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HomeISFIRE Vol 11– Issue 1 February 2021Shari'a Governance: A Solution Go To Corporate Governance Problem

Shari’a Governance: A Solution Go To Corporate Governance Problem

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The reason behind the recent financial crisis was the failure of corporate governance, resulting in financial institutions suffering heavy losses. Regulators should always make sure that strong corporate governance standards are followed. Many studies have indicated a strong correlation between financial performance and good governance; however, ambiguity and irregularities are calling for the investigation of implementation because it directly affects a company’s profits, reputation, and policies, which can expose them to lawsuits, fines, goodwill damage, and loss of capital.

Corporate governance has become an integral part of the corporate world in recent years and drives much of its principles from Islam. It gained traction when a need was felt to protect the stakeholders’ rights, including the minority shareholders. Studies have been conducted on the similarities between Islamic and conventional form of governance.

The definition of corporate governance states: “it is the way the board oversees the running of a company by its managers and how they are accountable to governance from an Islamic perspective. Corporate governance is used as a fundamental tool to monitor companies’ conduct, develop investor’s confidence, recommend set of processes, customs, policies, laws, and regulations to improve a company’s performance. It is also instrumental for the proper functioning of the overall economy. Every country has its corporate governance strategies and pays close attention to their shareholders, stakeholders and the company.” However, this definition does not mention accountability to God, which is a crucial aspect of Shari’a governance.

“GOVERNANCE IN ISLAM IS FOUNDED ON THE CONCEPT OF TAWHID (ONENESS OF ALLAH) AND TAKLIF.”

The corporate governance structure helps corporations determine who makes the investment decision, what type of investment is made and how the returns are distributed. These are also the principles of Shari’a governance. However, Islamic governance structure differs from the conventional one in a manner that the rules and regulations in Islamic governance structure are derived from Qur’an.

Governance in Islam is founded on the concept of tawhid (Oneness of Allah) and taklif.

Tawhid is one of the essential pillars of Islam. Believers, who praise Allah and remember Him while standing, sitting and lying down, and also think about the creation of heavens and hells, indicate the tawhid paradigm (Al Qur’an 3:191). In another verse of the Qur’an (61:56), the dimension of tawhid’s is explained. Tawhid obligates a firm to consider stakeholders and shareholders’ interest alike. Another principle, Taklif, obligates the firm to consider everyone accountable for their deeds. Taklif is defined as “a legal charge or obligation; to entrust or charge someone with a task.”

These are also the foundational concepts in corporate governance.

The Qur’an and the Sunnah obligates every human being to practice shura (consultation). Shura provides the broadest participation of stakeholders in the affairs of the business. Shura’s group includes board of directors, management, shareholders and employees. Ijtihad and qiyas are also practised to ensure that decisions taken represent the varying needs of society. Ijtihad refers to the interpretive jurisprudence, and qiyas denotes deduction by analogy to derive Islamic legal rulings for new developments.

The Qur’an is the book that contains guidance for believers (Al Qur’an 2:3), expresses the will of Allah and shows the desired way of living for human beings. The Sunnah is what Prophet Muhammad (PBUH) practically did to set an example for all human beings. The Sunnah is the practical implementation of the teachings of the Qur’an. All Islamic laws are derived from the first two sources and further require the consensus of the jurists.

Shari’a governance at all levels in corporations brings about transparency and effective management of tasks and objectives of the organisation. Several countries have financial institutes specifically for dealing in Islamic finance (for example in Malaysia, AAOIFI and IFSB). The problem with these regulations is that they cannot be implemented globally, and neither could they be uniformly implemented in all Islamic corporations.

The concept of Shari’a governance emerged in the 19th century following the inception of Islamic banking and finance. As the number of Shari’a-compliant companies rose, it led to the formulation of corporate governance rules. No specific unified Arabic phrase has been formulated to describe Islamic Corporate Governance; everything in it begins and ends with Allah. Like in the case of interest (riba), the Quran mentions that it is harmful to the individual and society. Breeding of money is not allowed in Islam.

Shari’a Governance is divided into different tiers:

  1. In the case of a corporation its activities would be in line with the rulings and direction of Allah and Quran.
  2. Different consultative bodies are created to make the corporations’ affairs accountable to Allah and then to the investors.
  3. Society is benefited by giving alms, which is known as zakat.

“IN ISLAM’S VIEW, GOVERNANCE IS A FUNCTION OF EQUITABLE TREATMENT AND WELFARE OFALL STAKEHOLDERS AND SOCIETY”

No specific uniform Shari’a governance model is followed in Islamic corporations world over. Therefore, the Western world is still not fully aware of the benefits of Shari’a governance, which can help them attain social justice and welfare, and prevent the financial system from solely becoming a profit-seeking business.

One of the main reasons for the financial crisis and current financial issues in countries like India, is the lack of governance in corporations. Shari’a governance rules can help the economy in dealing with such crisis and all kinds of irregularities in organisations. It may be difficult to implement proper Shari’a guidelines in a country that does not follow Islamic laws, however, by implementing the main gist of the guidelines, such countries can adopt corporate governance codes enunciated in Shari’a.

Along with my co-authors, I have also developed a paper that discusses the 4Ps of Islamic corporate governance. These are people, purpose, principles and practices. By following unified accounting standards and governance codes for the Islamic financial system in countries with a predominantly Muslim population, the SSB can enhance Islamic banking and finance’s acceptance and growth.

In Islam’s view, governance is a function of equitable treatment and welfare of all stakeholders and society. The people (stakeholders, advisory board, employees, and managers) are required to achieve their purposes (vision, mission, value creation, etc.) by practising Shari’a law, keeping in mind the oneness of Allah, the principles of accountability, transparency, law and justice. However, the trend of giving conflicting Fatwas will have to be curtailed for the development of Islamic governance.

Dr Areeba Khan is a specialist in Islamic finance and banking with a doctorate from Aligarh Muslim University, India. Her areas of expertise are: Islamic Finance, Islamic Equity Indices, Sukuk, Shari’a Law, Corporate Governance and Portfolio management. She has incorporated an Islamic Robo Advisory entity in UAE (Taqwa Invest), which has obtained the innovation license from DIFC.

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