Screening Method for Shariah Compliant free essay sample

Screening method is used in order to classify those stocks that listed in Bursa Malaysia as shariah-compliant. There are two methods in shariah screening methodology which are quantitative and qualitative. Shariah advisory Commission (SAC) received input and support from the SC. The SC gathered information on the companies from various sources, such as company annual financial reports, company responses to survey forms and through inquiries made to the respective company’s management. The SC, through the SAC, continues to monitor the activities of all companies listed on Bursa Malaysia on periodic basis based on availability of information to determine their status from the Shariah perspective. In order to be classified as Shariah-compliant; SAC need to consider three criteria which are: (a) The proposed business activity should be Shariah-compliant (b) The proceeds raised from the IPO should be placed in an Islamic account (c) In the event that the proceeds are invested, the investment should be Shariah-compliant. To determine the tolerable level of mixed contributions from permissible and non-permissible activities towards turnover and profit before tax of a company, the SAC has established several benchmarks based on ijtihad (reasoning from the source of Shariah by qualified Shariah scholars). If the contributions from non-permissible activities exceed the benchmark, the securities of the company will be classified as Shariah non-compliant. The benchmarks are: a) the five-percent benchmark This benchmark is used to assess the level of mixed contributions from the activities that are clearly prohibited such as riba (interest-based companies like conventional banks), gambling, liquor and pork. b) The 10-percent benchmark This benchmark is used to assess the level of mixed contributions from the activities that involve the element of â€Å"`umumbalwa† which is a prohibited element affecting most people and difficult to avoid. An example of such a contribution is the interest income from fixed deposits in conventional banks. This benchmark is also used for tobacco-related activities. ) The 20-percent benchmark This benchmark is used to assess the level of contribution from mixed rental payment from Shariah non-compliant activities such as the rental payment from the premise that involved in gambling, sale of liquor etc. d) The 25-percent benchmark This benchmark is used to assess the level of mixed contributions from the activities that are generally permissible acc ording to Shariah and have an element of maslahah to the public, but there are other elements that may affect the Shariah status of these activities. Among the activities that belong to this benchmark are hotel and resort operations, share trading, stockbroking and others, as these activities may also involve other activities that are deemed non-permissible according to the Shariah. Revised screening method (2013) This revised screening method has change the benchmark level from the current level. This new revised screening method only stated two benchmarks which are 5-percent and 20-percent in order to determine the tolerable level of mixed contributions from permissible and non-permissible activities: a) The 5-percent benchmark This benchmark is used to assess the level of mixed contributions from the activities that are clearly prohibited such as riba (interest-based companies like conventional banks), gambling, liquor and pork, non-halal food and baverages, non-compliant entertainment, interest income from fixed deposits in conventional banks, tobacco, and activities that determined as Shariah non-compliant by SAC. b) The 20-percent benchmark This benchmark is used to assess the level of contribution from mixed rental payment from Shariah non-compliant activities and activities that are generally permissible according to Shariah and have an element of maslahah to the public, but there are other elements that may affect the Shariah status of these activities. Among the activities that belong to this benchmark are hotel and resort operations, share trading, stockbroking business, rental from non-compliant activities and other activities that regards as Shariah non-compliant by SAC. Islamic norms for stock screening: A comparison between the Kuala Lumpur Stock Exchange Islamic Index and the Dow Jones Islamic Market Index Kuala Lumpur Stock Exchange Shariah Index (KLSESI), as an important product of the Islamic Capital Market (ICM), was introduced in 1997 in order to provide an avenue for Muslim investors to participate in equity investments in accordance to Shariah principles. DJIM. According to Rahman, Yahya amp; Nasir (2010) screening a permissible company for investment purposes for both markets have differences due to some aspects. They had differentiated these two markets based on two criteria which are level of debt and level of liquidity of the company. According to the SC, the SAC has applied standard criteria as guidelines in determining whether the core activities of the companies listed on KLSE (before approving such company) are permissible for investment under the Shari’ah law Guidelines in determining whether the core activities of the companies listed on KLSE| For companies whose activities comprised of both permissible and non permissible elements, the SAC has set out several additional criteria| (1) Operations are based on riba (interest) such as activities of financial institutions like commercial and merchant banks, and finance companies. 2) Operations involve gambling. (3) Activities involve the manufacture and/or sale of haram products such as liquor, pork, and meat not slaughtered according to Islam. (4) Operations contain elements of gharar (uncertainty) such as conventional insurance companies. | (5) The core activities of the companies must not contravene the principles of Shari’ah as outlined in the four criteria above. Furthermore, the proportion of unlawful (haram) elements must be very small compared with the core activities. (6) The public perception or image of the company must be good. 7) The core activities of the company are important and considered maslahah (benefit in general) to the Muslim Ummah and the country, while the haram (unlawful) element is very small and involves matters such as ummu balwa (common plight), uruf (custom) and the rights of the non-Muslim community which are accepted by Islam. (8) The level of interest income received from fixed deposits in conventional financial institutions and other investments in interest-bearing accounts complies with the levels set up by the SAC. | This studies carried out found that based on debt to equity ratio of KLSE Shariah securities, 44. 07 percent of the companies are highly supported which more than 50 percent of the capital finance by debt. However, there were 25 percent companies showed debts to equity ratio of 10 percent and below. This be a sign of these companies are most likely being using equity to finance their capital. According to DJIM, in order for companies to be complied with Shariah, debt to equity ratio must equal or less than 33 percent. Next, based on liquidity ratio, 70 percent of companies under KLSE Shariah securities have liquidity less than 40 percent. This shows that most of the companies does not have significant liquid asset. But, 17 percent of the companies have high liquidity ratio that are more than 50 percent. Under DJIM, companies must have accounts receivable to total asset ratio equal to or less than 47 percent. Last but not least, the companies under KLSE Shariah securities that are analyzed in term of their fulfilment with both KLSEI and DJIM requirement simultaneously show that there are only 198 companies (35. 4 percent) which fulfil with DJIM criteria. This differences that arise on screening method for both market are due to some reasons. The reasons are due to micro-factor as faced by Malaysian companies. Capital resources are very limited in Malaysia and other countries in this region as compared to Arabian countries where institutions and individuals form the major capital providers. Thus, co mpanies in the latter countries will prefer an equity approach to finance their capital.