Are Islamic syndicated financings different

from conventional syndicated loans?

University of Maastricht
Faculty of Economics and Business Administration
Maastricht, 03.08.2009
Farbood, Hutan (I229830)
Master of Science in International Business
Concentration: Finance
Supervisor: Professor Dr. S. Kleimeier
Final Master Thesis
 Table of Contents

Page

1. Introduction…………………………………………………………………… 2

2. Islamic Financing …………………………………………………………….. 5

2.1. The Principles of Islamic Financing ………………………………….……... 5
2.2. Islamic Financing Methods ……………………………. …………………… 7
2.2.1. The Profit-and Loss-sharing Modes …………………………………. …… 9
2.2.2. The Mark-up Modes……………………………………… ……………….. 10
2.2.3. Sukuk……………………………………………………………………….. 11
2.3. Islamic Syndicated Finance………...………………………………………… 12
3. Descriptive Research Questions …………………………..…………………. 15

4. Analysis on Loan Spreads of Malaysian Syndications ………….………... 21

4.1. The Banking System in Malaysia…………………………………………...... 25

5. Data Selection………………………………………………………………...... 27
5.1. Data Selection for the Descriptive Research Questions………………...…..... 27
5.2. Sample Characteristics for the Descriptive Research Questions...………...…. 28
5.3. Data Selection & Sample Characteristics for the Loan Spread Analysis of
Malaysian Syndications ……………………………………………......…...... 29

6. Empirical Results…………………………………………………………..….. 31
6.1. The source of funds for Islamic Syndicated financings...……………...……... 31
6.2. The receivers of Islamic syndicated financings………………………..……… 34
6.3. Industries towards which Islamic syndicated financing are directed to …...…. 37
6.3.1. Changes of Islamic syndicated deals for different industries over time…..… 44
6.4. Shares of lead banks: Islamic syndications vs. conventional syndications….... 46
6.5. Maturities of Islamic syndicated financings versus conventional syndications. 47
6.6. Financial debt covenants: Islamic syndications vs. conventional syndications. 49
6.7. Participating banks: Islamic syndications vs. conventional syndications…….. 49
6.8. Deal Size: Islamic syndications vs. conventional syndications……………..... 50
6.9. Differences in the Spread……………………………………………………... 51

7. Conclusion and Limitations………………………………………………....... 56

References……………………………………………………………………....… 60

Appendix……………………………………………………………………...…... 65

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1. Introduction:

Islamic finance has become a widespread hot topic, and even more heard since the storm
of financial and economic crisis erupted in the end of 2007. Financial Institutions in the
oil rich states at the Persian Gulf, thriving emerging nations in South-East Asia and
African nations, with their large Muslim populations, but also financial centers in the
Western World rush to take part at the phenomenal 15-20% growth of Islamic financial
products even in the wake of the recent financial crash. Even banks which are laying off
their workforce on a large scale are still looking to increase their workforce in the Islamic
financing business as they hope to tap into this promising niche market. The Islamic
financial assets size is expected to be between $700bn and $1tn in spring 2009 (Reuters,
2009).
Indeed Islamic finance has seen fast growth since 1975, when the first Shariah-compliant
bank in the world was set up.1 Islamic financial institutions in the last three decades grew
faster than their conventional counterparts in Muslim nations. The number of Shariah-
compliant financial institutions has risen to more than 300 institutions operating in 75
countries till 2008 (Hasan, 2008). A determinant factor for the growth of the Islamic
finance industry is because it complies with the religious beliefs and also the cultural
characteristics of societies in Muslim nations (Hamwi & Aylward, 1999). Furthermore,
the rise in Islamic finance can also be attributed to the rise of the petrodollar income in
the Middle East (The Boston Consulting Group, 2008). But next to the growth of Islamic
financial institutions in Islamic countries, Islamic finance has gained ground in
predominantly non-Muslim nations as well. The United Kingdom and Singapore for
example opened their doors to become centers for Islamic finance (Akhtar, 2007). There
it has been noticed that mostly conventional banks have opened Islamic windows, in
contrast to the Middle-East where there is the tendency to establish stand-alone Islamic
institutions. The growth of Islamic finance also in non-Muslim countries is due to the
rising demand of the Muslim population in Western countries and the desire of Islamic

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Islamic financing, lead to sustained economic development throughout the Islamic world already during
the Middle Ages (Grais & Pellegrini, 2006).And in 1963, a small Islamic savings fund started operations in
Malaysia. This Islamic institution managed funds for pilgrimages to Mecca (Solé, 2007). Also in 1963 a
savings bank, working in line with Islamic principles, in Mit Ghamr in Egypt was founded. But this bank
did not include any reference to Islam or the Shariah in its charter (Chong & Liu, 2007).

2
investors, especially Investors from the Persian Gulf, to diversify their investment
portfolio geographically while complying with Islamic jurisprudence (Solé, 2007). But
also more and more non-Muslims find the philosophy of Islamic banking desirable (The
Boston Consulting Group, 2008). Another argument accrues as well, namely the uneven
performance of the conventional financial markets, especially in the West (Grais &
Pellegrini, 2006). Therefore non-Muslim European investors use Islamic financial
products to diversify their investment portfolio (Oakley, 2009).
On the one hand it is expected that Islamic finance is going to continue its growth path, as
Islamic financial institutions will attract 40 to 50% of the total savings of the population
in the Muslim World already in some years (Dahlia El, Wafik, Zamir, 2004). The
European Islamic Investment Bank even believes that about 60% of Muslim investors
will turn to Islamic financial products in the future, compared with 20% in 2009
(Financial Times, 2009). But on the other hand, further growth may be hindered by
uncertainty on scholarly views2 on the compliance of Islamic financial products and a
lack of standardization, which is believed to make Islamic financial products more time-
consuming to construct and therefore also more expensive (Reuters, 2009). Furthermore,
agency problems at Islamic financial institutions do deserve separate and special attention
to enable further growth in the future. Reasons for this special attention arise due to the
fact that the bankers in Islamic financial institutions are entrusted to maximize
shareholder value in a Shariah conform way. Islamic financial institutions have different
operations dynamics and the relationships between the parties involved are different.
Another reason why agency problems at Islamic financial institutions deserve separate
and special attention is because of the incredible growth of Islamic financial institutions.
Also the fact that little empirical research has been done on this subject can be seen as a
reason why agency problems deserve special attention at Islamic financial institutions
(Safieddine, 2008).
This paper takes into account these considerations, particularly of the special agency
challenges at Islamic financial institutions. Empirical research is conducted on Islamic

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Supervisory boards of Islamic financial institutions rely on their own Shariah experts. This may lead to
contradictions of the permissibility of financial instruments in different countries. And this in turn can
hamper the cross-border use of Islamic financial products and the growth potential of this industry (Solé,
2007).

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syndicated financings and compared with conventional financings. Differences in the
structure of Islamic and conventional syndicated loans are researched to find out what
influences agency effects have. This enables to make conclusions on the dimension of the
agency problematic. Furthermore a model is built to find out whether Islamic syndicated
financings are more expensive than their conventional counterparts, by taking into
account the special structural differences between Islamic syndicated financings and
conventional syndicated loans.
As there is no paper, to the knowledge of the author, which conducts empirical research
on Islamic syndications, this paper will contribute to new insights into Islamic syndicated
financings. The aim is to show differences which exist between Islamic syndicated
financings and conventional syndicated loans. This paper will also add value, by finding
out how far Islamic syndications are affected by the agency problematic, as the empirical
findings will hint the truth of the agency conflict at Islamic syndicated financings.
This paper starts by introducing the concepts of Islamic financing and how the different
Islamic financing modes are structured. Then, the concept of Islamic syndications is
elaborated. Next, the descriptive research questions on Islamic syndications and the
hypothesis for the analysis of Malaysian loan spreads are formulated. These include
research questions about which countries are the source of Islamic syndications and
which countries are the benefiters. Afterwards the industries which receive financings via
Islamic syndications are researched. Differences over time in the financings of the
benefiting industries are researched as well. In regard to the agency problematic, the size
and maturity of the Islamic syndicated financings, the existence of debt covenants at
Islamic syndications, the number of participating banks at Islamic syndications and the
share of the lead banks at the Islamic syndication are researched and compared to
empirical data on conventional syndications. Finally a hypothesis test for the analysis of
Malaysian loan spreads is conducted, to find out whether there are differences in the
spread of Islamic syndicated financings and conventional syndications in Malaysia. The
hypothesis test further investigates the influence of borrower characteristics, contract
characteristics and the syndicate structure on the spread. The following paragraph starts
with an introduction to the concepts of Islamic financing.

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2. Islamic Financing:

“Shariah compliant” finance is a system of prudent lending to reduce risks, to share

profits and to ban speculations such as the short selling of stocks (Hasan, 2008). The
Shariah is based on rules by the Quran and the Sunnah, which entails explanations and
practices rendered by the Prophet Muhammad (Iqbal, 1997). The Islamic financial
systems are complemented by the explanations of scholars in Islamic jurisprudence
within the laws and rules set by the Quran and the Sunnah.

2.1 The Principles of Islamic Financing

The Islamic financial systems are different in regard to conventional financial systems by
the means that they entail special principals (Iqbal, 1997). The most widely known
principal is the “prohibition of interest”, which rules out the use of debt-based financial
instruments. Any positive, predetermined and fixed rate that is fixed to the maturity and
the principal is believed to be “riba”, which means excess and is therefore prohibited. As
interest is seen as a cost that is not tied to the achievements in the business it is not seen
as social, as social justice would mean that rewards and losses would be divided in an
equitable fashion. This leads to the next principal, the “risk sharing”. This principal is a
result of the first principal, the prohibition of interest. As the lenders become investors,
because they cannot charge interest, they join the productive business. Therefore they
share risks of the business for the share at the profits. The next principal describes money
as “potential capital” as long as it is not invested in productive businesses and therefore it
is not entitled to the time value of money. The Islamic financial systems recognize the
time value of money only when money acts as capital at productive activities.
“Materiality” is another principle in the Islamic financial system and means that financial
transactions have to lead to a real economic transaction (Dahlia El, Wafik, Zamir, 2004).
In addition, Islamic financial systems prohibit “gharar”3, or speculative behavior, which

3
“Gharar” means, not knowing the value of the good purchased. Terms of a contract shall be well defined
and leave no ambiguity to avoid gharar (Chong & Liu, 2007).

5
incorporates transactions that involve extreme uncertainties and risks. Consequently
gambling, “maysir”, for example is forbidden. Another principle is the “sanctity of
contracts”. This means that it is a religious duty to stick to contractual obligations and to
disclose information. This principle has the mean to reduce asymmetric information and
the moral hazard problem. The next principle is the “prevention of exploitation” of any of
the parties involved in a transaction. And as a last principle, the financing deals shall not
finance “sinful activities” such as the production of alcoholic beverages. Finally, only
those investment activities can qualify to be “Shariah compliant” which comply with the
above mentioned laws and rules of the Shariah and the Sunnah.
The difference of an Islamic financial system to a conventional financial system is that
equal emphasis is placed on ethics, moral, social and religious dimensions contrary to the
sole focus on economic and financial aspects (Iqbal, 1997). So the Islamic financial
system has the noble goal to foster fairness and equality in the society. And this Islamic
system acts for risk sharing, entrepreneurship, individuals’ rights and duties, property
rights and the importance of contracts while discouraging speculative behavior (Iqbal,
1997).
But it has to be mentioned that there is no uniform Islamic financial system. The
explanations of scholars in Islamic jurisprudence within the laws and rules set by the
Quran and the Sunnah differ enormously. The al-Azhar University, the well respected
theological centre for Sunni-Islam in Egypt, for example has issued a fatwa which states
that interest is not always “riba” or usury (Tripolipost, 2008). Returns which are not
excessive but prespecified by lenders are permissible if there is a mutual agreement and if
it brings in the advantage to reduce uncertainty. But this argument is of course very
disputed, as a fixed return for the financier is much disputed under Islamic law.
And nor do common Islamic financial instruments conform to the principle of profit-and
loss-sharing (Rajesh, Amos, Tarik, 2000). Islamic financial products are mostly very debt
like in essence and based on the markup principle. This is seen as rational responses of
the Islamic financial institutions to the environments in which they operate, which are
financial markets that are characterized by high degrees of imperfect information and
rent-seeking behavior. Financings according to the profit-and-loss-sharing principle
would entitle the financing provider to be compensated at the profits but also the losses of

6
the project. Some scholars don’t interpret it too squeezed, and advice just to avoid Islamic
financial instruments based on the markup principle, while they see these financial
products as permissible under Islamic law. In the next paragraph, the most common
Islamic financing methods are introduced.

2.2 Islamic Financing Methods

Under the teamwork of scholars, bankers and lawyers, modern Islamic banking has
invented a multitude of Islamic financing products, which shall conform to the Shariah
and the Sunnah (Wigglesworth, 2009). All basic Islamic financial instruments can be
used for Islamic syndicated financings as well. These Islamic financial instruments can
be based on the profit-and-loss-sharing principle or the markup principle and comprise
amongst others the following financing modes:

Profit-and-loss-
Markup principle:
sharing principle:

“Mudarabah” “Murabaha”
(Venture capital (Cost-plus
financing, limited financing, trade
partnership) financing)

“Musharaka” “Ijara” (Leasing),

(Partnership with
right of control),

“Sukuk“ (Bond)

Table 2.1: Examples of Islamic financing instruments

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The examples of Islamic financial instruments in table 2.1 are not full fledged. Islamic
financings entail the freedom of contracts, which enables almost infinite forms of
financial instruments and transactions (Khan & Mirakhor, 1990).

2.2.1. The Profit-and-Loss-sharing Modes

Mudarabah and Musharaka financing can be seen as equity investments and therefore
represent the profit-and-loss-sharing principle. The financiers are entitled to share profits
(or losses) of the borrowers business, settled on a ratio based on the contractual
agreement. The rate of profit is determined as a percentage and not as a lump-sum
payment. Financings based on the profit-and-loss-sharing mode cannot claim collateral or
other guarantees that would reduce the credit risk for the lender (Sundararajan, V. &
Errico, L., 2002). But banks, even though they have no legal means, have direct and
indirect control over the borrower. Further credits could be declined in the future and the
credibility and reputation of the borrower is at stake, which is a strong point in Islamic
ethics (Khan & Mirakhor, 1993). The main problem for profit-and-loss-sharing
instruments is how to hold the borrowers accountable to the Islamic lender, while
maintaining the borrower’s freedom, incentives and the control over the business project
(Dar & Presley, 2000). On the other side, profit-and-loss-sharing instruments are
generally seen as stable. This is due to the reason that the term and structure of the
liabilities and the assets are systematically matched through profit sharing arrangements
and since no fixed interest rates mount up and as no refinancing via debt is possible
(Iqbal, 1997). Furthermore, allocations are supposed to be efficient as the investment
possibilities are scrutinized on their productivity and the rate of return.
Under the Mudarabah financing mode, the sole capital provider to finance a project is the
bank. So in case of a financial loss the financial institution bears all losses. The
borrowing company on the other side offers its labor and expertise. So the managing

8
company has complete freedom to manage the business.4 Only in case of negligence or
mismanagement, the borrowing company can be made responsible for the resulting
financial losses. However the capital provider is permitted to supervise the business-
project (Sundararajan, V. & Errico, L., 2002). The borrowing company is compensated
by a stake in the profits of the project (Hamwi & Aylward, 1999). Usually Mudarabah
modes are utilized to finance projects with a short duration in trade and commerce. The
Musharaka mode of financing resembles venture capital. The financial institution is not
the sole provider of the investment. Other partners, such as the borrowing company for
example who form the partnership, provide capital to finance the project as well. The
profits are shared in the relation to the capital contribution. Lenders can participate in the
management of the borrowing company. Voting rights can also be exercised according to
the share at the borrowing company’s equity capital. The Musharaka mode of financing is
more utilized to finance projects with a long duration (Sundararajan, V. & Errico, L.,
2002).
Profit-and-loss-sharing contracts in general need special risk considerations from the
investor side, as the credit risk is shifted from the Islamic financial institution to the
investment depositor. The profit-and-loss-sharing contracts are more complex and need
to determine the profit-and-loss-sharing ratio. Mudarabah contracts for example give the
financiers no possibility to control the borrower-agent who manages the business. The
borrowing company has free hands to run the business to their best judgment. Musharaka
contracts enable the financiers better monitoring opportunities of the borrowing entity, as
they have more influence on the management and may exercise voting rights. In addition
it should be noted that in case of losses, part of the loss is absorbed by the borrower. Also
the interest rate risk does not apply for profit-and-loss-sharing financing modes. But the
question is whether this can absorb the special risks of this mode of financing. Another
risk is the operational risk which becomes crucial for investments based on the profit-
and-loss mode. This is due to the special activities that the Islamic financial institution
has to perform internally to ensure the monitoring of the investment process and the
compliance to the institutions Islamic investment policy. Operational risk may also arise

4
Mudarabah financings are structured usually as unit trusts, limited partnerships or as limited liability
companies (Hamwi & Aylward, 1999). Venture capital financing represents a modern example of
Mudarabah in the Western world (Dar & Presley, 2000).

9
due to the non-standardization of Islamic financial products and due to the lack of a
reliable and efficient Shariah litigation system that enforces financial contracts. Dar and
Presley (2000) mention that laws in most Muslim nations hinder the adaption of profit-
and-loss sharing modes by prohibiting Islamic banks to take controlling rights in
borrowing firms in two ways: First, by making controlling very costly, second, the
controlling blocks in the borrowing firms in Muslim nations are structured so that the
managers of the borrowing company control the decision making. In addition,
Mudarabah contracts are in general hostile towards investors. Therefore reforms in the
banking regulations would be required to balance the control between financiers and
managers.

2.2.2. The Mark-up Modes

Financing modes under the markup principle allow in contrast to financings according to
the profit-and-loss-sharing modes to calculate the return as a fixed percentage of the total
investment. But legally even the markup mode contracts do not exhibit a fixed negotiated
rate of return, as guaranteed returns are un-Islamic. Markup financing modes even give
the possibility to request a pledge for collateral from the borrower. Generally, markup
instruments of Islamic financial institutions resemble instruments of conventional
financial institutions most of all (Dhumale, R., & Sapcanin, A., 1998).
Murabaha and Ijara are based on the markup principle and are historically based on
commercial trade activities. In the Murabaha mode of financing a markup is negotiated
between a buyer and a seller, whereby the seller informs the buyer about the true cost for
acquiring or producing the specified product. The agreed sum is usually paid in
installments. The Ijara mode of financing can be translated as Leasing. So a product is
leased for a specified time and a specified sum. Also a lease purchase mode exists which
is called “Ijara wa Iqtina”. Here the installments include a portion toward the final
purchase of the product and consequently the transfer of ownership of the product
(Sundararajan, V. & Errico, L., 2002). Payments to the investors generally depend on the
rent or profits of the leaseholder (Oakley, 2009). This is an important point, which gives

10
Ijara financings its Islamic credibility. Advantages of Ijara financings are the access to
finance with low credit requirements. Furthermore, no collateral is required, as the
ownership of the leased assets is initially not transferred to the borrower. In addition the
transaction costs are low. So Ijara provides a source for long-term financings (Hamwi &
Aylward, 1999). Another advantage of Ijara financing is that the client doesn’t need an
initial large capital, and can pay for the services of the asset by its operating income
(Ebrahim, 1999).
Islamic Investment modes based on the markup principle are more similar to
conventional financing modes, but entail also special risks. But generally financings
based on the markup principle carry less risk than financings which are based on the
profit-and loss-sharing principle. The interest rate risk affects only indirectly through the
mark-up. Ijara contracts for example do not allow the Islamic financial institution to
transfer substantial risks and rewards of the ownership to the leaseholder, because the
Islamic financial institution has to hold the leased assets on its balance sheet for the time
of the lease (Sundararajan, V. & Errico, L., 2002).

2.2.3. Sukuk

The Sukuk is an Islamic bond which is asset based. This means that the investor owns an
undivided interest on a real tangible asset and receives a proportionate investment return
on that asset. The Sukuk can be designed as a profit-and-loss-sharing instrument or a
markup instrument (Iqbal, 2007). But Sukuks have turned to be mainly an Ijara structure.
Scholars from the Bahrain-based Accounting and Auditing Organisation for Islamic
Financial Institutions have banned Musharaka and Mudarabah modes as structures for
Islamic bonds. In February 2008, these two structures were declared to break Islamic law,
as investors were offered the possibility of a repurchase undertaking under these
structures. This means that the issuer had to guarantee to pay back the face value of the
bond when it matured or in case of default (Oakley, 2009).

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2.3. Islamic Syndicated Finance

In this paragraph, first a general introduction on syndicated loans is provided, and then
the concept of Islamic syndicated financings and differences to conventional syndicated
loans are explained. Finally the structure, how the parties involved in an Islamic
syndication deal with each other is elaborated.
The basic idea of syndicated loans is to pool resources to finance large transactions, while
reducing the risks for the finance providers. Therefore a group of banks jointly arrange a
loan. The risk reduction is due to the ability of the financiers to invest in more projects as
the investment size is reduced, whereby they can diversify their investments more
effectively. A syndicate typically includes one or a few lead banks, which assess the
borrower quality and which negotiate the terms and conditions of the contract.
Furthermore the lead banks prepare the information memorandum for the participating
banks, which have to decide then how much of the syndicate loan to invest in. After the
deal is signed, the deal agent, which is often one of the lead banks, has the responsibility
to monitor the borrower, whether the borrower complies with the loan covenants and to
negotiate with the borrower and the lenders in case of default. To retain the incentives of
the lead banks to properly monitor post-signing the contract, the lead banks usually retain
a share of the loan in order to signal the quality of the specific syndicated loan. (Giannetti
& Yafeh, 2009).
Islamic syndicated financings are based on Islamic rules and laws which are referred to as
“Shariah compliant”. The syndicated Islamic finance market has seen noticeable growth
in the last years. In 2007 there were about 28 syndicated Islamic finance deals which
summed up to a total value of $15.2 billion (Iqbal, 2007). It is also often the case that
Islamic financing is pooled in alongside conventional finance and is pari passu with other
senior debt (Akhtar, 2007). The main distinguishing features of Islamic syndications are
that the returns are not structured as interest income and that generally returns to the
investors are not guaranteed as it is required by the Shariah. The conformity of
syndicated financing deals to the Shariah is ensured by using eligible Islamic financing
modes, as described in the paragraphs above. Most Islamic financial instruments are
qualified for syndications, but Murabaha and Sukuk are the most widely used ones.

12
Another distinguishing point between Islamic syndications and conventional syndications
is that in the opinion of many Islamic scholars the lead arranger has to sell the “debt”
down at par and not at discount or at a premium. In conventional syndicated loans, the
lead bank sells the debt further to other banks and this might also be at a discount or at a
premium. But the lead arranger for an Islamic syndication is allowed to take an
administration or management fee for the arrangement of the syndication process. Except
for the distinguishing points explained above, syndicated Islamic financings are very
similar to their conventional counterparts. A detailed description of how the different
stakeholders of Islamic syndications are involved with each other follows next.

Obligor

Wakeel
(Lead Bank)

Muwakkil Muwakkil ……… Muwakkil

Graph 2.3: Syndicated Islamic Finance (Source: Iqbal, 2007)

The Islamic financial instrument for an Islamic syndicated financing is provided by the
lead bank to the obligor (Graph 2.3). The lead bank will set up an investment agency
agreement (IAA) with the participating banks in the syndicate. Usually the lead bank is

13
part of the syndicate as well. The lead bank acts as a “Wakeel” or agent, the participating
banks in the syndicate are called the “Muwakkils” or principals. While the Muwakkils
provide the funds, the Wakeel is the managing agent of the funds. The Wakeel has the
obligation to monitor and manage the transaction and to keep the direct contact with the
obligor, as the Muwakkils only have a direct relationship with the Wakeel and not the
obligor. The IAA specifies the conditions for the participation in the syndication, but
stipulates also the purpose for which the capital provided by the Muwakkils can be used.
So the IAA determines the rights and obligations of the parties involved in the
syndication (Iqbal, 2007).

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3. Descriptive Research Questions:

This paper has the objective to fill the empirical gap on Islamic syndicated financings, as
Islamic financings in larger dimensions are relatively young. Therefore, first a descriptive
research on the characteristics of the Islamic financings, based on the data of all
syndicated loans from the time period between January 1995 and October 2006 will be
conducted.5 These characteristics will then be compared with conventional syndicated
loans. Also differences in between this time period will be researched. The results on the
structural characteristics of Islamic syndicated financings provide answers on the true
dimension of the agency conflict and the structural tools used to reduce agency costs. The
following part will discuss research results of different authors on general Islamic
financial instruments or general syndicated loans. These discussions might hint what
research results to expect for Islamic syndicated financings and help to formulate the
research questions on Islamic syndicated financings.
First, this article will conduct a descriptive research on multiple features of Islamic
syndicated financings. The first characteristics which will be evaluated for the descriptive
research are based on the lenders and the borrowers of Islamic syndicated financings.
Where are the funds of Islamic syndicated financings coming from? Are the oil rich
Persian Gulf states the source of Islamic syndicated financings? The Boston Consulting
Group (2008) argues that the growth of Islamic finance can be attributed to the
accelerating wealth of the petrodollar-rich Persian-Gulf states. And which countries are
receiving these funds? It seems most probable that countries with Muslim populations are
the main target for Islamic syndicated financings. The article “Turning towards Mecca”
(Economist, 2008) argues for example that Islamic finance with funds from the Persian
Gulf states is also flowing towards Islamic countries in Africa. But funds might also flow
towards Western countries, to enable Persian Gulf investors to diversify their investment
portfolio geographically while complying with Islamic jurisprudence (Solé, 2007). These
thoughts lead to the following research questions:

5
This time period starts with the emergence of the first Islamic syndicated financings and ends before any
effect of the financial crisis, which emerged in 2007, to affect the research.

15
1) Research Question: Where are funds of Islamic syndicated loans coming from?

2) Research Question: Which countries are receiving the funds of Islamic syndicated
financings?

The next characteristic which is to be explored is the industrial distribution of the Islamic
syndicated financings. Generally, the majority of Islamic financial transactions are
directed away from agriculture and industry towards retail and trade finance (Rajesh,
Amos, Tarik, 2000). This is because these involve fewer risks for the lending institutions.
Islamic financings have the characteristic to be concentrated on short-term trade, retail,
finance and service sector financings than on the capital intensive industrial sector
(Hamwi & Aylward, 1999). But as Islamic financings are expected to profit emerging
nations in Muslim nations, the financing of infrastructure projects should see a rising
trend as the paper “Infrastructure project finance and capital flows: A new perspective”
(Dailami and Leipziger, 1998) would suggest. There are opportunities for Islamic
infrastructure financings, especially in power and telecommunications projects. But also
projects in transportation and utilities are becoming more important. The growth in
demand for investments in these sectors has increased due to the privatization drive of
many governments and the difficulties these large projects face to mobilize funds for
these large-scale projects. Traditionally governments had been the source of funds for
infrastructure projects, but governments have to adapt to tighter budget constraints.
Furthermore the limited recourse project financing structures fit well in the Islamic
financing modes as they are in line with Islamic law at a general level because they are
asset based and socially valuable (Hamwi & Aylward, 1999). This paper will research the
business areas where Islamic syndicated financings have been provided for in the time
between January 1995 till October 2006 and whether there are changes during time.

3) Research Question: Towards which industries are Islamic syndicated financings

directed to? And are there changes over time?

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Next, the structure of Islamic syndicated financings shall be researched. For the structure
of syndications, the agency problem and information asymmetries play an important
factor. In general, Islamic financing is different than conventional financing as the
lenders face different risks, even though Islamic financing resembles conventional
lending (Chong & Liu, 2007). Grais & Pellegrini (2006) argue that the agency problem
for Islamic financial institutions is not only due to the separation of ownership and
control, which is the common agency problem that conventional syndicated loans face,
but agency problems hit Islamic financial institutions also due to the separation of
depositor’s and investor’s cash flows and control rights (Grais & Pellegrini, 2006).
Agency problems for Islamic financial instruments, resulting from non-compliance to
Shariah regulations and resulting from poor transparency, can affect Islamic banks
credibility and its ability to attract investors (Chapra and Ahmed, 2002). Safieddine
(2008) states that most Islamic banks understand the importance of incorporating
corporate governance mechanisms. But deficiencies in the actual corporate governance
system are observed.6
Especially profit-and-loss-sharing instruments are exposed to agency problems.
Compared to a self-financed manager, borrowers of profit-and-loss-sharing instruments
have less incentive to bring in effort and have more incentive to report less profit. In
addition, the lenders’ role in the management is restricted and doesn’t facilitate
participation in the management (Dar & Presley, 2000).7
To mitigate agency problems for syndicated loans, there are specificities in the structure
of these loans. Sufi (2007) finds out that the lead banks hold a larger share of the
syndicated loans and that the syndicate is more concentrated, when information
asymmetry requires more intensive monitoring and due diligence of the borrower. Sufi
(2007) also finds out that in case that the information asymmetries are very large, if the

6
It is for example not common yet for Islamic banks to have a governance committee, an audit committee
or clear internal audit functions. As this leads to a financial reporting process which is not sufficiently
monitored, this leads to agency problems (Safieddine, 2008).
7
There are also other reasons, which are not related to the agency problem, why Islamic markup modes are
preferred to profit-and-loss sharing modes of Islamic financings: Financings which are more debt-like
enjoy tax advantages. Profits are taxed, but interest (regarded as a cost) is exempted. Furthermore, property
rights are often not well defined and protected in many Muslim nations. But well-defined property rights
are an inalienable requirement for profit-and-loss-sharing contracts. Another reason is that financial
products which are based on the profit-and-loss-sharing mode have the disadvantage that there is no
secondary market to enable financial institutions to trade those (Dar & Presley, 2000).

17
borrower is informationally opaque, participant banks are closer to the borrower, by
geographical means and by the means of previous lending relationships. Giannetti &
Yafeh (2009) have evaluated how cultural differences affect syndicated loans. They find
out that the share of participant banks are smaller as the cultural distance is higher. In
addition, the larger the cultural distance between the lead bank and the borrower, the
larger the share of the lead bank, as cultural differences reduce risk sharing within the
syndicate.8 There are several reasons for these results. The first one is information
asymmetry. The closer the culture is, the lower the cost of information gathering, as
lenders consider borrowers from a distant culture more risky. Another reason might be
the higher transaction costs for culturally distant lenders.9 And finally another argument
might be a taste-based discrimination which arises due to a negative perception because
of the cultural differences between borrowers and lenders (Giannetti & Yafeh, 2009).
These considerations on the one hand mean that Islamic syndicated financings should
exhibit larger shares of the lead banks, as their agency conflicts seem especially great. On
the other hand the gap of cultural differences between Islamic borrowers and lenders is
not very clear until now. Cultural closeness between lenders and borrower could mean
that a larger share of the lead banks is not required anymore. Cultural distance between
lenders and borrower could lead to even increased shares of the lead banks. These
considerations lead to the following research question, which might hint about the
urgency of the agency problem and the gap of cultural differences between borrowers and
lenders at Islamic syndicated financings.

4) Research Question: Are the shares of lead banks at Islamic syndicated financings
larger than in conventional syndicated loans?

In the context of Islamic syndicated financings, the loan maturity is an important measure
of the agency problem and the perceived asymmetric information. A shorter maturity can
8
Regarding the quality of the borrower there is an information asymmetry between the lead banks and the
participating banks. The more severe the information asymmetries and the agency problems the larger the
share of the loan, the lead banks have to retain. This in turn limits the lead banks ability to diversify their
investments (Giannetti & Yafeh, 2009).
9
The higher transaction costs may arise due to difficult communication, from difficult co-ordination
between individuals of different cultural backgrounds and from conflicts that arise due to the differences in
national cultures (Giannetti & Yafeh, 2009).

18
be interpreted as a contracting tool, in case the borrower is perceived to have high default
probability (Giannetti & Yafeh, 2009). Moreover, Islamic financial institutions do have a
preference to finance short-term investments due to the regulations of Islamic financial
systems or the practice of Islamic financial institutions (Rajesh, Amos, Tarik, 2000).
Islamic financial institutions haven’t had the abilities to develop well-functioning
secondary markets for long-term Islamic financial products and the missing of qualified
market makers are also reasons why Islamic financial institutions have been limited to
invest in long-term projects (Dahlia El, Wafik, Zamir, 2004). Therefore, the next research
question is concerning the maturity of Islamic syndications in comparison to
conventional syndication. All arguments hint that the Islamic syndications should exhibit
shorter maturities than their conventional counterparts.

5) Research Question: Do Islamic syndicated financings exhibit shorter maturities than

conventional syndicated loans?

And also loan covenants are important measures of the agency problem and the perceived
asymmetric information. As Islamic financing involves risk sharing, there are tighter
controls from the side of the Islamic financial institutions. And because Islamic
syndicated financings are mostly structured as markup-modes and less as profit-and-loss-
sharing modes, there is no right of control, which might strengthen the requirement for
debt covenants, especially for financial debt covenants. This leads to the next research
question, which explores whether more Islamic syndications exhibit financial debt
covenants than conventional syndications.

6) Research Question: Do more Islamic syndicated financings exhibit financial debt

covenants than conventional syndicated loans?

Information asymmetry can also mean that the syndicate is more concentrated to be better
able to monitor the borrower. As the Islamic financial system is not as developed as the
conventional banking system and as the number and size of Islamic financial institutions
is limited, it seems also probable that there are fewer banks engaged in Islamic syndicates

19
than in conventional ones. Therefore the next research question is concerning the number
of participating banks in an Islamic syndication in comparison to a conventional
syndication.

7) Research Question: Are there fewer participating banks in Islamic syndications than in
syndicated loans?

Another tool to limit effects of agency problems and information asymmetry is the
limitation of the size of the loan. Giannetti & Yafeh (2009) for example, find out that
culturally distant borrowers are offered smaller loans, as they exhibit larger agency
problems and information asymmetries compared to culturally closer borrowers.
Therefore the next research question examines the size of the Islamic syndicated
financings in comparison to the conventional syndicated loans.

8) Research Question: Are Islamic syndicated finances smaller than conventional

syndicated loans?

20
4. Analysis on Loan Spreads of Malaysian Syndications:

In this section, an OLS regression model with determinants of loan pricing for Islamic
and non-Islamic loans in Malaysia is built to find out whether Islamic syndicated
financings are more expensive than conventional syndications and whether specific
attributes of Islamic and non-Islamic syndicated loans influence credit spreads. This
analysis is based on the model used by Ivashina (2009) in her article “Asymmetric
information effects on loan spreads”. The time period evaluated is again, as it is the case
for the descriptive research, between 1995 and October 2006. The research will focus on
Malaysia, one of the most developed markets for Islamic banking products, which
exhibits an Islamic banking system next to the existence of the conventional banking
system. The choice for one single country allows for a more accurate comparison
between Islamic syndicated financings and conventional syndicated loans.
Empirically, to the knowledge of the author, there is no literature on the research
question, whether the spreads on Islamic syndicated financing are priced differently than
conventional syndicated loans. But there is literature on the pricing of Islamic financial
instruments in general. This question entails the important issue of corporate governance.
In the discussion of corporate governance, the fundamental problem is concerning the
agency problem, which results from the separation of ownership and finance or control
(Shleifer & Vishny, 1997). Therefore the main objective of shareholders’ value based
corporate governance is to develop incentives for managers to pursue the incentives of
the shareholders (Grais & Pellegrini, 2006). When there is a shift from shareholder value
maximization to aggregate welfare maximization of stakeholders, as is the case for
Islamic financings, the managerial incentives are difficult to design (Tirole, 1999).
Reputational risk evolves for the whole Islamic financial industry if individual Islamic
institutions do not comply with the Islamic jurisprudence. Therefore, Islamic financial
institutions incorporate corporate governance structures and processes which shall ensure
the Shariah compliance to reassure all the stakeholders (Grais & Pellegrini, 2006).10

10
The most applied method for Shariah compliance reassurance are certifications by independent bodies.
Furthermore a Shariah Supervisory Board is part of the internal corporate governance structure of the
Islamic financial institutions to give advice on Shariah conformity. Shariah Supervisory Boards deal with
five corporate governance issues, namely the independence, confidentiality, competence, consistency and

21
Islamic financial institutions are exposed to cash-flow risk that might erode the capital
base of Islamic banks. Negative deviations from promised liability at a conventional bank
are absorbed by its equity. In Islamic banks depositors are not guaranteed their deposits
or any profit (Ebrahim, 1999). This might lead depositors to take away their money when
markets are not promising. Therefore Islamic financial institutions and Islamic financial
instruments have a different risk pattern than conventional financial institutions and
instruments (Ariss, 2009). Syndicated loan lenders, as described by Giannetti & Yafeh
(2009), are associated with asymmetric information and moral hazard problems. All these
research results therefore hint that Islamic syndicated loans are priced differently than
conventional syndicated loans.
Better corporate governance enables corporations to extend financing to a business and
enables a lower cost of capital. Islamic scholars might argue that Islamic financial
instruments enable better corporate governance, as Islam obliges stakeholders to engage
ethically. But the sticking of stakeholders to Islamic ethically correct principles cannot be
taken for granted. Islamic financial institutions suffer from breaches of fiduciary
responsibilities and from effects of asymmetric information as much as conventional
banks do. Scandals in Islamic banking look very much the same as for conventional
banking scandals, such as audit failure, collusion of the board with the management,
excessive risk taking or imprudent lending. Furthermore the Islamic financial industry
does raise specific challenges for the corporate governance, which do not hold for the
conventional financial industry. One example is the confidence keeping of the
stakeholders of the compliance of the institutions activities with the Islamic rules and
ethics (Grais & Pellegrini, 2006).
But the more perceived agency problems are, the larger their effects on the Islamic
syndicated financing contract, entailing the cost of the financing. Differences in
perceived risk can also be attributed to cultural differences between borrowers and
lenders, which lead to differences in the spread of Islamic and conventional syndicated
loans. The loan spread is in general lower if borrowers and lenders share the same

disclosure. Except for Iran, where the Shariah compliance is monitored and guaranteed by the central bank,
Shariah Supervisory Boards exist in all Islamic countries. Further, centralized Shariah Supervisory Boards
are used in many Islamic countries for ex-ante monitoring, which develops further the standardization of
Shariah operations, and ex-post monitoring of the Shariah conformity (Grais & Pellegrini, 2006).

22
religion and are culturally closer (Giannetti & Yafeh, 2009). So this would mean that
syndicated Islamic financings should be more expensive for a borrower in the Middle
East, if the lead lender of the syndicate is a Western bank than compared to an Islamic
financial institution from the Middle East as a lead lender. Safieddine (2008) points out
that there are also conflicts between some agency mitigating mechanisms and the Shariah
law. This could lead to higher costs for Islamic financial instruments. Others argue that
the margins for Islamic banks would be larger, due to the “piety premium” which also
other ethical investment products possess (Hasan, 2008). Also the Tripolipost (2008)
mentions, that Islamic product are regarded as more expensive, as clients have to pay a
premium on Islamic financings. But Akhtar (2007) mentions that tranches of Islamic
financings, which are incorporated within a multi-sourced financing offering, are priced
competitively.
This paper will research whether Islamic syndicated financings are more expensive,
based on the credit spreads founded on data of syndicated loans for Malaysian borrowers.
Since there is a huge difference in the risk pattern, which can enhance information
asymmetries and the agency problems and because there might be a cultural distance
between borrowers and lenders and since Islamic syndicated financings might include a
“piety premium”, it is hypothesized that the spreads for Islamic syndicated financings are
higher than for conventional syndicated loans.

Hypothesis: Islamic syndicated financing spreads are higher than spreads for
conventional syndicated loans.

The method to test this hypothesis will be based on the model used by Ivashina (2009) in
her article “Asymmetric information effects on loan spreads”. As in the article of
Ivashina (2009), the determinants of the loan pricing in this statistical test are based on
borrower characteristics, contract characteristics and the relevant characteristics of the
syndicate structure. The borrower characteristics are determined by the respective credit
ratings.11 Contract characteristics might include the maturity, the deal size and the
existence or not-existence of financial covenants. Characteristics of the syndicate

11
Borrowers which do not exhibit a published rating will be classified as “Not-Rated”.

23
structure might be the size of the lead-banks share or the number of participating banks.
Furthermore the source of the funds may play a relevant role, as cultural distance might
have a negative effect. Relevant contract characteristics and characteristics of the
syndicate structure for the statistical test are determined in the descriptive research.
Since financings according to the profit-and-loss sharing principle do not exhibit fixed
spreads, the research can only take into account data given from deals based on the
markup-pricing principle. But it is important to note again that Islamic financial
instruments exhibit skewness towards markup pricing instruments. According to the
article “Islamic Banks and Investment Financing” (Rajesh, Amos, Tarik, 2000), the
markup-principle is the most widely used financing structure in Malaysia and other
Muslim countries with a dual banking system, such as Egypt or Jordan. And also in Iran,
where the banking system is entirely Islamic the majority of Islamic financial instruments
are based on the mark-up principle. Furthermore, this trend has even increased for all
these countries over time.
Markup-pricing in this research is determined for syndicated financings where the base
rate & markup is either fixed or based on the LIBOR plus a markup. The pricing
difference will be based on the difference of the markup on the base rate or the LIBOR.
Of course there are also other factors than the spread which will determine the total cost
of the financing. The comprehensiveness of the regulatory framework and the provision
of the necessary legal framework could be reasons why Islamic financing becomes more
or less expensive than conventional financing. The provision of tax exemptions and the
provision of complete value chains of Islamic financial products in the markets can have
an important effect on the total Islamic financing costs (islamicfinanceasia.com, 2008).
But it is assumed that there are no disadvantages for Islamic syndicated financings
compared to their conventional counterparts in Malaysia, as the Islamic banking industry
tends to appear and grow there, where legal and tax hurdles are paved, as it happened in
Malaysia. Furthermore, the considerations about differences of the regulatory and legal
framework are less important in this paper, as this research is conducted on a single
country, namely Malaysia and as all Islamic syndicated financings have to cope with the
same regulatory and legal framework.

24
The consideration to conduct this research only on Islamic syndicated financings and
conventional syndicated loans from Malaysia has several reasons. The first reason is that
Malaysia exhibits the conventional and the Islamic banking system, which makes an
accurate comparison between the two systems possible. The article of Ainley, M. &
Mashayekhi, A. & Hicks, R. & Rahman A. & Ravalia, A. (2007) points out, that there is
variation in Islamic banking practices among countries and jurisdictions. And these
differences are not only due to differences of interpretation of Islamic scholars but also the
level of industry development and the regulatory framework. This means that comparable
differences in Islamic banking are better done between very similar countries, which would
increase the difficulties to compare the results among different Islamic nations. Furthermore,
Malaysia exhibits one of the most developed banking systems in the Islamic World and
also in the database used for this research, Malaysia is found to be by far the largest
market for Islamic syndicated financings. As this research is done on Malaysian Islamic
syndicated financings, the next paragraph shortly introduces the banking system in
Malaysia.

4.1 The Banking System in Malaysia

Malaysia with its dual banking system, which facilitates the co-existence of Islamic and
conventional banking systems, provides a unique opportunity to compare Islamic
financing with conventional financing. Malaysia is reportedly one of the largest Islamic
financing hubs in the world (Solé, 2007). To achieve this position, regulatory premises
were set with the establishment of the Islamic Banking Act in 1983 (Chong & Liu, 2007).
So for example, the central bank of Malaysia gives tax breaks for Islamic products.
Furthermore rules were relaxed to allow commercial and investment banks to carry out
Islamic business transactions in foreign currencies. Malaysia, like several other countries
has introduced a central Shariah board in its regulatory systems (Hamwi & Aylward,
1999).
Today there are 17 Islamic banks in Malaysia, including the Islamic windows of large
conventional banks, such as HSBC Holdings Plc, Oversea-Chinese Banking Corp. and

25
Standard Chartered Plc (Bloomberg, 2009). Islamic banking modes have often been
criticized to resemble debt, especially in countries with a dual banking system. Chong &
Liu (2007) argue, especially in the case of Malaysia, that next to the severe agency
problems which Islamic financing modes create, competition from conventional banking
might be a reason why Islamic financing modes resemble debt instruments.12 The ability
to maximize the risk-adjusted returns on investment and the ability to sustain stable and
competitive returns, ensure that Islamic financial institutions stay competitive against
their conventional peers (Chong & Liu, 2007).

12
Islamic banks, sticking to the profit-and-loss sharing principle, would face „withdrawal risk“ as a result
of a lower rate of return for depositors than the rate of return competitors pay (Chong & Liu, 2007).

26
5. Data Selection:

The data source for this Master thesis stems from the LoanAnalytics (former Loanware)
database, which contains detailed information on the whole population of loan facilities.
The data population from 1995 up to October 2006 was kindly placed at the disposal of
mine by Dr. Stefanie Kleimeier, Associate Professor of Finance at Maastricht University,
as the research source for this Master thesis.

5.1 Data Selection for the Descriptive Research Questions

For the descriptive research questions all worldwide Islamic syndicated financings from
1995 till October 2006 were selected. Islamic financings were separated from the other
financing facilities by two ways. First all facilities which were described as Islamic
financings by the information contained in the LoanAnalytics database on the loan
facilities. Second, facilities which have no remarks to be Islamic financings were treated
as Islamic financing facilities if the facility contained at least one participating financial
institution which conducts its business exclusively in an Islamic compliant manner.13And
also if the borrower is a solely Islamic financial institution, the facility is treated as an
Islamic financing facility. The reason is that Islamic financial Institutions are only
allowed to lend and borrow in an Islam compliant way (Chong & Liu, 2007).
Furthermore the question arises whether loans to Iranian companies in Iran, the only
country in the database which exhibits a solely Islamic banking system14, by foreign
financial institutions are automatically Shariah compliant. But even though the borrowing
companies are mostly state owned enterprises, the loans from abroad are not

13
Especial attention has to be paid to Iranian banks, as they are often seen as Islamic financial institutions,
as the Islamic banking regime in Iran may induce. But the LoanAnalytics dataware shows that often Iranian
banks, which lend money from branches abroad to international borrowers, do mostly not follow Islamic
financing modes.
14
Only Sudan had introduced a wholly Islamic banking system as well. Sudan promulgated the full
Islamization of its financial system in 1992. But since January 2005, the time when the Sudanese
government and the former Christian opposition group Sudan People’s Liberation Movement (SPLM) have
signed a peace agreement, conventional banks are allowed to work in Sudan again (Solé, 2007).

27
automatically Shariah compliant (Shafizadeh, 2008).15 Therefore in this research,
borrowings by Iranian companies from foreign financial institutions (if the deal is
arranged at least by one foreign financial institution) are only assumed to be Shariah
compliant if this information is contained in the LoanAnalytics database. But for Iranian
banks, not borrowing via a branch abroad, any borrowing is assumed to be Shariah
compliant, as these institutions have to comply with the Islamic banking system inside
the country.

5.2 Sample Characteristics for the Descriptive Research Questions

The sample includes all worldwide syndicated Islamic financings. The final sample size
consists of 175 Islamic syndicated financing deals from 1995 till October 2006. For some
of the descriptive research results the sample size is lower, as specific information
required is missing on the dataset. But the exact number of deals is given for every
descriptive research result. The time span ends in October 2006, not to include any effect
of the credit crisis which followed the following year. The total facility amount of these
deals in this time span totals about $28.55bn. There is generally an increasing trend
visible, but there are also several drawbacks visible in the generally positive trend for
Islamic syndicated financings (Chart 4.2). These drawbacks coincide with the periods of
the Asian Crisis in 1997, the bust of the economic bubble in the end of 2000 and the start
of the Iraq War in 2003. The year 2006 exhibits the highest amount ever, invested in
syndicated Islamic financings, with a record of more than $9.38bn in investments till
October 2000.

15
After many years of discussion, foreign lenders, who lend money to borrowers in Iran, have to pay taxes
on their interest income. But most financial facilities of foreign lenders entail provisions which require any
payments by the borrower back to the lender to be grossed up of any tax payments attributable to it
(Shafizadeh, 2008).

28
Chart 4.2: Investments in Islamic Syndicated Loans from 1995 till October 2006

5.3 Data Selection & Sample Characteristics for the Loan Spread Analysis of
Malaysian Syndications

In order to select the data for the hypothesis test, first all Malaysian borrowers of
Syndicated loans, Islamic and conventional ones, were selected. As for the descriptive
research, the LoanAnalytics database is used as the data source. The sample includes all
Malaysian borrowers from the time period between 1995 and October 2006, where the
all-in spread was given in the database. In a few cases other important information in
regard to the determinants of loan pricing, such as the name of the lenders or the maturity
date of the deal are missing in the database as well. These few cases were excluded too.
Furthermore the borrower characteristics, which are determinants of the loan pricing, are
measured by the respective credit ratings of the borrowers. The credit ratings for the
Malaysian borrowers were found on the websites of the two credit rating agencies in
Malaysia, Ram Ratings Services Berhard (RAM) and Malaysian Rating Corporation
Berhard (MARC). If the borrowing company doesn’t have a credit rating, it was
researched whether this company has a mother company which was rated, to eventually
include this rating as a proxy. Furthermore, it is not always possible to find credit ratings
for the borrower for the specific year, when the syndicated loan deal was signed. In case

29
there is no credit rating for the time of the deal signing, the credit rating which is closest
in time is chosen. If there is no credit rating found, the deal is classified as “Not Rated” in
the analysis. Data on the syndicate structure and the contract characteristics were found
on the LoanAnalytics database.
The sample finally includes a total of 420 Islamic and non-Islamic syndicated loan deals.
Of these, 32 syndications are Islamic financings. As there are 57 Malaysian Islamic
syndications for this time period in total, this means that the final sample includes 56% of
them. Not all of the syndications could be included, as data on the spread was missing in
these cases. It is important to mention that the 57 Malaysian Islamic syndicated
financings count for about a third of all 175 Islamic syndications worldwide in the
researched time period.

30
6. Empirical Results:

This paragraph presents the results for the descriptive research questions and the outcome
of the loan spread analysis for the Malaysian syndicate borrowers. First the results of the
descriptive research questions are presented, and then the results of the regression model
for the loan spread analysis are provided. For the descriptive research results, countries
except for Malaysia, which has a very dominant share, are also added up to regions to
emphasize the dominance of specific regions for Islamic syndications. Furthermore the
exceptional role for Malaysia continues as Malaysian syndications are taken for the loan
spread analysis.

6.1 The receivers of Islamic syndicated financings:

The first research question investigates the receivers of Islamic syndicated financings. In
table 6.1.1 the benefiters are categorized in countries. The total tranche amounts for all
Islamic syndicated financings worldwide, for the time period between 1995 and October
2006, add up to $28.55bn. The deal count totals 175 Islamic syndicated financings. In
respect to the tranche amounts, Saudi Arabian borrowers have the lead with $6.67bn of
Islamic syndicated financings, which means that more than 23% of all the financings
have been received by Saudi Arabian borrowers. The United Arab Emirates follows with
$5.90bn of Islamic syndicated financings, which shows that borrowers in the United Arab
Emirates have gained almost 21% of all the Islamic syndicated financings. Malaysia is
next with $5.02bn of Islamic syndicated financings which is equal to a share of almost
18% for Malaysia. Borrowers from Kuwait and Iran are also important benefiters of
Islamic syndicated financings, and their share of all the Islamic syndicated financings is
about 12% and 9% respectively. Companies from predominantly non-Islamic nations,
such as the Netherlands, Kazakhstan, Brazil, the United Kingdom, South-Korea, Italy,
France, Singapore and the United States have benefited from Islamic syndicated
financings as well.

31
 Tranche amount Tranche Amount in Percent of Deal
Country
($) Total Count
Bahrain 1.065.167.800 3,73% 8
Brazil 85000000 0,30% 2
France 54.300.400 0,19% 5
Indonesia 370.000.000 1,30% 3
Iran 2.630.812.904 9,21% 22
Italy 100.000.000 0,35% 1
Jordan 15.000.000 0,05% 1
Kazakhstan 250.000.000 0,88% 3
Korea (South) 130.000.000 0,46% 3
Kuwait 3.475.000.000 12,17% 8
Malaysia 5.016.268.305 17,57% 57
Netherlands 750.000.000 2,63% 1
Oman 260.000.000 0,91% 1
Pakistan 450.005.580 1,58% 9
Qatar 139.590.000 0,49% 3
Saudi Arabia 6.667.200.000 23,35% 11
Singapore 85.000.000 0,30% 1
Turkey 834.500.000 2,92% 15
United Arab Emirates 5.902.000.000 20,67% 17
United Kingdom 228000000 0,80% 3
USA 45.000.000 0,16% 1
Total 28.552.844.989 100,00% 175
Table 6.1.1: Receivers of Islamic syndicated financings

Chart 6.1.1 shows the borrowers of Islamic syndicated financings added up in regions, to
emphasize the most important benefiting regions. Malaysia as explained already above is
exceptionally left as a single country. The regions consist of the West 16, the Middle
East17, Malaysia and Others18. The chart (6.1.1) shows that 75% of the borrowers of more
than $28.55bn of investments in syndicated Islamic financings are located in the Middle
East. Malaysia, as the largest hub for Islamic financings in South-East Asia comprises
about 18% of all the Islamic syndicated financings in the world. The absorption of capital
by the West is very limited, but still not neglectable at about 4%. Other borrowers
comprise 3 % of all Islamic syndicated financings.

16
The West is defined to entail France, Italy, the Netherlands, the United Kingdom and the United States.
17
In this paper, the Middle East is defined as the Greater Middle East which includes Bahrain, Iran, Jordan,
Kuwait, Oman, Pakistan, Qatar, Saudi Arabia, Turkey, and the United Arab Emirates.
18
The Others entail Brazil, Indonesia, Kazakhstan, South Korea and Singapore.

32
Chart 6.1.1: Receivers of Islamic syndicated financings in % of the total Islamic syndicated financings

In regard to the deal counts, Malaysia has the lead with 57 out of 175 Islamic syndicated
financing deals (Table 6.1.1). Iran and the United Arab Emirates follow with 22 and 17
deals respectively. Saudi Arabian borrowers exhibit only 11 deals, even though they have
the largest share in Islamic syndications in total amounts. The number of deals therefore
does not reflect the same outcome as the respective percentages of the investments. Table
6.1.2 shows well, that comparably loans to Malaysian borrowers are smaller than to
borrowers in the Middle East. While the average deal size for Malaysian Islamic
syndicated financings is about $88.0 million, the average deal size for Middle Eastern
borrowers is about $225.7 million. The average deal size for all Islamic syndicated
financings is $163.2 million. Western and Other borrowers have average deal sizes of
$107.0 million and $76.7 million respectively. The reason for these significant
differences might be the industries that profit from Islamic syndications in the respective
countries. Malaysian deals for example, overhelmingly invest in the construction
industry, while Islamic syndications in the Middle East are mostly on very capital
intensive industries, such as the oil and gas sector, or the utilities sector. A more detailed
description of the industrial distribution can be found in paragraph 6.3.

33
 Number of Deals Total Deal Sum ($) Average Deal Size ($)
West 11 1.177.300.400 107.027.309
Middle East 95 21.439.276.284 225.676.592
Malaysia 57 5.016.268.305 88.004.707
Others 12 920.000.000 76.666.667
All 175 28.552.844.989 163.159.114
Table 6.1.2: Receivers of Islamic syndicated financings in total numbers for regions

6.2 The source of funds for Islamic Syndicated financings:

The second research question investigates where funds of Islamic syndicated financings
come from. In order to do this, the lending institutions are explored. The place of the
headquarters of the lending institutions is taken as the source for the countries, from
where the funds of Islamic syndicated financings are coming from. Again these countries
are added up to regions as in the paragraph before. And as before, the regions consist of
the West19, the Middle East20, Malaysia and Others21.
As expected, the Middle East contributes a large share of the investments in Islamic
syndicated financings (Chart 6.2). But surprisingly, Western lenders exhibit an even
larger share of investments in Islamic syndicated financings then Middle Eastern lenders.
While Western lenders have contributed about 50% of the funds for Islamic syndicated
financings, Middle Eastern lenders have provided 34%. Malaysia as a financial hub for
Islamic financings alone provided 11% of the funds of all Islamic syndications. 5% of the
funds are from other lenders, such as from Japan or Singapore.

19
The West is defined to entail France, Italy, the Netherlands, the United Kingdom and the United States.
20
In this paper, the Middle East is defined as the Greater Middle East which includes Bahrain, Iran, Jordan,
Kuwait, Oman, Pakistan, Qatar, Saudi Arabia, Turkey, and the United Arab Emirates.
21
The Others entail Brazil, Indonesia, Kazakhstan, South Korea and Singapore.

34
Chart 6.2: Source of funds of Islamic syndicated financings

Next, it seems also very interesting to find out which fund providers are the most
important for which Islamic syndicated financing receiver. As can be seen in table 6.2.3,
Western Lenders are focused on the Middle East, as 79% of all investments in Islamic
syndications by Western financial institutions are absorbed by borrowers in the Middle
East. Malaysian borrowers are also paid attention to, as 14% of all investments in Islamic
syndications by Western financial institutions are absorbed by borrowers in Malaysia.

Western Middle Eastern Malaysian Other

in % of Lenders
Borrowers Borrowers Borrowers Borrowers
Western Lenders 2,3% 79,0% 14,0% 4,7%
Middle Eastern Lenders 7,7% 89,6% 0,3% 2,5%
Malaysian Lenders 0,0% 5,4% 94,6% 0,0%
Other Lenders 6,9% 89,3% 3,8% 0,0%
Table 6.2.3: Lenders and borrowers of Islamic syndicated financings in % terms

35
 Western Middle Eastern Malaysian Other
in million-$ Total
Borrowers Borrowers Borrowers Borrowers
Western Lenders 337 11.355 2.006 680 14.379
Middle Eastern Lenders 750 8.753 28 240 9.770
Malaysian Lenders 0 167 2.932 0 3.099
Other Lenders 90 1.164 50 0 1.304
Total 1.177 21.439 5.016 920 28.553
Table 6.2.4: Lenders and borrowers of Islamic syndicated financings in absolute numbers

In absolute numbers, $11,355 million and $2,006 million of investments in Islamic

syndications by Western financial institutions were absorbed by borrowers in the Middle
East and Malaysia respectively (Table 6.2.4). Middle Eastern lenders focus almost purely
on their region, as 89.6% of their investments in Islamic syndications stay in the region.
But 7.7% of the funds flow to Western borrowers (Table 6.2.3). Again in absolute
numbers this means that $8,753 million of Islamic syndications from Middle Eastern
lenders have been absorbed by Middle Eastern borrowers, while also $750 million have
reached borrowers in the West (Table.6.2.4). Malaysian lenders are also very focused on
their home market, as 94.6% of the Malaysian funds flow to Malaysian borrowers (Table
6.2.3). But there are also investments done in the Middle East. 5.4% of the Malaysian
investments in Islamic syndications are absorbed in the Middle East. In absolute numbers
these investments total $2,932 million and $167 million for Malaysian and Middle
Eastern borrowers respectively (Table.6.2.4).Lenders, other than Western, Middle
Eastern and Malaysian focus their investments on the Middle East. The Middle East
absorbs 89.3%, of the total investments in Islamic syndications. And also Western
countries absorb 6.9% of the funds of the other lenders (Table 6.2.3). In absolute numbers
these investments have a size of $1,164 million and $90 million for Middle Eastern and
Western borrowers respectively (Table 6.2.4).
To sum up these results, the Middle East absorbs most Islamic syndicated financings
from Western lenders and Middle Eastern lenders. Malaysian borrowers receive most of
the Islamic syndicated financings from Malaysian lenders. But Malaysian borrowers also
obtain a respectable share from Western lenders. Western borrowers receive a respectable
share of Islamic syndicated financings from Middle Eastern lenders. Other lenders focus
on Middle Eastern borrowers.

36
6.3 Industries towards which Islamic syndicated financings are directed to:

The next descriptive research question investigates the industries which profit from
Islamic Syndicated financings the most. Then, a more detailed look is done on each of the
most important borrowing industries and the distribution among countries.
But first the industries which profit from Islamic Syndicated financings the most are
researched.22 As can be seen in chart 6.3.1, the oil and gas sector, financial services and
telecommunications received the bulk part of about 59% of all the financings in Islamic
syndications.

Chart 6.3.1: Industrial distribution of Islamic syndicated financings

The oil and gas sector alone has received about 27% of all the Islamic syndicated funds,
the financial services follow with 18% and then telecommunications with 14%. Utilities
and construction follow with each 9% of the total investments. Government borrowings
constitute another 7%. These results are in line with the results of the borrowers of
Islamic syndicated financings, which are to the largest part situated in the Middle East.

22
A detailed list of the industrial distribution of the investments by syndicated Islamic financings can be
found in Appendix 6.3.0

37
Borrowers in the Middle East have used these financings for typical industries for this
region, which require large investments, such as oil and gas. But also financings which
are required to cope with the economic boom and population growth, such as the
financial sector, telecommunications, the utility and construction sector, were taken in
form of Islamic syndication.
In the following part, the borrowers of the above elaborated main sectors, which profit
most from Islamic syndicated financings, are examined. These sectors include the oil and
gas industry, financial services, telecommunications, utilities, construction and
government. The borrowers are sub-divided into countries where they are based in. The
research results of the share of the countries, in which the borrowers are based in, are
listed detailed in tables. Pie charts are used to give emphasis to the most important
borrowers.
The oil and gas industry is the biggest profiteer of Islamic syndicated financings with
about $7.7bn of total investments. Especially the energy rich Persian Gulf nations, Saudi
Arabia, United Arab Emirates and Kuwait use Islamic syndications to finance their oil
and gas industries (Chart 6.3.2).

Islamic Syndicated Financings in Oil and Gas

0%
1%

4% 4%
7% Saudi Arabia
38% United Arab Emirates
Kuwait
Malaysia
Bahrain
20% Indonesia
Pakistan
Iran
26%

Chart 6.3.2: Distribution of Islamic syndicated financings in the oil and gas sector by borrowing country

38
Their share constitutes already about 84% of all the Islamic syndicated investments in the
oil and gas sector. Other important borrowers in the oil and gas sector come from
Malaysia (7%), Bahrain (4%) and Indonesia (4%).

Oil and Gas Amount of Investments ($) Percentage of Total

Saudi Arabia 2.913.200.000 37,89%
United Arab Emirates 2.000.000.000 26,01%
Kuwait 1.500.000.000 19,51%
Malaysia 524.500.000 6,82%
Bahrain 330.000.000 4,29%
Indonesia 322.000.000 4,19%
Pakistan 75.000.000 0,98%
Iran 23.730.252 0,31%
Total 7.688.430.252 100,00%
Table 6.3.2: Borrowers of Islamic syndicated financings for the oil and gas sector

The second biggest profiteer of Islamic syndicated financings with more than $5.2bn of
the total investments is the financial services sector. The most important borrowers of
Islamic syndicates, working in the financial sector, are all placed in the Middle East
(Chart 6.3.3).

Chart 6.3.3: Distribution of Islamic syndications in the financial services sector by borrowing country

39
The borrowers are placed in Iran (34%), Kuwait (23%), Bahrain (14%) and Saudi Arabia
(11%) according to the share of the syndicate investments in relation to the total
investment in this industry sector.

Financial Services Amount of Investments ($) Percentage of Total

Iran 1.777.082.652 33,98%
Kuwait 1.225.000.000 23,42%
Bahrain 735.167.800 14,06%
Saudi Arabia 584.000.000 11,17%
Kazakhstan 250.000.000 4,78%
Malaysia 210.526.319 4,03%
Turkey 180.500.000 3,45%
Italy 100.000.000 1,91%
Singapore 85.000.000 1,63%
United Kingdom 63.000.000 1,20%
United Arab Emirates 20.000.000 0,38%
Total 5.230.276.771 100,00%
Table 6.3.3: Borrowers of Islamic syndicated financings for financial services

The third biggest borrower of Islamic syndicated financings with more than $4.1bn of
total investments is the telecommunications sector. Here the borrowers in the kingdom of
Saudi Arabia are the most important borrowers and absorb 57% of all Islamic syndicated
investments in the telecommunications sector (Chart 6.3.4). The Netherlands is the
second biggest profiteer of Islamic syndicated financing in the telecommunications
sector. With $750 million in investments or a share of about 18%, the telecommunication
sector shows how Islamic financings can be used in predominantly non-Muslim Western
states as well. Kuwait receives the same size of Islamic syndicated financings of 18% for
the telecommunications sector, like the Netherlands.

40
Chart 6.3.4: Distribution of Islamic syndications in the telecommunications sector by borrowing country

Other benefiters of Islamic syndicated financings in the telecommunications sector are

Malaysia and Turkey, with a share of 4% and 2% respectively. In total numbers, these
amounts to $171 million and $100 million of investments for Malaysia and Turkey
(Table 6.3.4).

Telecommunications Amount of Investments ($) Percentage of Total

Saudi Arabia 2.350.000.000 57,02%
Netherlands 750.000.000 18,20%
Kuwait 750.000.000 18,20%
Malaysia 171.052.632 4,15%
Turkey 100.000.000 2,43%
Total 4.121.052.632 100,00%
Table 6.3.4: Borrowers of Islamic syndicated financings for the telecommunications sector

Another important borrower of Islamic syndicated financings with about $2.6bn of total
investments is the utilities sector. The borrowers in the United Arab Emirates are the
biggest receivers of Islamic syndicated financings in the utilities sector with the
absorption of about 80% of all the investments of this sector (Chart 6.3.5). Malaysia is
the second biggest borrower, with a share of 10%. Saudi Arabia and Pakistan follow with
8% and 2% respectively.

41
 Islamic Syndicated Financings in Utilities

8% 2%
10%

United Arab Emirates

Malaysia
Saudi Arabia
Pakistan

80%

Chart 6.3.5: Distribution of Islamic syndicated financings in the utilities sector by borrowing country

In absolute numbers, borrowers from the United Arab Emirates exhibit $2.04bn of
Islamic syndicated financings in the utilities sector (Table 6.3.5). Malaysia and Saudi
Arabia follow with $245 million and $210 million. Borrowers from Pakistan have
received more than $61 million of Islamic syndicated financings for the utilities sector.

Utilities Amount of Investments ($) Percentage of Total

United Arab Emirates 2.040.000.000 79,81%
Malaysia 244.769.049 9,58%
Saudi Arabia 210.000.000 8,22%
Pakistan 61.319.766 2,40%
Total 2.556.088.815 100,00%
Table 6.3.5: Borrowers of Islamic syndicated financings for the utilities sector

The next important borrower of Islamic syndicated financings with about $2.5bn of the
total investments is the construction sector. In this sector, Malaysian borrowers are the
stunning majority, with a share of close to 96% (Chart 6.3.6). Turkey and France follow
with a share of 2% each.

42
Chart 6.3.6: Distribution of Islamic syndicated financings in the construction sector by borrowing country

The absolute total amount of Islamic syndicated financings for the construction sector
totals $2.38bn for Malaysia. The financing amount totals $62 million and $54 million for
Turkey and France respectively (Table 6.3.6).

Construction Amount of Investments ($) Percentage of Total

Malaysia 2.379.522.670 95,34%
Turkey 62.000.000 2,48%
France 54.300.400 2,18%
Total 2.495.823.070 100,00%
Table 6.3.6: Borrowers of Islamic syndicated financings for the construction sector

Other important borrowers of Islamic syndicated financings with more than $2bn of the
total investments are governments. The United Arab Emirates enjoys the largest chunk of
these financings, with a share of 49% (Chart 6.3.7). Iran follows with a share of 25% and
then Turkey and Pakistan with 16% and 10% respectively.

43
 Islam ic Syndicated Financings in Governm ent

10%

16%
United Arab Emirates
49%
Iran
Turkey
Pakistan

25%

Chart 6.3.7: Distribution of Islamic syndicated financings received by governments by borrowing country

In total absolute amounts, the United Arab Emirates has received $1bn of Islamic
syndicated financings. Iran follows with $500 million. And the governments of Turkey
and Pakistan have received $332.5 million and $200 million in Islamic syndicated
financings respectively.

Government Amount of Investments ($) Percentage of Total

United Arab Emirates 1.000.000.000 49,20%
Iran 500.000.000 24,60%
Turkey 332.500.000 16,36%
Pakistan 200.000.000 9,84%
Total 2.032.500.000 100,00%
Table 6.3.7: Governments as borrowers of Islamic syndicated financings

6.3.1 Changes of Islamic syndicated deals for different industries over time:

In the following paragraph, the research results for changes in the Islamic syndicated
financing deals for major industry groups are depicted (Graph 6.3.1).23 Generally, the
number of syndication deals that include Islamic tranches is very volatile. It is also very
noticeable that the Islamic syndicated financings have begun in the middle of the 90s and

23
A detailed list of the changes of the industrial distribution over time, of the investments by syndicated
Islamic financings can be found in Appendix 6.3.1

44
that there is a general increase in the deal counts over the years, except for the year 2003.
Remarkable is the surge in the Islamic syndicated financing deals in the construction
sector in the time period between 2003 and 2005. The financial services sector has
especially profited from Islamic syndication deals in the time period between 1999 and
2002. And compared to 2005, the financial services sector has seen high growth in
Islamic syndication deals for this sector again in 2006. The utilities sector has seen the
highest number of deals in 2001. The transportation sector was most successful between
2000 and 2002 to attract Islamic syndicated financings. The oil and gas sector has seen
growth in the absorption of Islamic syndication deals since 2004.

Graph 6.3.1: Industrial distribution of Islamic syndications over time

45
6.4 Shares of lead banks: Islamic syndications vs. conventional syndications:

In case of more intense information asymmetries and to mitigate agency problems for
Islamic syndicated financings, lead banks are expected to hold a larger share of the
syndicated financing. This enforces more intensive monitoring and due diligence of the
borrower. Furthermore, do lead banks hold larger shares if there is a cultural gap between
lenders and borrowers. But do lead banks hold larger shares of Islamic syndicated
financings than for conventional syndicated loans, to confront the expected larger agency
problems and information asymmetries?

Participation Numer of
Average Median Minimum Maximum
of Lead Banks observations
Islamic 55% 52% 0% 100% 68
Non-Islamic 56% 50% 0% 100% 22.944
Table.6.4: Average and Median share of lead banks at Islamic and Non-Islamic Syndicated loans

As can be seen in table 6.4, the average shares of lead banks at Islamic and Non-Islamic
syndications are almost the same. The share of lead banks at Islamic syndications is on
average about 55% of the syndicated financings, while the share of lead banks at non-
Islamic syndications is about 56%. And there is also not a large difference between the
median numbers. Islamic as well as non-Islamic deals have very different deal structures
in regard to the participation of lead banks, as the minimum and maximum numbers
show. This hints that the share of lead banks might be increased in case the borrower is
perceived as more risky. But the results show that the share of the lead banks is not
increased to lessen information asymmetries and agency problems specifically for Islamic
syndicated financings. But there are other contracting tools, which might be used in
order to lessen agency problems perceived with Islamic financial instruments. Such an
instrument is the maturity of the Islamic syndicated financings, which is explored in the
following paragraph.

46
6.5 Maturities of Islamic syndicated financings versus conventional syndications:

Comparing the maturities of Islamic and conventional syndicated loans, the maturities, as
can be seen in table 6.5.1 show certainly differences. On average Islamic syndicated
financings do have a maturity of 5.35 years compared to 4.44 years for conventional
syndications. Thus on the first sight, this would mean that the maturity is not used as a
contracting tool against probable agency problems and information asymmetries of
Islamic syndicated financings.

Maturity (Years) Average Median Number of Observations

Islamic 5,35 5,00 143
Conventional 4,44 4,50 94.318
Table 6.5.1: Maturity of Islamic and conventional syndications

But the maturity needs a more differentiated analysis. In graph 6.5.1, the maturities of all
Islamic and conventional syndication deals are depicted in the percentage of all
respective deals per year. And indeed, more Islamic syndicated loans have a shorter
maturity than their conventional counterparts in the first three years. This is especially
true for the part of the loans with a maturity of 1 – 2 years. While 14% of the Islamic
syndications have a maturity of 1-2 years, only 7% of the conventional syndications
exhibit a maturity of 1-2 years (Table 6.5.2).

Maturity: Islamic vs Conventional Syndications

35%
Islamic or Conventional

30%
Syndications

25%
% of All

20% Non-Islamic Syndications

15% Islamic Syndications
10%
5%
0%
<= 1 1-2 2-3 3-5 5-7 7-9 9 - 11 11 - 13 13 - 15 >= 15

Years

Graph 6.5.1: Maturity of Islamic and conventional syndication deals in % of all deals per year

47
But more conventional syndications exhibit maturities higher than three years than
Islamic syndications. This gap holds for the syndicated loans with maturities up to nine
years (Graph 6.5.1). Accordingly more Islamic syndicated financing deals have
maturities lower than three years or higher than nine years, compared to conventional
syndications. A lower loan maturity is an important tool against agency problems. This
means that the maturity might be used to lessen the agency conflicts of Islamic
syndicated financings, as there are more Islamic syndication deals which have a lower
maturity in the first three years. Other reasons might be the preference to finance short-
term investments due to the regulations of Islamic financial systems or the practice of
Islamic financial institutions (Rajesh, Amos, Tarik, 2000). Another explanation could be
the differences between the industries which receive the financings, which might enforce
different maturities between Islamic and non-Islamic syndicated financings. So the
industries which receive the Islamic syndications might explain the larger amount of
deals with lower maturities in the first three years compared to conventional syndications
in the same time period. But as it is researched in paragraph 6.3, Islamic syndications are
mostly invested in industries which exhibit larger investment needs and have usually
more long-term financing requirements, such as the oil and gas industry,
telecommunications or the utilities sector. This explains also why there are also more
Islamic syndicated financing deals which exhibit maturities higher than nine years (Table
6.5.2). While about 5% of all conventional syndications have maturities longer than nine
years, about 18% of all Islamic syndications have a maturity of more than nine years.

Non-Islamic Syndications Islamic Syndications

19% Maturity <= 1 Year
7% Maturity 1 - 2 Years
16% Maturity 2 - 3 Years
31% Maturity 3 - 5 Years
17% Maturity 5 - 7 Years
5% Maturity 7 - 9 Years
2% Maturity 9 - 11 Years
1% Maturity 11 - 13 Years
1% Maturity 13 - 15 Years
1% Maturity >= 15 Years
Table 6.5.2: Maturities of Islamic and Conventional Syndications in %
17% Maturity <= 1 Year
14% Maturity 1 - 2 Years
15% Maturity 2 - 3 Years
20% Maturity 3 - 5 Years
9% Maturity 5 - 7 Years
6% Maturity 7 - 9 Years
6% Maturity 9 - 11 Years
7% Maturity 11 - 13 Years
2% Maturity 13 - 15 Years
3% Maturity >= 15 Years

48
And as the Islamic syndicated financings for these large projects are mostly for state-
owned enterprises, the higher perceived agency conflict for Islamic syndicated financings
diminishes, as the state acts as a kind of guarantor.

6.6 Financial debt covenants: Islamic syndications vs. conventional syndications:

Loan covenants are important measures of the agency problem and the perceived
asymmetric information. Interestingly, the results show that only 7% of Islamic
syndicated financings exhibit financial debt covenants, compared to 31% of conventional
syndicated loans (Table 6.6).

Debt Covenants Yes No Number of Observations

Islamic 7% 93% 175
Conventional 31% 69% 111.768
Table 6.6: Percentage of deals with or without financial debt covenants

This is the opposite of the result expected, as Islamic financing involves risk sharing.
Therefore it is clear that financial debt covenants are not used as a tool against
information asymmetries and agency problems.

6.7 Participating banks: Islamic syndications vs. conventional syndications:

Another mean to reduce information asymmetry, is to concentrate the number of the

lenders in the syndicate, to be better able to monitor the borrower.

Number of Lenders Average Median Number of Observations

Islamic 6,78 5,00 175
Conventional 6,81 4,00 110.588
Table 6.7: Number of lenders in Islamic and conventional syndications

49
As can be seen in table 6.7, this tool is also not used more predominantly for Islamic
syndicated financings. The average number of lenders in Islamic and conventional
syndications is just marginally different. The average number of lenders in an Islamic
syndicate is 6.78, while it is 6.81 for conventional syndicated loans. The median number
of lenders is even higher for Islamic syndications, with an average of 5 lenders, while
conventional syndicated loans exhibit a median number of 4 lenders.

6.8 Deal Size: Islamic syndications vs. conventional syndications:

The effects of agency problems and information asymmetries can also be limited, by
limiting the size of the Islamic syndicated financing. And indeed, the size of conventional
syndicated loans is on average 36.6% larger than the average Islamic syndicated
financing deal size. And also the median deal size is significantly lower for Islamic
financings than for their conventional counterparts. Therefore, these results might hint,
that the limitation of the deal size is a tool to limit information asymmetries and agency
problems. And this result might not be due to the industries in which the financings flow
in. As seen in paragraph 6.3, Islamic syndicated financings are to the largest part invested
in capital-intensive industries, such as oil and gas industries, telecommunication and
utilities. Furthermore, the reason cannot be due to Islamic financial institutions which do
not have the capabilities for larger financings. As seen in paragraph 6.2, Western lenders
and cash-rich Middle Eastern lenders constitute the overwhelming majority of Islamic
syndicated financings.

Deal Size (in $) Average Median Number of Observations

Islamic 169.957.411 61.659.883 168
Conventional 232.189.860 77.848.549 111.069
Table 6.8: The average and median deal size of Islamic and conventional syndications

50
6.9 Differences in the Spread

Agency problems have a larger effect on the syndicated loan contract, the more these
problems are perceived. The difference in the risk pattern of Islamic syndications could
yield different agency problems. Islamic syndicated financings could face agency
problems because some agency mitigating techniques might have conflicts with the
Shariah law. Cultural differences between borrowers and lenders can increase the
perceived risk. And the higher the actual or perceived risk of the agency problems, the
higher the loan spread. Also a piety premium could lead to a higher loan spread.
The OLS regression model, with determinants of loan pricing for Islamic and non-Islamic
loans in Malaysia, is built to find out whether Islamic syndicated financings are more
expensive than conventional syndications, as explained in paragraph 4. Furthermore it is
researched whether specific attributes of Islamic and non-Islamic syndicated loans
influence credit spreads. At first, one dummy variable states whether a syndicated deal is
Islamic or conventional. Then determinants of the loan pricing are added as dummy
variables as well. As stated in paragraph 5.3, determinants of the loan pricing in the
statistical model are based on borrower characteristics, contract characteristics and the
characteristics of the syndicate structure. It is decided to include only those variables as
determinants of the loan pricing, which have shown differences for Islamic and
conventional syndications in the descriptive statistics, as these variables which show up
differences are probably active tools to lessen agency conflicts. The credit ratings of the
Malaysian borrowers are taken as the determinant for borrower characteristics. In order to
accomplish this, dummy variables are created, indicating the credit ratings, namely
“AAA”, “AA”, “A”, “BBB”, or “BB and below”. As many borrowers do not have a
rating, a dummy variable would indicate that the specific borrower is not rated. For the
contract characteristics, the maturity, the deal size and the existence or not-existence of
financial covenants are included, as these were found out to be different for Islamic
syndicated financings. In case of the maturity and the deal size, the dummy variables hint
whether a syndicated deal is bigger or equal to the median size of Islamic or conventional
syndications, depending whether the deal is Islamic or conventional. For the
characteristics of the syndicate structure, the size of the lead banks share and the number

51
of participating were found out to be not different for Islamic syndications than for
conventional syndications. But the differences of the origin of the lending banks are taken
as dummy variables for the syndicate structure. The dummy variables include whether a
lending bank is Western, Middle Eastern, Malaysian or East Asian. As dependent
variable for this model, the all-in spread for the deals is taken. The all-in spread is given
for most of the syndications in the LoanAnalytics database. Those deals which had no
spread given were excluded from the model. The sample for the regression model finally
includes a total of 420 Islamic and non-Islamic syndicated loan deals with Malaysian
borrowers. Of these, 32 syndications are Islamic financings, which constitute 56% of all
Islamic syndicated financings for Malaysian borrowers. Obviously it is impossible to
include all the variables in the OLS regression equation, as this would create a near-
singular matrix. In the regression, one of the variables is left out. At random, the dummy
variable “BB and below” is left out.
The first regression results can be seen in table 6.9.1. There is a trend visible for the
borrower characteristics, as the rating coefficients have a decreasing trend, the higher the
credit rating. However, the t-statistics indicate that the variables selected so far are not all
very significant on their own. For the contract characteristics, the “Deal Size” is
significant, which means that if the syndicated deal has a larger deal amount than the
median deal size of all Malaysian syndications, the spread would decrease by 0,38%. For
the syndicate structure, the variable “Conventional” is highly significant. This means that
the model predicts that conventional syndicated loans have a 1.46% lower spread than
Islamic syndicated financings. Furthermore, in case the lending bank is Malaysian, the
spread significantly increases by 0.5%. But if the lending bank is East Asian, the spread
significantly decreases by 0.33%.

52
 Coeff. t-stat
Borrower Characteristics:
Rating: AAA -0,65 -2,51 **
Rating: AA -0,33 -1,30
Rating: A -0,47 -1,92 *
Rating: BBB -0,36 -1,39
Not Rated -0,19 -0,83

Contract Characteristics:
Maturity 0,03 0,24
Deal Size -0,38 -3,16 **
Financial Covenants -0,03 -0,22

Syndicate Structure:
Conventional -1,46 -6,68 ***
Lending bank Western 0,02 0,17
Lending bank Middle Eastern -0,44 -0,54
Lending bank Malaysian 0,50 3,68 ***
Lending bank East Asian -0,33 -2,62 ***

Observations 420
R-squared 0,25
*** Indicates p value of 1%
** Indicates p value of 5%
* Indicates p value of 10%
Table 6.9.1: First regression results

But there are also many variables in table 6.9.1, which seem not to be significant. To
improve the model, those variables are iteratively removed from the model. Thus in order
to improve the model, the variable with the highest p-value is deleted as the chance of
this variable to be not significant is very high. Then the regression is run again and then
the variable with the highest p-value is removed again. This procedure is done till all
remaining variables are significant. This leads to the removal of “Lending bank
Western”, “Maturity”, “Financial Covenant”, “Lending bank Middle Eastern”, “Not
rated”, “Rating: AA”, “Rating: BBB”, “Rating A”. Table 6.9.2 shows the regression
results after the removal of the last insignificant variable.

53
 Coeff. t-stat
Borrower Characteristics:
Rating: AAA -0,35 -1,96 *

Contract Characteristics:
Deal Size -0,41 -3,60 ***

Syndicate Structure:
Conventional -1,41 -6,68 ***
Lending bank Malaysian 0,51 4,36 ***
Lending bank East Asian -0,35 -3,08 ***

Observations 420
R-squared 0,24
*** Indicates p value of 1%
** Indicates p value of 5%
* Indicates p value of 10%
Table 6.9.2: Final regression results

In table 6.9.2, all variables, except for “Rating: AAA” are significant at a 1% significance
level. The variable of the borrower characteristic “Rating: AAA” predicts that a
Malaysian syndicated borrower with AAA-rating is expected to pay 0.35% less spread
than if it would not have the AAA-rating. This is in line with common sense, as less risky
borrowers have to pay lower risk compensation. The remaining variable “Deal Size”
means that if the Islamic or conventional syndicated deal has a larger deal amount than
the median deal size of all Islamic or conventional Malaysian syndications respectively,
the spread would decrease by 0.41%. The reason might be that larger syndicated
financings are assured by more credible companies, which might be even state owned.
Large industries, such as oil and gas, telecommunications or utilities are not very unlikely
to be government owned or very large and therefore more credible for the lenders. For the
syndicate structure, there are three significant variables in the regression results. Based on
the coefficients of the variable “Conventional”, the model predicts that conventional
syndicated loans have a 1.41% lower spread than Islamic syndicated financings. This
might confirm that Islamic syndicated financings face a piety premium. Especially, as not
all tools to lessen information asymmetries and agency problems are used, such as to
increase the share of lead banks, to include financial debt covenants or to reduce the
number of lending institutions, this indicates that the piety premium might be the reason

54
for the higher spread. Another reason might be a higher perceived agency problem for
Islamic syndicated financings, which would even not be reduced by introducing further
tools to limit its effect, and which yields therefore a higher spread. Another interesting
finding is that the variable “Lending bank East Asian” has a negative effect on the spread.
As soon as the lending bank is East Asian, the model predicts that the spread is 0.35%
lower than if the lending bank is not East Asian. Furthermore, the last variable, namely
the variable “Lending bank Malaysian” is positive at 0.51%. Thus when the lending bank
is Malaysian, the interest rate is expected to be 0.51% higher, than in the case when the
lending bank is not Malaysian. These findings are in opposite of the arguments of
Giannetti and Yafeh (2009), who find that loan spreads are lower, if borrowers and
lenders are culturally closer.

55
7 Conclusion and Limitations:

Islamic syndicated financings have seen a surge since their appearance in the mid 90s and
constituted more than $28.55bn of financings worldwide in the time period of 2005 till
October 2006. The aim of this paper is to find out differences between Islamic syndicated
financings and conventional syndicated loans. Furthermore, the research results hint by
how far Islamic syndications are affected by the agency problem. The research was
conducted in two parts. First, descriptive research was carried out to find differences in
the contract characteristics and syndicate structure of Islamic syndicated financings and
conventional syndicated loans. Then a regression analysis on the loan spreads of
Malaysian syndicated borrowers was conducted to find out whether Islamic syndicated
financings have a higher spread, or in other words, if they are more expensive than
conventional syndications. Furthermore, determinants of the loan pricing were added to
the regression model to research their effects on the credit spread. The determinants of
the loan pricing in the regression model are based on borrower characteristics, contract
characteristics and the characteristics of the syndicate structure. Only those variables are
included as determinants of the loan pricing, which have shown differences for Islamic
and conventional syndications in the descriptive statistics researched before, because
these variables which show up differences are most likely active tools to lessen agency
conflicts
For the descriptive research, first borrowers and lenders were researched. It is confirmed
in this research that Muslim borrowers are the main benefiters of Islamic syndicated
financings. But also Western borrowers received Islamic syndicated financings, a tool to
attract investments from Islamic investors. 75 % of all Islamic syndicated financings
were received by borrowers that are located in the Middle East. Malaysian borrowers
follow with 18%. Western borrowers have a share of 4%. On the lenders side, the West
uses its banking experience and the attractive markets, especially in the Middle East, and
contributes 50% of all Islamic syndicated financings. Middle Eastern lenders have
provided 34% of the funds. But these funds are to the largest part lent to Middle Eastern
borrowers. The share of Malaysian lenders is at 11%. And also Malaysian lenders lent
almost all of their funds to Malaysian borrowers of Islamic syndicated financings.

56
Furthermore the industries which receive these financings are researched. Islamic
syndications are mostly invested in industries, which are typical high-growth or cash-rich
industries of its lenders, such as the oil and gas industry, telecommunications, financial
services, or the utilities sector.
To continue with the descriptive research, differences in the syndicate structure were
researched. First differences of the share size of Islamic and conventional syndications
are investigated. The results show that the share of lead banks at Islamic syndications is
on average about 55% of the syndicated financings, while the share of lead banks at non-
Islamic syndications is about 56%. As the minimum and maximum numbers show that
Islamic and conventional syndications can have very different deal structures in regard to
the participation of lead banks, this hints that the share of lead banks might be increased
in case the borrower is perceived as more risky. But the results show that the share of the
lead banks is not increased to lessen information asymmetries and agency problems
specifically for Islamic syndicated financings. Another factor for the syndicate structure
is the concentration of the number of lenders in the syndicate. And also this tool to better
monitor the borrower to lessen agency problems is not used more predominantly by
Islamic syndicated financings.
Next the differences in the contract characteristics were researched as well. One factor of
contract characteristics is the maturity. The research results show that more Islamic
syndicated financing deals have maturities lower than three years or higher than nine
years, compared to conventional syndications. A lower loan maturity is an important tool
against agency problems. Therefore the results suggest that the maturity might be used to
lessen the agency conflicts more often for Islamic syndicated financings than for
conventional syndicated loans. But also other reasons such as regulatory factors for
Islamic syndicated loans might explain the higher percentage of Islamic syndicated
financings that have a maturity of up to three years. The higher percentage of Islamic
syndicated financings with maturities above nine years can be explained by the industries
in which Islamic syndicated financings are sourced to. Large industries in the gas and oil
industry or the utilities sector require longer maturities. Agency problems, due to the
higher maturity for these financings, are lessened by the fact that the borrowing
companies are often large, therefore more credible and many times even state owned.

57
Another factor for contract characteristics is the limitation of the size of the syndication
deals. The effects of agency problems and information asymmetries can be reduced, by
limiting the size of the Islamic syndicated financing. The research results show that the
size of conventional syndicated loans is on average 36.6% larger than the average Islamic
syndicated financing deal size. While the size of an average Islamic syndicated financing
is about $170 million, it is about $232 million for conventional syndicated loans.
The research results of the regression analysis on the loan spreads of Malaysian
syndicated borrowers significantly show that conventional syndicated loans have a 1.41%
lower spread than Islamic syndicated financings. This might confirm that Islamic
syndicated financings face a piety premium. Especially, as not all tools to lessen
information asymmetries and agency problems are used, such as to increase the share of
lead banks, to include financial debt covenants or to reduce the number of lending
institutions, this indicates that the piety premium might be the reason for the higher
spread. Furthermore the variable “Credit rating: AAA” for the borrower characteristics
predicts that a Malaysian syndicated borrower with AAA-rating is expected to pay 0.35%
less spread than if it would not have the AAA-rating. Another significant variable is the
variable “Deal Size” which shows that in case the Islamic or conventional syndicated
deal has a larger deal amount than the median deal size of all Islamic or conventional
Malaysian syndications respectively, the spread would decrease by 0.41%. The reason for
this result might be again that larger deals are predominantly done with larger and
therefore more credible borrowing companies. Another interesting finding is that the
variable “Lending bank East Asian” has a negative effect on the spread. As soon as the
lending bank is East Asian, the model predicts that the spread is 0.35% lower than if the
lending bank is not East Asian. In addition, the variable “Lending bank Malaysian” is
positive at 0.51%. Thus when the lending bank is Malaysian, the interest rate is expected
to be 0.51% higher, than in the case when the lending bank is not Malaysian. These
findings oppose the findings of Giannetti and Yafeh (2009), that loan spreads are lower,
if borrowers and lenders are culturally closer.
It has to be cautioned that the data on Islamic financing, and more precisely Islamic
syndicated financings, are still scarce. The research results of the regression analysis
should be cautioned to be true for all Islamic syndicated financings worldwide, as it

58
contained only 32 Islamic syndicated financing deals with Malaysian borrowers. But for
Malaysia, the regression results are significant and entail 56% of all Islamic syndicated
financings.
But taking all these results together, one can say that Islamic syndicated financings are
only slightly different than conventional syndicated loans. For sure the ethical and
religious specificities of Islamic syndicated financings play an important role and may
attract specific investors or lead to new opportunities for Western banks to conduct
business in the Islamic world. But in regard to the structure and contract specificities of
Islamic syndicated financings, one can say that there are only minor differences. Some
agency mitigating tools might be used for Islamic syndicated financings, but many tools
are not used. Therefore one can say that Islamic syndicated loans do not suffer
immensely more from the agency problem than conventional syndicated loans. The
higher spread costs for Islamic syndicated financings in Malaysia can be therefore
regarded more as a piety premium.
As a research suggestion, it would be interesting to find out what the effects of the credit
crisis were on Islamic syndicated financings and specifically on its spread. This might
give new insights by how far Islamic borrowers are indirectly affected by the credit crisis,
as Islamic financial institutions did not suffer from the international crisis directly
(Wigglesworth, 2009).

59
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Appendix:

Industry Tranche Amounts / Total Tranche

Industry
Amount
Agriculture 2,50%
Automotive 0,28%
Beverage, Food, and Tobacco Processing 0,35%
Business Services 0,54%
Chemicals, Plastics & Rubber Manufacturing 1,95%
Construction 8,67%
Financial Services 18,18%
General Manufacturing 2,53%
Government 7,06%
Hotel & Gaming 0,22%
N/A 2,00%
Oil and Gas 26,72%
Real Estate 1,50%
Retail & Supermarkets 0,27%
Technology 0,16%
Telecommunications 14,32%
Transportation 2,84%
Utilities 8,88%
Wholesale 1,02%
Total 100,00%
Appendix 6.3.0

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 Changes of Islamic
syndicated financings
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
in different industries
over time
Agriculture 0 0 1 0 2 2 2 0 0 0 1 0
Automotive 0 0 0 0 2 0 0 0 0 0 0 0
Beverage, Food, and
0 0 0 0 0 0 0 1 0 0 0 1
Tobacco Processing
Business Services 0 0 0 0 0 0 0 0 1 0 0 1
Chemicals, Plastics &
0 0 0 0 0 0 0 0 0 0 0 2
Rubber Manufacturing
Construction 0 3 0 0 6 4 3 1 0 5 16 0
Financial Services 0 0 0 0 6 4 3 7 0 3 0 7
General Manufacturing 0 2 0 0 0 0 0 0 0 1 2 2
Government 2 0 2 0 0 0 0 1 0 0 0 1
Hotel & Gaming 0 0 0 0 0 0 0 0 0 0 1 0
N/A 0 2 3 4 3 0 0 1 0 0 2 0
Oil and Gas 0 2 0 2 2 0 0 2 0 3 3 6
Real Estate 0 0 0 0 2 0 0 1 0 1 0 0
Retail & Supermarkets 0 0 0 0 0 0 0 0 2 0 0 0
Technology 0 0 0 0 0 0 1 0 0 0 0 0
Telecommunications 0 0 0 0 0 0 0 1 0 3 0 2
Transportation 0 0 0 0 0 3 2 2 1 1 0 0
Utilities 0 0 0 1 0 0 4 3 1 1 0 1
Wholesale 0 0 2 0 2 1 1 2 0 1 0 0
Total 2 9 8 7 25 14 16 22 5 19 25 23
Appendix 6.3.1

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