akuntansi syariah untu asuransi

Journal of Islamic Accounting and Business ResearchDisclosure of Shariah compliance by Malaysian takaful companiesNor Aziah Abu Kasim

Article information:To cite this document:Nor Aziah Abu Kasim, (2012),"Disclosure of Shariah compliance by Malaysian takaful companies", Journalof Islamic Accounting and Business Research, Vol. 3 Iss 1 pp. 20 - 38Permanent link to this document:http://dx.doi.org/10.1108/17590811211216041

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Users who downloaded this article also downloaded:Mohamed Sherif, Nor Azlina Shaairi, (2013),"Determinants of demand on family Takaful inMalaysia", Journal of Islamic Accounting and Business Research, Vol. 4 Iss 1 pp. 26-50 http://dx.doi.org/10.1108/17590811311314276Tahani Coolen-Maturi, (2013),"Islamic insurance (takaful): demand and supply in the UK", InternationalJournal of Islamic and Middle Eastern Finance and Management, Vol. 6 Iss 2 pp. 87-104 http://dx.doi.org/10.1108/17538391311329806Maizaitulaidawati Md Husin, Asmak Ab Rahman, (2013),"What drives consumers to participate intofamily takaful schemes? A literature review", Journal of Islamic Marketing, Vol. 4 Iss 3 pp. 264-280 http://dx.doi.org/10.1108/JIMA-04-2012-0019

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Disclosure of Shariah complianceby Malaysian takaful companies

Nor Aziah Abu KasimFaculty of Economics and Management, Universiti Putra Malaysia,

Selangor, Malaysia

Abstract

Purpose This paper seeks to explore the disclosure of Shariah compliance as reported by theShariah Committee (SC) in the annual reports of takaful companies in Malaysia. Disclosure of Shariahcompliance is important in enhancing and protecting the Islamic identity of takaful operators, therebyproviding Muslims with an alternative insurance system. The paper also aims to discuss whether theadvisory role constrains the SC members to improve disclosure which can boost consumersconfidence and companies accountability. Both confidence and accountability on Shariah compliancewould also help promote Malaysia as an Islamic financial centre.

Design/methodology/approach Content analysis of the SCs reports in the 2008/2009 annualreports of seven takaful operators in Malaysia were conducted and the findings discussed with threeofficers from Bank Negara Malaysia (Central Bank of Malaysia). Subsequent to the discussion, the findingswere further clarified and confirmed with a former member of the SC through e-mail correspondence.

Findings Disclosure of Shariah compliance by the SC reflects high conformance to the Bank NegaraMalaysia guidelines. Although the high level of conformance promotes comparability, it does notnecessarily fully address disclosure issues such as providing adequate and relevant information. Shariahcompliance by takaful companies seems to develop in much the same manner as other disclosure practices,that is, a tendency to comply with rules rather than with principles. Related to the disclosure issue, SCmembers are constrained by the advisory role and part-time basis of appointment from fully participatingin every stage of product process from its conception to its implementation.

Research limitations/implications The paper relies heavily on Shariah compliance reported bythe SC in the annual reports of takaful companies. Nonetheless, findings were confirmed with three officersfrom Bank Negara Malaysia and with a former member of the SC to enhance the findings credibility. Infuture, interviews can be conducted with other stakeholders such as takaful managers, Islamic academicsand members of the SC to better understand the nature of disclosure practices by takaful companies.

Practical implications Insights drawn from this study suggest the need to enhance disclosure onShariah compliance in the SC reports and to further strengthen the role of the SC members. As Shariahgovernance mechanisms, both the SC reports and SC members can be utilised to enhance the identityof Islamic businesses and fulfils the religious obligations.

Originality/value This paper highlights the need for increased transparency through adequateand relevant disclosure of Shariah compliance information in the SC report of takaful companies. It alsoraises the concern that the advisory role entrusted to SC members might not be adequate for them toeffectively ensure that compliance with Shariah principles are adhered to at all times as expected byBank Negara Malaysia.

Keywords Disclosure, Shariah compliance, Malaysia, Takaful, Islamic identity, Governance

Paper type Research paper

1. IntroductionTakaful or Islamic insurance in Malaysia is legally defined as a scheme based onbrotherhood, solidarity and mutual assistance which provides for mutual financial aidand assistance to the participants (Takaful Act, 1984, p. 6). This definition highlightsthe Islamic principle of takaful whereby a group of participants agree to reciprocally

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Journal of Islamic Accounting andBusiness ResearchVol. 3 No. 1, 2012pp. 20-38q Emerald Group Publishing Limited1759-0817DOI 10.1108/17590811211216041

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guarantee each other against a certain loss or damage. In addition, the Act (p. 6) definestakaful as a business whose aims and operations [. . .] do not involve any element whichis not approved by the Shariah. As an Islamic insurance, compliance with Shariah rulesand principles is the cornerstone, as it is undoubtedly the distinctive characteristic thatreflects the Islamic identity of takaful business (Bank Negara Malaysia, 2007).

According to Arabian Business, the global takaful market is predicted to reachUS$14.5 billion and grow by 20 percent per annum by the year 2015 (Ishak, 2007). Thishigh growth rate can be attributed to several factors, such as increase in per capita GDP,consumers awareness as well as greater desire for Shariah-compliant products andservices (Bowman, 2008). Currently, takaful businesses are not geographically dispersedand they tend to concentrate mainly in Muslim-dominated countries (Ishak, 2007). WithinMalaysia, the takaful market was only about 7 percent in 2007 compared to 39 percent inthe case of its conventional counterparts (Malaysian Takaful Association, 2008).

Takaful consumers confidence on the product is dependent on two criteria first, theoperations of the business must fully comply with Shariah principles and second, theconsequential wealth and financial progress of the takaful operators[1] need tobe disclosed. Information on Shariah compliance is imperative in influencing buyingdecisions amongst Muslims, increasing their understanding of their religion, improvingtransparency for enhancing governance, and protecting the Islamic identity of takafuloperators. Furthermore, Shariah compliance can be used as a weapon by takafuloperators to expand their market base and compete against their counterparts.

Given the importance of Shariah compliance, this paper explores the disclosure ofShariah compliance as reported by the Shariah Committee (SC) in the annual reports oftakaful companies in Malaysia. It aims to provide insights as to whether currentShariah-compliant disclosure practices by the takaful operators are able to meet thedemands of relevant parties to help them make religious and economic decisions. It alsoexamines whether the advisory role entrusted by Bank Negara Malaysia (BNM) to SCmembers is adequate to enable them to provide Shariah compliance disclosure that isuseful and relevant.

This paper contributes to the dearth in literature on Shariah compliance in the takafulindustry in Malaysia. The findings suggest that the SC reports lack detailed informationto explain the extent of (non) compliance. The current practice of disclosure appears to bedriven more by conformance to rules rather than fulfilling the role of governance andaccountability. An important insight of this study is that members of the SC, as advisors,faced constraints and challenges to effectively ensure that compliance with Shariahprinciples are adhered to at all times as expected by BNM.

The rest of the paper is organised as follows. Section 2 presents an overview of thetakaful industry in Malaysia and Section 3 elucidates the significance of Shariahcompliance. Section 4 describes the research method. Section 5 discusses the findingsbased on the SC reports in the annual reports and Section 6 discusses the adequacy ofthe SCs role. The final section concludes and provides some recommendations as wellas addresses the limitations and avenues for further research.

2. Overview of Takaful industry in MalaysiaOn 15 June 1972, the Fatwa Committee of the National Council for Islamic ReligiousAffairs Malaysia issued a fatwa[2] that conventional life insurance contradicts theShariah or Islamic rules[3]. A similar decree that rule the conventional insurance as

Disclosureof Shariah

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haram or unacceptable was made by the Council of Islamic Fiqh Scholars in 1975[4].The reason why conventional insurance is considered haram[5] (unacceptable and notpermissible) is due to the presence of three elements: Gharar (uncertainty), Maisir(gambling) and Riba (usury). Gharar refers to the uncertainty attributed to the insuredoften not being informed as to how the amount of compensation paid is derived. Maisirrefers to the element of gambling arising as a consequence of the presence of gharar.The notion of Riba refers to the interest paid in money lending or investing activitieswhere the money invested or loaned generates money as principal of service. In Islam,riba or interest is forbidden as it concentrates wealth and promotes inequality throughexploitation (Tomkins and Abdul-Karim, 2005). Thus, the motivation for introducingthe Islamic insurance system in Malaysia is to comply with the Shariah by eliminatingthose three elements which are not permissible in Islam. The fatwa acts as a catalystfor the development of an Islamic-compliant alternative to the conventional insurancefor Muslims in Malaysia.

In 2009, the takaful industry in Malaysia celebrates its 24th anniversary. Thedevelopment of the takaful industry in Malaysia evolves over three phases (BankNegara Malaysia, 2005). Phase 1 (1984-1992) established the basic infrastructure for theindustry while Phase II (1993-2000) enhanced regional cooperation amongst takafuloperators. The final phase (2001-2010) introduced the Financial Sector Masterplan(FSMP) to enhance the capacity of the takaful operators and to strengthen the legal,Shariah and regulatory framework for takaful.

The takaful industry is an important industry in the Malaysian economy as it willhelp towards realising the aim to make Malaysia as an international Islamicfinancial center. The Governor of BNM, who is also the Director-General of Takaful,stated the aim of developing the takaful industry in Malaysia to be as follows:

The aim is to create progressive world-class takaful operators that are able to successfullyposition themselves as leaders in the area of takaful and thereby positioning the developmentof Malaysia as the international Islamic financial centre (Bank Negara Malaysia TakafulAnnual Report, 2005, p. 9).

In line with the objective to promote Malaysia as the Islamic financial hub, competitionin the takaful market becomes increasingly intense over the years especially with theaddition of three new takaful operators in 2006. In 2008, there were eight takafuloperators in Malaysia as listed below:

(1) Syarikat Takaful Malaysia Bhd Annual Report (2008)[6].

(2) Etiqa Takaful Berhad Annual Report (2008).

(3) Takaful Ikhlas Sdn Bhd[7] (2003).

(4) CIMB Aviva Takaful Bhd Annual Report (2005).

(5) Prudential BSN Takaful Berhad Annual Report (2009).

(6) HSBC Amanah Takaful (Malaysia) Sdn Bhd Annual Reports (2008).

(7) Hong Leong Tokio Marine Takaful Bhd Annual Report (2009).

(8) MAA Takaful Bhd (2007).

Despite the importance of the takaful industry, the Malaysian Takaful Association(2008) has reported only a steady increase in the percentage of market penetration over

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the years: 4.5 percent (2003), 5.1 percent (2004), 5.6 percent (2005), 6.5 percent (2006) and7 percent (2007). Notwithstanding its steady growth, takaful operators performance isstill relatively insignificant compared to that of conventional insurance (Bank NegaraMalaysia, 2005). In addition, the 7 percent market share remains far from the target setby BNM of 20 percent market penetration by the year 2010 (Halim, 2008).

The takaful operators face challenges in terms of both capital and expertisedevelopment (Bowman, 2008). Other hurdles that impede the achievement of a highermarket penetration of takaful include lack of players, product, market awareness, lowcapitalisation of takaful companies, absence of an established Re-Takaful (reinsurance),poor culture of consumer education, a misconceived religion and inconsistent messagesfrom some Shariah advisories (Parker, 2006). As will be discussed in the next section,Shariah compliance can be utilised by the Malaysian takaful operators as a competitiveadvantage to increase the current low market penetration relative to their counterparts.

3. Significance of Shariah complianceShariah can be literally translated as the way or path which governs every aspect ofa Muslims life[8]. Shariah comprises a set of Islamic rules, principles and parameters.Muslims hold that the Holy Quran contains the revealed words of God and the Hadithreveals the practices and traditions of the Prophet Muhammad. The Holy Quran is themost important source of Shariah. For matters which are not addressed explicitly bythe Holy Quran and the Hadith, other sources of Shariah include Ijma, whichrepresents the consensus reached by Islamic scholars, Qiyas or ruling by analogy if theprecedence exists, and Ijtihad or legal reasoning, will be referred to.

Although it is not a finite standard, some parts of Shariah are quite specific andrequire no further interpretation. Others can be of wider application and take the formof principles and guidelines. Thus, sometimes Shariah is subjected to a further processof interpretation and may result in multiple interpretations. In modern businessenvironment, the challenge for Islamic scholars is to interpret Islamic principlesin a manner that meets the modern day requirements but at the same time does notjeopardise the protection and promotion of the Islamic identity.

The distinguishing feature of takaful is that it is a commercial venture which should beundertaken in accordance withShariahprinciples. Thus, for takaful business to become aviable and the preferred alternative in the present competitive business environment, itsimplementation must comply with Shariah rules. The importance of Shariah in businessis its emphasis on justice, goodwill and honesty and its prohibitions on uncertainties,exploitation and fraud (Hamid et al., 1993). Shariah commands Muslims to conduct theirbusiness in a manner which is ethical, environmentally friendly and socially responsible.Although the pursuit of profit is not forbidden, it cannot be pursued at the expense of theunderpinning virtues of takaful which include cooperation, social guarantee, mutualprotection, mutual risk sharing and solidarity. These virtues suggest that takafulinstitutions are established for a wider purpose than simply to make profit.

Dawood (2008) advocates that it is important for business to comply with Shariah inorder to meet the growing demand for Shariah-compliant products due to the growingMuslim population and increasing awareness on the importance of Shariahcompliance. For Muslims, Shariah compliance in business is a spiritual necessity inorder to purify the income earned and expenditure incurred. Non-compliance has anadverse impact on revenue of the institution as revenue earned from unlawful


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transactions is to be given away as donation or charity[9]. Shariah compliance reflectsthe purity factor of transactions and as such, enables Muslims to fulfill their religiousobligations by choosing takaful as their preferred or alternative insurance product. Inother words, as a Shariah-compliant insurance scheme, takaful provides a unique nichethat can satisfy the needs of Muslims desiring halal (permissible) insurance products.In this respect, the takaful products are not direct substitutes to the conventionalinsurance since the niche can be used to gain competitive advantage.

Haniffa and Hudaib (2007, pp. 102, 112-3) identify the following information to berepresentative of the ethical identity of Islamic banks in the area of Reviews byShariah Supervisory Board. Ideally, the banks are expected to disclose the followinginformation in their annual reports:

. Names, pictures/profile and remuneration of members.

. Number of meetings held.

. Examination of all business transactions ex ante and ex post and basis ofexamination of the documents.

. Examination of a sample of business transactions ex ante and ex post.

. Report defects in product: specific and detailed.

. Recommendation to rectify defects in product.

. Action taken by management to rectify defects in product.

. Attestation that profits are gained lawfully.

. Distribution of profits and losses comply to Shariah.

. Report signed by all members.

In another study by Maali et al. (2006), Islamic banks are expected to disclose detailedinformation on unlawful or haram transactions. When full compliance is not achieved,the nature and the reasons for the necessity of undertaking such transactions, theamount of revenue or expenditure involved and how such revenue was disposed needto be disclosed. The disclosure should also include the rectification done to preventfuture occurrences of non-compliance.

Although the studies conducted by Haniffa and Hudaib (2007) and Maali et al. (2006)deal with Islamic banks, their insights are very useful to improve disclosure in the SCreport of the takaful operators. Improving disclosure on Shariah compliance isimperative not only to differentiate amongst the takaful operators themselves but alsowith that of the conventional insurance companies.

4. Research methodAgainst the background of the importance of both Shariah compliance and itsdisclosure, this paper explores the information disclosed in the reports by the SC in theannual reports for the year 2008/2009 of seven takaful operators in Malaysia, namely:Syarikat Takaful Malaysia Bhd, Etiqa Takaful Bhd, Takaful Ikhlas Sdn Bhd, CIMBAviva Takaful Bhd, Prudential BSN Takaful Bhd, HSBC Amanah Takaful Sdn Bhd,and Hong Leong Tokio Marine Takaful Bhd[10]. Table I shows the list of seven takafuloperators together with their brief profile.

Out of the seven takaful operators, five are formed as joint ventures with establishedinternational or foreign institutions. Not all takaful operators are profitable

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Table I.Brief profile of takafuloperators in Malaysia


compliance

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in 2008/2009, especially, the new operators such as Prudential BSN Takaful Berhad,HSBC Amanah Takaful Sdn Bhd and Hong Leong Tokio Marine Takaful Bhd. In termsof size measured by total assets, Etiqa Takaful Bhd leads the list followed by SyarikatTakaful Malaysia Bhd with total assets of MYR5 billion and MYR4 billion, respectively.

There were variations in the disclosure on SC members three operators, CIMBAviva Takaful Bhd, HSBC Amanah Takaful Sdn Bhd and Hong Leong Tokio MarineTakaful Bhd, neither provided specific information on SC members nor the number ofmeetings held, while Syarikat Takaful Berhad provided names, pictures and briefprofile of the SC members. Etiqa, Takaful Ikhlas and Prudential BSN mentioned thenumber of SC meetings held per financial year which ranged from five to sevenmeetings. Etiqa Takaful called its SC the Advisory Shariah Board and Hong LeongMarine Takaful Bhd used the term Advisory Shariah Committee. The inclusion of theword advisory better reflect the role of SC members as advisors.

Table I shows that the independent auditors for the takaful operators were KPMG,Ernst & Young (E&Y), and PricewaterhouseCoopers (PwC) which are classifiedas the Big Four audit firms. KPMG audited three out of the seven takaful operatorswhile the remaining two firms audited two takaful operators each. Although the BigFour has been associated with higher quality audit work (Francis and Yu, 2007;Hussainey, 2009), their responsibility remains at providing reasonable assurance oncompliance with generally accepted accounting principles rather than with Shariah.In Malaysia, independent audit on Shariah matters is not mandatory whichsuggests that SC report is relied upon as an important channel of communication toincrease awareness and provide information on Shariah compliance to a variety ofstakeholders.

This study does not investigate the actual practices of Shariah compliance withinthe takaful institutions but it draws only on the information communicated in thereport of the SC in their annual reports. To examine the actual practices on Shariahcompliance would require the use of in-depth case study approach. Nonetheless, thechoice of using the annual report is justified because it is expected to be potentiallyinfluential due to its widespread distribution; accessibility for use by researchers andits usefulness for a wide variety of external stakeholders such as customers, regulatorsand the public (Haniffa and Hudaib, 2007).

The SC reports of each of the seven takaful operators were examined and comparedwith the SC report as mandated by the BNM guidelines on financial statements. Theguidelines are useful as they set out the minimum disclosure requirements andprovide the following format and wording for inclusion in the report of the SC:

Report of the Shariah committeeWe, ZZZ and YYY being members of the Shariah Committee of the MODEL TAKAFULBERHAD do hereby confirm on behalf of the members of the Committee that in our opinionthe operations of the Companys business for the period January 20x4 to 31 December 20x4have been conducted in conformity with the Shariah requirements.

On behalf of Committee

ZZZMemberYYYChairman

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Although this paper relies heavily on annual reports, it also seeks further clarificationand confirmation on the findings through a discussion held with three officers fromBNMs Insurance and Takaful Supervision Department whose role is to monitor theoperations of takaful based on the rules established by BNM, and to oversee thatrelevant information on Shariah compliance for customers decision-making isadequately disclosed (Ishak, 2007; Yap, 2007). The purpose of this discussion is tohighlight the findings on the comparison between the SC reports and the requirementsof the guidelines. An e-mail correspondence with questions especially related to the roleof the SC as advisor was sent to an ex-member of the SC for further clarification andconfirmation. Both the discussion on the disclosure on Shariah compliance and thefeedback received on the role of the SC enhanced the credibility of the findings. Forsuggesting future improvements in disclosure, insights were drawn from the workdone by Haniffa and Hudaib (2007) and Maali et al. (2006).

Institutional theory (Meyer and Rowan, 1977) is useful to help explain why thedisclosure in the SC reports is as it is. Institutional isomorphism (DiMaggio and Powell,1991) is the mechanism through which an organisation adopts practices that arecommon to other organisations facing the same institutional pressures. DiMaggio andPowell (1991) classify the type of isomorphism according to the source that theinstitutional pressures emanate from. Coercive isomorphism is primarily related to theconformance of organisational behaviour with the political and regulative influencesexerted by institutions such as, the government regulator through its regulations,policies and directives. Mimetic isomorphism refers to copying the practices ofsuccessful, similar organisations for reducing uncertainty, and normative isomorphismmeans complying with the expectations and norms of society and professional bodies.

The abovementioned isomorphisms constitute the three means through whichorganisations can change to become similar to other firms through first, followingrules and legislations; second, copying best practices; and finally, conforming to socialnorms and expectations. Scott (2001) provides reasons for conformance to be toenhance legitimacy, reduce fear of threat and hope for additional resources. Due to thesimilarity of the SC reports, not only with the BNM guidelines but also with that ofother takaful companies, the concept of isomorphisms drawn from the institutionaltheory is useful and is used in this paper for discussing the findings.

5. Findings and discussionThe BNM guidelines on financial statements for takaful operators[11] aim to promotedisclosure and transparency as well as standardisation of financial statements. Theguidelines have been enforced since 2004 and are applicable to takaful operatorsregistered under the Takaful Act (1984) for preparing their financial statements asmandated by the Companies Act 1965. An important requirement of the guidelines isthe inclusion of the report on Shariah compliance by the SC in the annual report[12].Thus, the annual report becomes a means to disclose information about the takafuloperators distinctive compliance with Shariah tenets (Grais and Pellegrini, 2006) andto increase public awareness of Shariah compliance.

A comparison of the SC reports with the BNMs guidelines on financial statementsfor takaful operators revealed that all, with the exception of one, reflected highconformance (to the extent that it was almost a verbatim reproduction). As a result, thesix SC reports were not only standardised, provided minimum disclosure but also


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tended to be wholly driven by the imperative to conform to the rules, specifically by therelevant BNM guidelines. Six takaful operators had two SC members signed the reportsbut one operator, Prudential BSN Takaful Bhd, had only one SC member signed thereport. This variation suggests that not all members of the SC, which ranges from threeto seven members, in all the seven takaful companies signed the reports.

The excerpts of the SCs reports, with very similar content, for six takaful operatorsare reproduced in Table II below.

Unlike the other six takaful operators, Hong Leong Marine Takaful Bhd differedfrom the rest in terms of the content of its SC report. First, it highlights that the reviewon Shariah compliance was conducted for products introduced during the stipulatedyear. Second, the report clearly stated that the companys management, not the SC, wasresponsible for ensuring that the company conducted its business in accordance withShariah rules. Third, their opinion was based only on the information made availableto them by the company. Thus, they could only advise on matters and issues that werebrought to them for deliberations. Fourth, with these caveats, their opinion shouldprovide only reasonable assurance that the company has not violated the Shariahrules. The excerpt of the report for Hong Leong Tokio Marine Takaful Bhd AnnualReport (2009, p. 16) as it appeared is as below:

In the name of Allah, The Beneficent, The Merciful

To the Shareholders of Hong Leong Tokio Marine Takaful Berhad,

In compliance with the letter of appointment, we are required to submit the following report:

We have reviewed the principles and the contracts relating to the transactions and applicationsintroduced by the Company during the financial year ended 30 June 2009. We have alsoconducted our review to form an opinion as to whether the Company has complied with Shariahrules and principles and with the specific fatwas, rulings and guidelines issued by us.

The Companys management is responsible for ensuring that the Company conducts itsbusiness in accordance with Shariah rules and principles. It is our responsibility to form anindependent opinion and report, based on our review of the operations of the Company.

We performed our review on the basis of information and explanations provided to us whichare deemed essential together with sufficient evidence to give reasonable assurance that theCompany has not violated Shariah rules and principles.

In our opinion:

(a) the contracts, transactions and dealings entered into by the Company during the financialyear ended 30 June 2009 that we have reviewed are in compliance with the Shariah rulesand principles;

(b) the main sources and investments of the Company disclosed to us conform to the basisthat had been approved by us in accordance with Shariah rules and principles;

We beg Allah the Almighty to grant us all the success and straight-forwardness.

ASSOC. PROF. DR. AB. MUMIN AB. GHANI Chairman Shariah Advisory Committee.

ASSOC. PROF. DR. MUHAMAD RAHIMI OSMAN Member Shariah Advisory Commitee.

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Table II.Report of the ShariahCommittee in annual

report


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Unlike others, the SC report of Hong Leong Marine Takaful Bhd did not conform to theexact wording and format as stated in the BNM guidelines. Although the report was notverbatim, the SC has not violated the BNMs requirements because the report has providedreasonable assurance that the company has not violated Shariah rules and principles.Hong Leong Marine Takaful Bhd is a joint venture between Hong Leong Financial GroupMalaysia and Tokio Marine Nichido Fire Japan. Ethnically, it is owned by Chinese andJapanese, respectively. Perhaps, the peculiarity in ethnicity ownership, which is Chineseand Japanese, respectively, might contribute to a more detailed report which even remindedthat the management rather than the SC has the responsibility to comply with Shariah.

In general, the disclosure in the reports of the SC contained a sentence which wasintended to confirm compliance. The term Statement of SC used by Takaful Ikhlas SdnBhd befits the content of the report as it contained only a statement to informconformance. Although the disclosure is brief, it still reflects a high compliance with andalmost a verbatim reproduction of the report as set out in the BNM guidelines onfinancial statements for takaful operators. In this respect, the disclosure of informationtends to be driven by regulations or rules rather than principles. As such, the disclosureon Shariah compliance in the report by SC tends to be mandatory rather than voluntary.

Drawing insights from institutional theory, conformance due to regulatorypressures, such as the BNM guidelines demonstrates coercive isomorphism. Thetakaful companies comply because of the coercive nature of the regulation, and tominimise the threat that the BNM may withdraw their license to operate. Since there ishigh similarity in the SC reports between the takaful operators, conformance is also dueto following the norms or normative isomorphism. Furthermore, there appears to bemimetic isomorphism with the operators imitating the practices of others to reflect theappropriate way of organising to enable them to secure legitimacy and resources, andto avoid the fear of negative sanctions (Meyer and Rowan, 1977; DiMaggio and Powell,1991; Scott, 2001). Thus, isomorphisms driven by the rules, norms or imitation resultedin several potential benefits for the takaful operators.

Given that the BNM guidelines set out the minimum disclosure requirements, thedisclosure by the seven takaful organisations, at best, achieves only the minimum level ofdisclosure. Merely meeting the minimum disclosure as part of the mandatory requirementhas resulted in standardised and very brief reports. These reports are comparable butunable to detail the extent of Shariah compliance for the external stakeholders to assessthe performance of the takaful operators on Shariah compliance matters. The limitedinformation may not facilitate the operators to achieve the purpose of organisationaltransparency and stakeholder engagement or dialogue (Hess, 2007).

The overriding concern with compliance to the relevant BNM guidelines do notaugur well with the importance of being transparent to help the external stakeholdersincluding consumers, investors and participants make religious and economicdecisions. More importantly, the minimal information makes it difficult for investors tohold the takaful operators accountable for their management of the business inaccordance with the spirit of Shariah. Although these reports met the aim of BNMguidelines for promoting standardisation, they failed on the aims for enhancingdisclosure and transparency. In this context, the reports of the SC are limited in itsfunction as a governance (accountability) mechanism. More disclosure is neededespecially when the operators are currently not mandated to have an external andindependent review of Shariah compliance.

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Besides its limited use for accountability purposes, the brief nature of the SC reportalso failed to address the following pertinent questions on compliance to Shariah:

. Does the SCs statement mean that there is full Shariah compliance in all aspectsof business operations and transactions?

. What are the activities that have been conducted prior to arriving at theconfirmation?

. To what extent is the SC involved in decision-making relating to Shariahcompliance and how have their decisions been implemented in the daily operations?

. In the event of non-compliance, has any explanation on its occurrence and theactions taken to rectify, resolve and prevent similar future occurrences beenprovided?

. Has the distribution of profits and losses been made entirely in accordance to theShariah?

The above questions are not intended to be exhaustive but they serve to highlight thenecessity and perhaps the urgency to make the SC report more informative. Besidesaddressing the above questions, the disclosure can be further improved by includingthe expected information drawn from Haniffa and Hudaib (2007, pp. 102, 112-13).

6. Discussion of findings regarding the role of SCAs mentioned earlier, the information on Shariah compliance is imperative ininfluencing the buying decisions amongst Muslims, increase their understanding of theirreligion, protecting the Islamic identity of takaful operators, and improvingtransparency for strengthening corporate governance. As a means of strengtheningcorporate governance, especially with regard toShariahmatters, BNM issued guidelineson the governance of the SC for Islamic financial institutions[13] which have beenenforced since 1 September 2005. Essentially, the guidelines require the establishment ofthe SC and demand for more transparency.

Malaysia implements a two-tier SC system (Bank Negara Malaysia, 2007). Thefirst-tier is the Shariah Advisory Council (SAC) of BNM which was officially launchedon 1 May 1997. The second-tier is the SC within the takaful operators institutions. TheCentral Bank of Malaysia Act 1958 and the Takaful Act (1984) were amended in 2003to reinforce the role of the SAC and also to provide legal recognition as an authoritativebody on Shariah matters relating to Islamic banking and finance. The SAC is thehighest authority that can issue authoritative opinions or edicts on Islamic insurance. Ithas the authority to harmonise any differences of Shariah interpretation for matterswithin its jurisdiction.

The SAC is made up of 11 members and is led by the Chairman who is assisted byhis deputy. The appointment tenure for each member is for two years with thepossibility of extension. In practice, the appointment duration of the member variesfrom two to ten years. It is also noted that the same SAC caters to the Shariah needs ofboth the Islamic banking and takaful industries. The Takaful Act (1984), however, doesnot provide for the resolution of disputes between takaful companies and theircustomers. This is governed by the civil law because jurisdiction of the Shariahcourt is still limited to matters of personal and family law and only over Muslims(Connors, 1988).


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The Director General of Takaful is the Governor of BNM. As a consequence, thetakaful operations are subjected to the supervision and regulation of BNM through theenactment of the Takaful Act (1984). With regard to Shariah compliance, Section 8 ofthe Takaful Act (1984, pp. 10-11) states that:

The Director General shall also refuse to register an applicant unless he is satisfied thatthere is in the Articles of Association of the takaful operator concerned provision for theestablishment of a Syariah advisory body, as may be approved by the Director General, toadvise an operator on the operations of its takaful business in order to ensure that it does notinvolve in any element which is not approved by the Syariah [. . .]

Each SC must comprise between three and seven members, appointed with theapproval of the BNM for a renewable term of two years; has one elected Chair for atwo-year term, and a minimum of one officer who will be the secretary to the SC. Basedon the titles to the names of the SC members in the annual reports for the year2008/2009, the majority are academics from local institutions of higher learning.

The Takaful Act (1984) therefore, legally mandates the formation of SC to be anin-house religious advisor on Shariah matters for takaful institutions. The SC isexpected to provide day-to-day advice and guidance to ensure that all takaful activitiescomply with Shariah. It is a mechanism to enhance and ensure that Shariah iscomplied with as the SC is entrusted with the responsibility to:

[. . .] ensure that the business operations of a takaful operator are in compliance with Shariahprinciples at all times (Bank Negara Malaysia, 2005, p. 5).

From the legal perspective, ensuring Shariah compliance at all times is not easy giventhat the mandatory role of SC is only as advisors. As advisors, they do not have the legalpower to enforce. Without such power, the SC has to sometimes rely on the power ofmoral persuasion[14]. This limited role is explained further by an ex-member of the SC:

Under the law, SC members are not the company directors of the takaful operator, SC membersare merely advisors to ascertain Shariah-compliant ONLY on matters which the takafuloperator requests the SC members to deliberate. SC as a body has no legal power under theCompanies Act 1965. Its legal existence is derived only from the requirement under the TakafulAct (1984) but not much is mentioned about its powers and jurisdictions. As such, its role ismerely advisory upon requests. If no request is made, the SC does not deliberate.

As the SC reports were very brief, it gave the impression that all transactions havebeen examined and certified to be Shariah-compliant with no instances of Shariahnon-compliance. Detailed information on compliance is desirable but might not beachievable since the SC members are appointed on a part-time basis. Due to thispart-time nature of appointment, it can be expected that members of the SC areconstrained by time to fully participate in the process of ensuring Shariah complianceand to be fully involved in every stage of the product process from its conception to itsimplementation. In addition, it is contestable that management will bring to theattention of the SC every matter with Shariah implications. Even if it does, it is equallycontestable that there is sufficient time for the SC to be extensive in its examination.The SC report should include any caveat that will enable the investors and public tohave a better understanding of the role played by the SC in confirming compliance.

The BNM guidelines on the governance of SC for Islamic financial institutions requireShariah-compliant endorsement from the SC as part of the approval procedures for any

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new takaful product. It appears that the endorsement is required merely at the productlaunching stage. From this perspective, members of the SC play an effective role only atthe approval stage of new products. Therefore, there is a need to not only explain theextent of involvement but also to increase the participation of the SC members in theprocess of establishing rulings on Shariah compliance. For strengthening internalcorporate governance, the SC can play an extended role to certify permissible financialinstruments (those that are in accord with Islamic precepts) thereby verifying whethertransactions comply with fatawa, dispose non-Shariah compliant earnings and adviseon distribution of income among shareholders (Grais and Pellegrini, 2006). In thisregard, if the existing advisory role is extended, the SC functions somewhat as anextension of the normal audit committee.

7. ConclusionThis study examined the disclosure on Shariah compliance as reported by the SC in theannual reports for the year 2008/2009 of seven takaful companies. It addresses the issueof whether the current disclosure sufficiently captures the underlying philosophyand principles of the takaful business. In addition, it discusses the adequacy of theadvisory role played by the SC members for assessing and reporting on Shariahcompliance.

One limitation of the research is its heavy reliance on the annual report as evidenceof public disclosure on Shariah compliance. This limitation should be borne in mindwhen evaluating the findings and suggestions of this study. Interviews can beconducted with other stakeholders as mentioned earlier. A review of internaldocuments on Shariah compliance is also useful. These mixed methods of datacollection should provide a more holistic understanding on how and why the presentdisclosure is as it is. Findings from such a research are more in-depth, thereby usefulfor providing more meaningful suggestions for future practices.

Arguably, Shariah compliance has developed in much the same manner as otherdisclosure practices, that is, compliance with rules rather than with principles. Whilethe distinctive and confidence feature of takaful business draws heavily on Shariahcompliance to be reported by the SC through the annual report, evidence suggests thatit fails to do so. As it is, there is a lack of information to facilitate investors and otherexternal stakeholders to make well-informed decisions and to enable them to ascertainwhether takaful is indeed a Shariah-compliant insurance. To move forward inimproving disclosure, information as suggested by Haniffa and Hudaib (2007) andMaali et al. (2006) can be considered for inclusion in future studies.

In spite of the BNMs expectation that SC members ensure compliance at all times,their role is only as advisors. As advisors, they had to rely on moral persuasion whichis inadequate to ensure compliance as expected by BNM. Without first strengtheningthe role of the SC, the SC reports will continue to be very brief and highly motivated bythe need to show conformity with BNM guidelines.

This paper, which discusses the disclosure of information on Shariah compliance,should be useful for educating the public in general and the investor in particular on theimportance of Shariah-compliant rulings by the Shariah advisories for takaful business.This paper suggests that more transparency is needed through more disclosure in thereports of SC and highlights the concern that the advisory role is inadequate to enablethe SC members to effectively ensure Shariah compliance.


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List of abbreviations

BNM Bank Negara MalaysiaMTA Malaysian Takaful AssociationFSMP Financial Sector MasterplanSC Shariah CommitteeSAC Shariah Advisory Committee

AcknowledgementsThe author would like to record sincere gratitude to three officers: Zulkepli Saad,Azizul Azman Abd Shukor and Afiza Abdullah from the Insurance and TakafulSupervision Department of Bank Negara Malaysia for their involvement in thediscussion of the findings. The author would also like to thank Professor Frank Clarkeand Associate Professor Hashanah Ismail for all their support and assistance. Finally,this paper would not be possible without the comments and feedback from ProfessorRos Haniffa. However, any errors or omissions in this paper rest solely with the author.

Notes

1. Operators or companies are used interchangeably.

2. Shariah decrees pronounced by a Shariah scholar or religious authorities (plural: fatawa).

3. Information is obtained from the presentation entitled Introduction to Takaful Operationsby an officer from BNM on 17 July 2008.

4. Information from WBS3043 Chapter 7, wwm.edu.my/alib/wbs3043/wbs/304c7 (accessed15 December 2008).

5. Unlawful transactions which are not permissible under Shariah.

6. The word Bhd indicates that the company is formed as a public limited company and listedon the Main Board of Bursa Malaysia.

7. Sdn Bhd indicates that the takaful operator is a private limited company. Unlike the publiclimited company, the shares of the company are not offered for sale to the public.

8. Shariah is the path or way given by God to human beings, the path by which human beingssearch Gods Will (refer to www.musawah.org/glossary.asp).

9. Based on undated presentation by Ansari (2008).

10. The eighth takaful company, which is MAA Takaful Bhd, was excluded due tounavailability of its on-line annual report. Consequently, this paper examines seven SCreports.

11. JPIT/GPT6 BNM Guidelines on financial statements for takaful operators.

12. However, this report is not required to be part of consolidated financial statements fortakaful operators which are subsidiaries of public-listed company.

13. BNM/DFI/GPS 1 Guidelines on the Governance of SC.

14. The word moral persuasion was used by an officer from BNM during an informalconversation when he was asked about the role of SC within takaful organisations.

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Further reading

Alhabshi, S.M. (2006), Financial reporting of Islamic financial institutions: issues and challengesfor transparency, disclosure and governance, paper presented at XVII World Congress ofAccountants, 16 November, Istanbul, Turkey.

Bank Negara Malaysia (2004a), BNMGPS/1 Guidelines on the Governance of Shariah Committee,Central Bank of Malaysia, Kuala Lumpur.

Bank Negara Malaysia (2004b), JPIT/GPT 6 Guidelines on Financial Statements for TakafulOperators, Central Bank of Malaysia, Kuala Lumpur.

Hameed, S. (2001), Islamic accounting accounting for new millennium?, paper presented atthe Asia-Pacific Conference on Accounting I, 2 October, Kota Bharu, Kelantan, Malaysia.

MNRB Holding Berhad Annual Report (2009), available at: www.mnrb.com.my/investorINFO/annual.asp (accessed 1 March 2011).

Tati, A. (2007), The role of pure retakaful operators versus conventional reinsurers: envisioningthe future, paper presented at International Takaful Summit, 2 November, London, UK.

About the authorNor Aziah Abu Kasim is an Associate Professor at the Faculty of Economics and Management,Universiti Putra Malaysia. Nor Aziah Abu Kasim can be contacted at: [email protected]

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