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Introduction

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Presented By

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Mudarabah and Musharakah - T
he best Modes of financing

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Mudarabah Vs Musharakah
 Mudarabah:
− The contribution comes from
Rabbul Maal (the investor).
− The Rabbul Maal (investor) is
not permitted to manage the
business.
− The Mudarib will only manage
the business.
− The Mudarib can also invest in
the capital of Mudarabah
 Musharakah:
− The contribution comes from
all partners in form of cash,
commodities, services or
liability in the case of
reputation partnership.
− The work, as a general rule, is
to be done jointly by the
parties.
− A partner or some partners
may be sleeping.
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Mudaraba

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Contents

 Introduction – Mudarabah;
− Profit / Loss Distribution;
− Kinds of Mudarabah
 Termination of Mudarabah
 Mudarabah Vs Musharakah
 Scope of Mudarabah for Banking System
 Risks
 Practical examples

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Mudarabah - Introduction

 “Mudaraba” is a kind of partnership where partner involve in business

;
 Mudarabah is partnership between persons in which one partner give
s money to another for investing in profitable avenues.
 The investor (fund provider/supplier) is called “Rabb-ul-Maal while t
he person who utilizes this fund (the fund manager) is called “Mudari
b”;
 Mudarib is exclusively responsible for management of the business.
 Rabbul Maal (fund supplier) does not have any right to interfere in bu
siness affairs.

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Mudarabah - Introduction

 Mudarabah Capital:
− In principle, the capital of Mudaraba should be provided in the form
of cash.
− However, it may be presented in the form of kind i.e. tangible assets
which will be valued as per mutual consent;
− The value (in cash) of the assets will be the Mudaraba capital;
− The Capital of Mudaraba should be clearly known to the contracting
parties and defined in terms of quality and quantity in a clear manne
r;
− Debt (receivable) can not be the capital of Mudarabah.

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Mudarabah - Introduction

 Mechanism of Profit and Loss distribution:

− The contracting parties should stipulate in the contract the profit sh
ares (in defined terms) for each one;
− The profit sharing ratio should be:
► Specific; and
► of the profit expected to be earned by the venture;
− Therefore following method is not allowed:
► Unknown ratio;
► A ratio attributed to future settlement;
► A ration linked with the capital (in terms of x% of the capital);
► A lump sum settlement as profit;

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Mudarabah - Introduction

 Mechanism of Profit and Loss distribution:

− Losses in Mudaraba shall only be born by Rabb-ul-Mal and not by th
e Mudarib;
− Mudarib will also suffer loss in shape of not receiving anything as pr
ofit;
− The Mudarib shall only be responsible for losses if the loss happened
due to his negligence and willful misconduct.

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Mudarabah - Types

 There are two types of Mudarabah:

− Restricted Mudarabah (Mudarabah Muqayyadah):
► It is a kind of Mudarabah in which the capital provider restricts the Mudarib to perfor
m business with certain restrictions. These restrictions may be for place (geographical re
striction), particular type of investment (sector wise restriction) or any other restriction
provided these restrictions do not unduly constrain the Mudarib from business operation
s.
− Unrestricted Mudarabah (Mudarabah Mutlaqah):
► It is a kind of Mudarabah in which the capital provider (Rabbul Maal) does not put an
y restriction the Mudarib.

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Mudarabah - Rules

 Supply of funds:
− The basic feature of Mudaraba is that the the capital is provided by
Rabbul Maal and the Mudarib is responsible for the management onl
y;
− However, it is allowed for Mudarib to add capital into the business o
f Mudaraba if agreed with Mudarabi;
− In such cases Musharaka and Mudaraba are combined.
− For example, “Zuhaib” gave to “Rahman Hayder” Rs.100,000/- for
Mudaraba. R. Hayder added Rs. 50,000/- from his own with the cons
ent of Zuhaib;
− This type of partnership will be treated as a combination of Mushara
ka and Mudaraba;
− Here the Mudarib may allocate for himself a certain percentage of pr
ofit on account of his investment as Sharik, and at the same time he
may allocate another percentage for his management and work as a
Mudarib.

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Mudarabah - Rules

 Termination of Mudarabah:
− The contract of Mudaraba can be terminated at any time by either of
the two parties after giving a notice to the other party.
− If all assets are in form of cash and some profit has been earned on t
he principle amount, it shall be distributed between the parties accor
ding to the agreed ratio.
− If the assets of the Mudaraba are in other form the Mudarib shall be
given an opportunity liquidate them and the actual profit may be det
ermined.

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Mudarabah - Application

 Scope of Mudarabah for Banking System:

− Mudaraba as a mode of finance used by Islamic Banks for the followi
ng purpose:
− Relationship with depositors;
► The depositors provide moneys to bank as Rabb-ul-Mal to be invested by bank as Muda
rib on the basis of profit and loss sharing on pre agreed specific ratio;
− Islamic bank can also use this mode through providing capital in a b
usiness and sharing in the profit with pre-agreed ratio;
► Large Enterprise financing;
► Project Finance;
► Business ventures;
► Private equity;

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Mudarabah - Application

 Depositors and Islamic bank relationship:

− Mudaraba is used by Islamic Banks for taking deposit from depositor
s;
− The depositors provide moneys to bank as Rabb-ul-Mal to be investe
d by bank as Mudarib on the basis of profit and loss sharing on pre a
greed specific ratio;

DEPOSITS

MUDARABAH PROFIT & LOS

S SHARING

PROFIT

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Issues in Mudarabah

 Problems and Risks for Islamic Banks:

− Mudarabah is among the preferable modes of financing which is also
heavily recommended by scholars and Ulema, but certain difficulties
are there in application of this mode. Some are given below:
► Mudaraba is considered to be very high risk financing activity.
► Collateral can be asked but could not be used in case of real loss.
► Bank’s existing competencies in project evaluation and related techniques are limited.
► Dual book keeping trends in market.
► No legal mechanism for treatment with Mudarabah.

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Musharakah

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Contents

 Introduction;
 Types of Musharakah;
 Basic Rules in Musharakah;
 Termination of Musharakah;
 Security / Collateral in Musharakah;
 Musharakah Management and Liability;
 Profit / Loss Distribution ;
 Application of Musharakah As a Mode;

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Introduction

 Musharakah is a newly invented terms by Ulemaa;

 The actual term used by Fuqahaa (classical Islamic scholars) was Shir
kah (or Sharikah);
 Lexical meaning of it is sharing/merging;
 Technically: “Commingling by two or more persons either their capit
al/money or work or obligations to earn a profit or a benefit or a yiel
d or appreciation in value and to share the loss according to their pro
portionate ownership”;
 Now the term Musharakah is popular;
 There are different types of Shirkah which have been explained by Fu
qaha’;
 See next slide for details:

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Types of Shirkah

SHIRKAH (Partnership)
Shirkat-ul-Milk (Joint ownership)

Optional Forced
Shirkat-ul-A'qd (Business partnership)

Amwaal (partnership with capital) A'amal (partnership in work) Wujooh (reputational partnership)

Mufawadah Al Inaan Mufawadah Al Inaan Mufawadah Al Inaan

(100% equality (Variability in sha (100% equality (Variability in sha (100% equality (Variability in sha
in shares of par res of partners) in shares of par res of partners) in shares of par res of partners)
tners) tners) tners)

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Basics of Musharakah

 There are some basic features of Musharakah:

− Mixing of Capital (joint ownership);
− Asset or property or anything that can accept partnership;
− Rights and Responsibilities;
− Sharing of profit and loss

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Basics of Musharakah

 According to the nature of partnership (Musharakah) there are three

possible structures of Musharakah:
− Permanent Musharaka:
► Permanent Musharaka is a partnership of permanent nature i.e. a going concern;
− Temporary (Redeemable) Musharaka;
► Musharakah can be for a limited time period, after that it will be redeemed;
► Redemption of Musharakah will take place through sale of shares from one partner to o
ther partner or third person (in market/exchange);
► This type is usually used for business ventures;
− Diminishing/declining Musharaka
► A Musharakah in which a partner buys the share of the other partner gradually until th
e ownership of the asset or property is completely transferred to second partner;
► According to this concept, a financer (bank) and its client participate in a joint commerc
ial enterprises or property or asset and the client gradually buys bank’s share.

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Basics of Musharakah

 Capital of Musharakah should be in cash form;

 It may be in kind;
 In such case the value should be agreed;
 Different currencies should be converted or valued into the currency
of Shirkah;
 Capital should be under the disposal of the manager;
 Debt alone can not be contribution in Shirkah;
 Capital can be varying among the partners;

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Basics of Musharakah

 Management of Partnership:
− In principle each partner has right of Musharakah management;
− The partners may appoint a managing partner by mutual consent;
− Some of the partners may decide not to work for the Musharakah an
d work as sleeping partner;
− It is not allowed to specify a fixed remuneration to a partner Mushar
aka who manages funds or provides some form of other services, suc
h as accounting;
− However, it is permissible to give him a greater share of profit than
he would receive solely on the basis of his share in the partnership ca
pital;
− According to a view it is also permissible to appoint his as an employ
ee and giving him remuneration for his services;

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Basics of Musharakah

 Profit Sharing ratio:

− Ratio or the basis for sharing profit should be decided in the beginni
ng of partnership;
− Profit should be allocated in percentages of earning and not in a sum
of money or a percentage of the capital or investment;
− It is not necessary for sharing profit according to proportionate capi
tal contribution;
− A sleeping partner cannot share in the profit more than the percenta
ge of his capital;
− The partner may at the later stage agree to change the profit sharin
g ratio, and on the date of distribution, a partner may surrender a pa
rt of his profit to another partner;

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Basics of Musharakah

 Sharing of Loss:
− As a matter of principle the loss has to be shared according to the ra
tio of capital contribution;
− No partner can make his share or portion of share guarabteed from l
oss;
− Any such agreement will make the Musharakah void and null
 Guarantee of principle:
− Guarantee from one partner to other partner’s profit or capital or pa
rt of capital is not allowed;
− Security can be asked for misconduct or negligence;
− A third party may provide a guarantee to make up losses of one or al
l partners;

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Basics of Musharakah

 Termination of Musharakah:
− Every partner has a right to terminate the Musharaka at any time aft
er giving notice to the partner and the Musharaka will come to an en
d.
− In this case, if all the assets of the Musharaka are in cash form then t
hey will be distributed pro rata between the partners.
− In case they are mixed assets the partners may agree either on:
► The liquidation of the assets (market price), or
► On their distribution among the partners as they are; or
► Purchasing from one partner share of other at any agreed price between them.

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Application of Musharakah

 Musharakah could easily be used as a vast mode of financing for almo

st every financial need. Below are some fields where this mode can eas
ily be applied:
− Long-term Finance
− Running Finance (limited scope)
− Investment Banking
− Project Financing
− Private Equity Placement
− Redeemable capital investment

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• Now at The End
• We Would like to THANKS Sir Adnan Farooqi for great inspiration.
And the whole class for their precious time.

• Thank you

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