There are some additional legal and structuring costs with Islamic financial products compared to their conventional equivalents, but the significance of these should not be exaggerated, especially as the products become more standardized. These nevertheless potentially eat into profit margins, but as Islamic financial institutions grow, the fixed overhead costs per client fall. The major reason why costs per client for smaller Islamic financial institutions are higher and profits lower is their limited ability to take advantages of economies of scale and scope. As clients may be prepared to pay more for Shariah compliance than they would for conventional products, this means Islamic financial institutions can charge a higher price, enhancing their profit margins. Shariah compliance is a means of differentiating products, and in such markets there is less competition than for standardized products. Of course as more Islamic financial institutions compete with each other, profits get eroded, but the competition still remains less than in conventional banking. This also applies to products such as Sukuk, where the higher margins than on conventional securities have attracted major investment banks into the business, where their existing knowledge and contacts gives them an advantage. The same is happening in the Takaful industry, where the higher margins are enticing major insurance companies to enter the market where they can take advantage of externalities from their conventional businesses.
PROFESSOR RODNEY WILSON
Indeed not: Islamic finance is as risky as the underlying investment. Islamic finance concerns the equitable sharing of risk and reward, and there tends to be a distinction between the “development” phase of a project — any project — which is risky, and the stream of production or revenues that flows from a project once it is complete. In the former case, a “venture capitalist” investor may run a very substantial risk by financing the project and therefore will negotiate a fairly substantial share of the project revenues – if there are any. In the latter case, a risk-averse investor — maybe retired — may be interested in a solid long term established revenue stream, and in this case the same investment in money terms would buy a very much smaller share in the completed project revenues. Indeed, it is likely that the “venture capitalist” would actually sell his investment — and realize his profit — to the long term investor. The point is that Islamic investors in risky ventures may quite legitimately receive returns of a multiple of their investment, provided that in the event of the venture failing they participate in that failure. CHRIS COOK Principal, Partnerships Consulting
Not true at ALL. In fact, if riba-free financing were to be applied — not mechanically, but in its spirit — it will result in better profits than conventional banks. The most important feature of riba-free banking and finance is its goal of NOT to dig a deeper hole of debt for the customer and to plan his financing to pay it off and become an investor. At LARIBA, we DO NOT RENT MONEY because renting money at a price called interest rate is exactly what riba is. Riba-free banks deal with communities at the grassroots. That means, if applied in its spirit that due to the rule of “Know Your Customer”, the losses are much smaller than in conventional banks. In addition, riba-free bankers are careful with money because it is a trust from God and the community. They do not fly first class — and many times, not even business class — they focus more on the substance and not the image (driving a Toyota or a Cadillac versus a BMW or Mercedes… etc.) Our parents taught us that spirit when they told us, ‘You should live within your means and that money respects those who respect it.’ DR YAHIA ABDUL-RAHMAN Founder, LARIBA
Not really, but some key considerations. Islamic finance doesn’t prohibit you from running a successful and profitable enterprise, but it does affect your funding and how you share those profits. If the Islamic sector does not offer competitive funding, then running an Islamic business will be less profitable. Also, if you share more of your profits with investors then there is less available for the companies’ owners (unless all funding is equity based – in which case share value would rise) KHALID HOWLADAR Vice-president/senior officer, Moody’s Investors Service
Any statement that profitability from Islamic banking and finance products and services is inferior to conventional products is untrue and is based on total ignorance or it arose only when somebody is trying to cheat someone. Islamic financial products and services are available in the market providing comparable and competitive returns to investors. Only products that give the best value to customers will be marketable and as such it is only natural for Islamic financial services provider to ensure the returns are attractive to the targeted investor base. Also the so-called inherent features of true Islamic finance are an overblown discussion which typically arose from pure misconception. Typical discussion centers, amongst others, on the need for risk taking, for example. It is true that in Islamic finance one must take risk just as it is true in all other type of commercially viable economic activities including conventional financial activities. However, to say that in Islamic finance we must take the risk more and far longer because it’s needed to show a real trade under Shariah is nonsensical. It only adds cost which in turn leads to lower profitability to customer. This goes against the very essence of Shariah. Under Shariah it is compulsory to mitigate risk or hedge risk because we are required to protect the interest of the bank’s customers. Risk taking is relative based on what is the accepted prudential requirement. As such, there is no issue for banks to hold assets it purchases under, say, a Murabahah transaction for just a second or a millisecond before it sells to the customer at mark-up. The longer it holds the asset the more expensive it becomes for the customer buying the assets from the bank as the cost of holding the asset will be passed on to the customer. In Malaysia, Islamic products provide not just comparable and competitive profit but a lot of them also provide better returns. A case in point is Islamic bonds, or Sukuk, in Malaysia, which give better yield than conventional bonds. There is also a fixed deposit account in Malaysia known as Fixed Rate Investment Account-i or Advance Profit offered by CIMB Islamic that actually provides superior three months profit rate with customer getting money upfront on placement of deposit instead of getting return at maturity. In conclusion, Islamic banking and finance do give comparable returns to conventional products if not better and this debate should be put to rest. BADLISYAH ABDUL GHANI CEO, CIMB Islamic
No. If Islamic investors are willing to take true profit and loss risk, then they should also get the true returns on those assets. That is the essence of Islamic investments. The challenge is to find true Islamic investors and run the business on that basis. KHALID BHAIMIA Managing director, Hong Leong Islamic Bank
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