corporate governance of the islamic financial services industry in

Corporate Governance of the

Islamic Financial Services Industry in Brunei Darussalam

Dr. Abul Hassan1

Dr. Abdelkader Chachi2

Abstract

Islamic banks and takaful institutions play a key role in the economy of Brunei Darussalam because they are core set of the financial sector. It is therefore, important for customers to have confidence in both Islamic banks and takaful sectors in Brunei Darussalam. This is possible by ensuring compliance with good governance. Keeping in view, this study investigates the practices of corporate governance of Islamic financial service industry in Brunei Darussalam with a view to assess the level of compliance. The study has also focused the role of Shari‘ah Supervisory Board (SSB) and how it adds value to the Board of Directors as well as to the corporate governance in the context of the Islamic financial institutions (IFSs). The main aim of this study is to bring in the research arena the state of corporate governance in the Islamic financial institutions of Brunei Darussalam drawing from data of Islamic banks and Islamic Takaful companies. 1. Introduction

The banking and other non-banking financial institutions play a key in the economy of Brunei Darussalam. They provide a platform to facilitate the intermediation process in the financial system and any disruption in this process will undoubtedly have catastrophic effect on the economy of Brunei. For this reason, stakeholders in the financial arena have strong interest in the governance of the financial system.

In 1997 and 1998, a combination of internal and external shocks led to a contraction of the economy in Brunei Darussalam. Then, after nearly two years of economic stagnation occasioned by the Asian economic slowdown and low oil prices, Brunei’s economy has picked up. Question may be raised that why this crisis happened. Some of the studies found that these crises were accrued to many underlying factors, but in 1 Lecturer and Research Fellow, Markfield Institute of Higher Education, Ratby Lane, Markfield, Leicestershire LE67 9SY(UK), [email protected] 2 Assistant Professor in Islamic banking and finance, King Abdul Aziz University, Jeddah, Saudi Arabia; [email protected]

Journal of Islamic Economics, Banking and Finance 40

all these cases the main factor was poor governance (Morck, 2004; Murphy, 2004). In spite of this crisis, Islamic financial service sector of Brunei is highly developed, has succeeded in attracting the good percentage of the country’s depositors and investors (Ibrahim and Joo, 2001).

The Islamic financial service industry operate under a different structure of corporate governance than the one used in the conventional banking. As per norms, an Islamic financial institution (IFI) is obliged to appoint a board of Islamic scholars called ‘Shari‘ah Supervisory Board’ (SSB). The IFIs are governed by the Shari‘ah (Islamic laws). Islamic laws or Shari‘ah provide rule to encompass the allocation of resources, management, production, consumption, capital market activity and the distribution of income and wealth. There are many studies on banking/financial sector failures and corporate governance but there has been no study on corporate governance in Islamic financial institutions of Brunei Darussalam.

This study aims to bring in the research arena the state of corporate governance in the Islamic financial institutions in Brunei Darussalam drawing from data of Islamic banks and Islamic Takaful companies. This study will also focus the role of the Shari‘ah Supervisory Board’ (SSB) in the governance of IFIs. Through the use of content analysis of the annual reports of Islamic banks and the Takful companies, Companies Act, 1956 (Laws of Brunei, Chapter 39), New Banking Order 2006, Insurance and Takaful Order 2000 and 2006; this study attempt to measure the level compliance with the corporate governance issues in the Islamic financial service industry of Brunei Darussalam.

The rest of the paper is organised as follows. Section 2 presents structure of the Financial Service Sector including regulatory framework. Section 3 discusses about the corporate governance in the Islamic financial institutions in Brunei. Section 4 describes the methodology adopted throughout the study. Section 5 presents the analysis of findings. Finally section 6 draws conclusions.

2. Financial Service Sector in Brunei Darussalam

Financial system in Brunei Darussalam basically can be divided into two categories: Banks and Non-Bank Financial Institutions. As there is no Central Bank in Brunei, the Financial Institution Division(FID) of the Ministry of Finance, Government of Brunei Darussalam is the authorized agency to issue licenses and administer the

Corporate Governance of the Islamic Financial Services Industry in Brunei Darussalam 41

Acts for financial businesses categories3 and responsible to supervise the activities of financial service sectors in Brunei Darussalam. Amongst others, to ensure that all financial sectors in the country follow the rules and regulations set in the Government Gazette under Banking/Financial Acts/Orders (Rules). Figure 1 depicts the structure of the Financial Service Sector in Brunei.

Figure 1: Financial Service Sector in Brunei Darussalam

n growing rapidly since last

ard (BCB) was established in 1967 by

The financial institutions in Brunei Darussalam have beetwelve years. Besides, the local banks and non-bank financial institutions, there are presence of a number of financial institutions of international standing and reputation. The advent of new Islamic financial instruments, the selling and buying of securities as well as other products and financial services that are now provided in Brunei market. For example, first government ijarah sukuk (Islamic bond) has been issued in Brunei Darussalam in month of January 2006.

In absence of central bank, Brunei Currency Bothe Currency Act. Under Section 9 (1) in Chapter 32 of the Laws of Brunei, it has the sole right to manage and issue currency notes and coins in Brunei Darussalam. Under the Currency and Monetary Order 2004, the Brunei Currency Board (BCB) purchases, sells, discounts and rediscounts Treasury Bills and short-term government securities denominated in Brunei Dollar (BND).

3 Finance related businesses including bank, insurance company, money changer and money remittance


The relaxation of exchange controls and progressive regulatory system have also played a remarkable role in the development of an efficient financial system in Brunei Darussalam. Furthermore, the banking and financial regulations are being brought at par the international standard by making amendment the Banking Act Cap. 1995, (Ministry Finance, Brunei, 2005)4.

2.1 Banking Sector

Brunei Darussalam has only three Islamic banks namely Tabung Amanah Islam Brunei (TAIB), Islamic Bank Brunei (IBB) and Islamic Development Bank Berhad (IDBB)5. Furthermore, there are eight conventional commercial banks namely HSBC, Citibank, Standard Chartered Bank, Maya Bank, RHB Bank, United Overseas Bank; Baiduri Bank and Development Bank of Brunei Berhad. Except Baiduri Bank and Development Bank of Brunei Berhad6, all conventional commercial banks are foreign banks.

The development of capital market in Brunei Darussalam is still very much in an infant stage. At present, only two securities companies providing brokerage services with the approval of the Ministry of Finance, Brunei Darussalam.

2.1.1. Asset of Banks in Brunei Darussalam

The total assets of banks in Brunei Darussalam are comprised of cash on hand and liquid assets, balance due from head office, branches of the bank and the bank itself, secured and unsecured loan and advance to customers, investments, bank’s premises and properties and offshore deposit. The data obtained for the period of 10 years from 1995 had shown that the total assets of banks operated in Brunei Darussalam is fluctuated up and down in narrow band. From slightly above BND(Brunei Dollar) 9 billion in 1995, the total assets has dropped slightly as low as B$8 billion in 1999 before it rebounded to BND11 billion in 2000. As of 2001, the total asset of the banks in Brunei Darussalam has shown a significant increased and continued to grow year by year. By June 2006, the total amount of banks’ assets has reached at almost B$20 billion as shown in Table 1 below.

4 Based on information received by the author from Ministry of Finance, Brunei Darussalam. 5 Now IBB and IDBB have merged and create one bank namely Bank Islam Brunei Darussalam (BIBD) Berhad 6 The Development Bank of Brunei Berhad wan not operational at the time of the collection of information.


Table 1: Percentage of Distribution of Total Assets

Islamic Banks Conventional Banks 1995 2006 1995 2006 Amount

in ml. in BND

% Amount in ml. in BND

% Amount

in ml. in BND

% Amount

in ml. in BND

%

Loan 781 71 3860 41.7 1780 22.4 1656 16.9 Current Asset 211 19 2529 27.3 2875 36.1 1130 11.9

Investment 40 3.7 1167 12.6 36 0.5 83 0.8 Offshore Deposit 62 5.7 1710 18.5 3270 41.1 6910 70.7

Total Asset 1094 100 9266 100 7961 100 9779 100

(Source: Financial Institution Division, Ministry of Finance, 2006)

From the breakdown of total assets shown in table 1, conventional banks(mainly foreign banks and one local bank) has accumulated more assets in Brunei Darussalam compared to local banks i.e. Islamic banks. The reason for the different at the early year of the data obtained was because the conventional banks (all foreign banks and one local bank) operated in the country have out numbered the local banks. Besides, foreign banks have been established in the country for a long period of time. Most of the foreign banks have secured the accounts for prominent clients, including companies’ accounts and high worth individuals.

The trends however gradually change shape when local banks begin to operate in 1990’s. The total assets for local banks has gradually increased from less than B$2 billion in 1995 to almost B$10 billion in 2006, an increase of almost 10 times in ten years.

Loan, which comprised of secured and unsecured are the largest component of the assets for Islamic (local) banks. In 1995, it was accounted about 71% of the total assets and followed by current assets, which comprised of cash in hand, including all the liquid assets and dues from banks, which accounted about 24% of the total asset. Another component of Islamic (local) banks’ asset is offshore deposit which accounted about 6% and there were about 4% investments at that time (see table 1).

Despite of an increase in the amount to almost BND10 billion by the year of 2006, the assets for Islamic banks has changed slightly in its composition, whereby the loan component of the asset reduced to about 41%. As a result, the amount of current assets, which was accounted about 20% in 1995 increase to about 42% in 2006.


Investments component of the asset had also increased significantly from just 6% in 1995 to about 13% in 2006. And the offshore deposit was also increased to about 18% by 2006 (see table 1).

On the other hand, the asset for conventional banks (both local and foreign banks) has been fairly consistence for the 10 years. It was started at about BND 8 billion in 1995 and fluctuated at the small bands between years 1995-2006. By the end of 2006, the asset has grown more than BND 2 billion or about 25%.

Amongst the major components of the conventional (foreign) bank’s asset is the offshore deposit, whereby the amount was accounted about 42% of the total asset in 1995. It is an amount of money earned in Brunei Darussalam and deposited to other countries to earn “spread”. The result also indicates that in the table 1, the investment by conventional (mostly foreign banks) in the Brunei market is very a small amount and almost negligible to comparing to the total asset.

2.2 Insurance/ Takaful Sector

There are two types of insurance in Brunei Darussalam namely conventional and Takaful (Islamic insurance) companies. Both types offer a wide range of non-life, life insurance products. As per information received, it reveals that motor insurance collected the highest volume of gross premiums out of all classes of insurance offered in the Brunei market so far. The market is serviced by a total of 21 numbers insurance companies including three Takaful companies namely TAIB Takaful, IBB Takaful and IDBB Takful.

The three takaful companies in Brunei offer both general and family takaful product and Shari‘ah compliant risk mitigation solutions to a market numbering fewer than 380,000 (Yahya, 2007). Being a predominantly Muslim country, this provides a natural market for Islamic products, particularly takaful product.

Three takaful companies captured about 63% of the entire motor market as compared to conventional insurance. Tables 2 and 3 show gross premium income of Takeful companies and conventional insurance companies respectively. The means of distribution of takaful products and services are done by direct selling to the customers. Due to popularity of the Takaful companies among the masses, recently the conventional insurance companies negotiated with the Takaful companies to operate business jointly to sell the takaful products as a representative of takaful companies.

http://www.finance.gov.bn/tt/EDITKKW/bahagian/bik/bik_gross_premium.htm

http://www.finance.gov.bn/tt/EDITKKW/bahagian/bik/bik_active_ins.htm

http://www.finance.gov.bn/tt/EDITKKW/bahagian/bik/bik_active_ins.htm


With the introduction of Insurance and Takaful Order 2006, the takaful companies in Brunei have got ample opportunity to bring their product in the global market. Although, the Takaful companies are still young in Brunie, however the vast potential lies in the family takaful portfolio. Tables 2 and 3 show the gross premium income of the takaful and conventional insurance respectively.

Table 2: Gross Premium Income of Takaful Companies (BN$ in million)

Insurance Types 2001 2002 2003 2004 2005 Takaful non-life Motor 10,814 12,769 22,022 28,919 34,496 Fire 1,736 2,006 2,222 2,910 2,594 Marine, aviation, Transit(MAT) 4 1 884 2,510 457 Others 1,069 1,262 1,229 1,922 2,040 Total 13,623 16,038 26,357 36,261 39,587 Takaful life 11,438 10,454 9,972 14,172 15,747 Grand total 25,061 26,492 36,329 50,433 55,334

Table 3: Gross Premium Income of Conventional Insurance Companies

(BN$ in million)

Insurance Types 2001 2002 2003 2004 2005 Conventional non-life Motor 26,297 23,411 23,334 16,786 16,401 Bonds 1,457 874 786 694 671 Fire 10,221 10,236 10,003 9,534 9,767 Workers compensation 4,558 4,074 3,917 4,153 4,936 Public liability 753 706 914 1,021 1,388 Contractor’s all risk (CAR) 625 764 512 887 1,068

Others 7,110 7,279 6,693 6,686 9,743 Total 51,021 47,344 46,159 39,781 43,974

Conventional life 63,306 67,225 97,214 61,526 60,367 Grand total 114,327 114,569 143,373 101,287 104,341

(Source: Brunei Insurance Association, 2006)


Although the Islamic takaful companies in Brunei Darussalam may have started only in the early 1990s, but it has developed rapidly and is successful in doing business on competitive basis with the conventional insurance companies in Brunei marbket.

2.3 Regulatory Framework

The regulatory framework of the financial service sector in Brunei Darussalam comprises the legal and technical framework. The legal framework is the law in place to regulate the operation and administration of the financial institutions whereas the technical framework comprises guidelines, standards and codes to supplement the legal framework in areas which are purely technical that the law cannot afford to accommodate. The International financial reporting and Accounting and Auditing Organisation for the Islamic Financial Institutions (AAOIFI) standards are an example because the law can only stipulate that accounts and audit should be made according to international standards but can not prescribe the standard.

2.3.1 Regulations for Banking

Table 4 below mentions the regulatory framework of the Banking sector in Brunei Darussalam.

Table 4: Regulatory Framework of the Banking Sector

Legal Technical Banking Operation Banking Act Cap. 95

Emergency(Islamic Banking) Order 1992, Banking Order 2006, Emergency(Islamic Trust Fund) Order 1991, International Banking Order 2000, Money Laundering Order 2000.

Financial Institution Division of the Ministry of Finance and Brunei International Financial Centre Guidelines Corporate Code Islamic Banking Act Cap168

Corporate Administration Company Act 1956 Securities Act 2001

International Financial Reporting Standards, AAOIFI Standards


Companies Act 5th-Schedule(Financial Reporting)

Brunei Bankers Assoc.

2.3.2 Regulations Insurance/Takaful Sector

Like the banking sector, the regulatory framework of the Insurance and takaful sector operate under a similar model. The Companies Act 1956, Finance Companies Act Cap. 89, Insurance Act(Motor Vehicles Third Party Risks Act Cap. 90), Insurance & Takaful Order 2000 and Insurance & Takaful Order 2006 deal with registration and operation of insurance and takaful companies whereas the Financial Institution Division (FID) of the Ministry of Finance, Brunei Darussalam publish guidelines on good governance of insurance and takaful companies. As companies, they should also comply with Companies Act 5th-Schedule (Financial Reporting) and Security Act 2001 (BIFC, 2006).

3. Corporate Governance in the Islamic Financial Institutions in Brunei

“Corporate Governance is concerned with holding the balance between economic and social goals, and between individual and communal goals with the aim to align as nearly as possible the interests of individuals, corporations and society.” (Cadbury, 1993). Incidentally it may be mentioned here, that long before the age of the complex legal documentation and financial revolution, Islam prescribes the concept of writing contracts in financial transactions, and insists that no party of any contract or exchange should be exploited. This special characteristic provides the foundation of good governance for the Islamic financial institutions. Furthermore, the uniqueness of Shari‘ah7 compliance corporate governance for the Islamic banking and financial institutions stems from two principles. Firstly it is Shari‘ah (Islamic ethical laws) based approach which mandates the conduct of the business as per Islamic ethics. Secondly this approach recognised a combination of both profit motive as well as service motives that recognise business and investment transactions in order to keep intact the shareholder’s value.

Islamic banks or financial institutions are part of a specialised industry which is based on the principles of Shari‘ah. Besides Board of Directors, special characteristics of 7 Shari‘ah is an Islamic ethical law based on Al-Qur'an and the sayings of the Prophet Muhammad (peace be upon him).


all types of Islamic Financial Institutions (IFIs) that their all transactions are monitored by Shari‘ah Supervisory Board. Therefore, Islamic Financial Institutions (IFIs) offer a distinct view on the financial transactions. Islamic modes of finance implicitly bring a rich and superior architecture and texture to the field of corporate governance. In one way, an Islamic financial institution is a partner of its depositors; on the other side it entered a partnership with the firm or company, while employing depositors/shareholders funds in the productive investment (Hassan and Dicle, 2005). In addition to the fact that an Islamic financial institution(IFI) is subject to an additional layer of governance since the suitability of its investment and financing must be in strict conformity with Islamic laws and the expectations of the customers.

Islam forbids the charging of interests, but encourages the earning of profits. Therefore, the IFIs are not permitted to charge for the mere use of money. Purely speculative transactions are not allowed in Islamic financial system. The IFIs are also not allowed to finance any enterprise involved in pork, pornography, conventional financial service, arms and munitions, tobacco, gambling, alcoholic liquor and polluting industries. All these matters are screened in the IFIs by their Shari‘ah Supervisory Board (SSB). Therefore, the role of Shari‘ah Board is essential part and parcel of the IFIs and are radically different from their conventional counterparts in major aspects such as foundation, management and products.

3.1 Shari‘ah Board Vis-à-Vis Board of Directors

The IFIs in Brunei Darussalam operate under a different structure of corporate governance than the one used in conventional financial system. Brunei Islamic financial institutions are obliged to appoint board of Islamic scholars called “Shari‘ah Supervisory Board” (SSB). The Shari‘ah Supervisory Board (SSB) is appointed by the general assembly of shareholders and recommended by the Board of Directors meeting. The SSB is not only independent from the Board of Directors but also allowed to attend the Board of Directors’ meetings to discuss the religious aspects of their decisions (AAOIFI, 2005).

In brief the objectives of the SSB are to guide the IFIs in the setting of policies and regulations according to Shari‘ah; to approve the financial transactions from legal side and in preparing contracts of IFIs for future transactions according to the rules of Shari‘ah (Daoud, 1996).The SSB authority is derived from different resources other than what the Board of Directors have in conventional banks. The authority of SSB comes from Islamic legal and fiqi (jurisprudence) resources. The Shari‘ah board members represent the IFIs in the general meeting and clarifies any Shari‘ah matters


that the stakeholders might have regarding any transaction. In addition, the SSB provides advice to the board of directors as well as the top management on Shari‘ah issues, and conduct verifications of the internal auditing regularly on the IFI documents to ensure their conformity with Shari‘ah.

The traditional corporate governance theory provides a comprehensive explanation about independence of the board of directors of a business organisation but not about the effectiveness through ethical perspective. The traditional corporate governance assumes that there is only one Board of Directors which is independent. On the other hand, each IFI have two independent boards and they are: Board of Directors and Shari‘ah Supervisory Board (SSB).

The SSB members are specialised jurists in Islamic jurisprudence and experts in the Islamic finance (AAOIFI, 2005). This common background among SSB members facilitates their communication and enables them to share and transform their tacit and explicit knowledge into a faster and clearer way than the members of the Board of Directors. In principle the SSB members have same roles as the Board of Directors except the planning and strategising roles, because its task focus on present and historical events rather than building up a future strategy(AAOIFI, 2005). The followings are roles of the SSB:

(1) The SSB controls and monitors the religious side of the IFIs transactions, service, and products. The SSB has to review all the decision of the Board of the Directors and top management to ensure their compliance with Shari‘ah. Further, the SSB authorise all the financial products and transactions and ensure their Shari‘ah compliance. The SSB has right to appoint Shari‘ah internal auditor to monitor the day to day transactions and report them.

(2) The top management and the Managing Director of the IFI have to provide all the information that might assist the SSB members in applying Shari‘ah code over the transaction and products. The reason behind this attitude is the stakeholders belief that Islamic financial institutions should be operated according Shari‘ah laws.

(3) The SSB members act as adviser and counsellor of the stakeholders, regulators and central banks. The SSB members also reply all the investors’ queries and clarify any ambiguity in any transactions.

The main values bring by the SSB to the IFIs are: transparency, trust, ethical behaviour, credibility as well as the values and beliefs underlying in Islamic business


ethics. Large numbers customers join IFIs because they strongly believe these values. The SSB carries Islamic wisdom that derives the operations and actions of the IFIs. Therefore, the SSB ensures the Shari‘ah compliance standards in the IFIs.

4. Methodology

The research followed an overall methodology as follows:

4.1 Sampling

The Islamic financial service sector in Brunei Darussalam comprise of Islamic Banks, Takaful (insurance) Companies, Mutual Funds and Islamic Trust Funds. This study is focusing only on Islamic banks and takaful (Islamic insurance) businesses and therefore, the sample excludes the other types of non-banking financial service companies.

There are three Islamic banks and three takaful companies. Three Islamic banks are: Tabung Amanah Islam Brunei (TAIB), Islamic Bank Brunei (IBB) and Islamic Development Bank Berhad (IDBB)8. On the other hand three takaful companies are: TAIB Takaful, IBB Takaful and IDBB Takaful. All the Islamic banks and takaful companies are selected for the purpose of this study. The three Islamic banks have half of the market share and similar three takaful companies also have more than half of the market share in the Brunei. The sample size is therefore representative of the population and the finding would therefore, reflect Shari‘ah compliant corporate governance in the Islamic financial service industry in Brunei Darussalam.

4.2 Data Collection

This study uses content analysis to assess compliance with four issues on corporate governance of Islamic financial service industry in Brunei Darussalam. In order to conduct this study secondary data is collected from the annual reports of both Islamic banks and takaful companies. Annual reports for the year 2005-2006 were collected in person from the three Islamic banks and three takaful companies. In order to address the four issues on corporate governance, the Brunei Banking Order 2006 and Brunei Insurance and Takaful Order, 2000 and 2006 has also been referred. Relevant

8 In 2006 two major local Islamic banks IBB and IDBB have merged to create Bank Islam Brunei Darussalam (BIBD) Berhad. The BIBD has stated its intentions to expand and create a presence in the overseas.


schedule of these regulations have been analysed and compared with the requirements of the issues to interpret the findings.

4.3 Content Analysis

Content analysis method is used to assess the level of compliance with the issues on corporate governance of Islamic Financial Service Industry in Brunei Darussalam. Content analysis is a way to categorise various items of a document into a number of categories. It is an appropriate method to use where a large amount of qualitative data has to be analysed. The use of content analysis has been supported by a number of authors for similar type research (Boyatis, 1998; Krippendorf, 1980).

It may be mentioned here that the main issue in content analysis is reliability. Milne and Alder (1999) identified different types of reliability and this occurs in the process of coding. The main problem that arises in coding is when more than one code is encoding the data. In this study, there are only four issues of corporate governance and six companies in the Islamic financial service industry in Brunei that are involved. The four issues addressed in this study are: (i) Board of Director’s composition, (iii) Shari ah Supervisory Board, (iii) Audit Committee, (iv) Disclosure of Policies and Practices and Shareholders’ Value.

Without coding the four issues, the author conducts a sentence by sentence analysis to determine compliance in the line of the method used by Shrives and Linsley (2003). This is also in the case of the disclosure of directors’ interest and directors’ right and shareholders’ value.

4.4 Corporate Governance Issues in the Annual Report

Given that the annual reports for the year 2005-2006 of a few of the samples were not properly segmented. However, some of the information related to corporate governance were scattered in different parts of the report.

4.5 Measuring Compliance

Compliance to the issues of the corporate governance is measured using provision in the law/regulation (Banking/Takaful Act and Order) as bases. Where the law/regulation (Banking/Takaful Act and Order) is silent on an issue, provision of the Company Act then used as a bases. For example the banking /takaful laws stipulated that a bank or a takaful company should have a balanced board but is silent as to the quantum of members. In that case the provision of section 138(2) of the Companies Act (chap 39) is used. As a result this facilitates the measuring process. This is


followed in the case of each Islamic bank and takaful companies under this study. An Islamic bank or company is scored as full compliant if it meets the minimum requirement of the law. For example, Company Act 1956(Laws of Brunei, Chapter 39) stipulates that a bank should have a board of not less than seven natural persons. In case the Board of Directors of an Islamic bank or takaful company has at least seven or more than seven members, it is scored 100%. However, if there is less than seven members, then the score is reduced on a pro-rata basis.

4.6 Comparing Compliance

Compliance is compared by comparing the average scores of the Islamic banking sector with the takaful sector. The purpose of this statistics is to determine whether there is a significant difference in the compliance level of the corporate governance issues between Islamic banks and takaful companies in Brunei Darussalam.

5. Findings and Interpretations

In this section, the findings of the Islamic banking and takaful sector are presented and analysed which is followed by analysis of the difference in the findings of these two sectors in Brunei Darussalam.

5.1 Islamic Banking Sector

Table 5 presents the findings for the Islamic banking sector on the compliance with the issues of composition of both Board of Directors as well as Shari‘ah Supervisory Board and disclosures of policies, practices and shareholders’ value.

As per rules, an Islamic bank needs to have at least seven number of Board of Directors whereas Shari‘ah Board should have at least three members. Table 5 shows that in the Islamic banking sector in Brunei, there is 100 percent compliance with Emergency Islamic Banking Order 1992, Banking Order 2006 and section 138(2) of the Companies Act 1956. As regards the requirements for the Shari‘ah supervision, all the Islamic banks in the sample are also fully compliant both the Emergency Islamic Banking Order 1992 and Banking Order 2006.

Table 5: Compliance Level with Corporate Governance Issues in Islamic Banking

Number of Islamic Banks


Corporate Governance

Issues Bases IBB

(1) IDBB

(2) TAIB

(3) Average Standard Deviations

Board Composition Shari‘ah Supervisory Board/Supervision

Emergency (Islamic Banking)Order 1992, Section 138(2) of the Companies Act 1956 (chap 39) Banking Order 2006

9

5

7

3

7

3

7.67

3.67

1.16

1.15

Compliance Score% 100 100 100 100 0

Audit Committee

Companies Act 5th-Schedule

4

4

3

3.66

0.58

Compliance Score % 100 100 100 100 0

Disclosure of Policies, Practices & Shareholders’ values.

Companies Act 5th-Schedule ( Appendix-I)

14

14

14

14

0

Compliance Score% 80 60 80 73.34 11.54

As regards the constitution of audit committee all the Islamic banks satisfy the Companies Act 5th Schedule. As per rules, an Islamic bank needs to have at least three members in the audit committee. On overall the score of the compliance in the audit committee of the Islamic banking sector in Brunei is 100%.

Disclosure of policies, practices and shareholders’ right/values have been determined from a list of fourteen items as shown in the appendix-1. A company should score 14 points to achieve 100%. The results show that there is not a single Islamic bank which comply 100% to disclose of polices, practices and shareholders’ interest/values in the Islamic banking sector in Brunei. Based on the discussion in the meeting of author with the top level executives of the sample Islamic banks, it is known that all Islamic banks comply the provision of the Companies Act 1956. It would be more informative, if the annual report includes also an assessment of business climate and risk.


5.2 Takaful Sector

Table 6 shows the result obtained from the content analysis of the annual report of the takaful companies. Like Islamic banks, as per rules, a takaful company needs to have at least seven number of Board of Directors whereas Shari‘ah Board should have at least three members. On average the takaful sector scores 100 compliance rate as regards to Board of Directors and Shari‘ah Supervisory Board members.

Table 6: Compliance Level with Corporate Governance Issues in Takaful Sector

Number of Takaful Companies

Corporate Governance Issues

Bases IBB Takaful(1)

IDBB Takaful(2)

TAIB Takaful(3)

Average Standard Deviations

Board Composition Shari‘ah Supervisory Board

Finance Companies Act Cap. 89, Section 138(2) of the Companies Act-1956 (chap 39) Insurance and Takaful Order 2000 &2006

9 3

7 3

8 3

8 3

1 0

Compliance Score%

100 100 100 100 0

Audit Committee

Companies Act 5th-Schedule

3

4

3

3.34

0.57

Compliance Score%

100 100 100 100 0


Disclosure of Policies, Practices & Shareholders’ Values.

Companies Act 5th-Schedule (Appendix- B)

14

14

14

14

0

Compliance Score%

90 80 60 76.66 15.27

All the three takaful companies state in the annual report 2005-6 that they have an audit committee. Like an Islamic bank, as per rules, a takaful company needs to have at least three members in the audit committee. On average the takaful sector scores 100 compliance rate as regards to audit committee members.

Disclosures of policies, practices and shareholders values are 76.66% compliant on average. Results show that takaful companies do not disclose the business strategy. The reports of sample takaful companies did not mention clearly on the management’s assessment of business climate and risk. The author feels that risk management systems could be more clearly mentioned in the annual reports.

5.3 Comparative Assessment on Compliance: Islamic Banking and Takaful

The table 7 reveals that there is not much difference in the degree of compliance on the corporate governance issues between Islamic banking and takaful sector in Brunei Darussalam. Results do not show any significant difference between the level of disclosure of policies, procedures and shareholders’ values between these two sectors.

Table7: Comparing Average Compliance Score

Corporate Governance Issue

Islamic Banks(A)

Takaful Companies(B)

Differences (A-B)

Significance

Board of Directors and Shari‘ah Board’s composition

100 100 0 No


Audit Committee 100 100 0 No

Disclosures of policies, practices and shareholders’ values

73.34 76.66 -3.32 No

In this section, the content analysis of the annual reports of the sample Islamic banks and takaful companies are used to assess the level of compliance to the corporate governance issues. The results show that overall compliance to the issues in the Islamic financial service sector is more than 90%.

6. Conclusions

The issues of corporate governance principles and practices in the Islamic financial service industry in Brunei Darussalam have been addressed in this study. Corporate governance is not only an issue of the developed countries but also it is a major issue for success of small economies. The study has also focused on the role of Shari‘ah Supervisory Board (SSB) and how it adds value to the Board of Directors as well as to the corporate governance in the context of the Islamic financial institutions (IFSs).

The corporate governance issues of the Islamic financial service industry in Brunei Darussalam and its related rules are elaborately discussed. It reports compliance by the corporate governance issues in both Islamic banking and takaful sector. While measuring the level of compliance of the four issues of corporate governance, the method of content analysis of the annual reports of the sample Islamic banks and takaful companies have been used. The empirical results shows that overall compliance rate of four issues of corporate governance of IFIs in Brunei Darussalam are above 90%.


References

Annual Report-2006 of IBB, IDBB, TAIB

Annual Report- 2006 of IBB Takaful, IDBB, Takaful and TAIB Takaful

AAOIFI (2005), “Accounting, Auditing & Governance Standards (for Islamic Financial Institutions)”, Manama, Bahrain: Accounting and Auditing Organisation for Islamic Financial Institutions.

BIFC (2006), “Brunei International Financial Centre-Report.” Bader Seri Begawan: Brunei International Financial Centre

Banking Order 2006, Ministry of Finance, Brunei Darussalam

Boyatis, R.E (1998), Transforming Qualitative Information: Thematic Analysis and Code of Development, London: Sage Publications.

Brunei Insurance Association – Report 2006

Cadbury, Sir Adrien (1993), “Thoughts on Corporate Governance”, Corporate Governance: An International Review, Vol.1 (1), pp.5-10

Companies Act, 1956 (Laws of Brunei, Chapter 39), Brunei Darussalam

Daoud, H (1996), Shari‘a Control in Islamic Banks, Verdon-VA: International Institute of Islamic Thoughts.

Ebrahim, M.S and Joo, T.K (2001), “Islamic banking in Brunei Darussalam,” International Journal of Social Economics, Vol. 28(4), pp.314-337

Emergency (Islamic Banking) Order, 1992, Ministry of Finance, Brunei Darussalam

Financial Institution Division (2006), “Brunei Banking Financial Institutions.” A report published by MOF, Bader Seri Begawan:, Ministry of Finance, Brunei Darussalam

Finance Companies Act Cap. 89. Ministry of Finance, Brunei Darussalam

Hassan, M.K and Dicle, M.F (2005),”Basel II and Corporate Governance in Islamic Banks”, Department of Economics and Finance, University of New Orleans, L.A, pp. 1-15 (working paper).

Insurance and Takaful Order, 2000 & 2006, Ministry of Finance, Brunei Darussalam

Krippendorf, K (1980), Content Analysis: An Introduction to its Methodology, London: Sage Publications


Milne, M.J and Alder, R.W (1999), “Exploring Reliability of Social and Environmental Disclosure Content Analysis,” Accounting, Auditing and Accountability Journal, Vol. 12(2), pp.237-256.

Morck, R (2004), Behavioural Finance in Corporate Governance-Independent Directors and Non-Executive Chairs, National Bureau of Economic Research Working Paper.

Murphy, A (2004), Corporate Ownership in France in France: The Important of History, National Bureau of Economic Research Working Paper.

Shrives, P.J and Linsley, P.M (2003), “Communicating Risk Management in Annual Reports,” International Account, Vol. 20, pp.28-31

Yahya, E (2007), “Takaful in Brunei: Keeping Pace with Development”, Islamic Finance News, Vol. 4(49), pp. 22-23.


Appendix I- List of Disclosure of Policies and Practices

1. Risk Management Systems

2. Business Goal and Strategies

3. Cross-shareholdings and Cross-debt guarantees

4. Management Assessment and Business Climate of Risk

5. Names of Directors and Shari‘ah Board Members

6. Directors’ compensation Rates

7. Principal External jobs held by the Directors

8. Corporate Governance Practices of the Company

9. Material Claims and Court Cases

10. Related Party Transactions

11. Existing and Potential Conflicts of Interests

12. Shareholdings of Directors or their family members in the company

13. Shareholders’ Rights and Responsibilities

14. Dividends Payments to the Shareholders

corporate governance of the islamic financial services industry in

Documents