Without the so-called interest-free banking counters of the conventional banks, Islamic finance in Malaysia would not have flourished as it has over the last few years. Some analysts say that the real pace-setters are indeed these Islamic banking units (IBUs), of which the largest is the one at Bank Bumiputra Malaysia Berhad (Bank Bumi). As this; interview in Islamic Banker with Abdul Rashid Kadir, Head of Islamic Banking, Bank Bumiputra, suggests, the IBUs are very often at the cutting edge of Islamic finance and are positioning themselves to capture a big slice of the projected opportunities in the sector over the next decide.
Islamic Banker: What Is the size of Bank Bumi's Islamic Banking activities?
Abdul Rashid Kadir: Bank Bumi's Islamic banking unit (BBIBU) has been in operation for three years. The unit made net profits after tax and before Zakat of Rm2.3 million (US$922,657) in the first year, Rm7.7 million (US$3.01m) in the second year and RM11.9m (US$4.77m) in the third year. We have now launched almost all the basic range of Islamic banking products including deposit products, current account, savings accounts, special investment accounts.
We also offer all the major financing products such as asset, housing, share and trade financing.
We now have to improve our business. Our branches total 180 and all offer Islamic banking products. Total volume of funds under management this year are about one billion Ringgit (US$400m).
We need to promote more Islamic financing because deposits and financing are two completely different scenarios. You can get deposits immediately but if you want to finance projects, then it may take up to three months for Investment utilisation because of the documentation Involved. So we want to close the gap between deposits and actual financing.
We have good demand not only in the retail sectors, but also in the commercial and corporate sectors. Our corporate sector in Malaysia is involved in manufacturing and infrastructure development and now they are starting to look into Islamic financing because normally we contract at a fixed price for a certain period of time.
Based on this, they have an advantage because it is easier for them to calculate their financial costs compared to conventional financing, which is based on a floating rate and therefore is subject to changes.
So you expect Bank Bumi to be a much bigger player?
Yes. Currently after Bank Islam Malaysia, we handle the largest number of Islamic transactions in the country.
Even bigger than Tabung Haji?
Excluding Tabung Haji. I am talking about commercial banks. We anticipate that there will be a lot of opportunities in project finance. Tenaga (Malaysian Electricity), telecom, Putra NRT are all looking at Islamic finance.
In which other sectors do you see good opportunities for Islamic finance?
Manufacturing and Import/export financing.
How Is your co-operation with other banks?
Through Islamic banking, we have more of a spirit of co-operation because we are still new players in the market. We need to mobilise our resources, knowledge am expertise and also to share that expertise We participate in a lot of syndicated financing and this shows there is co-operation, rather than just competition.
How is your IBU structured?
In Bank Bumi we have created the unit into a specific department that also handles and monitors all Islamic banking transactions. We consider the department as a separate entity because we have our own accounts and administration department, as well as treasury, financing and a research & development section.
You really have the nascent structure of a new bank within a bank?
Yes. Because of the rapid growth o Islamic banking, we have now reached this stage where we have to review the situation. We must have a proper set up to provide services to the IBU. In terms o accounting, we have a separate accounting system, but we use the existing resources - existing computers, hardware and staff.
Do you think Bank Bumi will eventually set up a wholly-owned Islamic banking subsidiary such as Citibank in Bahrain?
We are considering this but we have to look into both the advantages and disadvantages. If you chose the option of a subsidiary, you will need higher capital investment. You need full time staff - a high operating cost. At present, we are comfortable with the existing structure but we still need to improve. Another focus for the coming years is that we have proposed to our management that we should have full fledged Islamic branches for our bank, besides the IBUs at certain branches.
If we can do this, then this will be a new development in the industry. We can really test the market then to establish the profitability of Islamic branches and their break-even point. This is real test for the Islamic banking market.
Are you working on any major financing deals which may materialise over the next few months?
We are currently involved in the financing of a port infrastructure project in Sarawak as well as tourist syndications and aircraft financing.
Why has Mudaraba and Musharaka financing been slow to take off In Islamic finance?
Mudaraba and Musharaka financing in Malaysia is lacking. But it depends on the market as well. Normally, Musharaka financing involves a higher return for the bank but also higher risk for the bank. So for companies that are already established, they always take the view that there is no point forgoing profit to the bank if it can be kept.
Companies look to minimise the costs of funds and that is why they are they are reluctant to enter into Musharaka financing. They are more comfortable with a fixed rate type product such as Murabaha and Bai Bithaman Ajil.
We don't have enough expertise in Musharaka financing. I am not sure whether banks are willing to take the risk of Musharaka because it is a partnership and a totally clean facility.
Under the Malaysian BAFIA (Banking and Financial Institutions Act), lending on the clean facility is restricted as we cannot provide more than 15 per cent of a company's portfolio.
However, we are trying to promote this type of financing slowly. We have launched a Musharaka product which is designed to be used for trading.
Dato Or Affifuddin Omar, Malaysian Deputy Finance Minister, has said that by the end of this century, the Government Is targeting 25 per cent of total bank deposits to be in the Islamic banking system. Do you think this is a realistic target?
This is a very optimistic target. But I think we can achieve this target provided that the management of interest-free banks provides all the required support to Islamic banking. If this can be done, then we can achieve the target.
But how do you think conventional banks would react?
They shouldn't see Islamic banking as their competitor. Because the banking business is there to service customers, and if we approach a customer and say we have a conventional product and an Islamic product, and ask him which he wants, then we must let him choose.
But if Islamic banking eats into the deposit base, then surely conventional banks will see this as competition?
Yes. But if a customer says I don't want your conventional services because I want Islamic products, then we offer him the Islamic service.
Do you participate in the local Islamic money market system?
Lately, Bank Negara has introduced measures to enhance the Islamic money market transactions, The money market comprises three components: the cheque clearing system; the interbank money market; and the trading in Islamic money market papers. We actively participate in the money market.
Previously, the profit sharing ratio on Mudaraba transactions between the banks was predetermined by Bank Negara on the ratio of 70:30, When it came to practice, the actual income was not that attractive. Even in, the interbank investment, the income was not all that attractive and was lower than that of the market. So banks were quite reluctant to participate.
Now Bank Negara has intervened to increase the profit sharing ratio. For day one clearing it is now 95:5.
The interbank rate is subject to negotiation but Bank Negara has come up with a standard benchmark pricing for the interbank money market.
The benchmark is the Government Investment Certificate (GIC) rate, which is currently 6.3 plus of 0.5 per cent, which equals 6.8 per cent. Any bank whose gross rate of return on general Investment account is below this 6.8 per cent figure is considered as a below average performer. Any bank whose figures are above 6 8 per cent can enter into the money market.
Any bank below 6.8 per cent is not allowed to participate?
No, but no bank will participate in their investments. In the short term, nobody will participate in such a bank's investments or they may ask for a higher profit sharing ratio.
What is the level of Bank Bumiputra's participation In the Islamic money market?
In the last month, the volume of transactions in the Islamic money market totaled more than Rm100m (US$40.12m) on an on-going basis. This is on the interbank market but we also have investments in paper and all together this amounts to over Rm300m (US$120.35m).
What is the future emphasis of Bank Bumi's Islamic Investments?
Firstly, to market our existing products, because our unit has only been in operation for three years, and in this short time we have introduced so many types of new products. We want to concentrate on marketing these products and to introduce more new products.
It is more meaningful to attain sufficient volumes of certain products. In addition, we consider any new products required by our customers we have recently introduced a special investment account.
We are also involved in Ijara (leasing) but this is passed over to our subsidiary since we have a Mudaraba type business arrangement with our subsidiary BBMB Leasing.
Under the Mudaraba arrangement the Islamic banking unit provides the capital to BBMB Leasing which enters into an Ijara contract with the customer. We believe in specialisation but the problem is we do not have sufficient expertise in so many areas of Islamic financing.
We are looking to develop Islamic products for factoring as the bank has a subsidiary, BBMB Factoring.
Could you tell us more about your share financing scheme, which Is unique to Malaysia?
We have a substantial portfolio on share financing. In Malaysia, in 1995, no less than three Islamic unit trusts/fu ids were launched: Amanah Saham Darul Iman with a size of RM500m (US$200.58m), and owned by Torengganu State; Amanah Saham Kadah with a size of RM300m (US$120.35m); and Danuputra Unit Trust launched by our own BBMB Unit Trust.
What is the size of Danuputra?
RM100m (US$40.12m). We provide financing for customers to purchase shares on a Bai Bithaman Ajil basis and we are also involved in the financing of what we call Pink Form - a special form of the share of the company given by the Treasury or the Ministry of International Trade. The colour of the form is pink. If you have this form you are guaranteed you will get shares at the premium rate.
We also have a financing scheme for what is called 'Esson' - an executive scheme where certain companies go for listing and they provide a certain number of shares for their staff. We provide financing for this.
What Is the size of your share financing at the moment?
Over RM100m (US$40.12m).
Do you do any cross-border financing?
We have had two requests from Australian gold mining companies for Islamic financing but we are not ready to undertake this yet.
Your end-users are both Muslim and non-Muslim?
We do not look at our clients on the basis of their religion. The most important thing is business competitiveness and efficiency. We compete on pricing and reliability.
So what are your forecasts for your IBU for this year?
We were given a very high target this year because of a Bank Negara directive which said that the market share should be increased by 25 per cent by the year 2000. This is a very high target. Our funds under management may even double. Our target is to increase net profit by over 40 per cent.
Competition is getting tougher and the government Is encouraging mergers between banks. Do you agree?
Some institutions are already merging. Rashid Hussein merged with DCB and UIB merged with Bank of Commerce. I don't know about Bank Islam or Bank Rakyat but the market thought that they would merge, They are both very conservative.
Why do you think Islamic finance has taken off to energetically in Malaysia?
Because people always compared Islamic banking and conventional banking, Can you offer better (products and returns) than conventional banking. So we have had to be more aggressive in order to position our products in the market, otherwise we are out of the market.
So it is not based on religious and ethical sentiments?
It is based on real market competition. It is an open market principle and not 'this is Islamic banking and you are a Muslim and you must take Islamic banking'. It is a business decision. For a certain segment of customers we can say: this is Islamic banking, you are a Muslim and therefore you should take this.
But in urban areas, industrial areas, the manufacturing sector and in the business community, you cannot sell your product based on this sentiment. You must sell your product along business and competition lines.
Bank Negara's regulatory role has also been a major factor?
I think Bank Negara adopted the right strategy in that they introduced Islamic banking through the existing conventional banks. If they had introduced Islamic banking through the Islamic Banking Act, one institution followed by another, we would not have had the full financial infrastructure - the Islamic money market and interbank money market - because of the lack of players.
In order to have an Islamic banking system, you must have sufficient players in the market.
Do you think Bank Bumi may eventually convert to a wholly interest-free financial institution?
This will depend firstly on the shareholders. Our main shareholder is the Government - the Ministry of Finance.
Secondly, the customer and the market. If the market wants more Islamic banking transactions and say more than 50 per cent or 70 per cent of our customers want Islamic banking and the volume of our business transactions is sure of this, then I think the Bank will look towards the Islamic market. This is a natural process.
What is the future for Interest-free finance in Malaysia?
In our Seventh Malaysian Plan, our country needs a projected Rm450 billion of capital, which could be mobilised both internally or from overseas.
The capital we in the IBU intend to tap from overseas is through the various Islamic funds. Most of these funds are from the Middle East. So, in order to tap these funds, we need to have a track record in Islamic transactions. The interest-free product must also be acceptable to the other parties. We also anticipate that part of the capital will be sourced from local Islamic banking transactions. I believe there is a bright future for Islamic banking.