For any stock to be Shari'ah compliant, it must meet all the six key criteria given below:
Screening Criteria # 1: Business of the Investee Company
The core business of the company should not violate any principle of Shari'ah. Therefore, it is not permissible to acquire the shares of the companies providing financial services on interest like conventional banks, insurance companies, leasing companies or the companies involved in some other business not approved by the Shari'ah e.g. Companies making or selling liquor, pork, Haram meat, or involved in gambling, operating night clubs, disseminating pornographic content, prostitution etc.
Screening Criteria # 2: Interest Bearing Debt to Total Assets
The Interest Bearing Debt to Total Assets ratio should be less than 37%. To understand the rationale behind this condition, it should be kept in mind that such companies are mostly based on interest. Here again, the aforementioned principle applies i.e. if the shareholder is not personally agreeable to such borrowings, but has been overruled by the majority, these borrowing transactions cannot be attributed to him / her. Debt, in this case, is classified as any interest bearing debt including Bonds, TFCs, Commercial Paper, Conventional Bank Loans, Finance Lease, Hire Purchase, issuing preference shares etc.
Screening Criteria # 3: Non-Compliant Investments to Total Assets
The ratio of Non Compliant Investments to Total Assets should be less than 33%. Non-Shari'ah Compliant Investments include investments in conventional mutual funds, conventional money market instruments, Commercial Paper, interest bearing bank deposits, Bonds, PIBs, FIB, T-Bills, CoIs, CoDs, TFCs, DSCs, NSS, derivatives etc.
Screening Criteria # 4: Non-complaint Income to Total Revenue
The ratio of Non Compliant Income to Total Revenue should be less than 5%. Total Revenue includes Gross Revenue plus any other income earned by the company. Non Compliant Income includes income from gambling, income from interest based transactions, income from Gharar based transactions i.e. derivatives, insurance claim reimbursement from a conventional insurance company, any penalty charged on late payment in credit sale, income from casinos, addictive drugs, alcohol, dividend income from above mentioned businesses or companies which have been declared Shari'ah Non-Compliant due to non-compliance to any of the mentioned criteria for Shari'ah Compliance etc.
Screening Criteria # 5: Illiquid Assets to Total Assets
The ratio of Illiquid Assets to Total Assets should be at least 25%. In terms of Shari'ah, illiquid assets are all those assets that are not cash or cash equivalents. Therefore, inventory of raw material, work in process, among all other fixed assets are considered as illiquid whereas long term investments in interest based institutions are considered to be liquid in terms of Shari'ah.
Screening Criteria # 6: Net Liquid Assets/Share vs. Market Price/Share
Market Price per share should be at least equal to or greater than net liquid assets per share. Net liquid assets per share is calculated by using the following formula:
|Net Liquid Assets per Share =
(Total Assets - Illiquid Assets - Long Term Liabilities - Current Liabilities)
Number of Shares Outstanding
Showing of Discomfort:
If the main business of the investee companies is Halal, like automobiles, textiles, manufacturing concerns etc but they deposit their surplus amounts in an interest bearing account or borrow money on interest, the share holder must express his / her disapproval against such dealings, preferably by raising his / her voice against such activities in the annual general meeting of the company and / or by sending a letter to the management in this regard.
For detailed KMI eligibility and selection criteria, please contact Islamic Financial Advisory Team of MBL on IFA@meezanbank.com or please see section 1.2 & 1.3 of the KMI-30