MUSHARAKAH

&
MUDARABAH
Why Islamic Banking?
 The body which is promoted by Hiram sources is bound
to hellfire.
 On the Day of Judgment, a person will not be moved from
the place where he stand until he is asked about the
sources of his income and they way he spent it.
 Purifying of the needs of life (food, drink, clothes house
etc) is one of the most important reason for the
acceptance of prayers by Allah.
Islam and Shariah
Islam

Aqidah Shariah Akhlaq

(Faith & Belief) (Practices & Activities) (Morality & Ethics)

IBADAT Muamalat
(Man to God Worship) (Man to Man Activities)

Political Activities Economic Activities Social Activities

Banking & Financial Activities

Human Financial Needs
Fulfillment of Financial Needs

Own Capital Others’ Capital

Equity Financing Debt Financing

 External (Equity & Debt) Financing
Equity Financing Debt Financing
Al-Musharakah (Joint Uqud al-Muawadhat
Venture Profit Sharing) (Deferred Contracts of Exchange)

Al-Mudarabah Al-Bai’ Bithaman (Mu)Ajil (Deferred

(Trustee Profit Sharing) Installment Sale)
Others Bai’ al-Murabaha
(Cost Plus Profit Sale)
Al-Ijarah (Leasing)
Bai’ al-Salam (Commodity Sale)
Bai’ al-Istisna’ (Sale on Order)
Equity Market Debt Market
Shirkah
Scope of the Presentation
 Terminology of Musharaka
 Types of Musharaka
 Structure of Musharaka
 Rules of Musharaka
 Capital;
 Profit and loss;
 Termination
 Security / Collateral in Musharaka
 Concept of limited liability
 Modern partnerships
 Banking application
 Case in point
MEANING OF SHAIRKAT
The literal meaning of Musharakah is sharing.
The root of the word "Musharakah" in Arabic is
Shirkah, which means being a partner.
Under Islamic jurisprudence, Musharakah means
a joint enterprise formed for conducting some
business in which all partners share the profit
according to a specific ratio while the loss is
shared according to the ratio of the contribution.
LEGITIMACY OF SHIRKAT

 Allah- Subhana- o-Ta’ala has declared that He

becomes a party in a business between two
Musharakain until one indulges in cheating or
breach of trust (Khayanah) with other in
Musharakah.” (Sunan-i-Abi Daud, Kitabul Buyuo)
 Types of Shirkah
Shirkah

Shirkat-ul-Milk Shirkat-ul-Aaqd
(Co- ownership) (Contractual Partnership)
Shirkat-ul-Milk (Joint ownership)

• Joint ownership of two or more persons in a

particular property/ asset with out any business
intention.
• This comes into being as a result of joint purchase,
joint acceptance of gift or a bequest and inheritance
of joint property etc.
Types of Shirkat-ul-Milk

 Shirkat-ul-Milk Optional (Ikhtiari)

 This comes into operation through the act of
parties e.g., purchase of asset with mutual
consent.

 Shirkat-ul-Milk Compulsory (Ghair Ikhtiari)

 This comes into operation without any action
on the part of parties e.g., ownership of heirs on
the inherited property.
Shirkat-ul-Aqd
(Joint venture/partnership).
 Shirkat-ul-Aqd or Contract Partnership is an
Agreement between two or more parties to combine
their assets or to merge their services or obligations
and liabilities with the aim of making profit.
It can also be referred to as a joint
commercial enterprise or activity
Difference between
Shirkat-ul-Aqd and Shirkat-ul-Milk

 In Shirkat ul Aqd both parties create

partnership for sharing profit earned by Shirkah
asset, while in Shirkat ul milk both partners do
not intend to earn profit from Shirkah asset.

 In Shirkat ul Aqd, each partner is an agent of

others while in Shirkat ul Milk each partner is
stranger with respect to other’s share.
Kinds of Shirkat-ul-Aqd
Shirkat-ul-Amwal
(Investment /Capital Partnership)

Shirkat-ul-Aamal
(Work Partnership)

Shirkat-ul-Wojooh
(Credit Partnership)
Shirkat-ul-Amwal

Where all the partners invest some capital into a

commercial enterprise and share its profits according
to agreement.
Shirkat-ul-Aamal

Where all the partners jointly undertake to render

some services for their customers, and the fee
charged from them is distributed among them
according to an agreed ratio.
For example, if two persons agree to undertake
tailoring services for their customers on the
condition that the wages so earned will go to a
joint pool which shall be distributed between
them
Shirkat-ul-Wujooh

Where the partners have no investment at all, they

purchase commodities on deferred price by their
goodwill and sell them on spot. Their capital is their
credit worthiness and reputation.
 Types of Shirkat-ul-Aqd
All the three are further divided in to two types:

Shirkat-ul-Amwal Shirkat-ul-Aamal Shirkat-ul-Wojooh

Shirkat-ul-Mufawadah Shirkat-ul-Inan
Subdivision of Shirkat-ul-Aqd
1-Shirkat-ul-Mufawadah:
Where capital, profit, loss and management are
equal among the partners.

2-Shirkat-ul-Inan:
Partners’ share capital, management, profit and
risk are not equal and may differ for each partner.
This is common type of partnership.
 SHIRKAH

Shirkat-ul- Shirkat-ul-
Aqd Milk

Shirkat-ul-
Shirkat-ul- A’mal Shirkat-ul-
Optional Compulsory
Amwal (Shirkat- Wajooh
ul-Abdan)

Shirkat-ul-
Shirkat-ul- Shirkat-ul- Shirkat-ul- Shirkat-ul- Shirkat-ul-
Mufawadah
Mufawadah Inan Inan Mufawadah Inan
Rules of Shirkat-ul-Milk
 Each partner is a stranger with respect to the
share of the others.
 The partners are not allowed to undertake any
act of disposal with respect to the other’s share
except with the latter’s permission.
 Each partner can sell his own share without the
other partners’ consent, except in cases where
share of one partner can not be distinguished
from the other.
Rules of Shirkat-ul-Milk
 Profit & loss will be according the ratio of
ownership.
 Expenses related to ownership will be borne by
all partners according to the ratio of ownership.
 Every partner has the right to sale/gift/lease to
the extent of his share.
 One partner can promise to purchase the share
of other partner at any price, may be at face
value, market value or pre-agreed price.
Shirkat-ul-Ammwal

Definition:
 It is an agreement between two or more persons to
invest a sum of money in a business and share its
profits according to agreement. The investment of
this partnership consists of capital contributed by the
partners.
SHIRKAT-UL- AMWAL:

Capital of Musharakah
 It should be known, ascertained and available at the time
of contract.
 The value should be agreed upon in case of kinds;
 Capital paid in different currencies should be valued into the
currency of Shirkah;
 Capital advanced by the parties. Should be uniform
(currency of partnership).
 Share capital in a Musharakah can be contributed either
in cash or in the form of commodities
 In the letter case the market value of the commodities
shall determine the share of the partner in the capital.
Capital of Musharakah
Capital of partnership is Amanat in the hands of
partners. If loss occurred due to negligence, the
partner responsible for loss, will compensate the loss.
Management of Musharakah

 Each partner has right to take part in Musharakah

management.
 The partner may appoint a managing partner by mutual
consent.
 One are more of the partners may decide not to work for
the Musharakah and work as a sleeping partner.
 It is not allowed to specify a fixed remuneration to a
partner Musharaka who manages funds or provides some
form of other services, such 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 capital;
Distribution of Profit
 The ratio of profit distribution must be agreed at
the time of execution of the contract.
 It is not necessary for sharing profit according to
proportionate capital contribution;
 It is not allowed to defer the determination of
profit until realization of profit.
 The ratio must be determined as a proportion on
the actual profit earned by the enterprise.
 Not as percentage of partner’s investment.
 Not in lump sum amount.
1. It is not allowed to defer the determination of profit
until realization of profit.
2. A sleeping partner cannot share in the profit more than
the percentage of his capital.
Rules of Profit Determination/Distribution
• No guarantee can be given by the partners for the
payment of profit or capital.
 Different partners may be given different weightings
according to amount and period of their investment.
 Tiered profit sharing ratios can also be agreed.
 Profit ratio can either be fixed or variable according to the tiers;
 Both partners can agree that first 6-month profit e.g. will
be distributed at ratio of 50% : 50% and next 6-month
profit will be distributed at ratio of 30% : 70%.
Rules of Loss Determination/Distribution
 Sharing of Loss:
 As a matter of principle the loss has to be shared according to the
ratio of capital contribution;
 Partners are not allowed to adopt any other mechanism except
the mechanism that ensure distribution of loss among partners
on pro rata basis;
 Any other arrangement, even agreed upon by partners, will be
invalid and void.
 It is not allowed to hold one partner or group of partners liable
for entire loss.
Guarantees in Shirkah Contracts
- All partners in Shirkah maintain the assets of the partnership as a trust.

- No one is liable except in cases of breach of the contract, misconduct

or proven negligence.

- Negligence will be considered to have occurred in any of the following

three cases:
(i) A partner does not abide by the terms and conditions of the contract;
(ii) A partner works against the norms of the concerned business; and
(iii) The established ill-intention of a partner.

- The profit or even capital of any partners cannot be guaranteed by the

co-partners.

- One partner can demand from another partner to provide any surety,
security or pledge to cover the case of misconduct and negligence.
Rules of Musharakah – termination
 Musharakah terminates in any of the following event:
 Death of a partner during the Musharakah;
 Heirs of the deceased partner have option either to draw the share of
the deceased from the business, or to continue with the contract of
Musharakah;
 If any one of the partners becomes insane or otherwise becomes
incapable of effecting commercial transactions, the Musharaka stands
terminated.
 In normal course of business, every partner has a right to terminate the
Musharakah at any time after giving notice to other partner;
 In this case, if all the assets of the Musharakah are in cash form then they
will be distributed pro rata between the partners;
 In case they are mixed assets the partners may agree either on:
 Physical distribution of the assets among partners; or
 Liquidation of the assets in open market (market price); or
 Internal liquidation i.e. purchasing from one partner share of other at
any agreed price between them;
Rules of Musharakah – termination with
one partner
 In case a partner wishes termination of the Musharakah, while others
do not, this can be achieved by mutual consent;
 The partners who wish to run the business may purchase the share of
the other partner who wants termination;
 The reason is that the termination of Musharakah with one partner
does not imply its termination between other partners;
 However, in this case, the price of the share of the leaving partner has
to be determined by mutual consent;
 In case of dispute on the valuation of the share the leaving partner
may compel other partners on the distribution of the assets;
 However, if they are not divisible then the partner may an arbitrator
to solve the dispute;
Musharakah – banking application
 Musharakah is top preferable mode of financing recommended by
Islam;
 It one of the important factors that help in achieving ‘distribution of
wealth’ which is a key feature of Islamic financial and economic
system;
 As Mudarabah, Musharakah is also not a vastly practiced Islamic
mode of financing by Islamic banks due to certain reasons;
 However, Musharakah could easily be used as a vast mode of
financing for almost every financial need;
 Below are some fields where this mode can easily be applied:
 Long-term Finance;
 Running Finance (limited scope);
 Investment Banking;
 Project Financing;
 Private Equity Investment;
 Redeemable capital investment.
QUESTIONS??
MUDARABAH
Scope of the Presentation
Definition
 Mudaraba Capital
 Profit / Loss Distribution
 Types of Mudaraba
 Capacities of Mudarib
 Participation from Mudarib
 More than one Rabbul Maal
 Termination of Mudaraba
 Mudaraba Vs Musharakah
 Banking application
 Problems and risks
Mudaraba Introduction - Definition
“Mudaraba” is a kind of partnership where one partner
gives money to another for investing in profitable
avenues.
 The investor (fund supplier) is called “Rabb-ul-Mal” (
‫ ) رباﻟﻤﺎﻝ‬while the person who utilizes this fund (the
fund manager) is called “Mudarib” ( ‫ ) ﻣﻀﺎﺭﺏ‬who is
exclusively responsible for management of the
business.
 Types of Mudaraba

• Al Mudarabah Al Muqayyadah (Restricted Mudarabah)

Rab-ul-Maal may specify a particular business or a
particular place for the Mudarib.
 
In which case he shall invest the money in that particular
business or place.

• Al Mudarabah Al Mutlaqah (Unrestricted Mudarabah)

Rab-ul-Maal gives full freedom to Mudarib to undertake

whatever business he deem fit.
 
Mudarib is authorized to do anything normally done in
the course of business.
Capacities of Mudarib
Mudarib has different capacities for which rules are
different. Listed down are his roles:
 Ameen (trustee):
Mudarib holds money and assets of Mudarabah as trustee;
 Therefore, he is responsible for management of assets honestly;
 In case of actual loss he is responsible for nothing;

 Wakeel (Agent):
 Mudarib manages Mudarabah as an agent of owner;
 Therefore his actions are considered as of Rabbul Maal;
 Actual loss is born by Rabbul Maal in case it happens;

 Shareek (partner):
 Mudarib becomes partner in the profit that Mudarabah generates;
 Capacities of Mudarib

 Zamin (liable/guarantor):
 Insituation of loss due to misconduct / negligence Mudarib
has to bear it;
 Ajeer (employee):
 Mudarib gets a fee if Mudarabah becomes void due to any
reason;
Mudaraba Introduction – Mudaraba capital
 Mudaraba Capital:
 The capital of Mudaraba should be in form of known cash as a
matter of principle;
 However, tangible assets could also be accepted if valued with
mutual consent.
 In such case the determined value 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;
 The capital should be in hand, therefore, receivables (debt etc.)
can not be capital of Mudaraba;
Mudaraba Introduction – Mudaraba capital
 Mudaraba Capital:
 The capital should be handed over to Mudarib;
 Simple segregation of funds for Mudaraba is not
enough;
 Therefore, increase in value of Mudaraba capital
before start of Mudaraba will account for increase in
Mudaraba capital and will not be treated as Profit;
Mudaraba Introduction - profit & loss
distribution
 Profit and Loss distribution:
 The Mudaraba contract should mention profit sharing ratio in
defined and clear terms;
 The profit sharing ratio should be:
 specific;
 of the expected profit;
 Apart from the agreed proportion of the profit, the Mudarib cannot
claim any periodical salary or a fee or remuneration for the work
done by him for the Moradabad.

  The Mudarib & Rab-ul-Maal cannot allocate a lump sum amount of

profit for any party nor can they determine the share of any party at
a specific rate tied up with the capital.
Profit & Loss Distribution
 Example

 If the capital is Rs. 100,000/- they cannot agree on a

condition that Rs. 10,000 out of the profit shall be the share
of the Mudarib nor can they say that 20% of the capital shall
be given to Rab-ul-Maal. However they can agree that 40%
of the actual profit shall go to the Mudarib and 60% to the
Raab-ul-Maal or vice versa.

 If the business has incurred loss in some transactions and

has gained profit in some others, the profit shall be used to
offset the loss at the first instance, then the remainder
profit, if any, shall be distributed between the parties
according to the agreed ratio.
Mudaraba – participation from Mudrib
Mixing of funds by Mudarib
 The basic feature of Mudaraba is that the Mudarib performs only
business operations and does not add capital;
 The capital is provided by Rabbul Maal and the Mudarib is responsible
for the management only;
 But the Mudarib may also add capital into the business of Mudaraba
with permission of Rabbul Maal;
 In such cases Musharaka and Mudaraba are combined;
 For example, “A” gave to “B” Rs.100,000/- in a contract of Mudaraba. B
added Rs. 50,000/- from his own pocket with the permission of A;
 This type of partnership will be treated as a combination of Musharaka
and Mudaraba;
 Here the Mudarib may allocate for himself certain percentage of profit
as partner (Sharik), and at the same time he may allocate another
percentage for his management and work as a Mudarib.
Mudaraba – more than one Rabbul Maal

 Mudaraba can be between two prsons: Rabbul Maal and

Mudarib;
 But Rabbul Maal may also be more than one;
 If a Mudaraba starts by provision of funds from one Rabbul
Maal and after the start Mudarib wishes to add some more
funds from others, this would be allowd if Rabbul Maal
permits;
 In such case all funds providers (Rabbul Maals) are partners
among themselves;
 The share for Rabbul Maal will be divided among them as
per their contribution ratio;
 Mudaraba – termination
 Termination of Mudaraba:
 The contract of Mudaraba can be terminated at any time by either of the parties;
 This termination should be with consent of concerned parties;
 A notice to the other party is also sufficient if it was agreed at the time of
inception of Mudaraba;
 Termination of Mudaraba means that the Mudarib cannot purchase new goods
for the Mudaraba. However, he may sell the existing goods that were purchase
before termination.
 If all assets are in form of cash and some profit has been earned on the principle
amount, it shall be distributed between the parties according 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 determined after
liquidation:
 If there is a profit, it will be distributed between Mudarib and Rab-ul-Maal.
 If no profit is left, Mudarib will not get anything.
Mudaraba Vs Musharaka
. Mudaraba:
Musharaka:
1. The contribution comes
1. The contribution comes
from all partners in form of
from Rabbul Maal (the
cash, commodities, services
investor);
or liability in case of
2. The Rabbul Maal (investor) reputation partnership;
is not permitted to manage
2. The work, as a general
the business;
rule, is to be done jointly by
3. The Mudarib manages the the parties;
business only;
3. A partner or some partners
4. The Mudarib can also may be sleeping;
invest in the capital of
Mudarabah.
Mudaraba – banking
application
 Scope of Mudaraba for Banking System:
 Mudaraba is second preferable mode of financing recommended by
Islam;
 It helps in achieving ‘distribution of wealth’ which is a key feature of
Islamic financial and economic system;
 Mudaraba as a mode of financing used by Islamic Banks for the
following purpose:
 Relationship of Islamic banks with depositors, depositors provide
deposits to bank as Rabb-ul-Mal, these deposits are to be invested
by Islamic bank as Mudarib;
 Islamic banks sometimes use Mudaraba with some of their
customers;
 Islamic bank provides the adequate finance as a capital owner in
exchange of a share in the profit to be agreed upon;
 Mudaraba can be easily used for Large Enterprise financing;
 Project Finance does have potential for financing on Mudaraba
basis;
Mudaraba – banking
application
 Asset side:
 Short / medium / long term financing;
 Project financing;
 Small and medium enterprise setup financing;
 Large enterprises setup financing;
 Import financing;
 Import bills drawn under import Lcs;
 Inland bills drawn under inland Lcs
 Bridge financing;
 LC without margin;
 Export financing;
 Working capital financing;
 Running accounts financing/ short term advances.
Mudaraba & Musharakah on Liability
side

Liability side:
 All types of saving / investment accounts;
 Inter- bank acceptance and placement;
 Term Finance certificates;
 Certificate of investment;
 Special rate deposits;

Calculation is attached.
Problems and Risks for Islamic Banks
 Problems and Risks for Islamic Banks:
 Since Mudaraba is a profit and loss sharing way of
financing, it is considered a 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 also a threat;
 Legal mechanism for treatment with Mudarabah as a
mode of financing by Islamic banks, is not in place;
QUESTIONS??