KARACHI: The capital market of Pakistan has been receiving a Shariah-compliant investment instrument - called Sukuk - for the past couple of decades.
The Islamic finance segment in Pakistan has expanded significantly with the issuance of many Shariah-compliant products, especially by the corporate and public sectors. Sukuk has also attracted the attention of investors in western countries as a reliable source of investment, which is based on the ownership of assets.
Most recently, the federal government on March 1, 2019 issued the first-ever Pakistan Energy Sukuk-I (PES-1) worth Rs200 billion ($1.45 billion). The bond float came with the objective of reducing circular debt in the energy sector as eliminating the circular debt, which has piled up to Rs1.4 trillion, is a key part of ongoing bailout talks with the IMF.
Rs200b Sukuk issued to reduce circular debt
Since coming to power in August 2018, the PTI government has been facing challenges on many fronts such as the balance of payments crisis, sharp rupee depreciation and drain on foreign currency reserves. With such huge challenges, the government is searching for new sources of financing.
The total size of the PES-I Sukuk was Rs400 billion, which was agreed in November last year. However, in the first phase, Sukuk of Rs200 billion was issued to a consortium of Meezan Bank (Rs88 billion), Faysal Bank (Rs35 billion), BankIslami Pakistan (Rs35 billion), Dubai Islamic Bank Pakistan (Rs14.15 billion), MCB Islamic Bank (Rs10 billion), Al Baraka Bank Pakistan (Rs8.9 billion) and other banks (Rs9 billion). The 10-year Pakistan Energy Sukuk is a redeemable capital instrument under Section 66 of the Companies Act 2017 with face value of Rs100,000 each. The profit rate is six-month Kibor plus 80 basis points per annum.
The bond has a clause that says in case of failure to make timely payment of profit, an additional amount will be paid at the rate of 120 basis points per annum to the investors. The Sukuk is backed by assets of the Water and Power Development Authority (Wapda), the power generation companies’ (Gencos) holding company and power distribution companies of Peshawar, Islamabad, Gujranwala, Lahore, Faisalabad and Multan.
Although with the recent issue the Sukuk market has got a boost, it needs further development in terms of structure and legal documents. An increase in Sukuk issues can provide an additional opportunity for Islamic banks to park their surplus liquidity and help strengthen industrial and national growth.
Since the inception of Sukuk in Pakistan, eight such instruments have been issued with a cumulative value of around Rs1.2 trillion. Of these, public-sector Sukuk has dominated the market with a value of approximately Rs900 billion issued directly by the government whereas around Rs150 billion of Sukuk has been floated by public-sector organisations. Apart from these, corporate Sukuk issues have a value of Rs170 billion.
The government of Pakistan has also approached global capital markets - first in 2005 with a $600-million Sukuk and then of $1-billion Sukuk in 2014, 2016 and 2017 each.
Regulatory authorities in Pakistan are pushing for expansion of the Sukuk market in particular and Islamic financing in general in order to promote a safe, sound and better mode of investment for public welfare, corporate expansion and easy government borrowing in compliance with Shariah guidelines.
In this regard, the Securities and Exchange Commission of Pakistan (SECP) has issued regulations for the management of privately placed Sukuk. Corporate Sukuk is an essential part of Islamic debt market, which provides an alternative to the corporate sector for arranging safe financing without the need for negotiating loan agreements with conventional banks and investment institutions.
In July 2013, the State Bank of Pakistan issued guidelines for the adoption of Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI) Shariah Standard No 17, which explains the investment under Sukuk. Before this, the SECP’s “Issue of Sukuk Regulations” had been used for Sukuk management.
Apart from meeting corporate and private financing needs, Sukuk can be floated to raise funds for ongoing and future national projects. For instance, a fast-growing population in Pakistan creates hefty demand for housing schemes, especially in urban areas. Under the recently announced Naya Pakistan Housing Programme, the government has also planned to build 5 million housing units over the next five years.
This is a potential case to opt for Shariah-compliant modes of financing as the total cost of the project has been estimated at around Rs17 trillion. The government will not be able to allocate much for this project in the annual budget because of the squeeze on its finances.
Of course, it will have to go for external financing and the Islamic financing will be a viable option, which may be called Pakistan Housing Sukuk. The Islamic mode of Diminishing Musharakah will be the most suitable option, which is based on the ownership of assets.
A plan in this regard can be chalked out as the Sukuk will reflect the ownership of a specific portion of land on which houses will be built. A consortium of Islamic banks and the government will jointly purchase the land. After that, the banks will lease their share of land to the government on Ijarah for a specified period. The government can start the construction of houses after acquiring the land and funds from the Sukuk. Till the completion of the project, the government will pay lease rental to the consortium of banks for the use of their land.
Upon maturity of the Sukuk, the government will be the owner of the land as well as the newly constructed houses. At this stage, the government will sell the housing units to the public.
Khurram Raees and Sidra Ather are students of Islamic Finance & Banking course of MBA at the PAF-Karachi Institute of Economics and Technology
Published in The Express Tribune, April 15th, 2019.
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