Sukuk Innovations

by:
Wan A Rahim Kamil
ICM Consultant, Securities Commission Malaysia
Sukuk as a consequent of Islamic securitisation

• Also known as Islamic bonds - but better described as

“Trust Certificates” or “Participation Securities”
• “ Grant investor a share of an asset along with the
cashflows and risk commensurate with such
ownership”

• Prescribed as “securities” under the Islamic Securities

Guidelines to give wider definition

• Can be consistent with conventional asset-backed

securities (ABS) or conventional unsecured lending –
depending on the structures

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 Issuance of Sukuk must be supported by an
underlying asset

• From Shariah perspective, Islamic financing should only be

raised for trading in specified and identified Shariah
compliant assets

• In general, trading of indebtedness is prohibited, unless it

is traded at par
• Middle East and some other jurisdictions only allow
debt trading at par
• Malaysia – trading of indebtedness is permissible at
any value provided the underlying contract is Shariah
e.g. Bai’ Bithaman Ajil / Bai’ Dayn

• Return for investment in sukuk in most cases are linked to

cash flows and performance of underlying assets
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Possible Contracts for Project Funding
Needs

• Consider a rental of the asset instead of a sale:

• Project rents it from outsourced party;
• Actually investors purchased the asset and
rents it to the project, thus:
• Objective of use of asset achieved;
• Investors subject to similar cash-flow risk if
it had gone into a murabahah contract;
• At end of period, project company could opt
to purchase the asset, considering that it
would have already paid in full.

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• Best achieved through an Asset Backed
Securitisation (“ABS”) exercise:
• What qualifies as assets?
• Investment entries through Participatory Contracts;
• Need to comply with guidelines or regulations on
ABS.

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Definition of Assets

• Under the shari’ah the assets must meet the

necessary conditions:
• Must exist physically (land, building, machinery)
• Must be pure;
• Must have use (however restricted to halal use
and not for example for operations of casino or
alcohol sales outlet);
• Must be owned by the seller;
• Must be free from encumbrances;
• Must be known by specifications, descriptions,
location, etc.
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What are Participatory Contracts? Such as
…

Participatory Contracts
(risk participation)

Mudharabah or Trust Loan-Investments:

Contract between fund owner and entrepreneur
whereby returns are pre-agreed based on profit
achievements but losses borne just by capital provider.
Entrepreneur only provides management expertise.

Musharakah or Joint Participations:

Pooling of capital resources among several parties
based on pre-agreed proportions of profit distributions
and losses borne according to equity contributions.

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Applications

• These are extensions to equity-related instruments.

• Musharakah is close to joint participations;
• Mudharabah is a semi-equity semi-debt
instrument.
• Can be applied to needs normally raised under
subordinated debt structures.

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Participatory Contracts

z Participatory Contracts of:

1. Musharakah or general partnership under
profit-loss sharing formula. Partners:
Share profits in accordance with pre-agreed
proportions and not necessarily based on capital
investment;
Bear losses in proportion to capital contribution.
Partners might forgo rights to management to other
partners.
Managing partner liable for losses due to
mismanagement or wrong business judgments.

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 2. Mudharabah
Trustee investment contract that is semi-equity
and semi-debt in nature.
• Marriage between capital and entrepreneurship;
• Profit sharing contract whereby:
• one party, the capital provider or rabb al mal
provides the necessary capital for the venture,
• The other party, the mudharib, provides the
expertise for the venture.
• Profit sharing not based on capital but based on
pre-agreed proportion of achieved profits.
• Genuine business losses borne in entirety by rabb al
mal.

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• Asset Backed Securitisations:
• Create new opportunities to popularise
mudharaba or qirad, and/or musharkah
contracts,
• Ability to ring-fenced risks with more secured contracts
such as ijarah, murabaha, salam or other compounded
contracts of exchanges, whereby
• Risks mitigated through secured cash-flow streams
and with lesser operational and credit risks,
• More shari’ah compliant due to Special Purpose
Vehicle involved in direct investments or business
activities – avoidance of Bai’ al Dayn issues.

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 3

3
Special Purpose Vehicle 7
Subscription for Certificates ($)

(“SPV”)
(Mudharib)

Expenses for meeting operational

1
4

requirements
Direct Investments
Mudharaba through ijarah,
or Musharakah murabahah or other
Certificates real estate businesses or
trading activities
2
5
6
Pool of Investors Cash-flow stream ($)
(Rabb al Mal or Musharkah
Partners) Profit Distribution

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Asset Backed Securitisation

3.
3a.
Originator SPV 2.
Investors
4.
1.

1. Sale of asset to the SPV – True Sale

2. SPV issues asset-backed securities to investors
3. Proceeds from the sale of ABS go to the Originator
4. (Interest) & principal repayments to Investors

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 Islamic Asset-Backed Sukuk adds a new dimension to ICM
products

• True sale – legally belong to SPV

• Non-recourse sukuk / ABS - credit risk performance is
determined solely by underlying asset
• SPV – bankruptcy remote (independent)
• Correspondence of income streams with actual income
and value of the assets
• Ratings are primarily dependent on a risk analysis of the
assets or performance of assets
• Unilateral purchase undertaking (if any) – at market value

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Ambang Sentosa BBA (ABS) –domestic version of Islamic securitisation

Identified Asset:
Originator Rights, title and interest over the balance
sales proceeds of two development
Proceeds from BBA projects
transaction used to
1. Hibah (Gift)
purchase Identified
Aqad Asset
asset
2.Investor purchase asset (gift)

Ambang
Investor
Sentosa 3. Cash

4. Sale of asset on deferred

payment (BBA)

5. ASSB issue BAIDS to investor

9 Underlying assets to execute BBA are assets awarded by 3rd party – need tangible
assets to avoid debt-for-debt transactions which is prohibited both in Msia and
international
3 Cash flow is still based on receivables

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Cagamas Sukuk Musyarakah (RMBS) - does it comply with
international Shariah standards ?

Cagamas
(Transaction Trustee
Administrator &
Administrator)
Represent
Sukukholders

Sukuk issued
Sale of
to investors
GOM GSHFs
(Originator & Cagamas MBS Investors
Servicer) Proceeds
Purchase
from
consideration
sukuk

2 Sale of Islamic house financing receivables

2 Debt trading – sold at discount not at par
9 Although investors formed as musyarakah venture

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 Golden Crop Sukuk Ijarah (ABS) – compliance with
international Shariah standards

Share
Trustee
Originator sell the plantation asset
to the Issuer
Boustead Golden Crop
Group Returns Trustee
(Originators) (Issuer)

Issuer leases back the plantation asset

to the Originator
Subordinated
Musyarakah facility
with LTAT

Sukukholders
Sukuk LTAT
Ijarah
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 Islamic Asset Backed Securities issued in Malaysia

Issue Size SC
Issuer Facility
RM (million) Approved
Ambang Sentosa Sdn
BBA
Bhd 986.00 29-May-03
Musyarakah One
Sukuk Musyarakah
Capital Berhad 2,500.00 7-Mar-05
Cagamas MBS Berhad Sukuk Musyarakah 2,500.00 6-Jul-05
Golden Crop Returns
Bhd Sukuk Ijarah * 442.00 27-Oct-05
ABS Logistics Bhd Sukuk Ijarah * 300.00 6-Jul-06
Nepline SPV Sdn Bhd Sukuk Ijarah * 170.00 21-Jul-06

Total Islamic ABS 6,898.00

* International Shariah compatible structure
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Majority of sukuk has been on simple “ijarah” structure
– unsecured financing / asset-based

• Originator seeking financing “sells” the assets to SPV for a

value equal to financing required and lease it back
• SPV – subsidiary of originator;

• Lease payments provide fixed income stream which may be

benchmarked to an index / LIBOR +;

• Conducted on non true-sale basis so repayment and

risk/performance is not asset backed but originator based;

• Purchase undertaking of asset at maturity with pre-

determined value;

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• Ratings are primarily dependent on the riskness of the
borrower / sponsor / originator / lessee;

• Assets only used to facilitate Shari’ah compliance.

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Sukuk Al-Ijarah - Asset Based Transaction

Sukuk
Sale of asset
Sukuk
Sukuk proceeds Sukuk
Sukuk
Sukuk proceeds
Originator SPV

Asset repurchase
Periodic payments:

Lease & repurchase payments Lease flows and principal (via

for assets amortisation/repurchase)

3 Non-true sale – condition to repurchase at maturity

3 Payment of rental / profit can be derived from ijarah or other
sources

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 Sukuk Al Ijarah – Asset Backed

• There are also structures of sukuk al ijarah under an Asset

Backed Scenario.
• True sale, though
• The ownership of the SPV is transferred to the originator or
the lessor at end of lease. Original underlying sale has
been true sale.

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 Investors Asset Provider
2.

Certificates of
3. Sale & Purchase
Investments
of Asset (payment of
asset acquisition
1. Cost US$) Asset
Offer for Sale
of securities

SPV 4. Transfer of Ownership of

$
Asset to SPV

1st Transaction: SPV and Asset Provider Step 1

1st Relationship: SPV and Investors

Creation of Sukuk al Ijarah

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 SPV Project Owner
1. Execution of al
ijarah contract

2. Rental of Asset on fixed term and fixed

rental basis

ASSET
ASSET

Ijarah Rental
Obligation
3. Issuance of ijarah rental Obligations Promissory Notes to SPV Certificates
implying cash flow stream on asset. (evidence of obligations)

Step 2
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 1.Regular Ijarah Rental
Payments
SPV Project Owner
3. Final Repayment
Representing Total
Settlement equal to
Initial Purchase Price
Of Asset by SPV

5. Asset transferred to Project Owner

Asset

Investment
Certificates
2. Scheduled Distributions of Coupon Payments to Holders
Holders
Of Investment Certificates issued by SPV
4. Payment of Final Amount being final settlement of
Obligations under Ijarah Contract

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• Assets purchased by the SPV are funded by the issuance of
floating rate Trust Certificates, representing beneficial
ownership in the assets and having beneficial rights on the
lease;
• Upon maturity of the lease, SPV sells asset to the Project
Owner at the original price. Proceeds from this sale will be
utilised to meet the final payment to investors.

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• Sukuk al Ijarah can be:
• short term facility instruments i.e. as per
structure of sukuks issued by the Bank Negara
and/or Government of Malaysia to replace T-Bills;
or
• Medium to long term facilities but with rental
settings made every scheduled periods of say 3
or 6 months each year.

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 2. Musharakah Investment Agreement
Musharakah Investors
Ordinary
Equity
7. $ Profit Payments MUSHARAKAH
& Repurchase or Redemption PREFERENCE
of MPS SHARES (‘MPS’)

1.

3. $ for Working 9.
$ Income Stream Capital Needs $
Dividends
7. $ Ijarah Rental
Payments
PROJECT
Co.
6. Ijarah contract
Ijarah SPV

4. Rental of Equipment
5. $ Participation
Sukuk Into Mudharabah

Mudharabah 8. $ Mudharabah Profit

Payments Project Funding through
COMBINATION OF
PARTICIPATORY AND
Financial Investors IJARAH CONTRACTS
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 Khazanah Exchangeable Sukuk
(Asset Swap)

Khazanah
Khazanah & Investors
Other Sellers
Cash Settlement
Purchase Right Deed
Sale Price Sale of
Default / Maturity $
(Principal) Equity Pool
Purchase
($)
Undertaking
Sale of Deed
Equity Pool
Issuer
SPV II Sukuk
Rafflesia
Sale Price
Sukuk
(Principal) ($)
Proceed ($)

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 Some notable Sukuk issued in the global
markets

Issue
Issuer Facility Size Manager
USD(mil)
Barclays
Nakheel Development Convertible Sukuk Ijarah 3,520.00
Capital, DIB

ADIB Sukuk Co Sukuk Ijarah 800.00 HSBC

Exchangeable Sukuk CIMB, HSBC

Rafflesia Capital 750.00
Musyarakah Amanah, UBS

Exchangeable Sukuk
Aabar Sukuk 460.00 Deutsche
Mudarabah

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 Issue
Issuer Facility Size Manager
USD(mil)
CIMB, HSBC,
Tabreed 06 Financing Dreer
Sukuk Istisna’ 200.00
Corp Kleinwort
Wassertein
Merrill Lynch
East Cameron Gas Co Asset backed Sukuk 168.00
International

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 Asset-Based Sukuk vs Asset Backed Sukuk
Asset based Sukuk
Feature Using Shariah compliant
assets/business ventures to
facilitate issuance of Sukuk
Key Accounting ON balance sheet (for
Concept/ treatment originator/obligor)
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Asset backed Sukuk
Asset backing Shariah
compliant assets/business
ventures which form PRIMARY
source of income /return to
investor. Issued in various
Shariah principles
OFF balance sheet (for
originator)
True sale criterion: legal & off
balance sheet accounting
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 Asset based Sukuk Asset backed Sukuk

Funding Cost Market driven mainly Mainly based on the strength

depending on of the asset cash flow
originator/issuer credit
rating/standing
Rating Corporate rating of Strength of cash flow
issuer/obligor

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 END

Thank You
wark06@gmail.com

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