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Islamic Trade Financing: Tools for Trade Competitiveness Presentation by: Asnulhadi Yeop Aziz Wholesale Banking for: Seminar on Islamic Banking & Capital Market: Products & Instruments. 1. Presentation Outline. Islamic Trade Financing: An overview

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Presentation Outline

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  1. Islamic Trade Financing:Tools for Trade Competitiveness Presentation by:Asnulhadi Yeop AzizWholesale Bankingfor:Seminar on Islamic Banking & Capital Market: Products & Instruments 1

  2. Presentation Outline • Islamic Trade Financing: An overview • Types of Products & Instruments & Shariah Principles/contracts • Letter or Guarantee • Letter of Credit • Working Capital Financing • Islamic Accepted Bills (AB-i) • Islamic Export Credit Refinancing (IECR) • Prospects & Challenges 2

  3. Trade Financing : An Overview Merchandise Manufacturer (Exporter) Which comes first? Buyer (Importer) Payment Modes of Payment: • Advanced Payment • Documentary Collection • Open Account • Letter of Credit

  4. Trade Financing : An Overview CASH RAW MATERIAL RECEIVABLE FINISHED GOODS Cash Operating Cycle of both Exporter & Importer

  5. Trade Finance Tools • Bank Guarantee • Letter of Credit • Overdraft • Trust Receipt • Bankers Acceptance 5

  6. Bank Guarantee Merchandise Manufacturer (Exporter) Bank Guarantee Buyer (Importer) Payment

  7. Bank Guarantee Types of Guarantee 1.Tender Guarantee/Bond 4. Customs Guarantee 2. Performance Guarantee 5. Utility Payment Guarantee 3. Advanced Payment Guarantee 6. Others Islamic Bank Guarantee • Based on the principle/contract of Kafalah or Dhamanah (guarantee) • Operationally, there is no difference between conventional and Islamic guarantee where bank charges commission/fee (ujr) for the guarantee. • Certain Islamic banks adopt pro-rated commission (i.e. based on actual number of months) Differences Between Pro-rated vs Per annum Commission Amount : RM200,000-00 Commission : e.g. 1% p.a. Tenor : 6 months Pro-rated BasisPer Annum Basis Commission : RM2,000-00 RM1,000-00 7

  8. Letter of Credit Written undertaking by a commercial bank to seller (beneficiary) to effect payment on behalf of the buyer if terms & conditions of the LC (i.e. terms of credit) have been complied with. Advantages • Provides importer with credit backing & eliminates buyer risk to exporter • Importer may get better pricing & payment terms • Importer is assured documents presented are as per requirement and duly examined by experts in the field as per UCP500. • Exporter may get sale proceeds faster (via negotiation of LC) 8

  9. Letter of Credit- The Mechanics EXPORTER IMPORTER 7.Client receive document 1.Apply LC & place 100% deposit 4.Client provide document & receive payment 3.Advise LC 2. Issue LC ADVISING/ NEGOTIA-TING BANK ISSUING BANK 5.Forward document 6. Payment reimbursement

  10. Letter of Credit Islamic Letter of Credit • Based on the principle/contract of Wakalah • If deposit is placed upfront by client, it will be placed under wadiah. • Customer will pay commission/fee (ujr) for the service • Operationally, no difference from conventional LC. • Main advantage: No interest payment on Settlement Period. Settlement of LC • via upfront wadiah deposit placement • via Murabahah Working Capital Financing • via Equity Financing namely Mudharabah or Musyarakah financing. 10

  11. Letter of Credit DIFFERENCES IN COSTS BETWEEN CONVENTIONAL & ISLAMIC LC Assumption LC issued on 1 Apr 2006 and expires on 30 May 2006 Beneficiary : In the USA LC Amount : USD100,000-00 Foreign Exchange : 3.60 Amount in MYR : RM360,000-00 Commission : 0.1% p.m. Tenor : 2 Months Foreign Interest : 6% SWIFT Charge : RM25.00 11

  12. Working Capital Financing The money that is required to circulate within a business in order to finance its business/operating cycle. (It can also be used to settle LC) Nature • Short period – according to business/operating cycle • Self-liquidating • Financing relates to specific asset (eg stock, receivable) Forms • Overdraft • Trust Receipt • - Document of trust signed by importer, the strength on with bank allows the • importer to obtain release of the merchandise but making payment at a later date. • Bankers Acceptance (Import/Export) • - Usance Bill of Exchange drawn by client on the bank for acceptance/discount. • The proceeds will be utilised to finance the merchandise imported. 12

  13. Financing of Purchase/Import - Murabahah 1. Bank appoints Client as Purchasing Agent 5. Sale of Goods BANK CLIENT 6. Payment of Sale Price on Maturity 4. Payment of Purchase Price 2. Purchase Order 3. Supply of goods SUPPLIER Sale Price = Cost + (Cost X Profit rate X Tenor) 36500 13

  14. Islamic Accepted Bills (AB-i) (Purchase/Import) 1. Bank appoints Client as Purchasing Agent 5. Sale of Goods BANK CLIENT 6. Payment of Sale Price on Maturity 4. Payment of Purchase Price 2. Purchase Order 3. Supply of goods Securitisation of the Debt : AB-i. Sale of AB-i to another party is under Bai’ Dayn SUPPLIER 14

  15. Financing of Sales/Exports - Bai’ Dayn 5. On maturity, Client collect debt and pay to Bank 3. Sale of Debt BANK CLIENT 4. Payment via cash 2. Supplier will pay on end credit term 1. Client sells goods SUPPLIER 15

  16. Islamic Accepted Bills (AB-i) (Sale/Export) 5. On maturity, Client collect debt and pay to Bank 3. Sale of Debt BANK CLIENT 4. Payment via cash 2. Supplier will pay on end credit term 1. Client sells goods Securitisation of the Debt : AB-i. Sale of AB-i to another party is under Bai’ Dayn SUPPLIER 16

  17. AB-i (Purchase or Sale) Transactions Allowed to be Securitised under AB-i • Tangible and non-haram goods (eg. raw materials, semi-finished goods or finished goods) • Selected services – 1.Purchase of computer software licence, • 2.Companies involved in trade-related logistic services such as warehousing, forwarding & shipping, or • 3.Purchase of electricity such as Independent Power Producer • (Exemption given on case to case basis) • (Source: BNM AB-i Guideline) 17

  18. Working Capital Financing

  19. Cost Comparison Between BA and AB-i

  20. Cost Comparison Between BA and AB-i

  21. Islamic Export Credit Refinancing Scheme (IECR) • Special government scheme to promote export of Malaysian • manufactured products, agriculture products & primary commodities via • participating commercial banks. • IECR Pre-shipment and Post-Shipment • AB-i uses the prevailing profit rate in the market while IECR allows • banks to resell the debt to EXIM Bank at a special rate. EXIM Bank will • notify the refinancing rate from time to time. • Uses the principle/contract of Bai’ Dayn. 21

  22. Islamic Trade Financing : Prospect Trends in Islamic Trade Financing in Malaysia In Malaysia, Islamic Trading Finance has gradually gained acceptance due to the distinct advantages. GROWTH OF TRADE BILLS IN MALAYSIA (in RM’Mil) Source : BNM 22

  23. Islamic Trade Financing : Challenges 1. Differential in views of Islamic scholars on Bai’ Dayn Scholars in the Middle East have different views on bai’ dayn. 2. Interest on Remittance Days of LC Establishing LC where no interest is payable on remittance days. 3. Differential in Rates between BA and AB-I Currently, AB-I rate is lower than BA rate due to the liquidity in Islamic Banking. The position may be different in the future. 23

  24. THANK YOU

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