The capital markets in most of the emerging financial markets are undertaking regulatory reforms with a view to making capital markets more attractive for domestic and foreign investments. Islamic financial institutions are taking serious initiatives to ensure higher transparency and accountability within the financial markets, particularly regarding publicly traded companies.
Good corporate governance is essential for the development of a vibrant and sound Islamic finance 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 about the importance of the need to protect the rights of all stakeholders, including minority shareholders. Whilst 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 flow of investments, lowers the cost of capital and supports strong capital markets.
Corporate governance represents structures and processes that entail individuals carrying out business whilst exercising professional discretion in a way that exhibits integrity, judgment and transparency. These principles are essential to Shari'ah and Islamic finance.
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, i.e., financial situation, performance and ownership.
Responsibility: Recognizing the legal rights of stakeholders.
The teachings of Shari'ah bind fairness and honesty to the main principles of any conduct, including transactions. We may strongly argue that good corporate governance is consistent with Shari'ah compliant financial conduct which prohibits fraud, embezzlement, misstatement and other patterns of dealings that cause abuse, injustice and gharar (risk, uncertainty, and hazard).
Is the Islamic Corporate Governance Model Different?
The question remains: How is the corporate governance of an Islamic financial institution different from that of a conventional counterpart? The Islamic model of corporate governance would first look at the transactional structure to see whether the transaction involves elements that invalidate the gains or profits. Conventional governance practices do not perform a similar function (except for transactions with related parties, self-dealing, etc.) On the other hand, it ensures that the transactions do not contravene the corporate code of business ethics and cross the line that the law has drawn.
Since Shari'ah 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 Shari'ah for possible future implementation of corporate governance, whether in the form of code or regulations.
For example, Shari'ah provides the proper platform for codifying fiduciary duties and related ethical practices. These practices are the foundation of good corporate governance as outlined in the OECD Principles of Corporate Governance.
Therefore, we believe that modern corporate governance practices are consistent with Shari'ah.
The OECD Corporate Governance Principles 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.
Shari'ah 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 Shari'ah does not indicate any upper limit for better regulation, the contemporary drive for achieving higher standards in corporate governance does not appear to conflict with Shari'ah. Consequently, Islamic financial institutions would have no problem in meeting modern corporate governance practices.
Who Are the Major Stakeholders in Islamic Financial Institutions?
There are a number of key players and stakeholders in Islamic financial Institutions:
Shareholders would be interested in protecting the value of their equity in the financial institution and obtaining a good rate of return.
Demand Depositors would be interested in guaranteeing the value of their deposits and having ready access to their funds.
Investment Depositors are murabaha contract holders with Islamic banks who supply funds to banks to invest properly. They would be interested in protection of principal and obtaining a good rate of return.
Regulators have legal power to monitor the daily activities of Islamic financial institutions.
They would be interested in preventing systemic problems and crises, protection of the quality of financial products and efficiency of the financial system.
Financial Market Authorities set minimum standards for transparency and disclosure and would be interested in an efficient financial market.
The Islamic Finance Community would benefit from standardising Islamic financial products, contracts and practices.
The Public would be interested in obtaining quality financial services at competitive prices.
In order to have good corporate governance, the board of directors, management and the auditors of an Islamic financial institution 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 Shari'ah Supervisory Board's Role in Corporate Governance
The Shari'ah supervisory board is part of the internal governance structure of the Islamic financial institutions and appointed by shareholders of the institution. Its main function is to review and ensure that all transactions, contracts, products and applications relating to Islamic financial institutions comply with Shari'ah rules and principles according to the specific fatwa, rulings and guidelines that have been issued.
In order to establish a good corporate governance framework, the Shari'ah supervisory board may have to extend its jurisdiction to cover governance issues of this nature.
Actions Louder Than Words
According to The Islamic Financial Services Board (IFSB), there is no "single model" of corporate governance that will work in every country; each country or even each organisation needs to develop its own model.
From the standpoint of Islam, deeds are more significant 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 come forward and protect the welfare of all.
About The Author
Hany Abou-El-Fotouh is Director Policy & Corporate Affairs / Board Secretary, CI Capital Holding - the investment banking arm of Commercial International Bank which is the largest private bank in Egypt . He provides advice and direction to the Board and management with respect to corporate governance practices and formulates corporate policies.
Hany is a leading expert on money laundering and terrorist financing controls in the MENA region. Founder of the Middle East Compliance Officers' Forum (MECOF), he has been honored for his work in promoting compliance culture and awareness in the MENA region
Hany writes articles to different newspapers and journals on a variety of subjects. He is a public speaker and professional trainer. Previously, he worked in various senior positions in leading banks in Egypt and GCC countries like HSBC, Oman International Bank, Banque Saudi Fransi among others
Hany is a certified member of the Association of Certified Anti-Money Laundering Specialists (ACAMS) and Certified Director by Egyptian Institute of Directors