.
     There are, of course, many issues to be addressed if Islamic finance is to become part of the European mainstream. These include critical commercial issues around distribution and the nature of the target customer base.
     The first action taken by any country serious about Islamic finance is usually to remove any tax barriers; for example, the double taxation that can occur on Islamic mortgages when title to the property needs to be transferred twice (first from the seller to the bank, and then from the bank to the eventual owner). The issues here are well understood. The problems that may arise are technical—each country’s tax code—and political. While the technical problems should not be understated, because any adjustment to a tax code needs to be scrutinised to ensure that it is not subject to abuse, political issues may be trickier.

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ANALYSIS

Space value of money

The universal attraction of Islamic finance is that it strives to make finance more real, ethical, and humane. Although the industry and theory of Islamic finance are still at their early stages of evolution, the principles of Islamic finance provide valuable insights into financial organisation and valuation.
     I propose the concept of “space value of money” as the abstract and universal parallel with a key principle of Islamic finance, that is, the principle that prohibits interest and seeks to incorporate real activity into its instruments and transactions.
     Interest is earned from two basic components: capital and civil calendar time. The principle of banning interest within Islamic finance is based on the notion of having more than only time and capital in the cooking pot.
     An investment project has space value of money when it has an impact on the physical space and its inhabitants. Such a project achieves its earnings by using—alongside time and capital—real people and real assets. The real activity involved gives the project a community impact that would otherwise be absent if the earned return were to be interest on time and capital alone. When a project or instrument is structured in such a way that it involves real activity, it has a space value of money.

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TREASURY

Keep competitive

The ongoing financial turmoil in the West has thrust Islamic finance into the spotlight. The inherent benefits of Islamic finance—greater transparency, visibility and, therefore, security—have been reflected by the resilience of the Islamic banks throughout the crisis and the boost for Islamic investments, especially in treasury services.
     The advantages of Islamic finance principles—which strictly forbid the charging of interest and speculation, and dictate that there is to be no speculative liability in any transaction—suggest that its growth throughout the Middle East is to be encouraged. Yet could it also be a cause of concern, particularly with regards to progression and innovation?
     The apparent simplicity of the founding principles does not mean that the Islamic model is without complications. Islamic finance is based on Shariah law, which differs from country to country. As a result, the term “Shariah compliant” is subject to interpretation, with some being far stricter than others.

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FINANCE

Managing microfinance

In all Muslim countries, Islamic microfinance accounts for a very small portion of the country’s total microfinance outreach, never exceeding 3% of the outstanding loans. Conventional microfinance products command in the same countries a market share of around 44%.
     Of the conservatively estimated 77 million microcredit clients worldwide, only 380,000 adhere to Islamic microfinance—300,000 are reached by 126 institutions operating in 14 countries and 80,000 by a network of Indonesian cooperatives. Its supply is concentrated within a few players, with Indonesia, Bangladesh and Afghanistan accounting for 80% of global outreach. In all other countries, Islamic microfinance is still in its infancy. No scalable institutions are reaching clients on a regional and national level. The average outreach of the 126 institutions is 2,400 clients—none has more than 50,000 clients and the average Islamic micro loan is similar to a conventional micro loan.
     Efficiency lags behind its conventional cousin. A loan-to-deposit ratio of more than 110% indicates the need to improve the deposit-gathering process. The average operational efficiency ratio at 20% compares with the more affordable 15% of conventional Asian institutions and shows the need to work on the average loan size, cost structure and staff productivity.
     The average portfolio at risk at 30 days of approximately 9% is well above the 5% as reported by the 1,200 conventional microfinance institutions surveyed by the Microfinance Information Exchange. This lack of efficiency translates into an average return on assets at 1.5%—below the 2.2% of conventional institutions.

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