ISLAMIC BANKING AND FINANCEISLAMIC BANKING AND FINANCE::

Today Today An IntroductionAn Introduction

To To New Emerging System New Emerging System

OVERVIEW OF ISLAMIC BANKING OVERVIEW OF ISLAMIC BANKING SECTORSECTOR

Centers of Islamic FinanceCenters of Islamic Finance

Malaysia, Pakistan, Iran, Jordan, Saudi Malaysia, Pakistan, Iran, Jordan, Saudi ArabiaArabia

United Arab Emirates, Bahrain, Kuwait, United Arab Emirates, Bahrain, Kuwait, Qatar, Oman, England, Sudan, Egypt, Qatar, Oman, England, Sudan, Egypt,

Syria, Philippines, Sri Lanka, India, USA, Syria, Philippines, Sri Lanka, India, USA, Denmark, Switzerland, Luxembourg, Denmark, Switzerland, Luxembourg,

Australia, Indonesia, Singapore, Hong Australia, Indonesia, Singapore, Hong Kong, Maldives, Kong, Maldives,

History of Islamic BankingHistory of Islamic Banking Islamic Banking movement started 1958 in the Islamic Banking movement started 1958 in the

city of Egypt.city of Egypt. 22ndnd attempt was made in the City of Karachi in attempt was made in the City of Karachi in

Pakistan when Interest Free Bank Launched in Pakistan when Interest Free Bank Launched in 19631963

Islamic Development Bank was established in Islamic Development Bank was established in 1966 base at Jeddah, Saudi Arabia 1966 base at Jeddah, Saudi Arabia

From 1970 in International Association of From 1970 in International Association of Islamic Bank was formed and first commercial Islamic Bank was formed and first commercial bank Dubai Islamic Bank was establish in bank Dubai Islamic Bank was establish in 19712 at Muslim countries such as Egypt, 19712 at Muslim countries such as Egypt, Malaysia, Pakistan and Dubai UAEMalaysia, Pakistan and Dubai UAE

In the Year 1982 a Pan Islamic Financial In the Year 1982 a Pan Islamic Financial Group establish in the City of Geneva, Group establish in the City of Geneva, Switzerland The DMI Group (Dar-Al-Switzerland The DMI Group (Dar-Al-Maal-Al- Islami) Maal-Al- Islami)

This group followed by 2This group followed by 2ndnd largest largest Financial & Commercial Group Dhallah Financial & Commercial Group Dhallah Group from Geneva, Switzerland by the Group from Geneva, Switzerland by the name Al-Barka Bank.name Al-Barka Bank.

Both the Financial Group were Both the Financial Group were registered in the City of Nassau, registered in the City of Nassau, Bahamas Bahamas

Originally emphasized joint-Originally emphasized joint-venture structures similar to venture structures similar to private equityprivate equitythrough Musharaka form of through Musharaka form of FinancingFinancing

Quickly evolved to provide short-Quickly evolved to provide short-term credit facilities by using the term credit facilities by using the MorabahaMorabaha structure for Trade structure for Trade financing.financing.

Started accepting the deposit Started accepting the deposit under Modaraba form of financingunder Modaraba form of financing

History of Islamic Banking (II)History of Islamic Banking (II)

With increase in scale, Islamic banks With increase in scale, Islamic banks began to branch out to more complex began to branch out to more complex financing schemes, including:financing schemes, including:

Retail banking, including, deposit taking and Retail banking, including, deposit taking and consumer lendingconsumer lending

Bonds (SBonds (Sukûkukûk))

Medium- and Long-term leases Medium- and Long-term leases (Ijara)(Ijara)

History of Islamic Banking (III)History of Islamic Banking (III) Impact of 9/11 – Reverse Capital FlightImpact of 9/11 – Reverse Capital Flight

Perception of hostile climate in many Perception of hostile climate in many Western jurisdictions, in particular, the Western jurisdictions, in particular, the United States, led to repatriation of dollars United States, led to repatriation of dollars by Arab investors to Middle Eastern banksby Arab investors to Middle Eastern banks

Islamic banks, along with conventional banks Islamic banks, along with conventional banks in the region, benefited from this reverse in the region, benefited from this reverse flight of capitalflight of capital

Increase in Oil Prices Led to Dramatic Increase in Oil Prices Led to Dramatic Increase in Liquidity in the GulfIncrease in Liquidity in the Gulf

History of Islamic Banking (IV)History of Islamic Banking (IV)

Conventional Banks Open “Islamic Windows”Conventional Banks Open “Islamic Windows”

Conventional banks began to respond Conventional banks began to respond to requests from Muslim clients to offer to requests from Muslim clients to offer products that complied with Islamic products that complied with Islamic lawlaw

As the size of the potential market As the size of the potential market became clear, conventional banks became clear, conventional banks responded with the creation of responded with the creation of divisions dedicated to Islamic bankingdivisions dedicated to Islamic banking

History of Islamic Banking (V)History of Islamic Banking (V)

Conventional International Banks with Conventional International Banks with Islamic Windows:Islamic Windows:

CitigroupCitigroup HSBCHSBC Deutsche BankDeutsche Bank UBSUBS ABN AMROABN AMRO Standard Chartered BankStandard Chartered Bank

History of Islamic Banking (VI)History of Islamic Banking (VI)

Almost all regional banks have followed Almost all regional banks have followed the international banks in creating the international banks in creating “Islamic” windows and some have “Islamic” windows and some have converted, or are in the process of converted, or are in the process of converting, to the Islamic banking modelconverting, to the Islamic banking model

Size of Islamic Banking SectorSize of Islamic Banking Sector No precise measure of size of deposits held No precise measure of size of deposits held

in Islamic banks or Islamic divisions of in Islamic banks or Islamic divisions of conventional banksconventional banks

Ranges from a low of $250 billion to a high Ranges from a low of $250 billion to a high of $750 billion. As much as $300 billion held of $750 billion. As much as $300 billion held in Islamic investment funds awaiting in Islamic investment funds awaiting investment opportunities.investment opportunities.

Arab investors hold approximately $800 Arab investors hold approximately $800 billion of assets in European banks, with a billion of assets in European banks, with a growing trend to invest that money in growing trend to invest that money in Islamic productsIslamic products

Role of Islamic Finance in World Role of Islamic Finance in World Credit MarketsCredit Markets

Demand SideDemand Side

Sovereign DebtSovereign Debt

International AgenciesInternational Agencies

Corporate DebtCorporate Debt

Project FinanceProject Finance

Consumer DebtConsumer Debt

Sovereign Islamic DebtSovereign Islamic Debt In recent years, several Islamic Countries and their In recent years, several Islamic Countries and their

instrumentalities, as well as non-Islamic countries, instrumentalities, as well as non-Islamic countries, have issued sovereign debt in the form of have issued sovereign debt in the form of SukûkSukûk::

Department of Civil Aviation, Dubai: $1 Department of Civil Aviation, Dubai: $1 billionbillion

Qatar: $700 millionQatar: $700 million Pakistan: $600 millionPakistan: $600 million Malaysia: $600 millionMalaysia: $600 million German State of Saxony-Anhalt: €100 German State of Saxony-Anhalt: €100

millionmillion Bahrain: $79.5 millionBahrain: $79.5 million

International AgenciesInternational Agencies

International Agencies Have Issued International Agencies Have Issued SukûkSukûk in recent years: in recent years:

Islamic Development Bank: $400 Islamic Development Bank: $400 millionmillion

World Bank: $200 millionWorld Bank: $200 million

Islamic Corporate DebtIslamic Corporate Debt

Private Issuances of Private Issuances of SukûkSukûk::

DP World: $3.5 billion 7.5% DP World: $3.5 billion 7.5% SukûkSukûk, , convertible into equity at the time of a convertible into equity at the time of a qualifying initial public offering qualifying initial public offering

National Central Cooling Company: National Central Cooling Company: $200 million, rated BBB- by S&P$200 million, rated BBB- by S&PListed on London Stock ExchangeListed on London Stock ExchangePrevious issuance by same issuer Previous issuance by same issuer listed on Luxembourg Stock Exchangelisted on Luxembourg Stock Exchange

Islamic Corporate Debt (II)Islamic Corporate Debt (II)

Global issuance of Global issuance of SukûkSukûk has exceeded has exceeded $20 billion$20 billion

Dow Jones CitigroupDow Jones Citigroup®® Sukûk Index Comprised of seven Comprised of seven SukûkSukûk $2.8 billion aggregate principal amount$2.8 billion aggregate principal amount Each issue rated at least A by S&PEach issue rated at least A by S&P Average tenor 3 yearsAverage tenor 3 years

Islamic Corporate Debt (III)Islamic Corporate Debt (III) Biggest challenge thus far is limited Biggest challenge thus far is limited

secondary trading market for secondary trading market for SukûkSukûk Demand for Demand for SukûkSukûk has far exceeded has far exceeded

supply; offerings typically oversubscribed, supply; offerings typically oversubscribed, even after substantial upsizing of the even after substantial upsizing of the offering at timesoffering at times

DP World offering originally contemplated DP World offering originally contemplated for $2.8 billion but was upsized to $3.5 for $2.8 billion but was upsized to $3.5 billion to meet excess demand; no road billion to meet excess demand; no road show needed to market the offeringshow needed to market the offering

Islamic Finance In ProjectIslamic Finance In Project

Infrastructure projects in the Gulf region Infrastructure projects in the Gulf region largely financed on a corporate basis largely financed on a corporate basis until the mid-1990suntil the mid-1990s

Sadaf, a joint venture between Shell Sadaf, a joint venture between Shell Oil and Saudi Arabian Basic Industries Oil and Saudi Arabian Basic Industries Corporation (SABIC), first important Corporation (SABIC), first important project finance transaction in Gulf project finance transaction in Gulf region, closed in 1995region, closed in 1995

Project Finance now preferred Project Finance now preferred structure for infrastructure investmentstructure for infrastructure investment

Islamic Finance and Project Islamic Finance and Project Finance (II)Finance (II)

Islamic sources of capital traditionally played Islamic sources of capital traditionally played minor role in project finance in Gulfminor role in project finance in Gulf

IIn recent years, no deal gets done n recent years, no deal gets done without a substantial Islamic trencheswithout a substantial Islamic trenches

Financing needs exceed capacity of Financing needs exceed capacity of commercial banks and export credit agenciescommercial banks and export credit agencies

Desire of project hosts to diversify sources of Desire of project hosts to diversify sources of capital and take advantage of local capital to capital and take advantage of local capital to the extent feasiblethe extent feasible

Islamic Finance and Project Islamic Finance and Project Finance (III)Finance (III)

Rabigh Refinery and Petrochemicals Project, Rabigh Refinery and Petrochemicals Project, Kingdom of Saudi ArabiaKingdom of Saudi Arabia $9.9 billion total cost, of which $5.8 billion was $9.9 billion total cost, of which $5.8 billion was

debtdebt $4.1 billion equity split 50-50 between Saudi $4.1 billion equity split 50-50 between Saudi

Armco and Sumitomo ChemicalArmco and Sumitomo Chemical $2.5 billion loan provided by Japan Bank for $2.5 billion loan provided by Japan Bank for

International CooperationInternational Cooperation $1 billion loan from Saudi Public Investment $1 billion loan from Saudi Public Investment

FundFund $1.7 billion commercial loan$1.7 billion commercial loan $600 million Islamic trenches$600 million Islamic trenches

Islamic Finance and Project Islamic Finance and Project Finance (IV)Finance (IV)

YANSAB ProjectYANSAB Project $5 billion Greenfield petrochemical project$5 billion Greenfield petrochemical project $3.5 billion debt:$3.5 billion debt:

$1.067 billion, 13-year trenches from Saudi Public $1.067 billion, 13-year trenches from Saudi Public Investment FundInvestment Fund

$850 million, 12-year Islamic trenches$850 million, 12-year Islamic trenches $700 million export credit agencies trenches$700 million export credit agencies trenches $533 million 12-year commercial bank trenches$533 million 12-year commercial bank trenches $350 million working capital facility$350 million working capital facility

ABN AMRO was sole arranger, underwriter ABN AMRO was sole arranger, underwriter and book runner on dealand book runner on deal

Islamic Finance & Project Finance (V)Islamic Finance & Project Finance (V)

Future Demand for Project FinanceFuture Demand for Project Finance Last two years saw $40 billion of project finance in Last two years saw $40 billion of project finance in

gulf regiongulf region Saudi Arabia estimates it will invest $90 billion in Saudi Arabia estimates it will invest $90 billion in

domestic power generation over the next fifteen domestic power generation over the next fifteen yearsyears

Other states in the gulf also investing heavily in Other states in the gulf also investing heavily in infrastructure projects, particular petrochemicalinfrastructure projects, particular petrochemical

There will be a continuing demand in the region There will be a continuing demand in the region for capital to invest further expansion of the for capital to invest further expansion of the region’s infrastructureregion’s infrastructure

Opportunities for BanksOpportunities for Banks

Deal flow shows no sign of abatingDeal flow shows no sign of abating International banks have shown an ability to International banks have shown an ability to

compete successfullycompete successfully Because of the size of new deals, Islamic banks Because of the size of new deals, Islamic banks

need to partner with international banks to take need to partner with international banks to take advantage of their larger distribution networksadvantage of their larger distribution networks

Success of Success of SukûkSukûk issues means that conventional issues means that conventional market investors have grown comfortable with market investors have grown comfortable with their structure and will invest in them so long as their structure and will invest in them so long as credit profile meets investors’ needscredit profile meets investors’ needs

Opportunities for Banks (II)Opportunities for Banks (II)

Success in penetrating markets for Success in penetrating markets for arranging credit could lead to mandates arranging credit could lead to mandates in upcoming equity offeringsin upcoming equity offerings

Future opportunities to advise in Future opportunities to advise in connection with an inevitable connection with an inevitable consolidation of banks in the Gulf regionconsolidation of banks in the Gulf region

Opportunities for wealth management of Opportunities for wealth management of wealthy Islamic investorswealthy Islamic investors Merrill Lynch identified 300,000 U.S. dollar Merrill Lynch identified 300,000 U.S. dollar

millionaires in the Middle Eastmillionaires in the Middle East

Opportunities for IssuersOpportunities for Issuers

Issuers, public and private, may consider Issuers, public and private, may consider tapping the Islamic capital marketstapping the Islamic capital markets

Because of Islamic finance is asset-based, Because of Islamic finance is asset-based, industry is a natural fit with the structures so industry is a natural fit with the structures so far developed in Islamic financefar developed in Islamic finance

Because of high-liquidity of Islamic banks Because of high-liquidity of Islamic banks and Islamic investment funds, issuers who and Islamic investment funds, issuers who tap this market may be able to obtain tap this market may be able to obtain relatively favorable pricing relative to the relatively favorable pricing relative to the conventional marketconventional market

Opportunities for Infrastructure FirmsOpportunities for Infrastructure Firms

Because of infrastructure boom in Gulf Because of infrastructure boom in Gulf region, large premiums have been paid region, large premiums have been paid on Engineering, Procurement and on Engineering, Procurement and Construction contractsConstruction contracts

Successful competition for infrastructure Successful competition for infrastructure projects inevitably requires support of projects inevitably requires support of export credit agencyexport credit agency

Export Development Canada would have Export Development Canada would have an important role to play in promoting an important role to play in promoting Canadian firms’ expertise in the regionCanadian firms’ expertise in the region

ConclusionConclusion

Islamic finance and conventional finance Islamic finance and conventional finance are quickly converging in the Gulf regionare quickly converging in the Gulf region

As conventional investors gain more As conventional investors gain more comfort with Islamic structures, cost comfort with Islamic structures, cost differential between Islamic products and differential between Islamic products and conventional products have almost conventional products have almost disappeareddisappeared

As a result, Islamic products may be more As a result, Islamic products may be more practical because they appeal to both practical because they appeal to both Islamic and conventional investorsIslamic and conventional investors

Conclusion (II)Conclusion (II)

It is not too late for banks to It is not too late for banks to compete for business in the compete for business in the Islamic finance arenaIslamic finance arena

To do so successfully, they will To do so successfully, they will need to establish a presence in need to establish a presence in the region, as have their the region, as have their competitorscompetitors