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Structuring Shariah Compliant Funds (continued..)
critical to a Shariah compliant fund when leveraging
an acquisition or investment. Shariah compliant
financing is readily available in the GCC, but in other
parts of the world a fund manager may struggle to
find a bank that is willing and capable of providing
financing on a Shariah compliant basis. This makes
such financing more difficult to obtain and more
expensive to structure in a Shariah compliant
manner, but banks outside the GCC are often more
willing to provide limited recourse financing at more
competitive rates.
Shariah board
The Shariah board for a Shariah compliant fund
can take different forms. The fund may have its
own advisor or use the advisor of its fund manager,
general partner or sponsor. Additionally, we have
seen the Shariah board range from a single scholar
to a group as large as five scholars, who collectively
decide matters.
The Shariah board’s role varies from fund to fund and
can range from simple oversight to involvement in
management and operations. However, fundamentally,
the role of the Shariah board is to be an independent
regulator to ensure the fund is conducting its activities
in a Shariah compliant manner.
Shariah boards tend to recognize that many target
companies are not completely “interest free” and
that if one is a minority investor, the ability to
demand that such conventional debt be refinanced
on a Shariah compliant basis is limited. If a Shariah
compliant fund acquires a portfolio company with
conventional debt, the Shariah board may require
this debt to be extinguished or refinanced in a
Shariah compliant manner within an agreed period
of time.
Further, if it is determined that a percentage of a
portfolio company’s income is acquired from non-
Shariah compliant sources, this revenue must be
removed from the profits of the Shariah compliant
fund and the Shariah board will likely require that
such a percentage of the income be donated to a
charity, under the supervision of the Shariah board,
through a process known as “income purification”.
In our experience, potential investors in a Shariah compliant
fund will want to know the names and background
of the members of the Shariah board. They will
also want to see a fatwa from the Shariah board certifying
that the offering documents, as well as any acquisitions
and financings, are Shariah compliant.
Current trends
Traditionally, fund managers would only market
Shariah compliant funds (often based in the Cayman
Islands) in the Middle East to raise money, while
deploying the fund’s capital outside the Middle
East. However, increasingly, we are seeing Shariah
compliant funds, whether raised by international or
GCC-based fund managers, targeting Middle East
assets and acquisitions.
In particular, we have noticed a number of Shariah
compliant funds recently increasing investments
in portfolio companies and real estate in Saudi
Arabia and Egypt. Also, we have seen a growing
trend for funds, that will be deployed in the GCC,
to also be based in the GCC rather than an offshore
jurisdiction.
Since the second-half of 2008, we have also seen a
dramatic decline in the “capital commitment” model
by fund managers of Shariah compliant funds in
the GCC, and a movement to require investors to
contribute all capital upfront at a closing. While this
tends to hurt a fund’s internal rate of return, fund
managers feel reassured knowing that they will able
to make investments. This has become of the utmost
important in an economic environment in which
limited partners are increasingly refusing to meet
capital calls.
In the past few years, there have been a number
of new entrants into the Middle East attempting to
raise capital through the offering of a fund. Many
fund managers in the GCC are now raising and
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