MANAMA — The Central Bank of Bahrain (CBB) has announced new Shariah governance regulations applicable to wholesale and retail Islamic banks in Bahrain. The new regulations are credit positive for investors because they will lead to a more consistent and robust system for ensuring Shariah compliance for Islamic products and most importantly sukuk issued in Bahrain, and will reduce the possibility that issuers cite non-compliance as a defense against payment.

Effective June 2018, the new regulations will make Islamic banks subject to an Independent External Shariah Compliance Audit, to ensure that all Islamic banks activities are Shariah

compliant. Additionally, all internal Shariah board rulings will be made public for banks’ clients and investors. The regulations set guidelines for banks’ internal Shariah boards: their role and

responsibility to ensure full independence from commercial activities within the bank, and to address any conflicts of interest that arise from their compensation from banks for vetting their

products. The regulations call for the presentation of the first full externally audited Shariah report in 2020 based on 2019 activities.

Islamic banks in Bahrain and other member states of the Gulf Cooperation Council (GCC) currently have their own internal Shariah boards to vet and confirm products’ Shariah

compliance. The lack of a single standard contributes to Shariah compliance risk because interpretation of Shariah principles is subjective and various schools of Islamic thought differ. This risk was highlighted in June 2017, when Dana Gas (unrated), facing financial difficulties, claimed that $700 million sukuk it issued in 2013 was non-Shariah compliant under United Arab Emirates’ law.

Based on that argument, Dana asserted that payments under this structure were not legal, leaving creditors at risk of not receiving payments or being forced to restructure on

inferior terms. Dana, which missed a profit distribution payment due in July, has filed a preemptive lawsuit in the High Court of Justice in London to protect its interests against any adverse

action from its creditors. An initial court ruling is forthcoming.

The approach to Shariah compliance in the GCC region, where banks have individual Shariah boards, contrasts with Malaysia, where there is a single regulatory authority that provides a clear and comprehensive Sukuk framework that standardizes documentation and reporting. In May, the United Arab Emirates’ cabinet approved the central bank’s creation of a centralized high Shariah

authority for Islamic finance to support its growth and development. — SG