CA-3 CA-3 The Banking Book — Minimum Capital Requirements for Islamic Financing Assets
CA-3.1 CA-3.1 Background
CA-3.1.1
Due to the nature of Islamic banking transactions, Islamic banks, as opposed to their conventional counterparts, are additionally exposed to price risk in their banking book. CBB recognizes that such risks need to be identified and measured for regulatory capital purposes.
Apr 08CA-3.2 CA-3.2 Murabahah and Murabahah to the Purchase Orderer
Introduction
CA-3.2.1
This section sets out the minimum capital adequacy requirements to cover the transactions that are based on the Sharia rules and principles of Murabahah and Murabahah to the Purchase Orderer (MPO).
Apr 08CA-3.2.2
In Murabahah and MPO, the capital adequacy requirement for credit risk refers to the risk of a counterparty not paying the agreed price of an asset to the bank. In the case of binding MPOs, the risks faced by the Islamic banks are different at the various stages of the contract.
Apr 08CA-3.2.3
This section is broadly divided into (a) Murabahah and non-binding MPO and (b) binding MPO, as the types of risk faced by the bank are different at the various stages of the contract for the two categories.
Apr 08CA-3.2.4
This classification and the distinctions between a non-binding MPO and a binding MPO are subject to the criteria and opinions set by the respective SSB of the bank or any other SSB as specified by the CBB.
Apr 08CA-3.2.5
A Murabahah contract refers to an agreement whereby the bank sells to a customer at acquisition cost (purchase price plus other direct costs) plus an agreed profit margin, a specified kind of asset that is already in its possession. An MPO contract refers to an agreement whereby the bank sells to a customer at cost (as above) plus an agreed profit margin, a specified kind of asset that has been purchased and acquired by the bank based on a Promise to Purchase (PP) by the customer which can be a binding or non-binding PP.
Apr 08Murabahah and Non-binding MPO
CA-3.2.6
In a Murabahah transaction, the bank sells an asset that is already available in its possession, whereas in a MPO transaction the bank acquires an asset in anticipation that the asset will be purchased by the orderer/customer.
Apr 08CA-3.2.7
This price risk in Murabahah contracts ceases and is replaced by credit risk for the amount receivable from the customer following delivery of the asset. Likewise, in a non-binding MPO transaction, the bank is exposed to credit risk on the amount receivable from the customer when the latter accepts delivery and assumes ownership of the asset.
Apr 08Binding MPO
CA-3.2.8
In a binding MPO, the bank has no 'long' position in the asset that is the subject of the transaction, as there is a binding obligation on the customer to take delivery of the asset at a pre-determined price. The bank is exposed to counterparty risk in the event that the orderer in a binding MPO does not honour his/her obligations under the PP, resulting in the bank selling the asset to a third party at a selling price which may be lower than the cost to the bank. The risk of selling at a loss is mitigated by securing a Hamish Jiddiyyah (HJ) (a security deposit held as collateral upon entering into agreement to purchase or agreement to lease) upon executing the PP with the customer, as commonly practised in the case of binding MPO.
Apr 08Collateralisation
CA-3.2.9
As one of the CRM techniques, the bank can secure a pledge of the sold asset/underlying asset or another tangible asset ("collateralised Murabahah"). The collateralisation is not automatically provided in a Murabahah contract but must be explicitly stated or must be documented in a separate security agreement at or before the time of signing of the Murabahah contract. The bank may employ other techniques such as pledge of deposits or a third party financial guarantee. The RW of a financial guarantor can be substituted for the RW of the purchaser provided that the guarantor has a better credit rating than the purchaser and that the guarantee is legally enforceable.
Apr 08CA-3.2.10
In financing transactions that are collateralised, the pricing of the Murabahah assets and determination of the required amount of HJ would normally take into consideration the market value and forced-sale value of the assets; and the CRM would take into account of any 'haircut' applicable to the collateralised assets (if these assets are eligible collateral or acceptable to the Central Bank). Thus, fluctuations in the market value and forced sale value of the collateralised assets are dealt with under credit risk assessment. For full details of CRM techniques, and the eligibility of collateral, refer to Section CA-4.7.
Apr 08Credit Risk
Murabahah and Non-binding MPO
CA-3.2.11
The credit exposure must be measured based on accounts receivable in Murabahah (the term used herein includes MPO), which is recorded at their cash equivalent value i.e. amount due from the customers at the end of the reporting quarter less any provision for doubtful debts.
Apr 08CA-3.2.12
The accounts receivable (net of specific provisions) amount arising from the selling of a Murabahah asset must be assigned a RW based on the credit standing of the obligor (purchaser or guarantor) as rated by an ECAI that is approved by the CBB. In case the obligor is unrated, a RW of 100% shall apply. (See Section CA-4.2).
Apr 08Binding MPO
CA-3.2.13
In a binding MPO, the bank is exposed to default on the purchase orderer's obligation to pay fully for the asset at the agreed price. In the event of the orderer defaulting on its PP, the bank will dispose of the asset to a third party. The bank will have recourse to any HJ paid by the orderer, and (a) may have a right to recoup from the orderer any loss on disposing of the asset, after taking account of the HJ or (b) may have no such legal rights. In both cases, this risk is mitigated by the asset in possession as well as any HJ paid by the purchase orderer.
Apr 08CA-3.2.14
In case (a) the bank has the right to recoup any loss (as indicated in the previous paragraph) from the orderer, that right constitutes a claim receivable which is exposed to credit risk, and the exposure shall be measured as the amount of the asset's total acquisition cost to the bank, (less the market value of the asset as collateral subject to any haircut, and less the amount of any HJ, provided that the collateral is an eligible collateral or has been agreed as acceptable to the CBB). The applicable RW must be based on the standing of the obligor as rated by an ECAI that is approved by the CBB, and in the case the obligor is unrated, a RW of 100% shall apply. (See Section CA-4.2).
Apr 08CA-3.2.15
In case (b) the bank has no such right, and the cost of the asset to the bank constitutes a market risk (as in the case on a non-binding MPO), but this market risk exposure is reduced by the amount of any HJ that the bank has the right to retain.
Apr 08CA-3.2.16
In applying the treatment as set out in paragraph CA-3.2.14, the bank should ensure that the PP is properly documented and is legally enforceable.
Apr 08CA-3.2.17
Upon selling the asset, the accounts receivable (net of specific provisions) amount must be assigned a RW based on the credit standing of the obligor as rated by an ECAI that is approved by the CBB. In case the obligor is unrated, a RW of 100% shall apply. (See Section CA-4.2).
Apr 08Exclusions
CA-3.2.18
The capital requirement is to be calculated on the receivable amount, net of (i) specific provisions, (ii) any amount that is secured by eligible collateral (as defined in section CA-4.7) and/or (iii) any amount that is past due by more than 90 days. The portions that are collateralised and past due are subject to the treatment as set out in chapter CA-4.
Apr 08Assignment of Risk Weights
CA-3.2.19
Islamic financing assets are to be categorized as per the claim categories detailed in section CA-4.2, and risk weighted accordingly. Banks should ensure that the appropriate risk weight is used based on the claim category for each transaction.
Apr 08Market Risk
Murabahah and Non-binding MPO
CA-3.2.20
In the case of an asset in possession for a Murabahah transaction and an asset acquired specifically for resale to a customer in a non-binding MPO transaction, the asset would be treated as inventory of the bank and will be subject to price risk as per section CA-5.2. This capital charge is also applicable to assets held by a bank for incomplete non-binding MPO transactions at the end of a financial period.
Apr 08CA-3.2.21
Assets in possession on a 'sale or return' basis (with such an option included in the contract) are treated as accounts receivable from the vendor and as such would be offset against the related accounts payable to the vendor. If these accounts payable have been settled, the assets shall attract a RW based on rating of the vendor (100% in case of unrated), subject to (a) the availability of documentation evidencing such an arrangement with the vendor, and (b) the period for returning the assets to the vendor not having been exceeded. If the above conditions are not satisfied, capital charge will be provided as per paragraph CA-3.2.20.
Apr 08Binding MPO
CA-3.2.22
In a binding MPO the orderer has the obligation to purchase the asset at the agreed price, and the bank as the seller is only exposed to credit risk as indicated in paragraph CA-3.1.13 above.
Apr 08Foreign Exchange Risk
CA-3.2.23
If the funding of an asset purchase or the selling of an asset opens a bank to foreign exchange exposures, the relevant positions should be included in the measurement of foreign exchange risk described in section CA-5.5.
Apr 08Summary of Capital Requirement at Various Stages of the Contract
CA-3.2.24
The following table sets out the applicable period of the contract that attracts capital charges:
(a) Murabahah and Non-binding MPOApplicable Stage of the Contract Credit RW Market Risk Capital Charge Asset available for sale (asset on balance sheet)* Not applicable Price risk (15% Capital charge) Asset is sold and delivered to a customer and the selling price (accounts receivable) is due from the customer. Based on customer's rating or 100% RW for unrated customer (see paragraphs CA-3.2.11 and CA-3.2.12) NA Upon full settlement of the purchase price. NA NA * Also includes an asset which is in possession due to cancellation of PP by a non-binding MPO customer. Any HJ taken, if any, is not considered as eligible collateral and shall not be offset against the value of the asset.
(b) Binding MPOApplicable Stage of the Contract Credit RW Market Risk Capital Charge Asset available for sale (asset on balance sheet)* - If the bank has legal right to recoup from the customer any loss on disposing of the asset Asset acquisition cost less [market value of asset if eligible as collateral (net of any haircut**) plus any HJ] x applicable RW (see chapter CA-4) NA Asset available for sale (asset on balance sheet)* - If the bank has no legal right to recoup from the customer any loss on disposing of the asset NA Price risk 15% Capital charge minus HJ(if the bank has legal right to the HJ) Asset is sold and delivered to a customer and the selling price (accounts receivable) is due from the customer. Based on customer's rating or 100% RW for unrated customer (see section CA-4.2) NA Upon full settlement of the purchase price. NA NA * Also includes an asset which is in possession due to cancellation of PP by a customer.
** Please refer to CRM section CA-4.7 for eligibility of collateral and application of haircuts.
Amended: April 2011
April 2008CA-3.3 CA-3.3 Salam and Parallel Salam
Introduction
CA-3.3.1
This section sets out the minimum capital requirement to cover credit and market (price) risks arising from entering into contracts or transactions that are based on the Sharia rules and principles of Salam. The bank is exposed to the (a) credit (counterparty) risk of not receiving the purchased commodity after disbursing the purchase price to the seller, and (b) price risk that the bank incurs from the date of execution of a Salam contract, which is applicable throughout the period of the contract and beyond the maturity date of the contract as long as the commodity remains on the balance sheet of the bank.
Apr 08CA-3.3.2
This section is applicable to (a) Salam contracts that are executed without any Parallel Salam contracts and (b) Salam contracts that are backed by independently executed Parallel Salam contracts.
Apr 08CA-3.3.3
A Salam contract refers to an agreement to purchase, at a predetermined price, a specified kind of commodity4 which is to be delivered on a specified future date in a specified quantity and quality. The bank as the buyer makes full payment of the purchase price upon execution of a Salam contract or within a subsequent period not exceeding two or three days as deemed permissible by its Sharia Supervisory Board (SSB).
4 A commodity is defined as a physical product which is and can be traded on a secondary market, e.g. agricultural products, minerals (including oil) and precious metals. The commodity may or may not be traded on an organised exchange.
Apr 08CA-3.3.4
In certain cases the bank may enter into a back-to-back contract (Parallel Salam) to sell a commodity with the same specification as the purchased commodity under a Salam contract to a party other than the original seller. The Parallel Salam allows the bank to sell the commodity for future delivery at a predetermined price (thus hedging the price risk on the original Salam contract) and protects the bank from having to take delivery of the commodity and warehousing it.
Apr 08CA-3.3.5
The non-delivery of the commodity by a Salam seller (i.e. counterparty risk) does not discharge the bank's obligations to deliver the commodity under a Parallel Salam contract, and thus exposes the bank to potential loss in obtaining the supply elsewhere.
Apr 08CA-3.3.6
The obligations of a bank under Salam and Parallel Salam are not inter-conditional or interdependent, which implies that there is no legal basis for offsetting credit exposures between the contracts.
Apr 08CA-3.3.7
In the absence of a Parallel Salam contract, a bank may sell the subject-matter of the original Salam contract in the spot market upon receipt, or, alternatively, the bank may hold the commodity in anticipation of selling it at a higher price. In the latter case, the bank is exposed to price risk on its position in the commodity until the latter is sold.
Apr 08Credit Risk
CA-3.3.8
The amount paid for the purchase of a commodity based on a Salam contract shall be assigned a RW based on the credit standing of the counterparties involved in the contracts as rated by an ECAI that is approved by the CBB. If a counterparty is unrated, a RW of 100% will apply. (See Section CA-4.2).
Apr 08Exclusions
CA-3.3.9
The capital requirement is to be calculated on the amount paid, net of (i) specific provisions, (ii) any amount that is secured by eligible collateral (as defined in section CA-4.7) and/or (iii) any amount which is past due by more than 90 days. The portions that are collateralised and past due are subject to the treatment as set out in chapter CA-4.
Apr 08Applicable Period
CA-3.3.10
The credit RW will be applied from the date of the contract made between both parties until the maturity of the Salam contract, which is upon receipt of the purchased commodity. However, between the date of contract and disbursement of funds to the customer the exposure is a commitment (off-balance sheet) and a credit conversion factor (CCF) of 20% will be applied before applying the relevant RW.
Apr 08Offsetting Arrangement between Credit Exposures of Salam and Parallel Salam
CA-3.3.11
The credit exposure amount of a Salam contract is not to be offset against the exposure amount of a Parallel Salam contract, as an obligation under one contract does not discharge an obligation to perform under the other contract.
Apr 08Market Risk
CA-3.3.12
The price risk on the commodity exposure in Salam can be measured in two ways, either the maturity ladder approach in accordance with paragraphs CA-5.6.9 to CA-5.6.12 or price risk in accordance with paragraph CA-5.2.2.
Apr 08CA-3.3.13
The long and short positions in a commodity, which are positions of Salam and Parallel Salam, may be offset under either approach for the purpose of calculating the net open positions provided that the positions are in the same group of commodities.
Apr 08Foreign Exchange Risk
CA-3.3.14
It the funding of a commodity purchase or selling of a commodity leaves a bank open to foreign exchange exposures, the relevant positions should be included in the measures of foreign exchange risk described in section CA-5.5.
Apr 08Summary of Capital Requirement at Various Stages of the Contract
CA-3.3.15
The following table sets out the applicable period of the contract that attracts capital charges:
(a) Salam with Parallel SalamApplicable Stage of Contract Credit RW Market Risk Capital Charge Payment of purchase price by the bank of a Salam customer Based on customer's rating or 100% RW for unrated customer.
No Netting of Salam exposures against parallel Salam exposures.
(See section CA-4.2)Two approaches are available.
Maturity Ladder Approach (see paragraphs CA-5.6.9 to CA-5.6.12 of chapter CA-5)
Price risk (see CA-5.2.2 of chapter CA-5)Receipt of the purchased commodity by the bank. Asset available for delivery to the customer. If the bank has legal right to recoup from the customer any loss on disposing of the asset Based on customer's rating or 100% RW for unrated customer.
No Netting of Salam exposures against parallel Salam exposures.
(See section CA-4.2)NA Receipt of the purchased commodity by the bank. Asset available for delivery to the customer - If the bank has no legal right to recoup from the customer any loss on disposing of the asset NA Two approaches are available.
Maturity Ladder Approach (see paragraphs CA-5.6.9 to CA-5.6.12 of chapter CA-5)
Price risk (see paragraph CA-5.2.2 of chapter CA-5)The purchased commodity is sold and delivered to the buyer and the amount is received. NA NA (b) Salam without Parallel SalamApplicable Stage of Contract Credit RW Market Risk Capital Charge Payment of purchase price by the bank of a Salam customer. At this stage of the contract, only one of credit or market risk is possible at the same time. To be prudent, higher of the two should be provided (not both). The higher of the following (credit or market) Based on customer's rating or 100% RW for unrated customer.
(See section CA-4.2)Price risk but without additional 3 %. (see paragraph 5.2.2 of chapter CA-5) Receipt of the purchased commodity by the bank NA Price risk but without additional 3 %. (see paragraph 5.2.2 of chapter CA-5) The purchased commodity is sold and delivered to the buyer. NA NA Amended: April 2011
April 2008CA-3.4 CA-3.4 Istisna'a and Parallel Istisna'a
Introduction
CA-3.4.1
This section sets out the minimum capital adequacy requirement to cover credit and market (price) risks arising from entering into contracts or transactions that are based on the Sharia rules and principles of Istisna'a.
Apr 08CA-3.4.2
Istisna'a and parallel Istisna'a contracts would attract a risk weighting as per the credit standing of the respective counterparties (See section CA-4.2).
Apr 08CA-3.4.3
An Istisna'a contract refers to an agreement to sell to or buy from a customer, a non-existent asset which is to be manufactured or built according to the ultimate buyer's specifications and is to be delivered on a specified future date at a predetermined selling price.
Apr 08CA-3.4.4
The bank, as the seller, has the option to manufacture or build the asset on its own or to engage the services of a party other than the Istisna'a ultimate buyer as supplier or subcontractor, by entering into a Parallel Istisna'a contract (please refer to paragraph CA-3.4.12).
Apr 08CA-3.4.5
The exposures under Istisna'a involve credit and market risks, as described below. Credit exposures arise once the work is billed to the customer, while market (price) exposures arise on unbilled work-in-process (WIP).
Apr 08CA-3.4.6
There is a capital requirement to cater for the credit (counterparty) risk of the bank not receiving the selling price of the asset from the customer or project sponsor either in pre-agreed stages of completion and/or upon full completion of the manufacturing or construction process.
Apr 08CA-3.4.7
This section also sets out the capital adequacy requirement to cater for the market risk that a bank incurs from the date of manufacturing or construction, which is applicable throughout the period of the contract on unbilled WIP inventory.
Apr 08CA-3.4.8
This section is applicable to both (a) Istisna'a contracts that are executed without a Parallel Istisna'a contract and (b) Istisna'a contracts that are backed by independently executed Parallel Istisna'a contracts.
Apr 08CA-3.4.9
This section makes distinctions between the two main categories of Istisna'a:
(a) Full Recourse Istisna'a
The receipt of the selling price by the bank is dependent on the financial strength or payment capability of the customer for the subject matter of Istisna'a, where the source of payment is derived from the various other commercial activities of the customer and is not solely dependent on the cash flows from the underlying asset/project; and(b) Limited and Non-recourse Istisna'a
The receipt of the selling price by the bank is dependent partially or primarily on the amount of revenue generated by the asset being manufactured or constructed by selling its output or services to contractual or potential third party buyers. This form of Istisna'a faces "revenue risk" arising from the asset's ability to generate cash flows, instead of the creditworthiness of the customer or project sponsor.Apr 08CA-3.4.10
In full, limited and non-recourse Istisna'a contracts, the bank assumes the completion risk that is associated with the failure to complete the project at all, delay in completion, cost overruns, occurrence of a force majeure event and unavailability of qualified personnel and reliable seller(s) or subcontractors in a Parallel Istisna'a.
Apr 08CA-3.4.11
The selling price of an asset sold based on Istisna'a is agreed or determined on the contractual date and such a contract is binding. The price cannot be increased or decreased on account of an increase or decrease in commodity prices or labour cost. The price can be changed subject to the mutual consent of the contracting parties due to alteration or modifications to the contract or unforeseen contingencies, which is a matter for the commercial decision of the bank and can result in a lower profit margin.
Apr 08CA-3.4.12
In cases where a bank enters into Parallel Istisna'a to procure an asset from a party other than the original Istisna'a customer (buyer), the price risk relating to input materials is mitigated. The bank remains exposed to the counterparty risk of the Parallel Istisna'a seller in delivering the asset on time and in accordance with the Istisna'a ultimate buyer's specifications. This is the risk of not being able to recover damages from the Parallel Istisna'a seller for the losses resulting from the breach of contract.
Apr 08CA-3.4.13
The failure of the Parallel Istisna'a seller to deliver a completed asset which meets the buyer's specifications does not discharge the bank's obligations to deliver the asset ordered under an Istisna'a contract, and thus exposes the bank to potential loss in making good the shortcomings or obtaining the supply elsewhere. The obligations of a bank under Istisna'a and Parallel Istisna'a contracts are not inter-conditional or interdependent, which implies that there is no legal basis for offsetting credit exposures between the contracts.
Apr 08Credit Risk
Full Recourse Istisna'a
CA-3.4.14
The receivable amount generated from the selling of an asset based on an Istisna'a contract with full recourse to the customer (buyer) shall be assigned a RW based on the credit standing of the customer as rated by an ECAI that is approved by the CBB. In case the buyer is unrated, a RW of 100% shall apply. (See section CA-4.2).
Apr 08Limited and Non-Recourse Istisna'a
CA-3.4.15
When the project is rated by an ECAI, the RW based on the credit rating of the project is applied to calculate the capital adequacy requirement. Otherwise, the RW shall be based on the 'Supervisory Slotting Criteria' approach for Specialised Financing (Project Finance) as set out in section CA-4.3.
Apr 08CA-3.4.16
In cases where a group of contractors are engaged in a particular project, the risk rating or weightage will follow the obligations of various contractors. If the risk is undertaken by a main contractor, the risk rating of the main contractor is to be used.
Apr 08CA-3.4.17
The limited and non-recourse Istisna'a financing structure is required to meet the characteristics as set out below in order to qualify for the treatment mentioned in paragraph CA-3.4.15 above:
(a) The segregation of the project's liabilities from the balance sheet of the Istisna'a ultimate buyer (or project sponsor) from a commercial and accounting perspective which is generally achieved by having the Istisna'a contract made with a special purpose entity set up to acquire and operate the asset/project concerned;(b) The ultimate buyer is dependent on the income received from the assets acquired/ projects to pay the purchase price;(c) The contractual obligations give the manufacturer/constructor/bank a substantial degree of control over the asset and the income it generates, for example under BOT (built, operate and transfer) arrangement where the manufacturer builds a highway and collects tolls for a specified period as a consideration for the selling price; and(d) The primary source of repayment is the income generated by the asset/project rather than relying on the capacity of the buyer.Amended: April 2011
April 2008CA-3.4.18
Please Note: Insurance is normally part and parcel of the project risk financing. However, it is not regarded as a credit risk mitigating technique.
Apr 08Exclusions
CA-3.4.19
The capital requirement is to be calculated on the receivable amount, net of (i) specific provisions, (ii) any amount that is secured by eligible collateral (as defined in section CA-4.7) and/or (iii) any amount which is past due by more than 90 days. The portions that are collateralised and past due are subject to the treatment as set out in chapter CA-4.
Apr 08CA-3.4.20
Any portion of an Istisna'a contract that is covered by an advanced payment shall carry a RW of 0%, or the amount of the advanced payment shall be offset against the total amount receivable or amounts owing from progress billings.
Apr 08Applicable Period
CA-3.4.21
The credit RW is to be applied from the date when the manufacturing or construction process commences and until the selling price is fully settled by the bank, either in stages and/or on the maturity of the Istisna'a contract, which is upon delivery of the manufactured asset to the Istisna'a ultimate buyer.
Apr 08Offsetting Arrangement between Credit Exposures of Istisna'a and Parallel Istisna'a
CA-3.4.22
The credit exposure amount of an Istisna'a contract is not to be offset against the credit exposure amount of a Parallel Istisna'a contract because an obligation under one contract does not discharge an obligation to perform under the other contract.
Apr 08Market Risk
Full Recourse Istisna'a
(a)Istisna'a with Parallel Istisna'a
CA-3.4.23
There is no capital charge for market risk to be applied in addition to provisions in paragraphs CA-3.4.14 to CA-3.4.22 above, subject to there being no provisions in the Parallel Istisna'a contract that allow the seller to increase or vary its selling price to the bank, under unusual circumstances. Any variations in a Parallel Istisna'a contract that are reflected in the corresponding Istisna'a contract which effectively transfers the whole of the price risk to an Istisna'a customer (buyer), is also eligible for this treatment.
Apr 08(b)Istisna'a without Parallel Istisna'a
CA-3.4.25
A capital charge of 1.6% (equivalent to a 20% RW) is to be applied to the balance of unbilled WIP inventory to cater for market risk, in addition to the credit RW stated in paragraphs CA-3.4.14 to CA-3.4.22 above.
Apr 08CA-3.4.26
This inventory is held subject to the binding order of the Istisna'a buyer and is exposed to the price risk as described in CA-3.4.11.
Apr 08Foreign Exchange Risk
CA-3.4.27
Any foreign exchange exposures arising from the purchasing of input materials, or from Parallel Istisna'a contracts made, or the selling of a completed asset in foreign currency should be included in the measures of foreign exchange risk described in section CA-5.5.
Apr 08Summary of Capital Requirement at Various Stages of the Contract
CA-3.4.28
The following tables set out the applicable period of the contract that attracts capital charges for (a) Full Recourse Istisna'a (b) Limited and Non-Recourse Istisna'a.
(a) Full Recourse Istisna'a(i) Istisna'a with Parallel Istisna'aApplicable Stage of the Contract Credit RW Market Risk Capital Charge Unbilled work-in-progress Based on ultimate buyer's rating or 100% RW for unrated buyer.
No netting of Istisna'a exposures against Parallel Istisna'a exposures.
(See paragraphs CA-3.4.14 to CA-3.4.22)
(See section CA-4.2)Nil provided that there is no provision in the Parallel Istisna'a contract that allows the seller to increase or vary the selling price. See paragraph CA-3.4.23 If the seller is allowed to vary the selling price of the asset, then under the market risk treatment 15% capital charge on net long or short position plus 3% capital charge on gross positions. Amount receivable after contract billings Upon full settlement price by an Istisna'a buyer. NA NA (ii) Istisna'a without Parallel Istisna'aApplicable Stage of the Contract Credit RW Market Risk Capital Charge Unbilled work-in-progress Based on ultimate buyer's rating or 100% RW for unrated buyer. 1.6% capital charge on work in progress inventory.
See relevant paragraphs under CA-3.4.25 to CA-3.4.26Progress billing to customer. Based on ultimate buyer's rating or 100% RW for unrated buyer.
(See paragraphs CA-3.4.14 to CA-3.4.22) (See section CA-4.2)NA Upon full settlement price by and Istisna'a buyer. NA NA (b) Limited and Non-Recourse Istisna'a
Istisna'a with Parallel Istisna'a (for project finance)Applicable Stage of the Contract Credit RW Market Risk Capital Charge Unbilled work-in-progress Based on project's ECAI rating if available or supervisory slotting criteria that ranges from 70% to 250% RW.
No netting of Istisna'a exposures against Parallel Istisna'a exposures.
(See sections CA-4.2 and CA -4.3)NA Amount receivable after contract billings NA Upon full settlement price by and Istisna'a buyer. NA NA Apr 08CA-3.5 CA-3.5 Ijarah and Ijarah Muntahia Bittamleek
Introduction
CA-3.5.1
This section sets out the minimum capital requirement to cover counterparty risk and residual value risk of leased assets, arising from a bank entering into contracts or transactions that are based on the Sharia rules and principles of Ijarah and Ijarah Muntahia Bittamleek (IMB), also known as Ijarah wa Iqtinā. The section also covers the market (price) risk of assets acquired for Ijarah and IMB.
Apr 08CA-3.5.2
In an Ijarah contract (either operating or IMB), the bank as the lessor maintains its ownership in the leased asset whilst transferring the right to use the asset, or usufruct, to an enterprise as the lessee, for an agreed period at an agreed consideration. All liabilities and risks pertaining to the leased asset are to be borne by the bank including obligations to restore any impairment and damage to the leased asset arising from wear and tear and natural causes which are not due to the lessee's misconduct or negligence.
Apr 08CA-3.5.3
Thus, in both Ijarah and IMB, the risks and rewards remain with the lessor, except for the residual value risk at the term of an IMB which is borne by the lessee. The lessor is exposed to price risk on the asset while it is in the lessor's possession prior to the signature of the lease contract, except where the asset is acquired following a binding promise to lease as described in paragraph CA-3.5.5 below.
Apr 08CA-3.5.4
In an IMB contract, the lessor promises to transfer its ownership of the leased asset to the lessee at the end of the contract as a gift or as a sale at a specified consideration, provided that (a) the promise is separately expressed and independent of the underlying Ijarah; or (b) a gift contract is entered into conditional upon fulfillment of all the Ijarah obligations, and thereby ownership shall be automatically transferred thereupon.
Apr 08CA-3.5.5
In both operating Ijarah and IMB, the Bank either possesses the asset before entering into a leased contract or enters into the contract based on specific description of an asset to be leased and acquired in the future before it is delivered to the lessee. This agreement to lease may be considered as binding (binding Promise to Lease (PL)) or as non-binding (non-binding PL) depending on the applicable Sharia interpretations.
Apr 08Operating Ijarah
CA-3.5.6
This section sets out the minimum capital requirements to cater for the lessor's exposures to (a) the credit risk of the lessee as counterparty in servicing the lease rentals, and (b) the market (price) risk attaching to the residual value of the leased assets either at the end of the Ijarah contract or at the time of repossession upon default, i.e. the risk of losing money on the resale of the leased asset.
Apr 08IMB
CA-3.5.7
In IMB, once the lease contract is signed, the lessor is exposed to credit risk for the lease payments receivable from the lessee (a credit risk mitigated by the asset's value as collateral5 in most cases) and to a type of operational risk in respect of the need to compensate the lessee if the asset is permanently impaired through no fault of the latter. If the leased asset is permanently impaired and is uninsured, the bank suffers a loss equal to the carrying value of the leased asset, just as it would if any of its fixed assets were permanently impaired. In the event that the lessee exercises its right to cancel the lease, the lessor is exposed to the residual value of the leased asset being less than the refund of payments due to the lessee. In such case, the price risk, if any, is already reflected in a 'haircut' to be applied to the value of the leased asset as collateral. Therefore, the price risk, if any, is not applicable in the context of the IMB.
5 The collateral used in the context of IMB is of the usufruct or use value of the asset, as the bank is the owner of the asset.
Apr 08CA-3.5.8
This section sets out the minimum capital adequacy requirement to cater for the credit risk of the lessee as counterparty with respect to servicing the lease rentals. The credit risk exposure in respect of the lease rentals is mitigated by the collateral represented by the value of the leased asset on repossession, provided that the bank is able to repossess the asset, which may be subject to doubt, especially in the case of movable assets or residential real estate. Insofar as there is doubt as to the lessor's ability to repossess the asset, the residual fair value of the asset that was assumed in fixing the lease rentals is also exposed to credit risk.
Apr 08CA-3.5.9
The bank may be exposed to losses in case a lessee acquiring an asset under IMB decides not to continue with the contract. In such a case, the lessor is required to refund to the lessee the capital payments (instalments of the purchase price) that were included in the periodic lease rentals (subject to deduction of any amounts due for unpaid rentals). If the value of the repossessed asset is less than the amount to be refunded (before any such deduction), the difference constitutes a loss to the lessor. This exposes the bank as lessor to a form of market risk.
Apr 08CA-3.5.10
In theory, a situation could arise in which, when an IMB contract arrives at its term, the lessee decides not to exercise its option to complete the purchase by making the contractually agreed final payment (The option to purchase places no obligation on the lessee to do so.). The bank may thus be exposed to market risk, in respect of a potential loss from disposing of the asset for an amount lower than its net book value. Generally, however, the lessor's exposure in such a case would not be significant, as the option to purchase can be exercised by making a payment of a token amount and the lessee would have no reason to refrain from exercising it.
Apr 08CA-3.5.11
Moreover, the net book value of the asset at the term of the IMB (i.e. its residual fair value as assumed in fixing the lease rentals) would be zero or close to zero.
Apr 08Credit Risk
CA-3.5.12
In a binding PL, when a bank is exposed to default on the lease orderer's obligation to execute the lease contract, the exposure shall be measured as the amount of the asset's total acquisition cost to the bank, less the market value of the asset as collateral subject to any haircut, and less the amount of any urbun received from the lease orderer. The applicable RW shall be based on the standing of the obligor as rated by an ECAI that is approved by the CBB, and in the case the obligor is unrated, a RW of 100% shall apply (refer to chapter CA-4). The bank may or may not have the right to recoup from the customer any loss on leasing or disposing of the asset after taking account of the HJ.
Apr 08CA-3.5.13
In applying the treatment as set out in paragraph CA-3.5.12, the bank must ensure that the PL is properly documented and is legally enforceable. In the absence of proper documentation and legal enforceability, the asset is to be treated similarly to one in a non-binding PL which is exposed to market (price) risk, using the measurement approach as set out in paragraph CA-3.5.18(a).
Apr 08Operating Ijarah
CA-3.5.14
When the lessee gets the right to use the asset, the lessor is exposed to credit risk for the estimated value of the lease payments in respect of the remaining period of the Ijarah. This exposure is mitigated by the market value of the leased asset (subject to the applicable haircut) which may be repossessed (except in the case of residential real estate). The net credit risk exposure shall be assigned a RW based on the credit standing of the lessee/counterparty as rated by an ECAI that is approved by the CBB. In the case that the lessee is unrated, a RW of 100% shall apply.
Apr 08IMB
CA-3.5.15
When the lessee gets the right to use the asset, the capital requirement for IMB is based on the total estimated future ijarah receivable amount over the duration of the lease contract. This exposure is mitigated by the market value of the leased asset which may be repossessed (except in the case of residential real estate). The net credit risk exposure shall be assigned a RW based on the credit standing of the lessee/counterparty as rated by an ECAI that is approved by the CBB. In the case that the lessee is unrated, a RW of 100% shall apply. (See section CA-4.2).
Apr 08CA-3.5.16
The estimated future ijarah receivable amount as indicated in paragraph CA-3.5.15 (a) above, shall be risk-weighted based on the credit standing of the lessee as rated by an ECAI or at 100%, after deduction of the value of the leased asset as collateral (subject to any haircut). (See chapter CA-4).
Apr 08Exclusions
CA-3.5.17
The capital requirement is to be calculated on the receivable amount, net of (i) specific provisions, (ii) any amount that is secured by eligible collateral (as defined in section CA-4.7) and/or (iii) any amount which is past due by more than 90 days. The portions that are collateralised and past due are subject to the treatment as set out in chapter CA-4.
Apr 08Market Risk
CA-3.5.18
In the case of an asset acquired and held for the purpose of either operating Ijarah or IMB, the capital charge to cater for market (price) risk in respect of the leased asset from its acquisition date until its disposal can be categorised into the following:
(a) Non-binding PL
The asset for leasing will be treated as inventory of the bank and capital charge will be provided for the price risk in accordance with section CA-5.2.(b) Binding PL
In a binding PL, a bank is exposed to default on the lease orderer's obligation to lease the asset in its possession. In the event of the lease orderer defaulting on its PL, the bank will either lease or dispose of the asset to a third party. The bank will have recourse to any HJ paid by the customer6, and (i) may have a right to recoup from the customer any loss on leasing or disposing of the asset after taking account of the HJ, or (ii) may have no such right, depending on the legal situation. In both cases, this risk is mitigated by the asset in possession (if eligible) as well as any HJ paid by the lease orderer.
6 The amount can only be deducted for damages, i.e. difference between the asset acquisition cost and the total of lease rentals (when the asset is leased to a third party) or selling price (when the asset is sold to a third party), whichever is applicable.
Apr 08CA-3.5.19
In case (i), the bank has the right to recoup any loss (as indicated in the previous paragraph) from the customer, that right constitutes a claim receivable which is exposed to credit risk, and the exposure shall be measured as the amount of the asset's total acquisition cost to the bank, less the market value of the asset as collateral subject to any haircut, and less the amount of any HJ. The applicable RW shall be based on the standing of the customer as rated by an ECAI that is approved by CBB, and in the case the obligor is unrated, a RW of 100% shall apply. (see section CA-4.2).
Apr 08CA-3.5.20
In case (ii) the bank has no such right, and the cost of the asset to the bank constitutes a market risk (as in the case on a non-binding PL), but this market risk exposure is reduced by the amount of any HJ that the bank has the right to retain.
Apr 08Operating Ijarah
CA-3.5.21
The residual value of the asset will be subject to capital charge of 8%. Upon expiry of the lease contract, the carrying value of the leased asset shall carry a capital charge for price risk in accordance with section CA-5.2 until the asset is re-leased or disposed of.
Apr 08IMB
CA-3.5.22
In the event that the lessee exercises its right to cancel the lease, the lessor is exposed to the residual value of the leased asset being less than the refund of payments due to the lessee. In such a case, the price risk, if any, is already reflected in a 'haircut' to be applied to the value of the leased asset as collateral in credit risk. Therefore, the price risk, if any, is not applicable in the context of the IMB.
Apr 08Summary of Capital Requirement at Various Stages of the Contract
CA-3.5.23
The following tables set out the applicable period of the contract that attracts capital charges:
Operating IjarahApplicable Stage of the Contract Credit RW Market Risk Capital Charge Asset available for lease (prior to signing a lease contract) - If the bank has legal right to recoup from the customer any loss on disposing of the asset Binding PL Asset acquisition cost less (a) market value of asset fulfilling function of collateral (net of any haircuts) and (b) any 'hamish jiddiyyah' multiply with the customer's rating or 100% RW for unrated customer. (See section CA-4). Non-binding PL 15% capital charge until lessee takes possession. Asset available for lease (prior to signing a lease contract) - If the bank has no legal right to recoup from the customer any loss on disposing of the asset NA 15% capital charge until lessee takes possession minus urbun (If the bank has legal right to it). When the lessee gets the right to use the asset and the lease rental payments are due from the lessee Total contractual obligation of the lease rental receivable over the duration of the lease contract less the recovery value* (if eligible) of the leased asset shall be risk-weighted according to the lessee's rating. (100% RW for an unrated lessee.). (See chapter CA-4). The residual value will be subject to capital charge of 8% Maturity of contract term and the leased asset is returned to the bank Not applicable 15% capital charge of the carrying value of the asset * Recovery value should be based on the entire Ijarah asset value.
IMBApplicable Stage of the Contract Credit RW Market Risk Capit Charge Asset available for lease (prior to signing a lease contract) - If the bank has legal right to recoup from the customer any loss on disposing of the asset Binding PL Asset acquisition cost less (a) market value of asset fulfilling function of collateral (net of any haircuts) and (b) any 'hamish jiddiyyah' multiply with the customer's rating or 100% RW for unrated customer. (See chapter CA-4). Non-binding PL 15% capital charge until lessee takes possession Asset available for lease (prior to signing a lease contract) - If the bank has no legal right to recoup from the customer any loss on disposing of the asset NA 15% capital charge until lessee takes possession minus urbun (If the bank has legal right to it). When the lessee gets the right to use the asset and the lease rental payments are due from the lessee Total contractual obligation of the lease rental receivable over the duration of the lease contract less recovery value of the asset* (if eligible) shall be risk-weighted according to the lessee's rating (100% RW for an unrated lessee. (See chapter CA-4). Not applicable Maturity of contract term and the leased asset is returned to the bank Not applicable Not applicable * Recovery value should be based on the entire Ijarah asset value.
Apr 08CA-3.6 CA-3.6 Musharakah and Diminishing Musharakah
Introduction
CA-3.6.1
This section sets out the minimum capital adequacy requirement to cover the risk of loss on invested capital arising from entering into contracts or transactions that are based on the Sharia rules and principles of Musharakah and Diminishing Musharakah where the bank and their customers/partner(s) contribute to the capital of the partnership and shares its profit or loss.
Apr 08CA-3.6.2
This section is applicable to both (a) Musharakah in which all the partners' share remain constant throughout the contract period; and (b) Diminishing Musharakah in which the share of the bank shall be gradually reduced during the tenure of the contract until it is fully sold to the other partner(s).
Apr 08CA-3.6.3
Musharakah contracts refer to partnerships in specific transactions or projects. These exclude participation in the share capital (equity) of other enterprises.
Apr 08CA-3.6.4
A Musharakah is an agreement between the bank and a customer to contribute capital in various proportions to an enterprise, whether existing or new, or to ownership of a real estate or moveable asset, either on a permanent basis, or on a diminishing basis where the customer progressively buys out the share of the bank ("Diminishing Musharakah"). Profits generated by that enterprise or real estate/asset are shared in accordance with the terms of Musharakah agreement whilst losses are shared in proportion to the respective contributor's share of capital.
Apr 08CA-3.6.5
A bank may enter into a Musharakah contract with a customer as a means of providing a financing to the latter on a profit sharing and loss bearing basis. In this case, the Musharakah is normally of the diminishing type, in which the customer gradually purchases the bank's partnership share over the life of the contract. This type of financing is one of the Sharia compliant alternatives to avoid a conventional term loan repayable by instalments, and as such it is exposed to credit risk for the customer's purchase payments as well as to the risk attached to the bank's share of the underlying assets.
Apr 08Musharakah
CA-3.6.6
This section sets out the minimum capital adequacy requirement to cater for "capital impairment risk", the risk of losing the amount contributed to an enterprise or ownership of an asset. The bank acts as a partner in a Musharakah contract and is exposed to the risk of losing its capital upon making payment of its share of capital in a Musharakah contract. A Musharakah can expose the bank either to capital impairment risk or to 'credit risk', depending on the structure and purpose of the Musharakah and the types of asset in which the funds are invested. The invested capital is redeemable either by liquidation of the Musharakah assets at the end of the contract which has a fixed tenure or as mutually agreed by the partners, or upon divestment of partnership in an on-going Musharakah subject to giving a notice to other partners. The amount of capital redemption is represented by the value of a share of capital, which is dependent on the quality of the underlying investments or assets, and ability to generate profits and cash flows from the Musharakah.
Apr 08CA-3.6.7
As a partner to a Musharakah contract, the bank is not entitled to a fixed rate of return and is thus exposed to variable profits generated by the partnership which are shared on a basis as agreed in the Musharakah contract, whereas losses are to be borne by the bank and its partners according to their respective ratio of invested capital. Therefore, the bank is exposed to entrepreneurial risk of an active partner that manages the partnership and business risks associated with the underlying activities and types of investments or assets of the partnership.
Apr 08Diminishing Musharakah
CA-3.6.8
This form of Musharakah is a means whereby a bank can provide term finance to a client on a profit and loss sharing basis. The bank enters into this type of Musharakah with the objective of transferring the ownership to the partner/customer, where the bank acts as a joint-owner of the asset with a promise by the partner to purchase the bank's share making a payment on one or more specified future dates. The bank's selling price is normally based on the fair value of the partnership share being transferred on the date of each purchase, which may expose the bank to the risk of selling its share of ownership below the acquisition price.
Apr 08CA-3.6.9
As a joint-owner, the bank is also entitled to its share of revenue generated from the assets of the Musharakah, such as Ijarah lease rentals in which the rental entitlements to the bank shall be adjusted periodically according to the bank's share of ownership in the asset.
Apr 08CA-3.6.10
The bank's position in a Diminishing Musharakah thus entails two kinds of exposure. The amounts due from the partner to purchase the agreed shares of the asset on the agreed dates are subject to credit risk in respect of the partner's ability and willingness to pay, with the shares of the partner in the asset providing credit risk mitigation as collateral. The capital invested by the bank is also subject to the risk that the amounts recoverable from the partner may be less than the amount invested because the value of the Musharakah assets has decreased (capital impairment risk).
Apr 08Equity Position Risk - Musharakah
CA-3.6.11
Musharakah exposures, unless deducted for regulatory capital purposes according to the Prudential Consolidation and Deduction Requirements, will be treated as stated in paragraphs CA-3.6.12 to CA-3.6.14.
Apr 08CA-3.6.12
Musharakah exposures in the nature of specialized financing will be risk-weighted as per the supervisory slotting criteria as detailed in section CA-4.3.
Apr 08CA-3.6.13
Other Musharakah exposures will be risk-weighted using the risk weights applicable to equities as explained in section CA-4.2.
Apr 08Equity Position Risk - Diminishing Musharakah
CA-3.6.15
The equity exposure in a Diminishing Musharakah contract, where the bank intends to transfer its full ownership in movable assets and working capital to the other partner over the life of the contract, is calculated based on the remaining balance of the amount invested (measured at historical cost including any share of undistributed profits) less any specific provision for impairment. The exposure shall be risk weighted according to the nature of the underlying assets as set out in paragraph CA-3.6.11 to CA-3.6.14 above. If a third party guarantee exists, to make good impairment losses, the RW of the guarantor shall be substituted for that of the assets (if lower) for the amount of any such guarantee.
Apr 08Summary of Capital Requirement at Various Stages of the Contract
CA-3.6.16
The following table sets out the Musharakah categories that attract capital charges:
Musharakah Category Credit RW Market Risk Capital Charge Specialized financing Supervisory slotting criteria should be applied.
Between 90-270% RW of the contributed amount* to the business venture based on the four categories.NA Other 150% RW** of the contributed amount to the business venture less any specific provisions (if there is a third party guarantee, the RW of the guarantor shall be substituted for that of the assets for the amount of any such guarantee, if lower). NA Musharakah meeting the definition of trading book As set out in the applicable market risk section (Chapter CA-5). * In the case of Diminishing Musharakah, the contributed amount is based on the remaining balance of the invested amount.
** 100% RW may be applied if the funds can be withdrawn by the bank at short notice of 5 working days.
Apr 08CA-3.7 CA-3.7 Mudarabah
Introduction
CA-3.7.1
This section sets out the minimum capital adequacy requirement to cover the risk of losing invested capital arising from entering into contracts or transactions that are based on the Sharia rules and principles of Mudarabah where the bank assumes the role of capital provider. This section is applicable to both restricted and unrestricted Mudarabah financing.
Apr 08CA-3.7.2
A Mudarabah is an agreement between the bank and a customer whereby the bank would contribute capital to an enterprise or activity which is to be managed by the customer as the (labour provider or) Mudarib.
Apr 08CA-3.7.3
Profits generated by that enterprise or activity are shared in accordance with the terms of the Mudarabah agreement whilst losses are to be borne solely by the bank unless the losses are due to the Mudarib's misconduct, negligence or breach of contracted terms.
Apr 08CA-3.7.4
A Mudarabah financing can be carried out on either:
(a) A restricted basis, where the capital provider allows the Mudarib to make investments subject to specified investment criteria or certain restrictions such as types of instrument, sector or country exposures; and(b) An unrestricted basis, where the capital provider allows the Mudarib to invest funds freely based on the latter's skills and expertise.Amended: April 2011
April 2008CA-3.7.5
As the fund provider, the bank is exposed to the risk of losing its capital investment or 'capital impairment risk' upon making payment of the capital to the Mudarib. Any loss on the investment is to be borne solely by the capital provider, but is limited to the amount of his capital. Losses that are due to misconduct, negligence or breach of contractual terms, are to be borne by the Mudarib.
Apr 08CA-3.7.6
However, while it is not permissible for a Mudarib to give a guarantee against such losses, such a guarantee may be given by a third party on the basis of tabarru (donation). In such a case, the amount of the Mudarabah capital so guaranteed may be considered as subject to credit risk with a risk weighting equal to that of the guarantor.
Apr 08CA-3.7.7
In particular, such guarantees may be given when liquid funds are placed in an Islamic interbank market under a Mudarabah contract.
Apr 08Equity Position Risk
CA-3.7.8
Mudarabah exposures, unless deducted for regulatory capital purposes according to the Prudential Consolidation and Deduction Requirements, will be treated as stated in paragraphs CA-3.7.9 to CA-3.7.11.
Apr 08CA-3.7.9
Mudarabah exposures in the nature of specialized financing will be risk-weighted as per the supervisory slotting criteria as detailed in section CA-4.3.
Apr 08CA-3.7.10
Other Mudarabah exposures will be risk-weighted using the risk weights applicable to equities as explained in section CA-4.2.
Apr 08Summary of Capital Requirements for Mudarabah Categories
CA-3.7.12
The following tables set out the Mudarabah categories that attract capital charges:
Mudarabah Category Credit RW Market Risk Capital Charge Specialized financing Supervisory slotting method will be applied.
Between 90-270% RW of the contributed amount to the business venture based on the four categories.NA Other 150% RW* of the contributed amount to the business venture less any specific provisions (if there is a third party guarantee, the RW of the guarantor shall be substituted for that of the assets for the amount of any such guarantee). NA Mudarabah meeting the definition of trading book As set out in the applicable market risk section (See chapter CA-5). * 100% RW may be applied if the funds can be withdrawn by the bank at short notice of 5 working days.
Apr 08CA-3.8 CA-3.8 Sukuk
Introduction
CA-3.8.1
This section sets out the minimum capital adequacy requirement to cover the credit risk and market risk arising from the holding of Sukuk.
Apr 08CA-3.8.2
This section is applicable only to Sukuk or certificates that represent the holder's proportionate ownership in an undivided part of an underlying asset where the holder assumes all rights and obligations to such asset. This section does not cover certificates that give the holders the entitlement to receive returns on an asset of which the ownership is not transferred to the Sukuk holders.
Apr 08CA-3.8.3
Sukuk can be broadly categorised into:
(a) Asset-based Sukuk, where the underlying assets offer fairly predictable returns to the Sukuk holders, such as in the case of Salam, Istisna'a and Ijarah (Note: the assets in question may be held by a Musharakah or Mudarabah which is securitised. This is not the same as the Musharakah or Mudarabah Sukuk mentioned below).(b) Equity-based Sukuk, where the returns are determined on a profit and loss sharing in the underlying investment which does not offer fairly predictable returns (e.g. Musharakah or Mudarabah for trading purposes).Amended: April 2011
April 2008CA-3.8.4
CBB has the discretion to specify measurement approaches as it thinks appropriate for other types of Sukuk which are not listed in this section, provided they are approved by a Sharia board.
Apr 08Salam Sukuk
CA-3.8.5
A Salam Sukuk represents fractional ownership of the capital of a Salam transaction, where the Salam capital is constituted by an advance payment to a counterparty as supplier of a commodity (the subject-matter) to be delivered at a future date. This type of Sukuk is non-tradable, since the subject-matter is considered to be a financial asset (a receivable). The gross return to the Sukuk holders consists of the margin or spread between the purchase price of the subject-matter and its selling price following delivery. In certain Sukuk issues, a third party gives an undertaking that the subject-matter will be sold at a price exceeding the purchase price by a specified margin. This may be achieved by means of a parallel Salam transaction in which a third party purchases the subject-matter for delivery on the same delivery date as in the original Salam contract.
Apr 08Istisna'a Sukuk
CA-3.8.6
An Istisna'a Sukuk represents a fractional share in the project financing of an undertaking to manufacture or construct an asset for a customer at a price to be paid in future instalments, the total of which equals the total face value of the Sukuk, in addition to mark-up. The Sukuk can be in the form of serial notes or certificates with different maturity dates that match the progress schedule of instalments as agreed between the buyer/customer of the asset and the manufacturer/bank. Istisna'a Sukuk are tradable as the subject-matter is considered to be a non-financial asset (work-in-process inventory).
Apr 08Ijarah Sukuk
CA-3.8.7
An Ijarah Sukuk represents the holder's proportionate ownership in a leased asset where the Sukuk holders will collectively assume the rights and obligations of the lessor. The Sukuk holder will enjoy a share of the lease rental in proportionate to the ownership share in the leased asset. An Ijarah Sukuk is tradable from the issuance date as the subject-matter is a non-financial asset owned by the Sukuk holders. As a part-owner, the Ijarah Sukuk holder assumes a proportionate share of any loss if the leased asset is destroyed or of the cost of meeting the obligation to provide an alternative asset, failing which, the lessee can terminate the lease without paying future rentals.
Apr 08Musharakah Sukuk
CA-3.8.8
A Musharakah Sukuk represents the direct pro-rata ownership of the holder in the assets of a private commercial enterprise or project where the subscription money is normally employed in purchasing non-liquid assets or such as real estate or moveable assets. A Musharakah Sukuk is a profit and loss sharing instrument where the exposure is of the nature of an equity position in the banking book, except in the case of investments (normally short-term) in assets for trading purposes. A Musharakah certificate can be tradable provided that non-cash and receivable assets are not less than 30% of market capitalisation.
Apr 08Mudarabah (Muqaradah) Sukuk
CA-3.8.9
Sukuk holders subscribe to the certificates issued by a Mudarib and share the profit and bear any losses arising from the Mudarabah operations. The returns to the holders are dependent on the revenue generated by the underlying investment. The rule regarding tradability of the certificates is the same as for Musharakah certificates.
Apr 08Calculation of Capital Charge
CA-3.8.10
If the Sukuk has the characteristics of a claim (or debt) then the Sukuk should be risk weighted using its issue specific rating according to the nature of the issuer (i.e. sovereign, bank or corporate etc). If the Sukuk is unrated and has the characteristics of a claim or debt, the risk weight applicable will be based on the risk weight applicable to the issuer.
Apr 08CA-3.8.11
If the Sukuk is equity in nature, such investment should be treated as an equity investment and risk weighted accordingly (i.e. 100 % for listed and 150 % for others).
Apr 08CA-3.8.12
The bank can apply to CBB for using look-through approach for such investment if it can demonstrate that look-through approach is more appropriate to the circumstances of the bank.
Apr 08CA-3.8.13
If there are no voting rights attached to investment in Sukuk, the investment will not be subjected to consolidation and deduction requirements (except large exposure limit).
Apr 08CA-3.8.14
For the purpose of determining "large exposure limit" for investment in Sukuk, look-through approach should be used (despite the fact that look-through approach is not used to risk weight the investment).
Apr 08Summary of Capital Requirements for Sukuk Exposures
CA-3.8.16
The following tables summarises the capital requirements for Sukuk exposures:
Sukuk Category Credit RW Market Risk Capital Charge In nature of claim or debt Risk-weighted according to the external rating of the Sukuk (where rated) or according to the risk weight applicable to the issuer (where unrated) NA In nature of equity -Listed 100% RW NA In nature of equity- Not listed 150% RW* NA If the bank gets approval to apply "look-through approach" RWs applicable to the underlying assets NA Sukuk meeting the definition of trading book NA As set out in the applicable market risk section (See chapter CA-5). * 100% RW may also be applied if the funds can be withdrawn by the bank at short notice of 5 working days.
Apr 08
