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Bai-Mujal/Murabaha (cost-plus financing) is a resale contract, whereby a bank buys goods on the client’s behalf and then sells them to the client at an agreed profit margin.
Murabaha deals cover usually short-term commodity financing. The mark-up is pegged to prevailing London Inter-Bank Offered Rate (Libor), or US short T-bills rates and its pricing is contingent on the client’s credit-rating, the transactions size and the type of goods being financed. But a mark-up agreed by both parties cannot be altered during the contract’s duration.
Al-Bai Bithaman Ajil is a variant on the concept of Murabaha, where a bank allows deferred payments within an agreed period. Ijara is similar to conventional lease/hire purchase agreements, in which a bank rents the assets to an end-user, against an agreed rental for a period, but with no option of ownership for the lessee. Maintenance and insurance of the leased assets is lessors responsibility.
Ijara Aa-Iktina (finance lease), where the lessee has the option of eventual ownership. The bank purchases equipment, buildings, or an entire project for the purpose of renting to a client against an agreed rental, together with client’s agreement to make payments into an Islamic Investment Account, which will subsequently lead, as stipulated, to the lessee’s purchase from the lessor.
The Sharia’s conditions governing both types of lease are: Assets must have long/secure productive life, such as aircrafts or ships and must not be deployed in an un-Islamic way, rents must be pre- agreed to avoid speculation.
Mudaraba is a trust financing agreement whereby an investor, Rab Al-Maal, entrusts capital to an agent, Mudarib for a project. Profits are based on a pre-arranged ratio. Losses are borne by Rab Al-Maal, but any losses due to Mudarib’s negligence are carried by an agent. Mudaraba covers usually short-term facilities, extended as a working capital, or for expansion of business ventures.
A common variation is the Two-Tier Mudaraba, in which a bank mobilises investors’ money into mutual funds, run by fund managers. Most operate as either closed or open-ended funds, with tradeable units, and are invested in only Islamic-approved businesses.
Takaful is a mutual insurance, whereby participants pay installments into a fund. The bank acts as managing trustee.
Musharaka is similar to joint venture, whereby both parties (bank and client) provide capital for a project which both may manage. Profits are shared in pre-agreed ratios but losses are borne in proportion to equity participation. Musharaka is the purest form of Islamic finance, as it conforms to the principle of profit and loss sharing and it is suitable for long-term project financing.
Istisna is a pre-delivery financing and leasing structured mode, and is used to finance manufacturer of plant/equipment. The bank funds manufacture of the goods, takes title upon completion, and sells to a third party.
Islamic instruments for futures trading are: Bai-Salam, in which a buyer pays an agreed price in advance for commodities that will be delivered at a future date.
Bai-Muajjal, whereby a seller allows a buyer to pay at a future price in either lump sum or installments. The fixed price can be the same as spot price or higher or lower than spot price.
