IDB Criteria For Investing in Islamic Banks and Financial Institutions
Support and development of Islamic financial institutions is one of the main strategic objective of the IDB Group and one important component of this strategy is the establishment of Islamic banks and financial institutions (in both member and non-member countries) through equity support. The Islamic financial services industry has grown rapidly in recent years and the Group is now receiving a significant number of financing requests for the establishment of new Islamic financial institutions. In general, equity investment strategy follows one or a combination of the following approaches:
iii. Value investment
Equity investments in Islamic financial institutions are basically a combination of strategic and developmental approaches.
Accordingly, it is appropriate to develop a standard criteria for reviewing such applications. This criteria would act as an initial screen to identify suitable proposals which could be reviewed further.
The criteria as laid out below highlights the main areas of importance to be reviewed for each financing applications.
1. Enabling Environment
- The legal/regulatory environment should be carefully reviewed and it should be ascertained whether Islamic banks are regulated / governed under a banking law or there is a specific banking law for Islamic banks/financial institutions.
- The enabling environment should also include government support and commitment to Islamic banking and finance.
- The over all environment should be conducive to Islamic banking i.e. the acceptability and understanding of Islamic banking in general and Islamic financial product in particular.
- The legal structure of the entity should be defined according to the applicable laws of the country (bank, investment company, etc).
2. Shareholders Agreement/Corporate Governance
- The shareholders agreement should clearly specify various areas of corporate governance, specially those relating to election of Board members, appointment of key management personnel, resolution of conflict between members of the management etc.
- The election of Board members should be based on their over all profile with special reference to their experience in Islamic banking and finance. The IDB representative should also be selected on the basis of his knowledge and experience and ability to contribute to the bank, and as such, he need not necessarily be from within IDB.
- In shareholders agreement it should be specified that Boards decision should be majority independent.
- IDB as a shareholder should have a say in selection of key management personnel. This should be part of the shareholders agreement.
- There should be periodic Shariah audit to ensure transparent Shariah compliance.
- The proposed institution should follow corporate governance best practices, corporate structure especially in terms of board committees i.e. audit committee, selection and remuneration committee etc. There should be independent internal audit department reporting to the audit committee of the board as well as a strong risk management unit.
- The shareholders agreement should give IDB the right to undertake periodic internal audit of the institution either through its internal auditor or jointly with IDB internal audit and external consultant.
3. The Promoters/Sponsors
The promoters/sponsors should be reputable business/financial groups with successful track record.
4. System and Procedures
- In the initial period, the bank should outsource development/implementation of accounting and other system till such time that the in house staff is capable of taking over.
- Emphasis should be on acquisition of state of the art systems.
5. The Feasibility Study
The feasibility study on the proposal should be comprehensive, covering all aspects with particular emphasis on the prevalent regulatory and legal system of the country, and its acceptability of Islamic financing instruments as well as financial institutions. The study should also provide detailed financial projections with justifiable assumptions as part of a realistic business plan.
6. Exit Mechanism
- Equity investments by IDB Group in Islamic banks and financial institutions are strategic investments and as such, the Group should have a long-term strategy for staying in these institutions and the exit mechanism should be formulated accordingly.
- There should be a timeframe to list the bank on a stock exchange, both to attract new investors and provide an exit mechanism for existing ones.
- Depending on the quantum of IDB shareholding, there should be a plan to gradually reduce the shareholding to free resources for other investments.
In parallel with investments in Islamic financial institutions, concerted efforts should also be made to develop Islamic capital markets.