Sukuk? Hold that thought!

Image sourced from the Daily Trust Press Report of June 13, 2017

I once heard the managing director of a Nigeria investment bank postulate a “perception deception” theory as the culprit and the major inhibiting factor to the successful development of vibrant non-interest capital market in Nigeria. This theory essentially suggests that a lack of understanding of the principles which underlie these capital market products is responsible for the erroneous perception by the lay man, that such non-interest financial instruments as Sukuk are geared at portraying the nation as an Islamic state.

Maybe/Maybe not; Nigeria is well on its way to issuing its maiden sovereign Sukuk, and No this does not make the country an Islamic State. 

Sukuk is popularly known as an Islamic or Sharia compliant instrument and may be either asset-based or an asset-backed financing instrument. How is this different from the conventional bonds, you might ask. Sukuk issuances are typically governed by the principles of Islamic commercial jurisprudence which prohibits the charging or receiving of interest among other things. 

So unlike a conventional bond which is a contractual debt obligation with a guaranteed interest attached to repayment, the return to an investor who participates in a Sukuk issuance must be linked to the profits of an enterprise and derived from the commercial risk assumed by that investor.

Globally, Sukuk has been trending for over a decade, but in Nigeria, the possibility of a successful Sukuk issuance was tested and confirmed by the Osun State Government in 2013.

Come, June 28, 2017, the Federal Government will issue a N100Billion, 7-year, FGN Sovereign Ijarah Sukuk, the proceeds of which are expected to be deployed in the construction of key economic roads across 6 geo-political zones in Nigeria.

What does this mean in English?

Sukuk: The Federal Government should ‘ideally’ be issuing securities representing ownership of an asset or its usufruct;

Ijarah: Under this structure the issued securities should represent the ownership of well defined and existing assets which are tied to a lease contract. In a typical Ijara Structure, the obligator (in this case the FGN), sells certain assets to the SPV (FGN Roads Sukuk Company 1 Plc) at a pre-determined purchase price, the SPV finances the purchase of the assets by issuing Sukuk and applying the proceeds of the issuance. The Issuer/SPV then leases the asset back to the originator for a fixed period of time (usually the tenor of the Sukuk – in this case 7 years). The rental income from the lease, in an ideal scenario, should form the distribution to the Sukuk holders. At maturity, the FGN may have the right to purchase the assets back from the SPV at a price which would represent the redemption value for the Sukuk holders.

In 2014, the United Kingdom issued its sovereign Sukuk, and around the globe Sukuk has become the preferred option for raising alternative capital. In Africa, there have been notable Sukuk issuances by South Africa, Senegal, and the Government of Cote d’Ivoire.  Sukuk has the potential to attract funds which would otherwise remain untapped into the real sector, promoting financial inclusion, while providing an additional asset class of tradable liquid instruments for investors and ultimately linking the financial sector with the real sector of the economy. There’s more to a successful Sukuk issuance, but let’s not get technical just yet.

So, Sukuk? Have you suffered a perception deception?