Essentials of Islamic Finance

Morabaha
“Trade /Commodity Financing”

By Yousuf Ibnul Hassan

Iqra University
The word Morabaha is taken from the Arabic word
Ribh which mean Profit.
 Trading is a an economic concept that involve the buying
and selling of goods by two or more parties, keeping money
as medium of exchange and in volume which is taken as the
value of the goods in trade and paid by a buyer to the seller
in exchange of desire goods.
 In Islamic Finance any trading that is finance by one to
another for acquiring desire goods for commercial purpose
and for specific period against the profit consideration
shared between two parties of the transaction is known as
Morabaha
 In Morabaha Mode of Financing
RAB-AL-MAAL is the financier who bring the
funds to finance commodity for the Morabaha
trade financing
MORAHIB is the trader who act as buyer as well
as seller of the commodities and goods that are
financed by Rab-al-Maal under a business
contract on pre agreed terms and conditions
In the Morabaha mode of financing funds are not
disburse to MORAHIB against any collateral or
other external security arrangement but secure
within the transactional arrangement

Rab-al-Maal provide goods consist of

CONSUMABLE or USEABLE on the request
and specification of Morahib at a certain pre-
agreed price of sale by Rab-al-Maal and agreed
purchase price by Morahib.
Morabaha is a financing mode for trading
activities on the basis of sale on profit.
Technically, it is a contract of sale in which the
seller declares his cost and profit.
An ancient practice which was seen in archives
prior to the horizon of Islam.
Morabaha practice developed in the Islamic
financial system with the guidance of the Islamic
Shariah.
 APPLICATION OF MORABAHA
TRANSACTION
Morabaha financing is initiated with a request from
Morahib.
This request is called a LPO (Local Purchase Order)
in which is issued in favor of Rab-al-Maal for the
financing to acquire specific goods foe trading for
which Morahib has dealing Experience, Knowledge
and means to Trade.
LPO is a document that specify details of goods and
its Price, Supplier’s name, Quality, Quantity, Total
value, Arboon volume and period of transaction
 G. Y Traders
 42-43 Moon Avenue Date: _____
 XYZ Street Ref: No._____
LOCAL PURCASE ORDER
 To,
 Manager Trade
 M/s. Bank Islam
 Re: Financing for the goods under specification of LPO.
 Please find the details of LPO for the financing of goods as specified.
 Name of the product Mobile Telephones
 Price of the product 5000.00 Per Set.
 Quantity of the products 100 Sets
 Quality of the product Star 365 Series 3
 Supplier of the product Star Communication
 Arboon at price 20% of Purchase Price
 Transaction type By Muajjal 90 days
 Volume of Financing. 500,000.00 + Cost + Profit

 Terms, Condition & Instruction.

 1:________________________________________________.

 For G.Y Traders
 ______________. _______________
 Name Company Stamp.
 Designation

Rab-al-Maal after appraising the LPO and its
requirement, contact the seller and negotiate the
price.
Any discount on the purchases is the legitimate
profit of Rab-al-Maal.
Rab-al-Maal after agreeing to the supplier final
sale price further add its profit and issue GRN
Note in favor of Morahib.
 Bank Islam
 To,
 G. Y Traders
 42-43 Moon Avenue Date: _____
 XYZ Street Ref: No._____
 GOODS RECEIPT NOTE
 Re: Financing for the goods under specification of LPO.
 Please find the details of GRN for the financing of goods as specified.
 Name of the product Mobile Telephones
 Price of the product 5500.00 Per Set.
 Quantity of the products 100 Sets
 Quality of the product Star 365 Series 3
 Supplier of the product Star Communication
 Arboon at price 20% of Purchase Price
 Transaction type By Muajjal 90 days
 Volume of Financing. 400,000.00 + 50,000

 Terms, Condition & Instruction.

 1:________________________________________________.
 2;________________________________________________.
 For Bank Islam
 Bank officer 1 Bank officer 2
Difference between LPO price and purchase price is
the profit of Rab-al-Maal which is further added with
the difference of sale price of Rab-al-Maal and agree
purchase price of Morahib.

Rab-al-Maal is permitted to take the profit from

from supplier and the Morahib as cost to delivery at
Morahib premises is the cost of Rab-al-Maal.

Rab-al-Maal demand its profit on sale to Morahib

keeping the market price of the product enable
Morahib to make profit too.
Rab-al-Maal takes the delivery of the goods from
the supplier and endorse acceptance on GRN
Goods requested under LPO
are received in satisfaction
to the requirement.

In case the Morabaha settlement is on Differed

payment basis Morahib lift the goods in parts by
depositing the GRN price.

No early payment discount is allowed to Morahib

 Rules of Morabaha finance
 Morahib approaches Rab-al-Maal for the his trade
material, goods or commodities through financial
support.
 In interest-based system, money is landed to the
trader on interest who buy required commodity
from the market.
 This option is not available in Morabaha.
 Money cannot be given directly to Morahib.
 Finance for the procurement of material, goods or
commodity is made on the request of Morahib
directly to the supplier.
 The Morahib request must be in writing with clear
specifications along with the supplier identification
and sale price of the supplier.

 Rab-al-Maal by self or through agent enter in the

purchase deal with the supplier and negotiate the
price to a minimum possible level.

 The supplier final price and Morahib declare price if

differ this difference is the part of earning for Rab-
al-Maal for his efforts.
 Morahib cannot claim a share in profit of Rab-al-
Maal, however Rab-al-Maal as good gesture can
reduce the profit on the GRN Price as gesture.
 Morahib have to give the acceptance on receiving
the goods from the supplier that confirm the quality
and quantity of goods received from the supplier as
well as issue detail of stock kept at place.
 Rab-al-Maal appoint its Moqqadum (agent) in case
payment is on By Muajjal.
 Moqqadum is responsible to receive the delivery of
goods finance by Rab-al-Maal and keep the stock in
record.
 Moqqadum (agent) the goods and commodities
under his control and release against the Delivery
Order “DO” which is issued by Rab-al-Maal in favor
of Morahib against the payment of GRN price for
goods
 It is compulsory that goods transfer from Rab-al-
Maal to Morahib should be on the pre-agreed price
which was incorporated in the Morabaha Financing
Contract supported by Local or Foreign Purchase
Order duly signed by Morahib..
Morabaha transaction in two stages.
 Firstly, the Morahib requests the Rab-al-Maal to
undertake a Morabaha transaction and promises to
buy the commodity specified by him.
 This promise is not a legal binding & Morahib may
go back on his promise & Rab-al-Maal takes the
risks of the amount financed.

 In this situation the Arboon amount is kept as the

stake of Morahib, subsequently is used to cover the
price margin where Rab-al-Maal can sell the goods
by reducing the price to attract the buyer.
 Secondly, Morahib purchases the good acquired by the Rab-
Al-Maal on a deferred payments basis and agrees to a payment
schedule on various dates.

 On such arrangements the profitability of Rab-Al-Maal shall

not be change and pre-agreed price of resale of goods between
the two parties of Morabaha contract shall remain constant.

 Murabaha sale contracts allow the commodity sold it to the

Morahib or in case if these are refuses to purchased by Morahib
then Rab-Al-Maal can sell buy at best suitable price taking the
advantage of Arboon.

 This prime clause of the contracts and it should be accepted by

Morahib.
 Three Type of Payment Terms
First is By-Salaam which means advance against
delivery of goods in future date.
Second is By Muajjal which is payment under
installment at future dates.
Third Muajjal which is spot payment against the
goods
In three terms price of the goods does not rise but
can be reduce on the discretion of Rab-al-Maal or in
case prices goes down.
Morabaha financing used by the Islamic banks for
various kinds of financing requirements.
 To consumer finance for purchase of consumer
consumable or useable products.
 Real estate to provide housing finance
 Manufacturing sector for purchase of Machinery,
equipment and raw material etc.
 Finance for the short-term trade for which it is
eminently suitable.
 Issue letters of credit.
 Finance import trade in today form of FIM
(Finance Imported merchandise)
 Imam Baghi
Transaction end on the purchase of CAMEL in CASH
by one and sell these CAMELS by other by adding
its profit then sell at a the higher price.
Such contracts end in two sales,

 Firstly, they are purchased in cash.

 Secondly, they are sold on credit.
.
 Financier pays cash for commodity at the
request of Morahib then sells same to Morahib
on credit after adding its profit.
 In other words, financier by adding its profit to
original purchase price
 Morahib will have to pay even if the price of the
commodity falls as goods were procured and
provided on confirmation of Morahib.
 In case Morahib fails to sell Financier sell by
itself using the margin of Morahib to reduce the
price.
Selling in Installments of Differed Sales
 Time has to be agree on the price based on the
period of credit term.
 Morahib must agree to pay on maturity.
 If unable to fulfill financier has the right to claim
the goods by confiscating his Arboon which
ultimately covers the price including the
compensation for the loss of time.
 Morahib have to reveal quantity of stock in hand to
financier.
 Any discrepancy to original delivered quantity
would be paid by the Morahib.
 In case of failure to pay, Morahib can be legally
punished for misappropriation and theft.
 Some Fuqaha forbid such types of sale, considering
the increase in price as Interest, a category of Riba.
While some of the Fuqaha permit such sales as it is
based on mutual agreement, and agree with Allah as
said in Holy Quran:
“Whereas Allah permitted trading and
forbidden usury and O’ ye who believe!
Misuse not yours wealth among your selves in
pride, except it be a trade by mutual consent”.
Financial institutions use Morabaha financing in both
ways,
 Differed sales of cost price for those who need the
commodity for their personal use and not for trade as
seen in Consumer Financing.
 On short term basis with limited installments provided
to those who cannot afford to pay in one go but with
an ability to pay in installments.
 Morabaha Cost-plus Financing
 This is a contract of sale between Financier and Morahib
at a price which includes a profit margin agreed by both
parties.

 As a financing technique, it involves the purchase of

goods by financier on requested by Morahib.

 Goods then sold to Morahib with a built-in profit.

 Repayment in installments are specified in the contract

as Morabaha Cost-Plus Financing.
 Selling in Installments of Differed Sales
 Differed sales or sales by installment could be
carried out on the basis of the cost price of
commodity.
 There is no disagreement on such type of sale and
could be carried out and allowed.
 Differed sale could be at a higher price than the
actual one of the commodity.
.
 Some Fuqaha disagree on that type of sale. But
most agree to such sales as seller informs the
buyer of cash price and price on deferred
payment terms as clear terms for two types of
sales transaction
Islamic jurists proposed different
forms of partnership to provide
credit & finance facility for
Agricultural, Manufacturing and
for trading purposes.

These forms of Partnerships are as follows:

 Muzara ’a-Sharecropping
Muzara' a (sharecropping or crop partnership) is a contract
whereby landlord puts his agricultural land at farmer's disposal
to farm.
Farmer undertakes to give owner an amount of agricultural
products. This framework is based on a partnership between
capital and labor.

Mussaqa-Tree-sharing
Mussaqa (water partnership or tree-sharing) is a contract
whereby one person trim and water fruit trees own by other
person or are at his disposal, in exchange for an amount of
realize through the sale of the fruits on pre-agreed upon.
If a contract of Mussaqa or tree sharing is related to fruitless
trees, like willows and sycophants, it is not valid.
However, it would be valid in such trees as henna whose leaves
are used or trees whose flowers are used.
 Morabaha Key Notes
 Financier is Rab-al-Maal & financing is made for
the procurement of goods and commodities.

 Morahib is the party of contract to sell the goods

that Rab-al-Maal financed under the contract.

 It is not capital base contract and funds are use

as financing for purchases of goods.

 Morahib has to prove and satisfy the Rab-al-

Maal of capabilities know-how of goods
requested and marketing and selling plans of the
goods that are financed.