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MODARABA
SECTOR: BRIGHT PROSPECT |
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There is a
need to amend rules of the game to enable the sector to play its due
role
By SHABBIR H. KAZMI
Feb 18 - 24, 2002
The payout ratio of modarabas is comparatively
higher than many other sectors listed at the Karachi Stock Exchange.
Most of the certificates are being traded below par value. Despite a
long standing they have not been able to establish their niche market
and their contribution in the financial sector has not been
significant. A large number of modarabas are involved in leasing as
core business. International Finance Corporation (IFC) provided credit
lines worth US$ 20 million to some modarabas nearly twenty years ago
but since then others could not succeed in soliciting any line.
The key objectives of flotation of modarabas are:
1) to serve the needs of those investors who are keen in earning Riba
free income and 2) to ensure availability of funds for small and
medium size entrepreneurs. While most of the operating modarabas still
offer Riba free income generating prospects, they
grossly ignore the second objective by indulging in medium and
big-ticket leasing business. Therefore, it may not be wrong to say
that by deviating from desired mandate, they are directly competing
with those financial institutions who have access to low cost funds.
Whereas modarabas are confined to funds raised through flotation of
modaraba certificates.
An important factor which has been responsible for
nominal growth of modarabas is the inconsistency in GoP policies. On
top of this, regulatory environment has not been conducive for the
operations and growth of modarabas. Currently more than 70 per cent of
modarabas are involved in leasing as core business which does not
provide them comparative advantage, at the best they come in 'me too'
category. They have been able to compete with leasing companies only
due to tax incentive.
According to some analysts modarabas have been able
to pay higher dividend only because of tax exemption, if they
distribute 90 per cent of their profit among certificate holders. Had
this incentive not been there they would have not been able to pay
even a modest dividend. They also say that the incentive has become an
obstruction in formation of capital as most of the modarabas prefer to
distribute profit among certificate holders to avail tax exemption.
It is worth noting that when mandatory/statutory
reserve requirement was reduced from 20 per cent to 10 per cent,
efforts were made to get it changed. The move by the regulators was
possibly aimed at facilitating distribution of a larger sum to
certificate holders. The sector resisted this on the pretext that it
would curb capital formation and slow down growth rate of modarabas.
Modarabas are victim of twin problems, an incentive
has become a hurdle and under the prevailing regulatory environment
they are not able to mobilize funds from other traditional means, i.e.
musharika certificates. According to some analysts, the biggest
disadvantage is that modarabas mostly undertake those activities where
they do not enjoy an edge over other financial institutions. Over the
years they have neither been able to increase paid-up value of their
certificates nor acquire credit lines to increase availability of
funds, to increase their operations.
In this context it is important to point out that
modarabas were allowed to float Musharika Certificates but only one
modaraba succeeded in raising funds through this option. This too was
made possible due to support of sponsors and private placement. Sector
analysts strongly believe that it is very difficult to operate under
the notified rules. Unless rules are amended and made realistic most
of modarabas will not be able to exercise the option.
It is interesting to note that IFC was the first
international financial institution which provided funds worth US$ 20
million to some modaraba. Since then no such influx of funds could be
made possible. Analysts attribute this partly to the weak fundamentals
for Pakistan and partly to the inability of modarabas to convince
international financial institutions about the viability of modaraba
concept. Some analysts even go to the extent of saying that terms and
conditions agreed with the IFC were not complied and efforts were made
to avoid payment on income certificates.
Whereas some analysts believe that foreign fund
managers avoid investing in modaraba certificates despite offering
attractive dividend yield. On the basis of financial results for the
year 2000, twenty four modarabas paid dividend to their certificate
holders. To recognize their performance awards were given to five
highest dividend paying modarabas. These were, First Grindlays
Modaraba, Imroze Modaraba, First Ibrahim Modaraba, First Habib
Modaraba and First Habib Bank Modaraba. The dividend paid by these
modarabas ranged from 21.5 per cent to 30 per cent. It is expected
that for the year ending June 30, 2001 dividend pay out would be
better than that of previous year.
Regulatory environment
The general perception is that modarabas are
over-regulated, which is not wrong to a large extent. A question
arises, are the regulators performing their duties? The fact is, while
modarabas are required to file weekly and monthly reports, regulators
hardly read the content. To substantiate their point of view, sector
experts refer to a few modarabas which ended up in serious problems
only because regulators did not read their weekly reports.
The apathy of regulators was evident from the fact
that a modaraba having issued Rs 205 million certificates extended
financial assistance to a company to the tune of Rs 150 million. This
was a clear violation of the rules but regulators did not respond till
the balloon burst. It was a single incident, at least five modarabas
indulged in irregularities causing huge losses to certificate holders
and regulators were the spectators only.
Sector analysts have another point, regulators do
not understand the driving spirit behind operations of modarabas,
often rules are contradictory and despite efforts by the players
hardly any effort is made to remove these anomalies. One such example
is deduction of Zakat on dividend paid by modarabas. While Income Tax
Ordinance terms modaraba a company, Zakat and Usher Ordinance does not
consider modaraba a company. This raises a basic question, does Zakat
being deducted on dividend by modarabas has a legal status?
If one tries to find out the factors causing slow
growth of modarabas, one of the factors is the professional background
of people occupying key positions in modaraba management companies.
Most of them are banker by profession, whereas we need modaraba
managers. There is a vast difference in mind set of the two types of
professionals. While a banker always look for collateral and work on
eleven months credit, the driving force behind modaraba is joining of
hands of those who have the expertise and those who have the money.
Let us hear what the modaraba management company
people say. Some of them say, "Initially modarabas were not
insisting on collateral, but experience taught us to hedge the risk by
demanding collateral." Whereas others say, "An easy option
was exercised. In fact we should have opted for financial
re-engineering rather than demanding collateral." Even the
regulators agreed to submission of collateral a must for soliciting
funds from modarabas. Therefore, modarabas have virtually become
banking operation. Efforts should be made to break this status quo.
Formation of two banks, based on lending with
collateral, for providing funds to small and medium enterprises should
be an eye opener for those who always said that lending without
collateral was too risky. The track record of Khushhali Bank in
Pakistan proves that the risk is minimized by funding economically
viable projects and not by demanding collateral. Efforts should be
made on the similar lines to bring necessary changes in rules
governing modarabas.
Outlook
At a time when government is making efforts to
eliminate Riba from society, it is an appropriate
opportunity to highlight the potential and problems faced by modarabas
sector. A point must be kept in mind that modarabas can play a vital
role in revival of Pakistan economy as well as offer Riba
free income. Innovative ideas are needed to strengthen and improve
performance of modarabas so that they play their due role of
organizing business activities in line with Islamic principles.
In this regard all concerned have to play an active
role to enable modarabas to play their due rule. The biggest
responsibility lies on the shoulders of modaraba management companies.
They have to introduce such financial products which are capable of
not only delivering modest return but are also acceptable to
regulators.
Housing finance is grossly ignored by financial
sector. Those who are providing fund also charge very high interest
rates. Modarabas can play a vital role in housing finance. If they are
given permission, it will be a favour to those who are seeking fund
for construction of housing units. At least eighty industries are
directly or indirectly associated with construction business. It will
also help in revival of cement industry.
Since most of modarabas are involved in leasing
business, they should concentrate on consumer leasing rather than
indulging in big-ticket leasing. They should also give attention to
operating lease. It will not be out of context to mention that
regulators demand provisioning even in case of operating lease. Is it
not a little absurd?
Religious Board also has an important role to play.
The objective of the Board should be to facilitate and not to create
hurdles. The experience shows that being over-conscious they are often
not willing to approve a financial product where they suspect
involvement of Riba .
Though, regulators insist on extensive and intensive reporting,
unless these reports are read, scrutinized and prompt actions are
taken against erring players, they are not discharging their duty.
Laws, rules and regulations are of no consequence unless followed in
letter and spirit. Regulators must wake up.
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Modaraba
vs other sectors |
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Particulars |
Mutual
Funds |
Modarabas |
Leasing
Companies |
Investment
Banks |
|
Quoted in Stock
Exchange (#) |
38 |
45 |
32 |
15 |
|
Dividends
Declared by (#) |
28 |
19 |
13 |
5 |
|
Dividends
Declared by (%) |
73.68% |
43.18% |
40.63% |
33.33% |
|
Dividends
Declared between |
3.50 to 60% |
1.50 to 46% |
3.5 to 45% |
10 to 30% |
|
Aggregate
paid-up capital (Rs in mln) |
4,661 |
8,711 |
4,943 |
4,592 |
|
Average paid-up
capital (Rs in mln) |
3,440 |
3,989 |
2,576 |
2,420 |
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Aggregate
dividend paid (Rs in mln) |
469 |
529 |
301 |
421 |
|
Average rate of
dividend (%) |
10.06% |
6.08% |
6.10% |
9.17% |
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