Istisna v final by wasimullah

Islamic Banking and Finance | Faculty of Management Sciences | International Islamic University Islamabad

Istisna

Istisna

Presented by Prof Wasimullah

Istisna

In the Name of Allah The Most Beneficial and The Most Merciful

IstisnaContentsContents

Conditions of Istisna

Models of Istisna

Application of Istisna

Meezan Bank Istisna Product

Comparisons

Definition and Shariah Legitimacy

Accounting Treatment & Specimens

IstisnaDefinition and LegitimacyDefinition and Legitimacy

General Rules of Sale in Islam

Istisna Definition

Existence | Ownership | Possession

“Istisna is a sale transaction where commodity is transacted before it comes into existence. It is an order to producer to manufacture

a specific commodity”

IstisnaDefinition and LegitimacyDefinition and Legitimacy

Shariah Legitimacy

• On Bases of Urf• Sharia gives permission to recognize customs that prevailed at the time of

Muhammad (SAW) but were not abrogated by the Qur'an or the Hadis.• Under Qiyas

• Subject Matter in this contract does not exist but its availability is Certain• Under Istishan

• Hanfi School of Thought People are Unanimous on its need• Hadis Reference

“The Prophet (PBUH) required that a pulpit (platform) be built for preaching” [Bukhari 2/908]

“The Prophet (PBUH) required that a finger ring be manufactured for Him” [Bukhari 5/220 and Muslim 3/1655]

Istisna

Istisna and SalamIstisna and Salam

•Subject MatterManufacture able

•PricePrompt , Installments Deferred

•TerminationUnilaterally Before Start of Work.

•Time of Delivery.

Variable Delivery Time

Differences

IstisnaSimilarities

•Subject MatterAnything

•PriceFull Advance Payment

•TerminationOnce affected can’t be unilaterally cancelled.

•Time of Delivery.

Fixed Delivery Time

Salam

• Non Existence of Subject Matter

•Future Delivery

Istisna

Conditions of IstisnaConditions of Istisna

Subject Matter

Price

Delivery

Security

Termination



Istisna


Subject Matter



• The requirement of a valid contract.Capacity of the contracting parties, offer and acceptance

• Subject Matter in accordance with Islamic Principles

• Manufacture able GoodsConstruction process involving labor

• Type, quality, quantity can be clearly SpecificationsTo remove factor of Garar

• Use of own goods for manufacturing of Istisna Commodity.

Difference between ijara and istisna

Istisna


Price



• Price fixed with Mutual consent

• Price can be Money, Commodity and Usufruct

• Payment of Price FlexibleOn Spot , Differed, In Installments

• Tier Pricing SystemPrice according to versions in delivery Installments according to Delivery of Product

Istisna


Delivery



• Time and Place of Delivery

• Before Delivery risk associated with Istisna commodity lies on manufacture

• After Delivery risk associated with Istisna commodity lies on buyer

• Possession can be physical or constructive

Istisna


Security



• Right of Security for both Manufacturer and purchaser

• Purchaser has right of option of defect

Istisna


Termination



• After completion of Contract

• Can be cancelled with Mutual Consent

• Can be cancelled unilaterally before start of Work

IstisnaModels of IstisnaModels of Istisna

Direct Istisna Sale Model1

Payment of Istisna Price (Always less then market price)

Bank

Market

Manufacturer

Deferred Delivery of Manufacture able goods

Istisna Goods sold to market at market Rate

1

2

3

IstisnaModels of IstisnaModels of Istisna

Parallel Istisna Sale Model2

Specified order of Manufacture able GoodsUsually Higher then Market Price

Bank

Manufacturer

• Order to Manufacturer• Same Specification• Delivery Date• Market Price

3rd PartyPayment on Spot Or Installments on Deferred Basses

• Agency Agreement• Indirect Delivery on

Behalf of bankRequest for Delivery

Delivery of Istisna Product

1

2

3

4

5

5

IstisnaApplications of IstisnaApplications of Istisna

House Financing1

BOT Financing3

Working Capital Financing4

Source : Islamic Banking Bulletin, Islamic Banking Department State Bank of Pakistan

Project Financing2


House Financing1

•Land•Construction•Use of Parallel Istisna•Payment Schedule•Security •Discrepancy

Customer

Order for House

Delivery of House

Ownership of Bank

Parallel Istisna

Installments

Market Price + X

Market Price

Construction of House

• Industrial Projects• Factory, Machinery• Up gradation

Project Financing2

Bank

Constructor

12

34

5

6


BOT Financing3

Build Operate and Transfer ,Developmental Projects ,Toll Fee

Financing Agreement (Period 20 years)

Parallel Istisna

ConstructionOwnership

Yearly Contract

Operate Toll Fee

After 20 YearsOwnership Transfer

1

2

34

56

7

Constructor

Bank

Government

Highway

Contractor


Murabaha Replacement in Manufacturing Concern

Delivery of Steel Structures

Agency Agreement

Constructive Possession

Financing Requirement for Steel Structures

Parallel Istisna at Market Price

Working Capital Financing4

SpecificationsMarket Price + X

Date Y

Date: (Y – 1 month)

Installments

1

2 3

4

5

Constructor Bank Ithehad Steel

IstisnaMeezan Bank Istisna ProductMeezan Bank Istisna Product

• Bank Requirements• Process Flow

Product Design

Contents



Product Design

• Confirm Order

• Nature of ProductIncompliance with Islamic Principles

• Credibility of Manufacturer Financial Statements, Banking Relationships, Assets and Liabilities, ECIB (Electronic Credit Information Beaurue) etc.

• Reliability of OrderReliable ordering Source

• Market SituationEasley Marketable product



Product Design

• Step 1: Master Istisna AgreementTime, Quantity, Price, Specification, Delivery Date

• Step 2: Security According to the volume of finance required.

• Step 3:Istisna Price Either Full or in Installments• Step 4: Request for Acceptance of DeliveryIdentification & Separate storage, Goods Receiving Note ,

Risk Transfer

• Step 5: Agency AgreementConstructive Possession, Agency Fee

• Step 6: Payment Adjustment• Step 7: Order Cancellation Agent will sale product in market with Bank’s mutual consent.


• Market Share• Financing Breakup• Istisna Share

Product Magnitude

Source: Meezan Bank 2009 Annual Report

Murabaha37%

Ijarah 17%

Export Refi-

nance11%

Diminishing Musharakah 23%

Mushar

akah0%

Is-tisna

8% Tijarah1%

Salam1%

Loans and running finances

2%

Murabaha37%

Ijarah 24% Export

Refi-nance

9%

Diminishing Musharakah

23%

Mushar

akah0%

Istisna 4%

Tijarah0%

Salam1%

Loans and running finances

1% Breakup of Financing of Meezan Bank in Year 2009

Breakup of Financing of Meezan Bank in Year 2008


• Market Share• Financing Breakup• Istisna Share

Product Magnitude

Source: Meezan Bank Annual Report

2009 2008 2007

Total Financing 46716610000 40626920000 34576339000

Istisna Share 3729059000 1605460000 238275000

5000000000.00

15000000000.00

25000000000.00

35000000000.00

45000000000.00

55000000000.00

Istisna Share in Total Financing Over the Years

8.4 %

4 %0.68%


• Pricing System• Pricing Factors

Product Pricing

• Based on Kibor Benchmark• Pricing based on K + (1 to 5 %) rate of ReturnSuppose 10,000 is requiredOrder Price:12000Kibor : 12 %Return at K+1 (13%) : 11,300 | 1300Return at K+3 (15%) : 11,500 | 1500Return at K+5 (17%) : 11,700 | 1700• Profit of Bank is Difference of Istisna Price(price

given by bank) and Sale Price of order.Istisna Price at K+1 :12000-1300 = 10,700( Manufacturer Profit = 700 | Bank Profit = 1300)Istisna Price at K+3 : 12000-1500 = 10,500( Manufacturer Profit = 500 | Bank Profit = 1500)Istisna Price at K+5 : 12000-1700 = 10,300( Manufacturer Profit = 300 | Bank Profit = 1700)


• Pricing System• Pricing Factors

Product Pricing

• Normal Market PriceIstisna Price is Always Less the Market Price so that bank can earn by selling product in market at market rate.

• Nature of ProductEasily Marketable

• Volume of Product

• Creditability of Manufacturer

• Risk Factor Involved


• SecurityIn accordance with Volume of FinancingMortgage Property etc

• Credibility of CompanyFinancial Statements, Banking Relationships, Assets and Liabilities, ECIB (Electronic Credit Information Beaurue) etc.

• Market Dynamics

• Default Risk• Delivery Risk• Order Cancelation

Risk• Option of Defect• Risk of Damage

Risk Management


• Delivery DelayedAs Istisna is a Manufacture able Product

• Confirm OrdersCredibility of The Company is also at stake to fulfill the original order.

• Tier Pricing SystemPrice is associated with the variation in delivery date. This is permissible by Islamic Principles.

• Default Risk• Delivery Risk• Order Cancelation

Risk• Option of Defect• Risk of Damage

Risk Management


• 3rd Party Refuse to buy Product

• Reliability of Order is Checked Before Istisna Agreement

• Nature of Product, Easily Marketable , Product Expiry

• Sale to another Customer Through Agent

• Default Risk• Delivery Risk• Order

Cancelation Risk• Option of Defect• Risk of Damage

Risk Management


• Low Quality, Deviation from Specification

• Bank has option to Reject Delivery of Product, and Demand Adjustment

• Even it can liquidate the Security to recover any loses.

• Default Risk• Delivery Risk• Order Cancelation Risk• Option of Defect• Risk of Damage

Risk Management


• After Delivery All the Risk lies with Bank.

• Risk of Damage is reduced using Takaful Instrument

• Default Risk• Delivery Risk• Order Cancelation Risk• Option of Defect• Risk of Damage

Risk Management

Istisna

•Non Interest

• Limitation on Use of Finance

•Surety of Profit

• Grace Period in Delivery.

IstisnaComparison

•Interest Based

•No Limitation

•No Surety of Profit

• No Grace Period Continuous Compounded Interest.

Conventional Loan

Comparison with Conventional Banks Comparison with Conventional Banks

Istisna

Comparison with Islamic BanksComparison with Islamic Banks

MEEZAN

BANK

• Confirm Order

• Target Market: Large Industry

• Low Risk High Profit Margin

• Direct Agency Sale

• Pioneer in Istisna

• Market Leader

AL-

FALAH

BANK

• Open Market Operation

• Target Market: SME

• High Risk but Greater Customer Base

• Parallel Istisna

• Local Market

BANK IS

LAM

I

• Open Market Operation

• Confirm Order

• Target Market: SME

• High Risk but greater Customer Base

• Parallel Istisna

• Local Market

IstisnaAccounting TreatmentAccounting Treatment

Example Details

At the time of Disbursement

Istisna (Purchase) Price/Cost/Principal 1,000Tenure 1.5 monthsSale Price of the Goods sold to 3rd Party 1,200Total profit on transaction 200Date of Disbursement to the customer 1-Apr-07Date of Delivery 15-May-07Date of Sale by the Bank 20-May-07

1-Apr 2010 Dr Cr

Istisna Financing (A/R) 1000

Pay Order / Party Account/ Cash 1000

IstisnaAccounting TreatmentAccounting Treatment

At Date of Delivery

At Date of Sale

15- May- 2010 Dr Cr

Asset 1000

Istisna Financing (A/R) 1000

20 - May - 2010 Dr Cr

Cash 1200

Asset 1000

Sale 200

IstisnaIstisna Agreement SpecimensIstisna Agreement Specimens

Istisna Model Agreement

Istisna


Istisna Agreement SpecimensIstisna Agreement Specimens

IstisnaIstisna Agreement SpecimensIstisna Agreement Specimens


Istisna


Istisna Agreement SpecimensIstisna Agreement Specimens

IstisnaAPPENDIX-AAPPENDIX-A

IstisnaAPPENDIX-BAPPENDIX-B

Islamic Banking and Finance | Faculty of Management Sciences | International Islamic University Islamabad

Thank

You

May Allah Bless You All

Istisna v final by wasimullah

Economy & Finance

Transcript of Istisna v final by wasimullah