1. The Pakistan Credit Rating Agency PACRA Credit Ratings For Islamic Instruments May 07’12
ADNAN AFAQ
MD PACRA 1

2. About PACRA 1. PACRA, Pakistan’s first rating agency – 1994
Banks AMC Insurance Refineries IPPs Corporate Sukuks
JV : IFC + Fitch Ratings + Lahore Stock Exchange
To date + 1,500 rating opinions
Rated 85% of debt instruments in Pakistan
Recognized by Apex Regulators – Pakistan &
Bangladesh
Development work for World Bank: Bond Market - NBFI sector
We do: Risk Advisory,
Specialized Training on Risk Management
Corporate Governance Assessment (IFC model)

3. Development of Credit Ratings
Coverage of rating agencies (~ 90% of World GDP)
World GDP:
Current Prices: USD 63trn (June-11)
PPP: USD 76trn (June-11)
In Africa:
Nigeria, Kenya, Zimbabwe and South Africa
Recently started in Zambia and Cameroon

4. Why Credit Rating? Public Money Risk & Return Bank Deposits
Tax Payers’ money
Listed Companies
Insurance
Real Estate Projects
Mutual Funds
Whenever
Public Money
is invested
Disclosure of
Risk & Return
is imperative
Risk & Return Correlation
Transparency: Independent view of risk

5. Why Credit Rating Regulators Management Investor Matching of
Greater Access to Capital
Timely Action
Transparency
Relative Position
Management
Investor
Regulators
Identify Risk Factors
Enterprise Risk level
Systemic Risk
Not possible to
capture without
quantification
Market condition
Market action/inaction
Matching of
Risk & return

6. Crux of Islamic Finance
Transaction must have real economic purpose
No undue speculation allowed [Gharar]
No exploitation or
sinful activities permitted
Underlying concept: Sharing of risks & rewards
Riba: Interest & other Unlawful gain are prohibited

7. World Sukuk Markets
Total Sukuk Size: $215 b outstanding

8. World Sukuk Markets Main Players: Latest happenings Azerbaijan
Malaysia (60-70% of new issuances globally)
Saudi Arabia
UAE
Pakistan
Latest happenings
Malaysia- Largest Islamic bond Plus highway $10bbn
Saudi Arabia- rise in activity: Civil Aviation, Saudi bin Ladin
SATORP
South Africa- Treasury Sukuk proposition
Thailand- Tax Incentive
Oman Infrastructure Sukuk proportion
Japan Changes in tax & stamp duties
Ireland- Finance Bill 2010 facilitate Islamic Finances
Preparing Launch
Azerbaijan
Kazakhstan
Australia
India
Japan
Singapore
Nigeria
Ireland

9. Introduction to Sukuks
Plural of Sak – meaning ‘certificates’ in Arabic
Beneficial ownership interest in a tangible asset &/or resulting cash flows
Ijara
Istisna’a
Murabaha
Mudaraba
Musharaka
Resembles a conventional lease agreement
Late payment charges paid to charity
Financier commissions the construction/manufacture of asset
Simultaneous forward Ijara agreement
Sale of agreed asset at cost plus agreed profit margin
Provides liquidity to the customer
Funds entrusted with a corporate for use in pre-agreed business
Profit & loss sharing
Similar to Mudaraba but this is an equity stake
Risks associated with structure type

10. Sukuk Ratings
Rating looks through the structure of the Sukuk at the originator of the transaction.
Step 1; Base rating = originator’s Rating
Step 2; Notching [Up –Down ] dependent on:
Type of claim or underlying contract
Ijara ensures predictable returns due to fixed rentals while
Musharaka is equity-based and hence less predictable
Quality of assets underlying the transaction
Mechanisms like reserves can further enhance credit
Sukuk rating will be IDR plus one or multiple notches depending on strength of afore-mentioned factors

11. Credit Risk Assessment Pyramid
Ownership 1
Governance 2
Management 3
Business Risk 4
Financial Risk 5
Long-term Sustainability
Relative Positioning
Macro-Economic Environment
Business Life-cycle
Short-term Sustainability 11

12. Credit Ratings – An Introduction
Rating Scale – To measure relative credit risk
Credit Quality
Rating Category
Exceptionally Strong
AAA
Very Strong AA
Strong A
Adequate
BBB
Speculative BB
Highly Speculative B
High Default Risk C
Default D
Investment Grade
Speculative

13. Creates Credit History
Default…
Failure to perform an obligations laid down in the agreement
Failure to pay amounts due;
Very strict adherence to covenants (promise)
Brings Market Discipline
Creates Credit History

14. Limitations of Sukuk Enforcement not ensured (lack of legal precedent)
Interpretation may differences between Shariah and local courts
2. Register able asset not always transferred to SPV:
Due to Foreign ownership
Cumbersome
Expensive

15. Iranian Sukuk Market

16. Any Q & A ??? Thank You!