Journal of Islamic Accounting and Business Research

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Dissecting the Implementation of Musharaka in Islamic

Banking in Indonesia
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Journal: Journal of Islamic Accounting and Business Research

Manuscript ID JIABR-09-2017-0128

Manuscript Type: Research Paper

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Keywords: Musharakah, Profit and Loss Sharing, Islamic Banking, Islamic Accounting
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 Page 1 of 10 Journal of Islamic Accounting and Business Research
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3 Dissecting Implementation Musharaka in Islamic Banking in Indonesia :
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5 A Case Study
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Abstract
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9 The objectives of the study is to analyze whether the application of Musyarakah financing
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10 implemented by islamic bank in Indonesia has fulfilled the aspect of Shari'ah compliance
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based on Fatwa DSN number 8 and PSAK number 106. This research is a qualitative
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13 research with case study approach that analyzes the case of musyarakah financing applied
14 in one of Islamic bank. The study found that Islamic banking, as practiced now, tends to
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15 deviate substantially from the PLS paradigm. The Musharakah practice tends to direct the
16 profit-sharing calculation to a false share that results in fixed and predetermined returns.
17 Islamic banking literature focused on financial performance of Islamic bank. There are no
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18 studies that try to dissect more detail about how the compliance of shariah financing
19 applied by Islamic banks especially in musharakah as done in this study.
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Keywords: Islamic bank, Shariah Compliance, Musharakah, Profit and Loss Sharing
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25 Introduction
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27 In the last decade, the development of Islamic banking in Indonesia has shown
28 positive growth and quite encouraging. This is reflected in the volume of business,
29 investment funds and public deposit funds as well as the continued expansion of financing.
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30 The existence of these developments is expected to make an important contribution in

31 economic activity in Indonesia.
32 Nevertheless, the development of islamic banking business in 2015 is entering a
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bleak period. Growth of assets that had reached 49 percent in 2013, can not be repeated
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again and must be satisfied with the growth rate of 7.98 percent in July 2015.
36 In the five-year period, the 2009-2013 growth of Islamic bank assets averaged 43
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37 percent, but currently the growth has dropped dramatically.

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39 Table 1.1. The Development of Syariah Banking in Indonesia
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55 Source: OJK (2015)
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3 The decline in the growth of sharia banking, not only in terms of assets, but also
4 financing and third party funds (DPK). Even the growth is well below conventional
5 banking. In July 2015, financing only increased 5.55 percent, much lower than
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conventional banks which increased 8 percent. This slowing growth is exacerbated by an
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increase in non-performing financing (NPF) ratio. The position of January 2017, Islamic
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9 banking NPF is at 4.72 percent.
Islamic bank is a bank that runs its activities based on Islamic sharia guidelines
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11 (Siddiqi, 2006). Various studies (Yusof, Bahlous, & Tursunov, 2015), (Khoutem Ben
12 Jedidia, 2014), show that Shariah compliance is the only factor in consideration when
13 choosing a sharia bank. Sharia compliance will ensure the credibility of Islamic banks and
14 increase the trust of both shareholders and stakeholders.
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15 However, research conducted by Malik, Malik, & Mustafa, 2011 found that the
16 financing offered by Islamic banks actually resembles more of debt instruments than
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profit-sharing principles. In addition (Chong & Liu, 2009) also found that in theory
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19 Islamic banks are supposed to operate on the basis of profit sharing but are practically not
20 much different from conventional banks. Research conducted in Malaysia revealed that
21 only a small portion of financing in Islamic banks that use the principle of profit-sharing.
22 Islamic bank is a bank operating on the principle of non-interest. Based on this
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23 principle, the bank earns its income from margin and profit sharing. Based on the margin
24 principle, the bank conducts buying and selling activities known as murabahah, salam and
25 istishna. While based on the principle of profit sharing the bank perform activities in the
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26 form of financing musharaka and mudharabah. The data in the following table shows the
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amount of financing channeled by Islamic banks in Indonesia.
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Table 1.2. Financing of Sharia Commercial Banks and Sharia Business Units by
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31 Type of Contract ( Billion Rp)
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33 Type of Akad 2014 2015 2016
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35 Mudharabah 14.354 14.820 15.292
36 Musyarakah 49.336 60.713 78.421
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37 Lain 51
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39 Murabahah 117.371 122.111 139.536
40 Qard 5.965 3.951 4.731
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Isthisna 633 770 878
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43 Ijarah 11.620 10.631 9.150
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44 TOTAL 199.330 212.996 248.007

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Source : OJK (2017)
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48 The data above shows that the largest portion of the financing disbursed by Islamic
49 banks in Indonesia is murabahah financing that reaches more than 50 percent of financing
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disbursed. While financing based on the principle of profit sharing mudharabah and
51 musyarakah only reach about 35% of total financing.
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Musyarakah financing is a contract of cooperation between two or more parties for
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a particular business, in which each party contributes funds. Profits are divided by
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55 agreement while losses are based on the contribution of funds in the form of cash and non-
56 cash assets allowed by Sharia.While Mudharabah Financing is a business cooperation
57 between two parties where the first party (the owner of the fund) provides all funds, while
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3 the second party (manager of funds) acts as the manager, and profit is divided between
4 them based on the agreement while the financial loss is borne by the fund owner.
5 (Echchabi & Abd Aziz, 2014) states that Musharaka is generally used to finance
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the working capital of entrepreneurs to buy raw materials or goods and also to finance
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service transactions in the form of Letter of Credit (L / C). (Usmani, 1999) also states that
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9 Musharaka can be used to finance export and import.
In Indonesia the practice of Musyarakah and Mudharabah financing is set out in
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11 PSAK No. 105 and No. 106; Fatwa DSN number 08 / DSN-MUI / IV / 2000 and Fatwa
12 DSN number 07 / DSN-MUI / IV / 2000 as well as in Accounting Guidelines for
13 Indonesian Islamic banking(PAPSI) Year 2013.
14 However, many indications show that both types of financing are not so attractive
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15 to Islamic banking. It can be seen from the low financing using both this contract
16 compared murabahah (buying and selling on margin). In addition, some research results
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also found indications of lack of sharia compliance aspects in financing by using
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19 musyarakah and mudharabah (Abushareah & Naim, 2015); (Arshad, 2010). (Ahmed,
20 2014) even said Isam's banking products have been heavily criticized for failing to comply
21 with sharia principles.
22 (Putriandini & Irianto, 2012) also revealed the unification of conventional value
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23 and sharia value in the stage of the Musyarakah financing process at Bank Syariah due to
24 the bank's desire to achieve maximum profit (profit oriented). Therefore, this research will
25 analyze whether the application of Musyarakah financing implemented by islamic bankhas
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26 fulfilled the aspect of Shari'ah compliance based on Fatwa DSN no 8 and PSAK no 106.
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By knowing it then for the next can be done the policies that need to be taken to improve
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29 Shariah compliance On musyarakah financing.
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31 The Basic Theory of Islamic Financial System
32 (Iqbal & Mirakhor, 2011) states that there are some things that become basic
33 concepts in Islamic finance. The basic concepts are: 1) Prohibition on interest, 2) Profit
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34 sharing, 3) Prohibition against speculation, 4) Asset-Based, 5) Purification of Commitment

35 and Protection of Property Right.
36 The prohibition against "usury" which literally means "Excess" and interpreted as
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"any capital increase can not be justified whether it comes from a loan or a sale" is the
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39 main principle of the system of Islamic finance. More precisely any specified additions or
40 predetermined rates inherent in maturity and the principal amount (which is unrelated to
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41 investment performance) are considered usury and prohibited.

42 General agreement among Islamic scholars is that usury in the form of "interest" as
43 usually practiced today. Another consequence of this prohibition of interest is that the debt
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44 with interest definite in the beginning is also forbidden. This prohibition is based on social
45 justice thoughts, equality and property rights. Islam advocates income derived from profits
46 but prohibits interest, since profits are earned after trading activity is done which is a
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success of traders / traders and creates additional wealth.

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49 While the concept of interest is contrary to this, interest is the cost to be paid
50 regardless of the outcome to be derived from business activity and may not result in
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51 additional wealth if the business suffers a loss. The concept of social justice wants the
52 borrower and the owner of the fund to share the proceeds in a fair way. The process of
53 wealth accumulation and distribution must be made fairly and show the actual
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54 productivity.
55 Since interest is forbidden in Islam, the pure debt system is abolished in the Islamic
56 economic system. Fund providers act more as investors than as creditors. Fund providers
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and entrepreneurs share business risks in the form of profit and loss sharing.
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3 The advice to avoid debt and risk sharing recommends a financial system that
4 connects directly between the real sector and the financial sector. As a consequence, this
5 system initiates the "materiality" aspect that connects finance with assets so that financial
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activity can be clearly identified through activity of the real sector. There is a close
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relationship between performance in the form of assets and the return of capital that used
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9 to finance the activities of the real sector.
Islam upholds the sanctity of contract and disclosure of information as sacred. This
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11 is proposed to lessen the risk of information asymmetry and moral hazard. Islam
12 emphasizes the importance of protection of property rights, the balance between individual
13 rights, society and the State and strictly prohibits the acquisition of any property (Lewis &
14 Algaoud 2001).
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15 Islamic banking is a banking system that runs its activities under Islamic law
16 (Zainol & Hj. Kassim 2012). The establishment of this system is based on the prohibition
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in Islam to lend or collect loans by borrowing interest (usury), and prohibition to invest in
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19 categorized as illicit (haram) (Atmeh & Ramadan 2012). Conventional banking systems
20 can not guarantee the absence of such matters in their investments, for example in
21 businesses relating to the production of illicit food or beverages, un-Islamic media or
22 entertainment ventures, and so on.
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23 (El-gamal 2000) states that Musyarakah is a form of partnership contract where

24 profits and losses are shared among parties involved in the contract. In this case there is the
25 notion that the essence of true Islamic banking is the existence of participation both in risk
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26 and return rather than investment, which is done jointly both based on musharaka and
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mudaraba contracts. Hence there is also an expectation that Islamic banks should further
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29 expand financing based on both types of contracts.
(Hassan & Soumare 2015) also states that contracts in Islamic financing should be
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31 designed to avoid risk-free returns and usury, uncertainty (gharar) and gambling (maysir).
32 Financing in an Islamic bank should be made in such a way that the exchange involves
33 goods for money or profit sharing.
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34 Sharia compliance is a matter that must be considered by Islamic banking in

35 carrying out its activities. If the Islamic bank can not fulfill that aspect, then the bank's
36 activities will become questionable. In Indonesia the rules governing financing in Islamic
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banking are sourced from the National Sharia Council (DSN) in the form of the National
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39 Sharia Board Fatwa and PSAK issued by the Indonesian Institute of Accountants (IAI).
40 The fatwa of the DSN which governs Musyarakah Financing is Fatwa number 08 /
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41 DSN-MUI / IV / 2000. This fatwa regulates some provisions on musyarakah financing,

42 namely: the provisions of the necessity of ijab qabul, the competence of the party who do
43 the contract and the object of his own akad.
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44 With regards to profits it is stipulated that each partner's profit shall be

45 proportionately distributed on the basis of all profits and no pre-determined amount for a
46 partner. The DSN fatwa does not set in detail how to determine the profit-sharing ratio. It
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is only said that: The profit-sharing system should be clearly stated in the contract. How is
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49 the process of determining the distribution of profits is not provided herein.
50 PSAK no 106 on Musharaka regulates the definition of musharaka and how the
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51 accounting treatment for musharaka financing. Musharaka is a contract of cooperation

52 between two or more parties for a particular business. Each party contributes funds where
53 the profit is divided by agreement while the loss is based on the contribution portion of the
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54 fund.
55 The funds include cash or non-cash assets that are permitted by sharia. The profit
56 of musharaka enterprises is shared among the partners proportionally with the funds
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deposited (either in cash or non-cash assets) or in accordance with the ratio agreed by the
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3 partners. While the losses are charged proportionally in accordance with the data deposited
4 (in the form of cash and non-cash assets). The other thing set out in PSAK 106 is about the
5 share of profit sharing. The portion of profit sharing for partners is determined based on
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the agreed ratio of the results of operations acquired during the contract period, not the
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amount of the investment disbursed.
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9 In the application of Islamic banking, musharaka is mainly applied in financing,
where the bank as the owner of capital in cooperation with entrepreneurs. Capital
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11 contribution and profit sharing arranged according to agreement. Regarding the results,
12 there are two methods that can be used, namely profit sharing and revenue sharing. If using
13 the method of revenue sharing, means that divided the results between banks and
14 customers financing is income without deducting the costs. If using profit sharing method,
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15 then the amount divided is the result between bank with partner is income after deducting
16 expenses. However, what is currently used in islamic bankingpractices is the method of
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revenue sharing. This is in accordance with the Fatwa DSN number 15 / DSN-MUI / IX /
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19 2000 on the principle of distribution of profit sharing in sharia financial institutions.
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21 Previous Researchs
22 Several studies have been conducted regarding Islamic banking products. Among
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23 them are research that seeks to assess or compare the performance of sharia and
24 conventional banks (Hassan et al. 2009); (Chintaman et al. 2014); (Noor 2017) or assess
25 the social reporting of sharia banks (Meutia & Febrianti 2017); (Bukair & Abdul Rahman
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26 2015); (Zarrouk & Khoutem Ben Jedidia, Moualhi 2016). However, there are not many
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studies that try to see the aspect of Sharia compliance from financing in Islamic banks.
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29 (Rahman & Anwar 2014) In his research that evaluates the implementation of
musharaka mutanaqishah in Islamic finance institutions in Malaysia revealed that the
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31 financing is more in line with the principles and rules of sharia. Rahman and Anwar (2014)
32 even suggested the use of this financing to replace Bai 'Bithaman Ajil's financing.
33 (Ullah 2014) In his research on Islamic banking syariah compliance in Bangladesh
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34 states that the status of Shari'ah compliance in a vulnerable condition. Shariah compliance
35 varies greatly between Islamic banks in Bangladesh and the violation of Shariah
36 compliance mainly occurs in investment activities. This is due to lack of knowledge, lack
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of seriousness in complying with sharia, low attention in sharia audits and the absence of a
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39 competent Sharia Supervisory Board.
40 (Anuar et al. 2014) found that the profitability of Islamic banks was significantly
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41 related to the interest rate of conventional banks. The findings also indicate that the
42 profitability of Islamic banks is influenced by interest rate movements of conventional
43 banks and other financial companies, and not vice versa. This finding implies that there is
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44 a gap between the theory of Islamic banks and existing practices.

45 Subsequent studies of (Ibrahim 2015) and (Hamza 2015) also support this
46 conclusion. This proves that the issue of Islamization (Islamic compliance) of Islamic
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banks is an issue that does not fade and continues to be a debate.

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49 Some research on financing in Islamic banks generally try to see the advantages of
50 financing based on the concept of profit sharing that is mudaraba and musharaka compared
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51 with murabahah financing. Other studies on financing in Islamic banks have seen the risk
52 aspect of mudharabah and musyarakah financing. Nevertheless, there are no studies that
53 try to dissect more detail about how the compliance of shariah financing applied by
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54 Islamic banks as will be done in this study.

55 This study tried to deepen the aspects of Sharia compliance, especially the
56 implementation of musyarakah financing. Musyarakah financing is chosen in this case
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because the structure of musyarakah financing wants the capital contribution from both
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3 parties (banks and customers). The existing indication of this financing, often no capital
4 from customers. So that the financing is more like mudharabah financing. Implementation
5 of musharaka financing to be analyzed is how the process of determining the profit
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sharing, how the process of the contract, how the process of sharing the results and other
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aspects that are determined based on sharia principles. This has not been done in previous
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9 studies.
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11 Methodology
12 This research is a qualitative research case study where researchers will observe
13 and analyze cases related to financing using Musyarakah contracts in Islamic bank in
14 Indonesia. The data that will be used are primary and secondary data sourced from Islamic
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15 bank namely musyarakah financing contract in the bank. The primary data in the form of
16 explanation from the informant related to the calculation and contents of the contract more
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details. The analysis will be done using a qualitative approach. Where the existing practice
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19 will be analyzed by using the theory and rules of both the fatwa of the National Sharia
20 Council and the applicable Accounting Standards related to musyarakah financing.
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22 Discussion
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As stated earlier, this study is a case study, in which the researcher will take a case of
25 musyarakah-based financing conducted by one of the Islamic banks. This case represents
all types of transactions using musharaka financing. In this case the researcher only uses
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27 one case, because the method applied by the bank is the same for all transactions based on
28 musharaka.
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30 Here is one of the cases analyzed from a Musyarakah transaction applied by one of the
31 Islamic banks.
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33 Bank Capital / Financing Value Rp. 96.000.000
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34 Client's Capital Rp 53.880.000

35 Capital Ratio of Bank and 64 : 36
36 Customer
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Profit Sharing Ratio 69,5 : 30,5
39 Gross Project Value Rp 149.880.000
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42 Financing with this musyarakah contract is given to one of the customers to finance the
43 project with the local government. Bank termed as Working Capital Financing (PMK).
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44 Value of the Project is Rp. 149.880.000. The financing period is for 8 months.
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46 Determination of Capital Ratio of Bank and Customer
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48 At the request of financing from the customer, the bank performs a cash flow analysis to
49 determine the financing to be provided by the bank (bank capital).
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51 Cash Flow Analysis

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53 Description Nominal (IDR)
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54 Project Gross 149.880.000

55 PPN 10% 13.625.455
56 PPH 2% 2.725.091
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Net Project Value 133.529.455
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3 Estimated Earnings (10%) 13.352.945
4 Working Capital Needs 120.176.509
5 Self financing 24.035.302
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Bank Financing 96.000.000
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Based on the gross project the bank estimates the net project value. Assuming a
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11 10% profit rate will be obtained working capital needs. Furthermore, assuming the
12 customer self financing by 20% (minimum value determined by the bank) will be obtained
13 financing to be provided by the bank.
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15 In this transaction bank financing is Rp 96,000,000. Based on the value of
16 financing provided by this Bank, then determined the ratio of bank capital and customers.
17 Namely bank Rp. 96.000.000 and customer Rp 53.880.000 (Rp 149.880.000 - Rp
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18 96.000.000). The ratio of capital in this case to 64: 36.
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20 The calculation of the Customer's capital is derived from the total project value
21 minus bank financing. Meanwhile, when determining the value of bank financing, self-
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financing of customers is determined at only 20% of working capital needs. Self financing
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is essentially its own capital or in this case can be said as the customer's capital. So it
25 should if the total capital required is only Rp 120.176.509 then the capital ratio will be 80:
20. Or in other words bank capital of Rp. 96.000.000 and customer's capital Rp
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27 24.035.302. In accordance with the amount of self financing determined by the bank.
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29 In this case there are inconsistent methods used in determining the capital ratio.
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30 The customer's capital is stated in the contract amounting to Rp 53,880,000. Which in this
31 capital there is an estimated profit, income tax and VAT which is certainly not part of the
32 customer's capital.
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34 Determination of Profit Sharing Ratio

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36 Furthermore, to determine the ratio of profit sharing used calculation as follows:
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38 Description 12 months 8 months
39 Amount of financing IDR 96.000000
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Expectation of profit rate 10% 7%

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Bank Rate Expectation 14,50% 9,67%
43 Expected profit expectations IDR 13.352.945 IDR 8.901.964
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44 Bank Rate Expectation IDR 13.920.000 IDR 9.283.200

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47 Profit expectations are determined based on 10% of the net project value
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48 (Rp133,529,455). Meanwhile, bank rate expectation is calculated from 14,5% from

49 financing value given by bank or in this case considered bank capital. 14.5% represents the
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rate of return determined by the bank.

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52 Based on the above values, the profit sharing ratio of banks and customers is
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determined, which is the ratio of bank profit sharing to bank rate expectations for 8 months
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divided by expected profit for one year. So that obtained 69.52% for banks and for
56 customers 100% -69.52% ie 30.48%.
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3 In this case there are inconsistencies where the 8 month bank rate expectation is
4 compared to expectation of expected profit of 12 months. Supposedly the 8 month bank
5 rate expectation is compared with the 12 month bank rate expectation. Or if you want to
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use the profit expectations should be compared also expected profit of 8 months compared
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to expectations of a profit of 12 months.
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9 Based on the above calculation, the customer as an active partner must refund the
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amount of Rp 96.000000 (bank capital) plus the bank rate expectation for 8 months which
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12 is Rp 9.283.200. The total to be returned by the customer after 8 months is Rp
13 105,283,200.
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15 When considered the calculation techniques performed above, at first glance
16 appears to be calculated based on expected profit expected from the existence of the
17 shirkah. However, when considered in more detail, there are two rates used by the bank
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18 that is the expected rate of profit from syirkah, and the rate of return determined by the
19 bank. This rate of return is determined under the terms of ALCO (Asset and Liability
20 Committee).
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Researchers reconfirmed this through in-depth interviews to banks and customers.
23 From the confirmation result it is true the amount that must be returned by the customer
24 amounted to Rp 105,283,200 when the term of the contract expired. This means that the
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amount to be returned by the customer is determined based on profit expectations.
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27 If we try to simply calculate as applied in conventional bank, then the value to be
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received by the bank is the principal loan plus interest determined based on the interest rate
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multiplied by the principal. Using the calculation will be obtained a value of Rp
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31 105,283,200 derived from Rp 96,000,000 (principal) plus 9.67% (rate 8 months)
32 multiplied by Rp 96,000,000. Which of these calculations is exactly the same as the results
33 described earlier. This suggests that however, the analysis performed by the Islamic bankin
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34 this case is ultimately the end result being the value equal to the value that can be obtained
35 by conventional interest calculation.
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37 Based on the above case analysis and compliance with Fatwa DSN no 08 it can be
38 said that what is done by Islamic banks in running musyarakah contracts from the
39 calculation does not violate the provisions in the fatwa because the Fatwa DSN does not
40
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set in detail about how to determine the ratio of profit or profit share. It is only said that:
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The profit-sharing system should be clearly stated in the contract. Meanwhile How does
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43 the process of determining profit sharing is not regulated in the fatwa.
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However, it is different with PSAK 106 on Musharaka which states that the profit
46 of musharaka business is divided among the partners proportionally in accordance with the
47 deposited funds (either in cash or non-cash assets) or according to the ratio agreed by the
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48 partners. The profit sharing ratio applicable in Islamic banks as in the above case is not
49 determined based on the deposited funds, but based on the ratio of bank rate expectations
50 with expected profit expectations. And of course this is also not the ratio agreed by both
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51 partners, because the process of determining the profit-sharing ratio has been determined
52 early on by the bank based on the system.
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54 PSAK 106 also clearly states that the portion of profit sharing for partners is
55 determined based on the agreed ratio of the results of operations acquired during the
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contract period, not the amount of the investment disbursed. AAOIFI in the Shariah
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58 Standards and Shariah Governance on Musharaka clearly also stipulates that the profit
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3 shared is the actual profit rather than the expected profit (AAOIFI, 2017: 108). Referring
4 to what is stated in PSAK 106 and AAOIFI, then what is done in the above case is profit
5 sharing based on the amount of investment issued by the bank. Although in the calculation
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of the analysis made as if not so.
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8 What is found in this study is consistent with what is said by (Malik et al. 2011)
9 which states that much of the financing offered by Islamic banks is more like a debt
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instrument than a profit-sharing concept. (Seho & Masih 2015) said that the pressure of
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12 supervision and competition in the market that makes the practice of islamic bankingtoday
13 has deviated from theoretical model that was originally considered.
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15 (Chong & Liu 2009) said that only a small portion of Islamic bank financing based
16 on Profit and Loss Sharing (PLS). This is confirmed by (Rahman & Anwar 2014) who
17 conducted research in Malaysia that the number of PLS-based financing is not more than
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18 3% of all financing in Malaysia. (Meutia et al. 2010) also stated that in many aspects
19 including existing financing products in Islamic banks tend to mimic what is in
20 conventional banks.
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Conclusion
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24 From a theoretical perspective, there is a principle difference between Islamic
25 banking and conventional banks. Interest is forbidden in Islamic concepts, therefore
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26 Islamic banks are forbidden to offer a fixed rate of return and are also prohibited to charge
27 interest on loans. Islamic banks have their own unique concepts, which are the results and
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risks that underlie musharaka and mudaraba financing. However, what happens in practice
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is not the case.
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31 The main advantage of PLS is that it leads to a more efficient allocation of capital.
32 This is because the return on capital and its allocation depends on the productivity of the
33 project. However, in reality does Islamic banks really operate according to the PLS
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34 concept?
35 The study found that in practice especially musharaka, Islamic banks substantially tend to
36 deviate from the concept of PLS. The practice tends to direct the profit-sharing calculation
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37 to a false share that results in fixed and predetermined returns.

38
This research analyzes the case of musharaka application in one of Islamic bank in
39
40 Indonesia. The results of this study require research support with case studies from several
d

41 other Islamic banks to identify whether practices such as those found also occur in other
42 Islamic banks. Practices that are not in line with the PLS paradigm will lead many to
43 question Sharia compliance from Islamic banks. It therefore becomes urgent to reposition
Bu

44 Islamic banking to stay on the right track.

45
46
47
si

48 REFERENCES
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