www.islamicnancenews.com
SECTOR REPORT
Corporate Governance and Islamic Finance
By Hany Abou-El-Fotouh
The capital markets in most of the emerging nancial markets
are undertaking regulatory reforms with a view to making capital
markets more attractive for domestic and foreign investments.
Islamic nancial institutions (IFIs) are also taking serious initiatives
to ensure higher transparency and accountability within the nancial
markets, particularly publicly traded companies.
Good corporate governance is essential for the development of a
vibrant and sound Islamic nance industry. Corporate governance
has mainly to do with transparency, accountability and fairness.
The concept of corporate governance was proposed as a result of
increasing awareness of the importance of the need to protect the
rights of all stakeholders, including minority shareholders. While the
term “corporate governance” has gained importance only in the last
two decades, the concept is not essentially strange to Islam.
Good corporate governance
Good corporate governance is more than a good idea. It encourages
the ow of investments, lowers the cost of capital and supports strong
capital markets. Corporate governance represents structures and
processes that entail individuals carrying out business while exercising
professional discretion in a way that exhibits integrity, judgment and
transparency. These principles are essential to the Shariah and Islamic
nance.
The Organization for Economic Cooperation and Development (OECD)
Principles of Corporate Governance focus on:
• Accountability: Ensuring that management is accountable to
the Board and the Board is accountable to shareholders.
• Fairness: Protecting shareholders’ rights; treating all
shareholders — including minorities — equitably and providing
for effective redress for violations.
• Transparency: Ensuring timely and accurate disclosure on all
material matters, such as nancial situation, performance and
ownership.
do not contravene the corporate code of business ethics and cross the
line that the law has drawn.
Since the Shariah represents a major source of legislation in most
of the Muslim countries, it plays an important role in the legislative
and regulatory development in such countries. It is not unlikely that
some Muslim countries would rely on the Shariah for possible future
implementation of corporate governance, whether in the form of code
or regulations.
For example, the Shariah provides the proper platform for codifying
duciary duties and related ethical practices. These practices are the
foundation of good corporate governance as outlined in the OECD
Principles of Corporate Governance. Therefore, modern corporate
governance practices are consistent with the Shariah.
The OECD Principles of Corporate Governance emphasize more disclosure and rights to shareholders. Protection of minority interest is considered crucial for stronger capital markets. For that reason, legal protections for minority shareholders and their strong enforcement encourage
local and international investors to invest in emerging markets.
The Shariah has mandated similar or higher importance to such issues
for doing business. Like modern governance practices, the Islamic
corporate governance model requires application of modern and
higher standards of minority protection against expropriation, more
disclosures and transparency and effective accountability.
With this outlook, and as the Shariah does not indicate any upper
limit for better regulation, the contemporary drive for achieving higher
standards in corporate governance does not appear to conict with the
Shariah. Consequently, IFIs would have no problem in meeting modern
corporate governance practices.
Who are the major stakeholders in IFIs?
There are a number of key players and stakeholders in IFIs:
Shareholders would be interested in protecting the value of their equity
in the nancial institution and obtaining a good rate of return:
• Responsibility: Recognizing the legal rights of stakeholders.
• Demand depositors would be interested in guaranteeing the
value of their deposits and having ready access to their funds.
The teachings of the Shariah bind fairness and honesty to the main
principles of any conduct, including transactions. Good corporate
governance is consistent with Shariah compliant nancial conduct
which prohibits fraud, embezzlement, misstatement and other patterns
of dealings that cause abuse, injustice and gharar (risk, uncertainty,
and hazard).
• Investment depositors are Murabahah contract holders with
Islamic banks who supply funds to banks to invest properly.
They would be interested in the protection of principal and
obtaining a good rate of return.
Is the Islamic corporate governance model different?
• Regulators have the legal power to monitor the daily activities of
IFIs. They would be interested in preventing systemic problems
and crises, protection of the quality of nancial products and
efciency of the nancial system.
The question remains: How is the corporate governance of an IFI
different from that of a conventional counterpart? The Islamic model
of corporate governance would rst look at the transactional structure
to see whether the transaction involves elements that invalidate the
gains or prots. Conventional governance practices do not perform
a similar function (except for transactions with related parties, selfdealing, and such) On the other hand, it ensures that the transactions
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Page 15
• Financial market authorities set minimum standards for
transparency and disclosure and would be interested in an
efcient nancial market.
14th August 2009
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SECTOR REPORT
• The Islamic nance community would benet from standardizing Islamic nancial products, contracts and practices.
Shariah supervisory board may have to extend its jurisdiction to cover
governance issues of this nature.
• The public would be interested in obtaining quality nancial
services at competitive prices.
Actions are louder than words
In order to have good corporate governance, the board of directors,
management and the auditors of an IFI should perform their
professional duties with the objectives of satisfying the needs of the
shareholders and Allah as well. Corporate governance aims to enhance
accountability, transparency and trustworthiness. These values are
crucial in Islam.
The Shariah supervisory board’s role in corporate
governance
The Shariah supervisory board is part of the internal governance
structure of an IFI and appointed by shareholders of the institution. Its
main function is to review and ensure that all transactions, contracts,
products and applications relating to IFIs comply with Shariah rules
and principles according to the specic fatwa, rulings and guidelines
that have been issued.
In order to establish a good corporate governance framework, the
According to the Islamic Financial Services Board, there is no “single
model” of corporate governance that will work in every country; each
country or even each organization needs to develop its own model.
From the standpoint of Islam, deeds are more signicant than rhetoric,
as highlighted in one verse of the Quran: “Why do you say that which
you do not do?” Corporate governance should be practiced in the form
of deeds. Only when actions speak louder than words can a good
corporate culture emerge and protect the welfare of all.
Hany Abou-El-Fotouh
Director of policy and corporate affairs
CI Capital Holding
8 Nadi El-Sied St
Dokki, Giza, Egypt
[email protected]
Sheraton Park Lane, London
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14th August 2009