Breaking down Sukuk Bond

By Abdulfattah Abdussalam

A sukuk is an Islamic financial certificate, similar to a bond in Western finance, which complies with Sharia. In common usage outside Arabic-speaking countries, the word “sukuk” is often used both as singular as well as plural, but In the Arabic language, “sukuk” is plural, “sakk” is singular.

In the classical period of Islam, Sakk was used to refer to forms of papers representing financial obligations originating from trade and other commercial activities. According to Camille Paldi, the first sukuk transaction took place in Damascus in its Great Mosque in the 7th Century and the time of Harun al-Rashid (9th century) of the Abbasid Caliphate.

Fast forward to current times, it has become extremely popular since 2000, when the first sukuk was issued by Malaysia. Bahrain followed suit in 2001 and  has remain important Islamic financial instruments in raising funds for long-term project financing, thus  taking up a large share of the global bond market.

There are various types of sukuk structures The most commonly used is where the sukuk relates to a partial ownership of an asset (sukuk al-ijarah). Other types of these bonds relate to partial ownership in  a debt (sukuk murabaha), project (sukuk al-istisna), business (sukuk al-musharaka), or investment (sukuk al-istithmar).

Since the traditional Western interest-paying bond structure is not permissible, the issuer of a sukuk sells an investor group a certificate, and then uses the proceeds to purchase an asset, of which the investor group has partial ownership. The issuer must also make a contractual promise to buy back the bond at a future date at par value. Consequently,  holders are entitled to a share in the revenues generated by the Sukuk assets. However, because of the way that sukuks are structured, financing can only be raised for identifiable halal assets.

Unlike a conventional bond (secured or unsecured), which represents the debt obligation of the issuer, a sukuk technically represents an interest in an underlying funding arrangement structured according to sharia,

Shariah law prohibits the generation of money from money (such as interest or “riba”), financial instruments that involve the trading and selling of debts, and conventional loan lending (which includes conventional bonds) are not permissible. Essentially, when you invest in Sukuk, your money is put into the assets of a project or investment in order to generate profit. The investor receives a margin of that profit based on a pre-agreed ratio.

Broadly speaking, Sukuk  is  Sharia compliant finance module  that: any profits derived from these funding arrangements must be derived from commercial risk-taking and trading only; all forms of conventional interest income is prohibited; and the assets that are subject to the funding arrangement must, themselves, be permissible (halal).

When investors buy Sukuk and become Sukuk holders, they receive a certificate from the issuer to evidence ownership, and are entitled to receive periodic profit payments on the principal amount invested or may come in the form of profit-sharing or rental from the asset Upon maturity, the Sukuk holder will get back the principal amount of investment. Unlike conventional bonds where the issuer has a contractual obligation to pay to bond holders, on certain specified dates, interest and principal.

All profits in the venture will be shared based on a pre-agreed profit sharing ratio. However, in the case of loss – all will be borne by the investor unless there it was due to negligence or mismanagement of the venture where the loss will then be borne by the Issuer.

SPONSORED

SPONSORED

SPONSORED