) Working Capital Finance Solutions

(for short term financing requirements)

Part of the wide range of Shariah complaint solutions for our customers are Murabaha, Tijarah and Istisnaa, designed to meet working capital requirements. For example, if you need finance for purchasing raw materials for your industry or are trading in goods then you could use Murabaha or Istisnaa to meet your financial needs.

Murabaha
Definition Murabaha is a particular kind of sale where the seller expressly mentions the cost of the commodity purchased, and sells it to another person by adding some profit thereon. Thus, Murabaha is not a loan given on interest; it is a sale of a commodity for cash/deferred price. The Bai Murabaha involves purchase of a commodity by a bank on behalf of a client and its resale to the latter on cost-plus-profit basis. Under this arrangement, the bank discloses its cost and profit margin to the client. In other words rather than advancing money to a borrower, the bank will buy the goods from a third party and sell those goods to the customer at an agreed price. One of the most common modes of finance employed by Islamic Banks, Murabaha is based on the exact requirements of each customer. It can be defined as a sales transaction where Meezan Bank purchases the commodity and sells it after adding an agreed profit. Thus, it is not a loan given on interest - it is the sale of a commodity on a deferred price. Hence Murabaha involves the purchase of a commodity by Meezan Bank on behalf of a customer and the subsequent resale to the customer on cost-plus-profit basis. The cost and profit margin to the bank is expressly disclosed to the customer. Simply put, rather than advancing money to the customer, Meezan Bank buys the commodity from a third party and sells it to the customer at an agreed price, which includes an element of profit.

So what is the difference between Murabaha and a Sale? A simple sale in Arabic is called Musawamah - a sale that does not involve disclosing or referring to the cost of goods sold. However, when the cost price is disclosed to the client, it is called Murabaha.

Difference between Murabaha and Sale

A simple sale in Arabic is called Musawamah - a sale without disclosing or referring to the cost of goods sold. However when the cost price is disclosed to the client, it is called Murabaha . A simple Murabaha is one where there is cash payment and MurabahaMuajjal is one on deferred payment basis.

Basic Rules for Murabaha

Following are the rules governing a Murabahah transaction:

The subject of sale must exist at the time of the sale. Thus anything that does not exist at the time of sale cannot be sold as this makes the contract void. The subject matter should be in the ownership of the seller at the time of sale. If the seller sells something that he himself has not acquired, then the sale becomes void. The subject of sale must be in physical or constructive possession of the seller when it is sold to another person. Constructive possession means a situation where the owner has not taken physical delivery of the commodity yet it has come into his control and all rights and liabilities of the commodity are passed on to him including the risk of its destruction. The sale must be instant and absolute. Thus a sale attributed to a future date or a sale contingent on a future event is void. The subject matter should be a property having value in the eyes of Sharia. The subject of sale should not be a thing used for an un-Islamic purpose. The subject of sale must be specifically known and identified to the buyer. For Example, A owner of an apartment building says to B that he will sell an apartment to B. Now the sale is void because the apartment to be sold is not specifically mentioned or pointed to the buyer. The delivery of the sold commodity to the buyer must be certain and should not depend on a contingency or chance. The certainty of price is a necessary condition for the validity of the sale. If the price is uncertain, the sale is void. The sale must be unconditional. A conditional sale is invalid unless the condition is recognized as a part of the transaction according to the usage of the trade.

Istisnaa
Istisnaa is a sale transaction where a commodity is transacted before it comes into existence. It is an order to manufacture a specific commodity for the purchaser. The manufacturer (our customer) uses its own material to manufacture the required goods. In Istisnaa, price is fixed with the consent of all parties involved. Similarly all other necessary specifications of the finished product are agreed beforehand.

Istisna as a mode of financing

Istisna Finance is used to cater for the working capital requirements of a business involved in the manufacturing of goods. It is ideally suited for exporters and manufacturers who have export orders in the shape of Sight/Usance Letter of Credit/ Sight Export Contract D/P/ Usance Export Contract D/A. Istisna is a sale transaction where a commodity is transacted before it comes into existence. It is an order to a manufacturer to manufacture a specific commodity for the purchaser. The manufacturer uses his own material to manufacture the required goods. In Istisna , price m ust be fixed with consent of all parties involved. All other necessary specifications of the commodity must also be fully settled. Istisna may be used to provide financing for construction of house. If the client owns a land and seeks financing for the construction of a house, the financier may undertake to construct the house on the basis of an Istisna. If the client does not own the land and wants to purchase that too, the financier can provide him with a constructed house on a specified piece of land. Istisna may also be used for similar projects like installation of an air conditioner plant in the clients factory, building a bridge or a highway. The modern BOT (buy, operate and transfer) agreements may be formalized through an Istisna agreement as well. So, if the government wants to build a highway, it may enter into an Istisna contract with the builder. The price of Istisna can be the right of the builder to operate the highway and collect tolls for a specific period.

2) Project Financing, Expansion or BMR Requirement Solutions

(for medium and long term financing requirements)

Two of the most commonly used Islamic financing solutions availed by businesses today, Diminishing Musharakah and Ijarah are ideal for expansion of businesses, BMR requirements or other medium to long term financing requirements.

Diminishing Musharakah
Using this financing model, Meezan Bank and the customer participate in the joint ownership of an asset. The asset is divided into a number of units and the customer periodically purchases these units from the bank over a specified period. Over time, the customer purchases all units owned by the bank, making him or her the sole owner of the asset or the commercial enterprise.

Diminishing Musharakah is most commonly used for the financing of fixed assets, projects, homes and automobiles. According to this concept, a financier and his client participate either in the joint ownership of a property or an equipment, or in a joint commercial enterprise. The share of the financier is further divided into a number of units and it is understood that the client will purchase the units of the share of the financier one by one periodically, thus increasing his own share until all the units of the financier are purchased by the client so as to make him the sole owner of the property, or the commercial enterprise, as the case may be.

Financing on the basis of Diminishing Musharakah

The proposed arrangement is composed of the following transactions: 1. 2. 3. 4. 5. Creation of joint ownership in the property (Shirkat-ul-Milk). Giving the share of the financier to the client on rent. Promise from the client to purchase the units of share of the financier. Actual purchase of the units at different stages. Adjustment of the rental according to the remaining share of the financier in the property.

In the above mentioned arrangement, following conditions must be taken care of:

The agreement of joint purchase, leasing and selling different units of the share of the financier should not be tied-up together in one single contract. However, the joint purchase and the contract of lease may be joined in one document whereby the financier agrees to lease his share, after joint purchase, to the client. At the same time the client may sign one-sided promise to purchase different units of the share of the financier periodically and the financier may undertake to reduce the rent on remaining units accordingly. At the time of the purchase of each unit, sale must be affected by the exchange of offer and acceptance at that particular date. It will be preferable that the purchase of different units by the client is affected on the basis of the market value of the asset as prevalent on the date of purchase of that unit, but it is also permissible that a particular price is agreed in the promise of purchase signed by the client.

Ijarah
In contrast to diminishing musharakah, this mode of financing is based on the provision of the required tangible assets, such as property, machinery, etc, on rental for an agreed period of time. The concept is similar to leasing, which is common in conventional banking. However there are some specific prohibitions which render conventional leasing to be forbidden under Shariah. Ijarah is commonly used for long and medium term fixed asset financing, project financing and for retail products such as homes and automobiles.

"Ijarah" is a term of Islamic fiqh. Lexically, it means 'to give something on rent'. In the Islamic jurisprudence, the term 'Ijarah' is used for two different situations. In the first place, it means 'to employ the services of a person on wages given to him as a consideration for his hired services." The employer is called 'mustajir' while the employee is called 'ajir', while the wages paid to the ajir are called their 'ujrah'. The second type of Ijarah relates to the usufructs of assets and properties, and not to the services of human beings. 'Ijarah' in this sense means ' to transfer the usufruct of a particular property to another person in exchange for a rent claimed from him.' In this case, the term 'Ijarah' is analogous to the English term 'leasing'. Here the lessor is called 'Mujir', the lessee is called 'mustajir' and the rent payable to the lessor is called 'ujrah'. The rules of Ijarah are very much analogous to the rules of sale, because in both cases something is transferred to another person for a valuable consideration. The only difference between Ijarah and sale is that in the latter case the corpus of the property is transferred to the purchaser, while in the case of Ijarah, the corpus of the property remains in the ownership of the transferor, but only its usufruct i.e. the right to use it, is transferred to the lessee.

Lease as a mode of financing

Lease is not originally a mode of financing. It is simply a transaction meant to transfer the usufruct of a property from one person to another for an agreed period against an agreed consideration. However, certain financial institutions have adopted leasing as a mode of financing instead of long term lending on the basis of interest. This transaction of lease may be used for Islamic financing, subject to certain conditions. It is not sufficient for this purpose to substitute the name of 'interest' by the name of 'rent' and replace the name of 'mortgage' by the name of 'leased asset'. There must be a substantial difference between leasing and an interest-bearing loan. That will be possible only by following all the Islamic rules of leasing.

Basic Rules of Ijarah

1. Leasing is a contract whereby the owner of something transfers its usufruct to another person for an agreed period, at an agreed consideration. 2. The subject of lease must have a valuable use (which is recognized as Mal-eMutaqawwam in Shariah. Therefore, things having no usufruct at all or whose usufruct is not permissible according to Shariah cannot be leased. 3. It is necessary for a valid contract of lease that the corpus of the leased property remains in the ownership of the seller, and only its usufruct is transferred to the lessee. Thus, anything which cannot be used without consuming cannot be leased out. Therefore, the lease cannot be effected in respect of money, eatables, fuel and ammunition etc. 4. As the corpus of the leased property remains in the ownership of the lessor, all the liabilities emerging from the ownership shall be borne by the lessor, but the liabilities referable to the use of the property shall be borne by the lessee.

5. The period of lease must be determined in clear terms. 6. The lessee cannot use the leased asset for any purpose other than the purpose specified in the lease agreement. If no such purpose is specified in the agreement, the lessee can use it for whatever purpose it is used in the normal course. 7. The lessee is liable to compensate the lessor for any damage to the leased asset caused by any misuse or negligence on the part of the lessee. 8. The leased asset shall remain in the risk of the lessor throughout the lease period in the sense that any harm or loss caused by the factors beyond the control of the lessee shall be borne by the lessor. 9. A property jointly owned by two or more persons can be leased out, and the rental shall be distributed between all the joint owners according to the proportion of their respective shares in the property. 10. A joint owner of a property can lease his proportionate share to his co-sharer only, and not to any other person. 11. It is necessary for a valid lease that the leased asset is fully identified by the parties. 12. The rental must be determined at the time of contract for the whole period of lease. 13. In the long term lease agreements, it is mostly not in the benefit of the lessor to fix one amount of rent for the whole period of lease because the market conditions change from time to time. For this purpose it is allowed to use benchmark rate to determine the rental amounts. However, rent for the month will be fixed at the start of the month, any change in benchmark rate during the month will not cause rent for that month to change. It is also necessary to define a floor and ceiling. 14. The lessor cannot increase the rent unilaterally, and any agreement to this effect is void. 15. The rent or any part thereof may be payable in advance before the delivery of the asset to the lessee, but the amount so collected by the lessor shall remain with him as 'on account' payment and shall be adjusted towards the rent after its being due. 16. The lease period shall commence from the date on which the leased asset has been delivered to the lessee, no matter whether the lessee has started using it or not. 17. If the leased asset has totally lost the function for which it was leased, and no repair is possible, the lease shall terminate on the day on which such loss has been caused. However, if the loss is caused by the misuse or by the negligence of the lessee, he will be liable to compensate the lessor for such negligence.

4) Trade related services

A complete range of products and services for importers and exporters are available. Based on various modes of Islamic Finance, the solutions have been designed to suit the needs of our customers. Some of the key services offered include:

Letters of Guarantee - following types of guarantees could be issued o Bid Bond o Performance Bond o Payment Bond o Retention Bond

Products for Exporters o Export bills for collection o Export (Sight) bills purchase under Salam Arrangement o Export (Usance) bills purchase under Murabaha Arrangement Products for Importers o Sight Letter of Credit o Usance Letter of Credit

Investment Banking
Realizing the increasingly diverse needs of our customers for advisory and structured finance transactions, a specialized department focusing on Investment Banking is funtioning at Meezan Bank. The Investment Banking department provides unique structuring by using complex Shariah structures for transactions so as to meet customer's commercial needs. Meezan Bank as torchbearer of Islamic Banking has been making significant contribution in the Investment Banking industry by playing leading roles in business transactions.
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