Thursday, December 27, 2012

Oman's prohibition of tawarruq and murabaha sukuk

The Omani banking law is notable in many ways, but the most discussed way is that it prohibits--with very few exceptions--the use of commodity murabaha (tawarruq) (CMT).  The exceptions are narrow: an Islamic bank is permitted to use CMT if its "survival is genuinely threatened, or in case of a conventional bank's conversion into Islamic where no other alternative mechanism exists to convert part or all of its portfolio, as determined by the bank's SSB".  Any use of the CMT requires Central Bank approval, which should be effective in limiting the times it is used.  In any case, it cannot be rolled over and so it can only be used for three months. 

However, the concept of murabaha is usable, in particular, through sukuk.  The Islamic banking law describes: "Murabaha Sukuk are certificates of equal value issued for the purpose of financing the purchase of goods through Murabaha, in which the certificate holders are granted ownership of the Murabaha commodity".  The transaction has four steps:

1) The SPV set up by the company looking to finance the acquisition of a particular asset and issues sukuk certificates, selling them at par;
2) The SPV buys the asset needed by the company (the originator), using the proceeds of the sukuk issuance;
3) The SPV sells the asset to the originator in exchange for the commitment of the originator to pay their value, plus a fixed profit margin, with set payment terms;
4) The originator makes payments and when the final payment is made (either of the par value if it pays profit during the term of the sukuk or of the full cost plus profit amount) the proceeds are passed along to investors and the sukuk certificates are redeemed.  

Nothing in the above description above varies from the typical structure used in murabaha sukuk (nor would it be expected since the rules require compliance with AAOIFI standards).  However, what is not mentioned, and I cannot find in the rules, is whether there is approval of the purpose of the sukuk issuance. 

What I mean here is that there is not a stipulated requirement that I can find for the murabaha sukuk to be approved by the central bank to determine whether it is a straight murabaha, or if the murabaha sukuk (or presumably any other murabaha financing) could be turned into a tawarruq.  The law is pretty clear that CMT is prohibited for Islamic banks, so it would rule out this situation for Islamic banks (the Central Bank of Oman, in its capacity as regulator, would presumably review any murabaha undertaken by a bank to ensure it was not in violation of the prohibition of CMT).

However, it is unclear whether there would be oversight from the Capital Markets Authority (CMA), which would likely fill the role of regulator of any sukuk issuance by non-financial companies.  I don't think the rules for sukuk are available yet from the Omani CMA (please tell me if they are) and they may cover this, but from the searching through the Islamic banking law, the closest I can find is:

The funds raised through the issuance of Sukuk should be applied to investment in specified assets rather than for general unspecified purposes.  This implies that identifiable assets should provide the basis for Sukuk.

Otherwise, what would be stopping a company in need of capital from issuing a sukuk to acquire 600 MT of nickel for $10 million and then in a separate transaction selling the nickel to realize $9.8 million in proceeds.  Perhaps there would be a way for the CMA to target the issuer for failing to disclose accurately the reason for the sukuk (since it could not just be issued for 'general corporate purposes').  I would hope that there is some clarity when the CMA releases its guidelines for sukuk issuers that include some ex post review of the use of the assets to ensure that they are used for the stated purposes, but regardless it introduces some uncertainty. 

1 comment:

Blake Goud said...

A special purpose vehicle (SPV) is a company set up with the limited purpose of facilitating a specific transaction. So in an ijara sukuk, the SPV would issue sukuk and use proceeds to buy an asset from the issuer and then lease that asset back to the issuer. It would pass all income through to the investors. At maturity, the SPV would sell the asset back to the issuer and use the proceeds to redeem the sukuk. The SPV then would usually be dissolved.

A murabaha sukuk is useful for issuers without assets it can use for a sukuk issuance since the transaction involves the SPV buying an asset and reselling with a markup to the issuer, with deferred payment of the cost and profit.

It is less useful for investors because it is usually not freely tradable, and is usually used for short-term sukuk (<1 year).

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