Topic III

Islamic Sukuk

Outline

1. Overview
2. Types of Sukuk
3. Structuring Sukuk
4. Issues and concerns related to
Sukuk structures

Overview of Sukuk
A Sukuk, meaning certificate, is an Islamic variant of a
conventional bond. It is structured to comply with Shari'a.
In opposition to conventional bond holders, sukuk holders
are entitled to profits as well as to losses.
Sukuk are asset-backed, tradable and Shariah
compatible trust certificates. The primary condition of
issuance of Sukuk is the existence of assets on the
balance sheet of the entity which wants to raise funds.
The identification of suitable assets is the first, and
arguably most integral, step in the process of issuing
Sukuk certificates.

Types of Sukuk

1.
2.
3.
4.

sukuk al-Ijarah
Sukuk al-Musharaka
Sukuk al-Mudarabah
Sukuk al-Istisnaa

Sukuk al- Ijarah

Ijarah Sukuk: these are certificates of equal denomination representing physical
durable assets that are tied to an ijarah contract as regulated by Shariaa.
Ijarah sukuk represent the ownership of particular assets that are leased out. The
assets can be parcels of land or equipments to be leased such as aircrafts and
ships. The holders of sukuk receive periodic rentals.
Ijarah sukuk are subject to risks related to the ability and willingness of the lessee
to pay the rental installments.
The expected net return on ijarah sukuk may not be perfectly known in
advance, as there might be some maintenance and insurance expenses that are
not perfectly predicted in advance.
Ijarah sukuk are negotiable and can be traded in the secondary markets.
Ijarah sukuk holders as owners bear full responsibility for what happens to their
assets. They are, thus, required to maintain the assets in such a good condition
that the lessee derives as much usufruct from them as possible.

Sukuk al- Ijarah (contd)

Ijarah Sukuk structure is the most widely used in issuing

sukuk. It requires the obligor (borrower) to have nonhypothecated assets the value of which equals to the amount
of financing needed.
1. SPV declares a trust in favor
of investors and issues Sukuk.
I. At inception

6.
Unilatera
l
Purchase
Underta
king to
purchase
the
SPVs
interest
in the
asset at
Purchas
e Price
on
maturity
or event
of
default

Obligor
5.
lease

3. Purchase
price

4. Transfers
title to
assets
SPV

2. Sukuk
funding

1.
Declaration
of trust and
issue of
Sukuk sukuk
holders

2. The investors fund the SPV

for the amount of the issue
(Purchase Price).
3. SPV pays purchase price to
the obligor
4. The obligor transfers title of
the underlying asset to the SPV
5. The SPV leases the asset
back to the obligor in exchange
of periodic lease rentals
6. The obligor issues a
Unilateral Purchase Undertaking
to purchase back SPVs interest
in the asset on maturity at the
Purchase Price.

Sukuk al- Ijarah (contd)

II. Periodic Payments

III. At Maturity

Obligor
1. Periodic
lease rentals

Obligor
4. Sells asset
back

SPV

2. Periodic
payments
Sukuk
holders
The obligor pays periodic rentals to the
SPV that are used to make regular
payments to the sukuk holders.

1. Pays the
Purchase Price
SPV

3. Redeems
sukuk

2. Pays
principal to
redeem the
capital

Sukuk
holders
At maturity, the obligor buys the SPVs
interest in the asset back at the Purchase
Price and the sukuk are redeemed.

Sukuk al-Musharakah
The corporation and the Special Purpose Vehicle (SPV) enter
into a Musharakah Arrangement for a fixed period.
They agree on sharing profit according to a specified ratio.
The corporation may be appointed as an agent to develop and
manage the business based on musharakah.

Any losses will be borne by the two musharakah parties the

corporation and the SPV - based on their respective capital
contributions.

The corporation undertakes to purchase Musharakah shares of

the SPV either at the end of the agreed upon period or on a
periodic basis (in case of diminishing musharakah).

Sukuk al-Musharakah (contd)

I. At inception
3. Capital
contribution

5. Capital
contribution

Sukuk
holder
s
2. Issue
proceeds
1. Declaration of
trust and issue
of sukuk

1. The SPV (musharik A) issues

Corporatio
sukuk in exchange for cash.
n:
2. The SPV enters into a
originator
musharakah agreement with
4. Musharakah
the corporation (musharik B).
shares
3. The corporation contributes to
the capital of the mushrakahMusharaka
based business either with
cash or with assets.
6. Musharakah 4. The SPV pays its contribution
shares
the musharakah-based
business.
5. The musharakah based
business invests the
proceeds in shariaa
permissible activities in
compliance with the business
SPV
plan.

Sukuk al-Musharakah (contd)

III. At Maturity
II. Periodic Payments
Corporatio
n:
Musharik
Periodic Incentive
fees
Periodic X% of
profit

Corporation:O
bligor

SPV

Musharakah
3. Pays principal to
redeem capital
Sukuk
Periodic (100holders
X)% of profit
Periodic
SPV
profit
The
profit
generated
by
the
musharakah-based
business
is
distributed periodically to the SPV and
the corporation as per the agreed
profit sharing ratio
The
SPV
makes
priodic
profit
payments to the sukuk holders.

2.
Purchases
the
Musharakah
shares

1. Pays the
Purchase Price

4.
Redeems
sukuk

Sukuk
holders
The
corporation
(as
obligor)
purchases
all
of
the
SPVs
musharakah shares. Next, the SPV
uses the purchase price to redeem
the sukuk. Finally, the SPV is
dissolved.

Sukuk al-Mudarabah
The SPV issues sukuk to investors in exchange for cash
The issuer enters into a mudaraba agreement with the originator (acting as
the 'mudarib')
Typical mudaraba agreement: The mudarib invests the proceeds in
accordance with the agreed business plan.
The profit generated by the business plan is shared between the issuer and
the mudarib according to a pre-agreed schedule
If the issuer's profit share exceeds the amount required for the periodic
distribution, the mudarib retains the difference.
If the issuer's profit share falls short of the amount required for the periodic
distribution, the mudarib supplements the difference.
The mudarib makes periodic payments to the issuer which are passed on to
the sukuk holders.
At the maturity date, the orginator (as obligor) purchases all of the issuer's
ownership interest in the mudaraba assets
Finally, the SPV passes the proceeds on to the sukuk holders and the SPV is
dissolved.

Sukuk al Mudarabah

Source:
DIFC-Sukuk Guidebook
http://www.difc.ae/sites/default/
files/attached/5712/6707/6429/i
slamic.pdf

Sukuk al-Istisnaa
Company:
obligor and
project manager
3. Payment
made by
SPV

2. Sukuk
proceeds

4. Transfer
ownership of
assets to the
SPV
5. Transfer of
ownership or
SPV
usufruct
6. Periodic
payments/
sale proceeds
1. Sukuk
issuance

Sukuk holders

End buyer or
lessee

Sukuk al-Istisnaa
1. SPV issues Sukuk certificates to raise funds for the project.
2. Sukuk issue proceeds are used to pay the
contractor/builder under the istisna contract to build and
deliver the future project.
3. Title to assets is transferred to the SPV
4. Completed property/project is leased or sold to the end
buyer. The end buyer pays periodic installments to the SPV.

5. The returns are distributed among the Sukuk holders.

SUKUK MARKET
Sukuk is the most
popular modern Islamic
financial instruments.
Issuer types:
Corporate .
Government Related
Entity.
Sovereign.

PRIMARY - GLOBAL SUKUK

MARKET
Total global sukuk issuance volume:

Declined USD119.7bln in 2013, 8.9% < 2012.

Primary market of issuances in 2013:

Malaysia as the largest issuances :
Reduced market share of 68.8% from
74.0% in 2012.
Issuances were down 15.2% in 2013.

KSA with issuance volume of

USD14.7bln (40.5% growth).
UAE issuance volume of USD7.1bln
(16.8%).
Turkey growth with over 69.3%.
By sukuk structure during 2013:
Murabahah accounted for 57.7% of total
volume.
Ijarah accounted for 44.1% of in the GCC.

SECONDARY GLOBAL SUKUK

MARKET
Global outstanding sukuk :
Reached USD269.4bln at end-2013.
Only Kuwait and Pakistan saw declines in secondary market
size.
The Malaysian growth of 10.0% in 2013 to reach USD158.3bln.

GCC SUKUK MARKET

GCC Sukuk issuances :
KSA grew the most in 2013 to USD14.7bln (40.5%) .
The UAE and Bahrain saw issuance volume increase by 16.8% and
1.3%.

The corporate sector accounted for just under half of all

issuances in the GCC in 2013.
Quasi-sovereign issuance had a share of 31.2%.