Shariah condition for commencement of trading in Sukuk

After having explained the asset classes of the AAOIFI Shariah standard’s definition on Sukuk in the last article, it is important for me to explain its last part which reads as: “However, this is true after the receipt of the value of Sukuk, the closing of subscription and the employment of funds received for the purpose of which the Sukuk were issued”.

Let me try to explain the aforementioned through the Sukuk subscription, allotment and deployment cycle which equally applies to a listed or a privately placed Sukuk. The listed Sukuk is the one which is registered at a bourse where it can be publicly traded to provide an exit route to the Sukuk investors whereas the privately placed Sukuk is not listed at a bourse and hence cannot be publicly traded but may change hands privately.

Once the Sukuk has been launched and the subscription amounts are received, the total is compared with the Sukuk amount. If the offer is oversubscribed, the originator (also called the obligor who is seeking funds) may decide to raise the Sukuk amount, provided there is headroom in the value of the Sukuk asset, and also that the prospectus includes the information that the greenshoe option may be used by the originator.

I have explained the greenshoe option in article 148 with the example of Malaysian Sukuk of the year 2002 where such an option was applied pursuant to oversubscription by investors, albeit only up to the space found in the value of the Sukuk assets.

Next, if the originator does not want to mop up the excess liquidity, he can simply allocate the Sukuk among the subscribers up to the originally declared value. They will now attain the status of Sukukholders. Currently, I am dissecting the AAOIFI definition for Sukuk and shall come back later to explain how the subscription is carried out in a dematerialized manner.

If the Sukuk is listed at a stock exchange for trading, the Shariah rules are that the trading must not start while the Sukuk proceeds are still held in the originator’s subscription account with the bank. The reason for such a constraint is that some investors may want to sell the Sukuk and exit whereas some others may want to buy them.

But the problem is that the current form of Sukuk proceeds is money held in the bank account, waiting to be deployed, or converted into asset, and if the value of Sukuk is quoted in the bourse at higher than the face value, the exiting investors shall be earning profit out of money and the incoming investors shall be purchasing money worth the face value of the Sukuk, but at a premium. While such a situation shall benefit the seller, the opposite where the value is below par shall benefit the buyer.

You need to be mindful that the question is not that someone is gaining and somebody else is losing which is perfectly alright being part of the market fundamentals. The whole issue is that what is being bought and sold?

The opening debate in this series has clearly set the tone that Shariah does not recognize or approve money to be treated as commodity, unlike the conventional financial system where money is ‘sold’ at a higher price in the shape of a loan with pre-agreed interest.

Hence, if the Sukuk is allowed to be traded prior to the funds received against the sale of Sukuk are converted into an asset, this will be tantamount to trading in subscription money which is being treated as a commodity, and not in the undivided ownership of the Sukuk asset.

Therefore, if the original Sukuk investor wants to liquidate his holding, he will have to wait until the funds are properly deployed, or a better term is ‘converted’ into an asset, or at least handed to the project management team to start utilizing it. This may result in the Sukuk value going down in the market but so be it. It will not be possible that the golden Shariah principle is compromised for a small gain for some investors.

The window of converting the subscription cash into an asset is fairly narrow in Sukuk Ijarah where the originator sells his own asset and takes it back on lease. Also, the Sukuk based on purchase and agency explained by me in article 149 would be quick to be opened for trading. This is because of the ready availability of the asset with instant deployment and immediate revenue generation.

A question then arises: who holds the key to open the Sukuk for trading? None other than our dear Shariah scholars who worked on the Sukuk transaction and certified it to be Shariah compliant. It will be their responsibility to ensure that the Sukuk proceeds have been duly employed and are no more held in the bank account originally opened to receive the Sukuk proceeds.

As for the excess funds received on account of Sukuk subscription, they must be refunded forthwith upon the completion of the allotment process. The allotment can be carried out prorated to the received applications or preferably for subscribers of a larger amount of Sukuk if the intention is to keep the number of investors to a minimum for ease of Sukuk operation. However, such an intention should be spelled out in the prospectus.

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 Sukuk to continue.