Presentation on theme: "Islamic Financing for SMEs"— Presentation transcript:
1 Islamic Financing for SMEs Presented By:M.Shoaib MalickUnit Head-SME-Meezan Bank Limited
2 Islamic Financing for SMEs Introduction to Islamic BankingSignificance of SME SectorDifference Between Islamic Banking & Conventional BankHow IB, can address business needs (100%)Comparison of Islamic Mode of Finance and ConventionalIslamic Modes of FinancingShort Term Modes of Islamic FinancingLong Term Modes of Islamic FinancingTrade Finance Facilities in Islamic BankingChallenges in SME FinancingConclusion
3 Significance of SME Sector 1Total Population182Mn100%2Financially Included18.2Mn10%3Financially Excluded163.8Mn90%4Financially Excluded-Major SectorSME590% of all private enterprises6SMEs access to finance from banking sector:PakistanIndiaBangladesh04%33%32%7SME lending of total credit06%8Surveyed FactsHard to borrow from banksNot even have a bank account51%31%
5 Current Status of SME Financing: SME financing witnessed continues decline by banks/DFIs since 2008.Due to consistent decline in this sector, share of SMEs also reduced from 16% to 6% in overall advances of banks in last 4-5 years.Reasons for downfall:Adverse economic conditions.Law and order situation.Shortage & rising costs of electricity and other utilities.
6 Reasons for downfall: Growing NPLs. Natural catastrophes also hamper this sector badly in consecutive years of 2010 & 2011 and created wipeout situation for small sized units.Banks also took a risk-averse posture from this sector, due to deteriorating business conditions for SMEs.
9 5 Years trend of SMEs9.4%16.1%22.1%28.9%32.4%38.9%
10 SME Financing For Working Capital Key portion of financing is used for working capital in SMEs, which constitutes 76% of total SME lending.However other is followed by Trade Financing & Long term/Fixed Investment.
11 SMEs provide a significant portion of jobs world wide SME contribution to formal country employment Median valuesSource. Ayyagari, Beck and Demigirguc/kunt. 2003
12 GDP Contribution of the SME sector increases, and informality decreases with income
13 Definition of RibaAny increase over and above the price, without due consideration is Riba
14 Distinguishing Features We find the differences are on three levels:1. Conceptual & Socio-religious level- not money lenders- cannot deal with interest & non permissible industries2. Business model & Governing framework- IB actively participates in trade and production process- Governing framework in terms of Shariah Advisor &/or SSB
15 Distinguishing Features 3. Product Level Implementation- usually asset backed & involve trading/renting of asset & participation on profit & loss basis- Implementation is not just a mere change of paper work and terms but it involves- having the right intention,- the correct sequence of steps and timing of execution
16 PERCEPTION OF ISLAMIC BANKING Parties: Bank & ClientLimit: Rs MnRate: K+2Tenor: 1 yearPurpose : To buy CottonParties: Bank & ClientLimit : Rs MnRate: K+2Tenor : 1 yearPurpose : To buy CottonIslamic BankingConventional Banking
18 PERCEPTION OF ISLAMIC BANKING Parties: Bank & ClientLimit: Rs MnRate: K+2Tenor: 1 yearPurpose : To buy CottonParties: Bank & ClientLimit : Rs MnRate: K+2Tenor : 1 yearPurpose : To buy CottonIslamic BankingConventional BankingGoods= OWNERSHIPServices
19 Islamic BankingBasic Difference between Islamic and Conventional Modes of FinanceConventionalMoneyClientBankmoney + money (interest)
20 Islamic BankingBasic Difference between Islamic and Conventional Modes of FinanceIslamicGoods & ServicesClientBankmoney
21 Income Statement Sales xxx Cost of Goods Sold Raw Material xxx Direct Labor xxxOver Head xxxGross Profit xxxOperating ExpensesAdmin. & Gen. Exp xxxSalaries xxxUtilities xxxOther xxxNet Profit xxxLiability/Deposit ProductsMurahabaIstisna/TijarahIstisna/TijarahDeposit Products
22 Balance Sheet Current Assets: Stocks xxx Receivable xxx Cash in hand xxxAdvances & Deposit xxxFixed Assets:Plant & Machinery xxxLand & Building xxxTotal Assets xxxOwner’s Equity:Capital xxxLiabilities:Creditors xxxFinancial Liabilities xxxTotal Liabilities & EquityMurahaba/Import Murahaba/FIM/LCIstisna/Tijarah/Bai-Salam/Usance-MurahabaDeposit ProductsMurahaba/Istisna/Tijarah/LGDM/Ijarah/MurahabaMusharkaMurahaba/LGs/Ijarah/Tijarah
23 Difference Between Islamic Banking & Conventional Bank Conventional BanksIslamic Banks1. The functions and operating modes of conventional banks are based on fully manmade principles.1. The functions and operating modes of Islamic banks are based on the principles of Islamic Shariah.2. The investor is assured of a predetermined rate of interest.2. In contrast, it promotes risk sharing between provider of capital (investor) and the user of funds (entrepreneur).3. It aims at maximizing profit without any restriction.3. It also aims at maximizing profit but subject to Shariah restrictions.4. It does not deal with Zakat.4. In the modern Islamic banking system, it has become one of the service-oriented functions of the Islamic banks to be a Zakat Collection Centre and they also pay out their Zakat.5. Lending money and getting it back with compounding interest is the fundamental function of the conventional banks.5. Participation in partnership business is the fundamental function of the Islamic banks. So we have to understand our customer's business very well.6. It can charge additional money (penalty and compounded interest) in case of defaulters.6. The Islamic banks have no provision to charge any extra money from the defaulters. Only small amount of compensation and these proceeds is given to charity. Rebates are give for early settlement at the Bank's discretion.
24 Difference Between Islamic Banking & Conventional Bank Conventional BanksIslamic Banks7. Very often it results in the bank's own interest becoming prominent. It makes no effort to ensure growth with equity.7. It gives due importance to the public interest. Its ultimate aim is to ensure growth with equity.8. For interest-based commercial banks, borrowing from the money market is relatively easier.8. For the Islamic banks, it must be based on a Shariah approved underlying transaction.9. Since income from the advances is fixed, it gives little importance to developing expertise in project appraisal and evaluations.9. Since it shares profit and loss, the Islamic banks pay greater attention to developing project appraisal and evaluations.10. The conventional banks give greater emphasis on credit-worthiness of the clients.10. The Islamic banks, on the other hand, give greater emphasis on the viability of the projects.11. The status of a conventional bank, in relation to its clients, is that of creditor and debtors.11. The status of Islamic bank in relation to its clients is that of partners, investors and trader, buyer and seller.12. A conventional bank has to guarantee all its deposits.12. Islamic bank can only guarantee deposits for deposit account, which is based on the principle of al-wadiah, thus the depositors are guaranteed repayment of their funds, however if the account is based on the mudarabah concept, client have to share in a loss position..
25 Financing Product Comparison Islamic Vs. Conventional Bank Islamic ProductConventional ProductsWorking Capital Finance1a) Murabaha b) Murabaha - Spot c) Istisna - Export & Local d) Meezan Tijarah - Export & Local e) Murabaha FE-25 Export & ImportCurrent Finance / Running Finance2Murabaha - PledgeCash Finance3a) Ijarah - Plant & Machinery b) Ijarah - Sale & Lease Back for Plant & Machinery c) Diminishing Musharika - Plant & Machinery d) Diminishing Musharika - Premises / Land for Commercial use e) Diminishing Musharika - Sale & Lease Back (Plant & Machinery; Premises Land & Building) f) MusharakaDemand Finance / Term FinanceMeezan Bank Limited
26 Financing Product Comparison Islamic Vs. Conventional Bank Islamic ProductConventional ProductsExport Related Facilities:1a) Bai Salam against Discrepant Export Sight Bills b) Bai Salam against Export sight contract c) Murabaha against Accepted export Usance Bill (Bank Risk Line) d) Murabaha against Un-accepted export Clean Usance LC e) Murabaha against un-Accepted export Discrepant Bills under Usance LC f) Murabaha against export Usance ContractFinance Against Foreign Bills2a) Murabaha against Un-accepted Local Usance LC b) Murabaha against Accepted Local Usance LC (Bank Risk Line)Local Bill Purchases3a) Istisna – Exportb) Islamic Export Refinance Facility (IERF) Part I & II - under Murabaha c) Islamic Export Refinance Facility (IERF) - under Istisna (Local and Export) and Tijara (Local and Export)Finance Against Packing Credit Part - I & II
27 Conventional Products Import Related Facilities: Financing Product Comparison Islamic Vs. Conventional BankS.#Islamic ProductConventional ProductsImport Related Facilities:1a) Sight LC under MMFA b) Sight LC under Master Agency Agreement (For Ijarah & Diminishing Musharaka) c) Sight LC wihthout MMFA (Exceptional Cases) d) Usance LC without MMFA f) Usance LC under MMFA (Exceptional cases) g) Usance LC under Master Agency Agreement (for Ijarah and Diminishing Musharaka)Import Letter of Credit2a) Local LC(Sight) without MMFA b) Local LC (Sight) under MMFA (Exceptional cases) c) Local Usance LC wihtout MMFA d) Local Usance LC under MMFA (Exceptional cases)Inland Letter of Credit3a) Murabaha - Financing of Imported Merchandise (FIM) Pledge b) Murabaha - Financing of Imported Merchandise (FIM) SpotFinance Against Imported Merchandise - FIM4Finance Against Trust ReceiptLetter of GuaranteeLetter of Guarantee / Shipping Guarantee/Standby Letter of CreditLetter of Guarantee / Shipping GuaranteeMeezan Bank Limited
28 Short Term Financing Needs Raw MaterialOverheads / UtilitiesFinished GoodsTrade receivable financingRental financingLong Term Financing NeedsAcquisition/replacement/ expansion of fixed assets, plant & machinery
29 Issues & Challenges of SMEs DemandSupplyLack of Collaterals to Meet Bank’s RequirementsShortage of Marketing Skills-(Bank Side)Informal Organizational StructuresSMEs perceived as high risk borrowersInformal Accounts & Management SystemCorporate Finance MindsetLack of Credit & Collateral HistoryLack of Infrastructure for SME BusinessLow Level of Financial LiteracyHigh Lending CostsReluctance on part of SMEsAbsence of SME R&D Centers in BanksExternal Shocks
31 Plain MurabahaMurabaha AgreementAgency AgreementOrder FormPurchase of Goods by AgentPayment of Purchase Price*Intimation of possession of goods by the agent (Declaration)Offer & Acceptance (Murabaha Contract)Payment of Murabaha Price*Payment of purchase price is either direct payment to supplier or through customer accountFor Detail
32 Advance Payment Murabaha Murabaha AgreementAgency AgreementOrder FormPayment of Purchase Price*Purchase of Goods by AgentIntimation of possession of goods by the agent (Declaration)Offer & Acceptance (Murabaha Contract)Payment of Murabaha Price*Payment of purchase price is either direct payment to supplier or through customer account
33 Credit MurabahaMurabaha AgreementAgency AgreementOrder FormPurchase of Goods by AgentIntimation of possession of goods by the agent (Declaration)Offer & Acceptance (Murabaha Contract)Payment of Purchase Price*Payment of Murabaha Price*Payment of purchase price is either direct payment to supplier or through customer account
34 SLC under MMFA Murabaha Agreement Agency Agreement Order Form & LC ApplicationEstablishment of LCReceipt of Import DocumentsIntimation of possession of goods by the agent (Declaration)Offer & Acceptance (Murabaha Contract)Retirement of LC Through MurabahaPayment of Murabaha Price
35 Tijarah For Detail Master Tijarah Agreement Agency Agreement Written OfferPayment of Tijarah Price upon AcceptanceDelivery of Goods & Acceptance of Delivery by bankIntimation of possession of goods by the agent (Declaration)Offer & Acceptance (Murabaha Contract)Retirement of LC Through MurabahaPayment of Murabaha PriceFor Detail