We are discussing Sukuk and I am on offering circular. I would rather call it a ‘prospectus’ based on the reasoning provided by me in the last article that it is not an ‘offer’ to the investors but an ‘invitation’ to them to make an offer. Since the offer actually comes from the potential investors to the originator of Sukuk who has the discretion whether or not to accept it, the name ‘offering circular’ does not really fit this important document. So, I will refer it as the ‘prospectus’.
Similarly, I hope you agree with the justification provided by me in the same article for the Sukuk to be tagged as the ECM instrument instead of DCM product as the Shariah principles do not allow trading in debt.
In this connection, I recall a few years ago a prime US bank endeavored to test the Islamic finance market by issuing a debut commodity Murabahah Sukuk for a large amount. The Sukuk was also arranged to be listed in a European bourse for trading pursuant to completion of subscription.
My industry colleagues will remember that the Sukuk remained in the market for few weeks without receiving any subscription due to the fact that no Shariah scholar approved the listing and trading of Sukuk since it was based on Murabahah which is a debt-oriented transaction. Frustrated with the situation, the US bank rolled back the Sukuk and has not returned to Islamic finance market since.
Frankly, I do not blame the bank who had no idea about the Islamic financing landscape. In my opinion, the advisors appointed by the bank were at fault. On the flip side, it is also a loss to the industry since the first successful attempt would have encouraged the US bank to return to market frequently with large Sukuk amounts.
Looking from another angle, perhaps the bank would have also facilitated higher Islamic finance activity within the US which is lagging far behind the UK in adopting the noble system. Anyway, this real-life failed Sukuk example sets the record straight that the Sukuk should not be regarded from DCM genus but qualifies to be treated ECM genre, similar to listed stocks.
Normally the pattern of the information provided in a Sukuk prospectus include everything an investor would like to know to be able to make an educated investment decision. Another aspect to be considered while preparing the Sukuk prospectus is the class of investors to be targeted.
For example, if the Sukuk originator would like to attract the qualified institutional investors from a particular country or region, the text of the prospectus should respect the laws of the land related to subscription to a foreign instrument. It is customary to begin the prospectus with certain disclaimer starting from which jurisdiction it is not targeted at, to the caveat that the investment made shall be at the investors’ risk, etc.
Since the prospectus is the invitation to invest in the Sukuk, the originator must provide complete information about the history of business, the current state of financial affairs and the future plans, atleast covering the period of investment i.e. till the Sukuk maturity date. Any previous capital market visits with successful outcome will certainly add to the investor appeal.
Unlike bond prospectus, the Sukuk prospectus contains the Shariah structure, defining how the investors funds shall be channeled, the level of profits earned and periodically distributed subject to the incentive to the originator. The risks involved in the investment are necessary to be highlighted with the recommendation to also seek professional advice.
Here, I will pause to remind the readers the golden Shariah principles on making investment, explained by me in article 20. I had cited the Arabic phrases “Al Ghunmo Bil Ghurm” which means the return is tied to the risk and “Alkharajo Biddaman” translating that the entitlement to revenue corresponds to the liability for loss.
Since the investors shall not loan the money to the Sukuk originator but invest their equity with it, it becomes all the more important that we spent some time in recalling the contents of that old article.
I had said that both these principles convey one thing. If you wish to earn a profit from a certain trade or investment transaction built around Shariah principles, you should also be prepared to endure the loss of profit as well as the capital. This is the reason that Islamic investment is termed as the profit and loss sharing activity.
Having said that, I had also mentioned that every Shariah compliant investment transaction is carried out with the intention to make profit and the loss if any, will need to be proved by the obligor i.e. the person responsible for deploying the investors’ funds. Not only that, it will also be necessary to make clear that the loss did not occur due to obligor’s negligence. If the obligor failed to prove its innocence, it will be responsible to make good the loss.
Readers should note that even the investment risks usually highlighted in the Sukuk prospectus are similar to the warnings found in the investment memorandum of a mutual fund or any other collective investment scheme. Need I say more on the incorrect labeling of Sukuk as DCM?
The purpose of this educative series and the article is not to hurt any religious or commercial sentiments either consciously or even unwittingly.
Sohail Zubairi is an Islamic finance specialist and AAOIFI-certified Shariah advisor and auditor. He can be contacted at [email protected]
Next week: Discussion on the offering circular shall continue.