In the previous post we looked at the different categories of listed companies available and the predominant opinions regarding investing in them from a Shariah perspective. We discussed that companies can broadly be classified into 3 types which are Pure, Haram & Mixed. In this post, we will look at the Mixed category of companies and the ruling on investing in them according to contemporary Shariah scholars because as was mentioned previously most Shariah Compliant shares offered globally would fall under this category.
To recap, companies which fall under the Mixed category, are companies in which the primary activity is permissible, however the company is involved in some impermissible dealings e.g. a company that produces paper but invests any excess cash that it has into interest bearing deposits. The ruling on investing and trading in the shares of these types of companies is a point of difference of opinion among contemporary Shariah Scholars.
Many contemporary Shariah Scholars have completely disallowed investments in these types of companies and are of the view that even a small amount of impermissible dealings by the company make investing in the shares of such companies impermissible. The investor by investing in such companies, becomes an owner in the company and therefore any impermissible activity conducted by the company will be attributed to the investor. Furthermore, if it is said that the investor has no control over the management decisions of the company, the response given is that the investor willingly became part of the company and was not forced to invest.
On the other hand, other contemporary Shariah Scholars have allowed such investments with certain conditions and this is the view which has been adopted by AAOIFI and many Shariah Board members of Islamic financial institutions. However, it is important to note that even the contemporary Shariah Scholars who have allowed investing in mixed shares make it clear and stress that it should be understood that even a small amount of interest or a small amount of any other impermissible dealings is not permissible. Furthermore, they mention that if the investor owns a significant holding in the company and is able to influence the decision making process within the company, they shouldn’t allow any impermissible activities or they will share in the sin. In fact even some of the Scholars that allow mixed shares, mention that it may be better to avoid them.
There is various reasoning given by the contemporary Shariah Scholars who allow investments in mixed companies. AAOIFI mentions the reasoning of their Shariah Board in the appendix of Shari’ah Standard No. (21): Financial Paper (Shares and Bonds) and the reader may refer to it and the Shariah Board decisions of Islamic financial institutions for further reading on the topic. In brief, some of the reasoning given by contemporary Shariah Scholars who allow investments in mixed shares are: removal of hardship, the main activity of the company is permissible and the impermissible activity is not the main purpose of the company, the investor has no authority over the company and the management of the company is completely separate.
The conditions given by AAOIFI for investing in mixed companies, are as follows, as is mentioned in Shari’ah Standard No. (21): Financial Paper (Shares and Bonds):
3/4/1 That the corporation does not state in its memorandum of association that one of its objectives is to deal in interest, or in prohibited goods or materials like pork (swine) and the like.
3/4/2 That the collective amount raised as loan on interest – whether long-term or short-term debt – does not exceed 30% of the market capitalization of the corporation, knowing that raising loans on interest is prohibited whatsoever the amount is.
3/4/3 That the total amount of interest-taking deposits, whether short-, medium- or long-term, shall not exceed 30% of the market capitalization of total equity, knowing that interest taking deposits are prohibited whatsoever the collective amount is.
3/4/4 That the amount of income generated from prohibited component does not exceed 5% of the total income of the corporation irrespective of the income being generated by undertaking a prohibited activity, by ownership of a prohibited asset or in some other way. If a source of income is not properly disclosed then more effort is to be exerted for identification thereof giving due care and caution in this respect.
The conditions above basically mean that according to AAOIFI, for a share to be considered as Shariah Compliant, the company should have been established for a permissible purpose, its Total Loans (based on interest) shouldn’t exceed 30% of its market capitalisation, its Total Investments/Deposits (based on interest) shouldn’t exceed 30% of its market capitalisation & that any impermissible income generated shouldn’t exceed 5% of its Total Revenue. Some Shariah Scholars are of the opinion that instead of market capitalisation, the Total Assets of the company should be used when calculating these percentages and that 33% is the acceptable threshold as opposed to 30%. Furthermore, it should be noted that any impermissible income must be purified and given away by the investor (we will discuss this in a future post insha Allah).
Let us take a look at two basic scenarios:
E.g. 1 (Company passes all conditions & therefore is considered as Shariah compliant)
1) Company was established for a permissible purpose: PASS
2) Company’s Total Interest Bearing Debt = GBP 1 000 000
Total Market Capitalisation = GBP 10 000 000
1000000/10000000 * 100 = 10% = PASS
3) Company’s Total Interest Bearing Investments/Deposits = GBP 2 500 000
Total Market Capitalisation = GBP 10 000 000
2500000/10000000 * 100 = 25% = PASS
4) Total Impermissible Income = GBP 37 500
Total Revenue = GBP 1 000 000
37500/1000000 * 100 = 3.75% = PASS
E.g 2. (Company fails some conditions & therefore is not considered to be Shariah compliant)
1) Company was established for a permissible purpose: PASS
2) Company’s Total Interest Bearing Debt = GBP 1 000 000
Total Market Capitalisation = GBP 10 000 000
1000000/10000000 * 100 = 10% = PASS
3) Company’s Total Interest Bearing Investments/Deposits = GBP 4 000 000
Total Market Capitalisation = GBP 10 000 0000
4000000/10000000 * 100 = 40% = FAIL
4) Total Impermissible Income = GBP 60 000
Total Revenue = GBP 1 000 000
60000/1000000 * 100 = 6% = FAIL
While the figures in the above scenarios might not be realistic, the purpose is to show how it is checked whether a company is Shariah Compliant or not. In the first scenario the company passed all the conditions set by Shariah Scholars who allow investing in mixed shares, whereas in the second scenario the company failed two of the conditions, and therefore would not be considered as Shariah Compliant.
One may ask where these percentages came from, i.e. what makes 5% an acceptable level of impermissible income & what makes 30% or 33% an acceptable level of interest based loans/deposits? The Shariah Scholars have mentioned that as there is no contextual evidence for an exact percentage as to what constitutes a small amount of impermissible income, this then would go back to what would be considered to be a small amount customarily. With regards to the other percentage this has been derived from a hadith in which the Prophet (Peace be upon Him) was asked regarding how much of one’s wealth can be a given as a bequest (after death) and he mentioned that the maximum is a third.
In conclusion, we see that the majority of Shariah Compliant shares offered globally fall under the mixed category of shares and we have discussed briefly, the conditions of the contemporary Shariah Scholars who have allowed such investments. Before choosing to invest, you should consult with a Shariah Scholar.
To read the previous post (#1), please click the link below:
https://rizqonomics.com/blog/investing-in-the-shares-of-listed-companies-1/
