Enhancing Islamicity with Fintech: Case of the Investment Account Platform (IAP) – II

The Investment Account Platform (IAP) is an internet-based multibank platform. It provides for an engine for efficient mobilization of funds. It offers new risk-reward concepts that is expected to benefit investors and entrepreneurs. So far, IAP has 7 partner banks, and has raised over USD 50 million from 300 plus investors for 13 projects.

The IAP is a platform to facilitate channelling of funds from individual and institutional investors to finance viable ventures intermediated by participating Islamic banks via Restricted Investment Account as governed under IFSA and DFIA.

IAP involves Restricted Investment Accounts as distinct from Unrestricted Investment Accounts.

What are Restricted Investment Accounts?

• It is to fund specific project, asset or portfolio.
• It is funded by 3rd party (usually single party).
• All assets financed by these accounts are excluded from the computation of Collective Allowance and Capital ratio.
• It is usually used to fund above existing Single Customer Exposure Limit (SCEL).
• There is no liquidity reserve requirement as it is match funded.
• The risk of Non-Performing Financing (NPF) is passed to Investors.
• Any impairment allowances required on the financing are not recognized in the profit or loss of the Bank but charged to and borne by the investors.
• Risk profile of investor matched to Asset risks. No suitability assessment required
• Illiquid Investment – Investors enter at start & exit portfolio at maturity with steep penalty on early redemption. Do not require cash buffer/reserves.
• Returns are based on asset performance
• Profit Sharing Ratio must be mutually agreed at start of investment.
• Tenures of investment fixed (with maturity)
• The asset is deemed to be directly financed by the Investor (risk transfer). No specific disclosure requirements

Since IAP involves Restricted Investment Account, it is usually recorded as an Off-Balance Sheet item as the asset is financed directly by the investor.

Value Proposition to Stakeholders

Value proposition to companies/SMEs

• One stop centre for online application
• Media profiling & market exposure
• No dilution in ownership
• Certainty of funding
• Rating as testament of financial standing

Value proposition to investors

• New risk-return possibilities in the investment space – money-market instruments, sukuk, real estates, stocks
• Investment is tagged against the Bank’s core business i e financing to businesses which has the following characteristics. It is competitively priced above bank’s cost of fund (COF) or base financing rate (BFR). There is robust screening, account management and collection process.

Value proposition to sponsoring banks

• Fee based income as intermediary
• Optimized cost through savings from brokerage fee & capital charge
• New source of funds: Tap directly from the market
• Risk management: balance sheet & liquidity management

What are the major challenges facing the IAP? I reproduce excerpts from my conversation with Sr Joann Enriquez, CEO, IAP

A Conversation with Joann Enriquez, CEO, IAP

The only way of Redemption is through Replacement of investment with other similar profile investors. This to my mind is a dampener to the entire process flow.

Response: There is a need to create a secondary market. We have goals of even exploring creating infrastructure that can facilitate successful murabaha and mudarabah transactions by having seamless profit actualization mechanisms which is the friction point of those trying to promote such Islamic contracts.  With this, we can spring board into ease of entry and exit into the projects; expanding Islamic finance assets beyond its current reach. It is doable. Its a matter of digitalization and dedication to really promoting what Islamic contracts are set out to achieve.

I understand, currently banks provide only credit rating. Is it because, rating of investments is far more complex than credit rating? In future how do you propose to deal with the complexities involved in valuation for investment?

Response: We provide two layers or rating: Initially done by the sponsoring banks and an optional rating done by RAM. I agree that there is a need to adjust the current due diligence as we see that there are a significant amount of ventures that are deemed unbankable and non credit worthy that can otherwise provide very good returns to the investors. We intend to come up with our own due diligence criteria that is less rigid than that of the bank without recklessly compromising the profitability of the investors and promote a risk/reward concept which is the crux of Islamic Finance. We are also exploring various risk mitigation strategies than can enhance public and private partnerships to fund valuable sectors of the economy needing financing/investments.

It appears all forms of risk – operating, credit, market and ownership risk borne by investors. Are Malaysian investors ready or savvy enough to bear this kind of risk?

Response: This is a tough question. I would say like any paradigm shift it takes education and effort; we are trying to accomplish this in our own humble ways. I however believe that with the proper education, muslims and non-muslims alike will see the value of vesting, impact investment, and equity which for me are the main components of Islamic Finance.

Investment for project life implies illiquid investments. Is this a major hindrance to the mainstreaming of IAP? Any measures in the offing to tackle this issue?

Response: Similar to my answer regarding secondary market, enhancing the current infrastructure to only for IAP but for Islamic Finance as a whole is necessary. This will really highlight how we can distinguish ourselves unique compared to our conventional counterparts. Until then, we remain to be on a catch up mode and in my opinion truly stifling our creativity to create true solutions for the modern day problems that we face. We are given that opportunity in Malaysia and with IAP as a laboratory that can be rolled out on a national and worldwide scale.

As I understand, in the IAP arrangement, cash flows are not retained by Bank, i.e. it does not add to core deposits. Does it make the whole proposition unattractive to the Bank?

Response: You save the most difficult question for the last. There are pros and cons to the IA product if your were to simply compare short term profitability  relative to its conventional counterpart within the same banking institution. But IA is a matter of law in Malaysia, IFSA 2013 required the banks to differentiate deposits to investment accounts. The transition was and remains to be a task. But like most matter in business, the value proposition must be created and preached. We are seeing that the Islamic Banking CEOs and their teams who really want to make IA happen are able to do so both for the interest of the bank itself and to make a step towards true Islamic Finance that truly delineates itself from its conventional counterpart. I believe that IA, IAP and Iaplatform.com can be an instrument not only to promote Islamic finance the propagates risk sharing (vesting), impact investment, equity in transactions but may be real useful solutions to our modern day problems that plague us.

This must be seen and understood not only by institutions that are like minded but sovereigns who want to promote the full Islamic Finance Ecosystem.  I believe Malaysia can share this experience and can be adopted by the rest of the world who wants to promote risk sharing (vesting), impact investment, equity in transactions as solutions to our modern day problems.

Note: The content of this blog is based on a presentation of Joann Enriquez, CEO, IAP at the International Shariah Economy Festival held in Jakarta in November 2019.