MUSHARAKAH or SHIRKAH

1. MUSHARAKAH or SHIRKAH

2. Definition • Musharakah or shirkah is an arabic word that simply means sharing. • Syarikat (company) is the plural form of the word shirkah. • In Islamic commercial law, partnership is known as shirkah. A natural certainty contract.

3. Types of shirkah • Shirkah al milk - where there is a joint ownership of two or more persons in a particular property. For instance, when two or more persons purchase equipment, the equipment will be jointly owned by both parties. This type of “partnership” is not necessarily meant for business purpose. • Shirkah al ‘aqd - where a partnership is affected by a mutual contract or commonly known as ‘joint commercial enterprise’. A group of individuals share the capital and profit.

4. Shirkah al ‘aqd • Shirkah-al-amwal (wealth/finance) where all the partners invest money as capital into the partnership. • Shirkah-al-a‘mal (work) where the capital in the partnership is the partners’ skill (i.e. work). The partners would render some services for their customers, and distribute the fee received according to an agreed ratio. • Shirkah-al-wujooh (creditworthiness). In this type of partnership, the partners purchase commodities on credit and sell it for cash. Thus, their capital is their creditworthiness. They have no monetary investment in this partnership.

6. Shirkah refers to both joint ownership and commercial partnership, whereas Musharakah refers to a specific type of commercial partnership (i.e. shirkah-al-amwal or finance partnership with limited liability). • Under commercial partnership - the liability is borne by partners (i.e. the legal form of partnership). • Al-amwal are divided into: • 1. Inan • 2. Mufawadah • 3. Mudharabah

7. Inan • All partners will contribute capital into the partnership and may participate in the management of the business. The partners’ liability is limited to the capital contributed by them. They are not guarantor for the other partners. The amount of capital contributed could vary among partners (i.e. this partnership does not require equal capital). • The partners could contribute any amount of capital and they have a limited liability (they are not liable towards the liability of the other partners). When profit arise the partners could either share it according to the capital ratio or any ratio agreed by the partners. Any loss will be distributed according to the capital ratio.

8. Mufawadah • All partners will contribute equal capital into the partnership and may participate in the management of the business. This form of partnership requires complete equality as a condition for its formation. Thus, the partners must contribute equal amount of capital and they are guarantor for each other. • The liability of the partners in this form of partnership is joint and several liabilities. In other words, the partners in Mufawadah partnership have unlimited liability. They not only bear their own liability but also the liability of the other partners. The condition of complete equality must be strictly observed. If the condition is violated, then Mufawadah partnership will automatically convert into Inan partnership. Profit and loss is shared equally.

9. Mudharabah • In this partnership, one party will contribute capital (known as rabb al-maal – capital provider) and another party will run the business (known as mudarib or entrepreneur). • The capital provider is not allowed to participate in the management of the business. • A profit from the business it will be shared according to the profit sharing ratio. If there is loss, the capital provider will absorb the loss. • The entrepreneur will loose all the effort and time put into the business. However if it was proven that the entrepreneur was negligent in conducting the business, he will have to bear the losses.

10. Rules in Musharakah • 1. Distribution of Profit • The partners must determine a profit sharing ratio (PSR) at the beginning of the contract. The partnership contract would not be valid in Shariah if no ratio is determined. • The PSR must not be tied to his capital. It must be distributed according to the actual profit accrued to the business, and NOT the fixed amount of return.

11. EXAMPLE 1- • Syed started a partnership with Aman and Mike with a capital of RM5,000 each. To attract a fourth partner into their business they promised to provide the new partner a 10% return from the partner’s capital contribution every year regardless of the performance of the partnership. • This NOT allowed in Islamic law because the return to the partners does not take into account the actual performance of the partnership. In Islam, if we want to enjoy any return, then we should also bear the responsibility if any losses arise.

12. EXAMPLE 2- • Bakar and Ramli formed an Inan partnership by contributing RM10,000 and RM15,000 respectively. Bakar will be the active partner and manage the partnership. They agreed to share the profit according to a ratio of 60:40. During the first year of operation, the partnership made a profit of RM8,000. Bakar gets RM 4,800 (RM8,000 x 0.60) and Ramli gets RM 3,200 (RM8,000 x 0.40) accordingly. • This is allowed in Islam as distribution of the profit must be based on actual profit of the partnership for the year. • This capital contribution may face the risk of loss and also enjoys the opportunity of making extra return. The return on his investment will reflect the performance of the business. Therefore, there will not be any fixed and pre-determined return in a partnership.

13. Rules in Musharakah 2)Sharing of Loss • If loss arises, the partners must absorb it according to the capital ratio. 3)Nature of Capital • The capital in Musharakah should be in cash and also asset. 4)Management of Musharakah • Generally, every partner in a Musharakah has the right to manage the business. However, they may agree to allow only some partners to manage the business while others only contribute capital

14. Termination of Musharakah • Every partner has a right to terminate the partnership after due notice to his partners. • If any partner losses contractual capacity (either becomes insane, bankrupt or otherwise) the Musharakah will also be terminated. • If the remaining partners would like to continue the partnership, the withdrawing partners shall be paid his capital and profit if any. The Musharakah between the remaining partners may continue as usual. • The contract of Musharakah is terminated when a partner dies. In this case, his heirs will have the option either to withdraw the deceased’s share from the business, or to continue with the contract of Musharakah.

15. Application of Musharakah • 1.Bank and client contribute capital into a project (e.g.bank contributes 90% of capital and the client contributes 10% capital). They fix a profit sharing ratio. • 2.Client manages business. • 3.Profit is shared according to PSR and loss is distributed according to capital ratio.