ISLAMIC PRIVATE DEBT SECURITIES Islamic Private Debt Securities (IPDS) has been introduced since 1990.

At the moment, IDS have been introduced using different types of Syariah concept namely through Bai Bithaman Ajil, al-Musharakah, al-Mudharabah, Qardhu ul Hassan, Murabahah etc. Bai Bithaman Ajil is a contract refers to the sale of goods on a deferred payment basis. Under the concept of Bai Bithaman Ajil the financiers will purchase an asset from the borrower and later resell the assets at a higher price which contain the cost and profile element. The loan, which arises from the finance, will be securitized through the issuance of two notes that is the primary notes, which is equivalent to the asset price that is purchased by the financiers from the borrower and secondary notes which is equivalent to the profit value of the resell price. Both of these notes will be traded in the secondary market under the concept of Bai al-Dayn. Qardhul Hassan is an interest free loan given either for welfare purposes or for bridging shortterm funding requirements. Through Qardhul Hassan, the issuer of the notes will be able to arrange the repayment of the loan, which was given by the parent company. The IDS note is the evidence of debt for the amount, which is yet to be repaid. Through the IDS, the loan will be repaid by liquidating the IDS after certain period of time. The IDS is issued together with the Transferable Subscription Right (TSR). The TSR is the form of a gift (hibah) to the holder of the papers. The IDS is an alternative to the issuance of the conventional zero coupon bond.

BASIC PROCESS OF SECURITIZATION

Securitization has become a popular method of financing among corporation nowadays. Securitization is basically the process where the company pooled its illiquid assets together and issued a claim to a pool of assets. When the assets are securitised, it made the assets tradable in the financial market

From the diagram above, a securitization involves the sale of a large pool of assets by an entity or the originator that creates or purchases the assets in the course of its business to bankruptcy remote, special purpose vehicle (SPV). The SPV acts as an issuer, issue and sale the securities through either in a private placement or public offering. When securitization process is closed funds flow from the purchasers of the securities to the issuers and from the Issuers to the Originator. All these transaction occur virtually simultaneously.

The Structure

Securitization for a corporate entity involves more complicated issues. It involves three main parties, namely the Originator (i.e. the owner of the assets), the Special Purpose Vehicle (SPV) which buys the assets and issues securities and the investor (who buys the securities). Banks participate in the securitization process as originator cum servicer. Securitization enables a company to convert its assets into immediate cash, which will then determine the companys ability to going concern. It is regarded as an off-balance sheet financing whereby not only a company can convert the usable assets in to cash, but it also removes the assets (e.g. receivables) from the books.

Requirement For Assets That May Be Securitized The assets that are the subject matter of a securitization transaction must fulfill all of the following criteria:

(i) (ii)

The assets must generate cash flow; The Originator has a valid and enforceable interest in the assets and in the cash flows of the assets prior to any securitization transaction;

(iii)

There are no impediments (contractual or otherwise) that prevent the effective transfer of the assets or the rights in relation to such assets from an Originator to an SPV. For example: that the necessary regulatory or contractual consents have been obtained in order to effect the transfer of such assets from an Originator to an SPV; that the Originator has not done or omitted to do any act which enables a debtor of the Originator to exercise the right of set-off in relation to such assets;

(iv) (v)

The assets are transferred at a fair value; No trust or third partys interest appears to exist in competition with an Originators interest over the assets; and

(vi)

Where the interest of an Originator in the assets is as a chargee, the charge must have been created for a period of more than 6 months before the transfer.

Where the issue, offer or invitation of ABS are Islamic in nature, the assets that are the subject matter of the securitization transaction must be acceptable in accordance withShari'ah principles. In the event of doubt, clarification should be sought from theShari'ah Advisory Council of the SC.

ISLAMIC PRIVATE DEBT SECURITIES VS `COVENTIONAL` PRIVATE SECURITIES Islamic Private Debt Securities (IPDS) is one of the products offered in the Financial Market (Capital market) and it is among the important securities that have been playing its role efficiently. IPDS has come out from a chain of transactions that create the essence from the underlying debt, which is the subject matter of the process. In the conventional mode the debt usually generates interest, which is recognized as the riba in Islamic terms. Riba (usury) is any income generated through interest payment via lending or credit activities. Therefore, when IPDS were first created, there is a condition exists; that before a debt can be sold or negotiated, there must be an underlying contract of sale and purchase. These contracts should involving real tangible assets at the beginning of the process. The transaction cannot be just the creation from nothing. The sale and purchase contract normally contains a delayed payment element in it so that a debt is created. Then, this debt will become the intended securitization. It is just like the concept of bai al-inah. Bai al-inah allows sale and buy-back transactions so that an earlier sale of assets would produce a cheaper price compared to the price for the subsequent sale. The whole process of IPDS involves several inter-related transactions. Firstly is the normal sale and purchase contract ( al-bai). For instance, customer A sold his assets to the financier in the first transaction the sale price was RM100 million. Secondly is the buy-back transaction. This transaction occurred immediately after the first transaction where the buy-back price is at cost of RM210 million. These two contracts; the buy-back and normal sale are known as Bai al-inah. Thirdly, the payment for the buy-back transaction is delayed through the installment mechanism known in Islam as Bai B ithaman Ajil (BBA) or deferred payment. Subsequently, the debt as owed by the customer A resulting from the buy-back transaction will then be sold as securities accompanied by a certificate or note. Lastly, when this debt is sold as securities another concept is used or being applied, i.e. bai al-dayn or sale of debt. All the steps above have clarifies and portrays the differences between a conventional (bond) and an Islamic bond (security).

In the conventional sense, a bond is a debt instrument whereby the issuer will pay a certain percentage of interest to the buyer of the issued bond, or if it is a zero coupon bond, it will be issued at discount and repaid in full at maturity. Bondholders will receive the proceeds in the form of interest. In contrast, the debt created in the IPDS transaction is an unpaid purchase price owed by the customer to the financer. Such a debt is not a result of a money-lending (Islamic term: al-Qard) process as there was no such activity. Therefore from the explanation above, IPDS may be structured along Al-Bai Bithaman Ajil, AlMurabahah and Al-Bai Al-Dayn. Al-Bai Bithaman Ajil or deffered payment sale refers to the sale of goods on the differed payment basis. The financial institutions, bank for example buys assets that are requested by the customer and subsequently sells the goods to the customer at an agreed price (the sale price), which includes the banks mark up (profit). Al-Murabahah or cost-plus financing as explained in the Islamic Repo section refers to the sale of goods at price, which includes a cost-plus profit margin as agreed by both parties. Such sales contract is valid on the condition that the price, other costs and profit margin of the seller are stated at the time of the agreement sale. Lastly is the Al-Bai Al-Dayn which is refers to the debt financing that is the provision of financial resources required for the production, commerce and services by the way of sale or purchase of trade documents and papers. Only documents evidencing real debts arising from bona fide merchant transactions can be traded.

`STRUCTURE

OF ISLAMIC PRIVATE DEBT SECURITIES`

NAME: MUHAMMAD SHAHRUL NAZWIN BIN MOHD NASIR M/NO: 2010611018 CLASS: BM2224L LECTURER: MDM DATE: 10.4.2012