PMU:

Prince Mohammed University

Fall Semester 2012/2013

FINA 4351: Special Topics in Finance

Islamic Finance

Term Project: Islamic Banking

Student Name: Leena Al-Shibil

ID: 200900172

Section: 201

Submitted to: Dr. Dawood Ashraf (CFA)

December 15, 2012

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Table of Contents

EXECUTIVE SUMMARY 3

OVERVIEW OF ISLAMIC BANKING 4

STATUS OF ISLAMIC BANKING - GLOBALLY 4

STATUS OF ISLAMIC BANKING – SAUDI ARABIA 5

ISLAMIC BANKING PRODUCTS 7

ISLAMIC BANKING PRODUCTS BY RIYADH BANK 8

MY ASSESSMENT 11

ARGUMENT (1) 11ARGUMENT (2) 11ARGUMENT (3) 12

REFERENCE 14

APPENDIX 15

CHART 1 15CHART 2 16TABLE 1 17

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Executive Summary

Islamic banking is banking system that is based on the law of shari’a.

Which means that it should not involve Riba transactions, or Haram activities, or

uncertainty risk (Gherar).

The first appearance of Islamic banking system businesses was in Egypt

back in the 1960s. Since then, Islamic banking start expanding in Egypt and other

countries. By the years of 1980s Islamic banking came into existence in the

western and other non-Islamic countries. Today Islamic banking is worth US$1.1

trillions worldwide. Tops Islamic banks have recently a growth rate of 20%,

while conventional banks’ growth rate is about 9%.

Islamic banking is a strong sector in Saudi Arabia due to the level of

competition. Today in Saudi there are no fully commercial banks. All banks must

provide some products that complies Shari’a. In Saudi Arabia banks are divided

into 2 sections; Islamic banks, and mixed operations banks. Islamic banks are the

banks, which follow Shari’a law in all its operations. Mixed operations banks are

commercial banks that offer Islamic products, whether they have a fully Islamic

branches or only a small section within any branch.

Differences of faith and beliefs result in differences of views to accept or

reject a certain principle of Shari’a. Therefor, there are a lot of Islamic products

that are offered by different banks and institutions around the world. Some of

the most common products such as; Wadiah, Modharaba, Mosharka, Morabaha,

Bai’ Bethmn Ajil, Qard Hasan, Ijarah Thoma AlBai’, Bai’ AlAyynah, Sukok, will be

explained later on.

Riyadh bank is an old and one of the larges financial institutions in the

kingdom and the Middle East. Riyadh bank originally applies the normal

international system banking (Commercial). However, Riyadh bank has fully

Islamic branches that offer deposit, loan, and investment products. This report

will explain the commodity the bank uses for the Islamic transactions. Also, you

will find explanation and highlighted features of each of the bank’s Islamic

products.

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Overview of Islamic Banking

First of all, Shari’a is the Islamic law. It is considered by two kinds of

sources. The first one is the major source, which is considered for introducing

products and services. The other one is minor source, which is considered for

solving arising issues. The major sources are Qura’an and Sonnah in addition to

Ijma’ which is the agreement of qualified people, and Qyas which is to decide on

something based on the similarity of something else’s decision. The minor

sources are Istehsan which is to prefer, Isteslah which can be valid, Ijtehad which

is diligent, and Orf which is a tradition. And all these minor sources are set and

known by the community, unlike the major sources that must be from a qualified

Islamic scholar.

Islamic banking is a banking system that is based on Islamic low – Shari’a.

It has three major rules. First, It should not involve activities that are prohibited

by Shari’a (Haram activities). Also, It should not involve any uncertainty risks

(Gherar). And, It should not involve any interests (Riba). Islamic banking offers

services for its customer just like any other conventional banking with taking

under consideration the previous three principles, such as: bonds, derivatives,

swaps, and many other investment accounts. Only, Islamic banking change all the

features in the mentioned products into a features that complies shari’a. For

example: Bonds are called Sukok and they are almost interest free. This paper

will discuss the status of Islamic banking globally and in Saudi Arabia, also will

explain all products that are offered under Islamic banking in details, and will

show and discuss the Islamic banking products that are offered by Riyadh Bank,

Saudi Arabia.

Status of Islamic Banking – Globally

Islamic Banking started back in 1963 in Egypt, by a man called Ahmad

AlNajjar, who converted his idea of profit sharing (non-interest) to an existing

business that complies Shari’a. In the years of 1970s, Islamic banking was

expanded. A lot of Isamic banks came into existence, not only in Egypt, but many

more Islamic countries, Arabs and non-Arabs as well.

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However, Islamic banking was limited only in Islamic countries. By 1980

Islamic banks were opened in the Western countries. Since 1990, the Islamic

banking system has growth rate of 10% to 15% on annual basis. “The Islamic

banking market today is worth in excess of US$1.1 trillion worldwide. As a

measure of its success and the demand for it, the top 20 Islamic banks in the Gulf

region have grown by 20% in the last 18 months compared to an average of 9%

for conventional banks”-(Temenos, 2012).

Islamic banking have been growing in the globe. Today there are more

than 300 Islamic banks in the world, according to the international Islamic

institution. Also, most conventional banks are offering Islamic products and

services in all around the world.

The following chart shows the growth of Islamic banking globally.

Status of Islamic Banking – Saudi Arabia

Saudi Arabia’s banking sector is very strong and has a high competition.

However, there are about 10 banks within the kingdom. The competition does

not reach the point of attracting even more and more customers like the case of

monopolizing the market with the telecommunication companies in the

kingdom.

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In Saudi there are three types of banks, the following will explain:

Fully Islamic Banks: Shari’a compliant banks, Islamic banking

system applied from A to Z with all the bank’s operations.

Mixed Operations Banks: originally, commercial banks. However,

they launch fully Islamic branches or Islamic windows within any

branch of the bank.

Commercial Banks: conventional banks follow the international

banking system. This type of banks exists only in the past. In Saudi

Arabia, any commercial bank must provide Islamic and Shari’a

based products. When that’s happens the bank launch an Islamic

sections and therefore it goes under mixed operations banks

division.

The following chart shows the banks in Saudi and the percentages of their

profitability.

Islamic Banks

AlRajhi BankAlinma BankAlBelad BankAljazeerah bank

Mixed Operations Banks

Riyadh BankSABBSAMBASHBNCBSaudi Fransi Bank

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Islamic Banking Products

Different banks with different Shari’a committees can come up with

different Islamic products. The following will explain Islamic banking products.

However none of the products are universally accepted as Halal. Our textbook

with addition to most web sources, have stated that differences in individuals

faith and believes differ to accept a certain Islamic product from one to another.

Here are the most common products:

Wadiah: Safekeeping agreement. Bank guarantees to safe the assets,

depositor is allowed to withdraw anytime. Bank may charge fee for saving

the assets, also may give Hibah; voluntarily gift as a reward to the

customer.

Modharabah: Profit sharing agreement between investor and

entrepreneur. Profit will be shared among the parties upon agreed ratios.

Losses will be born by the investor only (capital provider).

Mosharkah: Joint venture usually by business partners. All profits will be

shared upon agreed rations. Losses will be divided based on the equity

ratio of each party.

Morabaha: Known as cost plus. Bank sells a good to the customer at mark-

up price. Customer pays payments over an agreed period of time.

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Bai’ Bethaman Ajil: Known as deferred payment sale. Similar to Morabaha,

only it is a single installment from the customer to the bank.

Qard Hasan: Interest free loan for fixed period. The customer is required

to pay the borrowed amount.

Ijarah Thomma AlBai’: Leasing contract then purchase contract. The bank

buys a good and leases it to the customer. At the end of the leasing period,

the customer purchases the good at agreed sale price.

Bai’ AlAiynah: Known as sell and buy back contract. The bank sell the good

to customer on deferred payments, then repurchase it at discount rate.

The customer will have immediate cash.

Sukok: Bonds must be backed with assets. No fixed returns but, linked to

the returns of the assets.

Islamic Banking Products Offered by Riyadh Bank

Riyadh bank is one of the oldest and largest financial institutions in the

kingdom of Saudi Arabia. It has more than 246 branches, with 73 ladies section,

and 14 self-service electronic branches. “Our remote banking package

(RiyadNet) uses the latest electronic technologies to address the banking needs

of our customers. The bank has also kept its lead in the ATMs network, as the

number of multi-functional ATM's exceeded 2,600 machine distributed in

strategic & carefully selected locations” - (Riyadh Bank, 2012). It also supports

the international needs of its clients by locating international offices globally,

such as London, Huston, and Singapore.

Riyadh bank’s board of directors consists of 10 members, Rashed Al-

Rashed is the chairman of the board of directors. Talal Al-Qudaibi is the CEO of

the bank. The audit committee of the bank consists of 5 members, two of them

are board directors, while the other three are external members. Refer to

appendix for board of directors and audit committee charts.

According to one of the employees of the bank1, Riyadh is considered

semi-Islamic bank. Meaning the bank has conventional branches and full Islamic

branches as well. In addition, some of the Islamic products are offered in both

1 Riyadh Bank Islamic Branch - Dhahran

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kinds of branches. So Islamic banking is a big portion of Riyadh Bank. The bank

regulates a special committee to ensure the products that are offered under the

Islamic banking, it is called Riyadh Bank’s Shari’a committee. It is consist of

Islamic scholars who supervise the work of Islamic banking of the bank. The

committee states judgments whether the products or services comply Shari’a or

not. The committee consists of three members:

Shaikh Abdullah Al-Manaea – head of the committee

Shaikh Dr. Abdullah Al-Mutlq

Shaikh Dr. Mohammed Al-Qari

According to the employee, Riyadh bank today only deals with A/C

conditioners from Al-Babtain Company as the commodity in which the buy and

sell for all their Islamic deposit products and Islamic loans as well. The employee

also explained their Islamic investments products in which he said that they

invest in the stock market, but they only trade with companies that 100%

complies shari’a, and have an actual returns.

The following chart lists all the product of Islamic Banking by Riyadh

bank. For more information, see Table1 in the appendix for more details.

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Islamic Banking

Mortgage

Housing Finance

Land Finance

Personal Finance

Finance w/o Salary Transfer

Tawarrug Finance

Murabaha Finance

Finance Against Securities

Auto Leasing

Corporate Customers

Financing

Investment Solutions

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Judgment/Assessment/Argument

Argument (1): The principles’ the banks uses.

Riyadh bank uses Tawrroq principle in most of its products. As the

employee stated that over than 75% of Islamic banks in Saudi uses Tawarroq

principle. Most Islamic big scholars including Shaikh Al Islam Ibn Taymyah have

Fatwas that says that Tawarroq has more than one type. They stated the type of

Tawrroq that the banks are using is a Haram activity, which is not acceptable to

deal with in an Islamic view.

The principle that Islamic banking should apply is Risk Sharing between

the bank and the client. Risk sharing is clear and obvious for both parties; the

bank and the clients. In my point of view Islamic banks in Saudi are not following

evidence of Shari’a, but they are following the principle of Mohayalah on Shari’a.

Meaning, they find what they want by looking at the Daleel in indirect way,

instead of taking the meaning of Daleel as it is. However, neither Riyadh bank,

nor other banks in Saudi are applying risk-sharing principle today. Therefore, I

do not believe that Riyadh bank Islamic branches are considered Islamic banks,

or other Islamic banks in Saudi.

Argument (2): Dealing with non-Islamic banks.

Dealing with institutions who operates in Halal activities, is one of the

conditions in Shari’a law for money transactions. This means that banks that

operate with interests and non-Islamic stocks will gain profit from Haram

activities. According to Shari’a it is Haram to deal with such institutions.

In this case, Riyadh bank is known as commercial bank that has launched

Islamic branches. Regardless to the principles of Shari’a they use, dealing with

the bank is considered Haram in this argument.

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Argument (3): Riba and the current currency.

First of all, I do not see myself in a position to judge the previous

transactions in a way to decide if they are Haram or Halal. Most of Islamic

scholars, and also Islamic scholars with finance and Shari’a degrees, still struggle

to make clear judgments that identify a Haram or Halal transaction.

I came up with an argument after searching and conducting some

scholars and professors’ opinions. Regardless of the cash transactions by the

bank in which they come up with based on one of the shari’a’s principles, the

argument was actually stating if Riba can be Halal or Not. Meaning that Riba is

forbidden in Islam in the use of some kinds of commodity, such as gold. But Riba

can be a Halal transaction in the use of something else. Remember that the word

Riba means increase. So to have more of some commodity can be Halal, in the

same time, other commodity can be Haram.

Prophet Mohammed peace be upon him once said: “Gold is to be paid for

by gold, silver by silver, wheat by wheat, barely by barely, dates by dates, salt by

salt, like for like, and equal for equal, payment being made hand to hand. If these

classes differ, then sell as you wish is payment is made hand to hand”. Prophet

Mohammed once sold a camel by two camels in the future. Riba is applied on

both scenarios. However, the first one forbid the raise in the commodity, and

emphasize on equality and evenness. The second part allows the increment of

the commodity, which was the camel.

Now I come to my argument in which I seek the judgment of Riba on the

current currency (Riyals). In the past fluctuation of Saudi Riyals were bond to

gold. For this reason, Riba was surly forbidden according to Shari’a. Today,

fluctuation of Saudi Riyals is bonded with US Dollars, which makes it considered

as a commodity. Islamic scholars have all agreed on the sale of a curtain of

commodity to get more of it after a period of time as a Halal transaction. For

example, Al Shaikh Ibn Othaimeen has stated Fatwa in which to sell 40 sheep and

get 80 sheep next year. Also, Al Shaikh Dr. Ibn Ibrahim have stated the same

Fatwa but in cloth or fabric meters.

Some scholars believe that the use of Riba is Halal unless it was applied

on one of the six types of commodity that was stated in the previous Hadeeth

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(gold, silver, salt…etc.). Other scholars have different belief on the previous

Hadeeth. They assume some kinds of commodities have the same judgment of

the commodities that were mention in the Hadeeth. For this reason, they believe

that our current currency (Saudi Riyals) is treated like one of those types. That is

why they judged the use of Riba on the current currency as Haram.

At the end, I will sum up with prophet Mohammed’s Hadeeth where he

said “Consult your soul, consult your heart, O Wabisa2. Righteousness is what is

satisfying to your soul and your heart. Sin is what wavers in your soul and causes

hesitancy in your chest, even if the people give you a judgment, and again give you

a judgment”. It depends on the judgment of current currency. If it is considered

some kind of commodity, then it can be treated like the prophet’s camel, where

he sold it for more after a period of time, which is a Halal Riba. But prophet

Mohammed also said, “Leave what makes you doubt to what does not make you

doubt”, which means do not deal with issues that confuse you. So if the judgment

of the use of Riba on current currency is confusing, maybe it is better to not

participate in these kinds of transactions.

2 Wabisa; Woman name who asked the question to prophet Mohammed

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Reference:

Bradily, J. (2011). “Islamic Banking Growing in Europe”.

TheWesternExperince.com. Retrieved from:

http://thewesternexperience.com/2011/05/22/islamic-banking-

growing-in-europe/

Chapra, M.U(2009), “Global Islamic Financial Crisis, Can Islamic Finance Help?”,

New Horizon, Issue No.170, http://www.newhorizon-

islamicbanking.com/index.cfm?section=archive&action=view&id=81

Ernst&Young. (2011-2012) “World Competiveness Report” Retrieved from: PMU

Blackboard.

Islamic Finance Info. (2011). “Know Your Islamic Banking Products”. Retrieved

from: http://www.islamicfinanceinfo.com.my/discover-islamic-

banking/know-your-islamic-banking-products

MBC1. (2011) Respond to Islamic and Commercial Banks Episode “Not Brothers”.

Retrieved from: http://www.youtube.com/watch?v=4ToHZd9X8KA

Qumma. (2008) “ االسالمية :AlZakat.wordpress.com. Retrieved from .”البنوك

http://alzakat.wordpress.com/2008/01/12/ األلف - من - اإلسالمية - البنوك - / الياء - إلى

Riyadh Bank. Official Webpage: http://www.riyadbank.com/index_en.html

Shahid. (2011) “Zaid Akho Obbid” Banks Episode. Retrieved from:

http://shahid.mbc.net/media/video/22660/ 10 _ الحلقة _ طاش

Shanmugam, B & Zahari, Z (2009). A Primer on Islamic Finance. Virginia: CFA

institution.

Uab Arab laws. (). “Islamic Products Terminology”. Retrieved from:

http://www.uabarablaws.org/islamic-banking-terminology

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Appendix:

Chart1: Board of Directors.

Board of Directors

Rashed Al-Rashed(Chairman)

Dr. Khaled Nuhas

Abdulrahman Sharbatly

Dr. Abdulaziz Al-Jurboo

Abdullah Al-Aydhi

Abdullah Al-Issa

Dr. Faisal Abalkhail

Mohammed Al-Afaliq

Nader Al-Wehaibi

Waleed Al-Issa

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Chart2: Audit Committee.

Audit Committee

Dr. Ibrahim Al-Khudhair

Dr. Abdullah Abdulqader

Eng. Abdullah Al-Saif

Dr. Khaled Nuhas Abdullah Al-Issa

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Table1: Riyadh Bank Islamic Products.

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Islamic Banking Who does it

complies Shari’a?

Features Conditions

Mortgage

Housing Finance

Mortgage

Morabaha

or

Ijarah

Up to SR5 m

Up to 30 yrs

Minimum salary:

SR4,000

Property: no more

than 25 yrs old

Land Finance Up to SR3 m

Up to15 yrs

Minimum salary:

SR4,000

Land shall not be

charged

Personal Finance

Finance w/o

Salary Transfer

Morabaha

or

Tawarruq

Up to SR300,000

Up to 4 yrs

Available to

Saudis and non-

Saudis

Minimum salary:

SR5,000

Tawarrug

Finance

Twarruq: buying

installments in

good owned by

the bank.

Customer sells the

shares of the good

Competitive

margin rates

Up to SR1.5 m

Up to 5 yrs

Minimum salary:

SR2,000

Murabaha

Finance

Morabaha

Finance Against

Securities

Tawarrug or

Morabaha

Up to SR3 m

Up to 5 yrs

Has banking

deposits or shares

Auto Leasing Ijarah Profit margin start

from: 2.69%

Up to SR500,000

Up to 5 yrs

Minimum

transferred salary:

SR2,500

Minimum non-

transferred salary:

SR4,000

Corporate Customers

Financing Morabaha

Tawarruq

Istisna’

Ijarah Finance (with promise of ownership)

Short-term Islamic Finance

Compound Finance

Lease Based on Financial Liabilities