Islamic financial services poised to grow in importance and scope in Brunei Darussalam

With a strong Islamic banking sector, a growing Islamic insurance (takaful), industry and an expanding market for Islamic bonds (sukuk), Brunei Darussalam has recently been drawing much attention internationally as a centre for Islamic financial services (IFS). Indeed, Brunei Darussalam is now amongst the nine countries worldwide where Islamic finance has reached systemic importance – places where more than 15% of total domestic banking assets belong to the sector.

Located in the heart of a region that contains five of the 10 largest Muslim countries by population, Brunei Darussalam is also well placed to capitalise on the fast-growing role Asian Islamic finance is taking in this robust global industry. With some two-thirds of the world’s Muslims living in Asia, many of them in seriously under-banked markets, such as Indonesia, the region continues to represent a golden opportunity for the industry. The sector is taking a more strategically important position within Brunei Darussalam’s overall economy, as the Sultanate moves to end dependency on the hydrocarbons sector for economic growth. This has become particularly pressing in recent times, as oil and gas prices have tumbled.

Growing Presence

The Sultanate is thus capitalising on the fact that it is a majority-Muslim country, with around 82% of the population following the faith – although Islamic finance players are quick to emphasise that their products are a good deal for everyone, regardless of belief. Compliance with Islamic principles has also been championed by the Sultan, who recently also declared that a phased introduction of sharia law would begin in the country. This has likely encouraged a further shift towards IFS.

However, the industry is a highly competitive one, with neighbouring Malaysia already a global leader, while Singapore is establishing itself as a key centre for Islamic capital. Indonesia is also developing fast, with a huge potential domestic market. Brunei Darussalam thus faces some major challenges in carving out its international place. Yet there are signs of robust growth at home, along with a major policy framework for the sector and commitment to its expansion from the Sultan and his government.

Policy Priorities

Sharia-compliant banking services first became available in Brunei Darussalam in 1991, with the establishment of Perbadanan Tabung Amanah Islam Brunei (TAIB). This savings bank does not provide the full range of services of a commercial bank, however, so in 1993, the Island Development Bank became sharia-compliant, and thus established itself as the first fully fledged Islamic bank in the Sultanate, trading as the Islamic Bank of Brunei (IBB). In 1999 the Islamic Banking Order was issued, establishing a full legal framework for sharia-compliant operations. The IBB then merged in 2005 with the Islamic Development Bank of Brunei, which had also converted to sharia compliance, changing its name from the Development Bank of Brunei. The new, merged entity is Bank Islam Brunei Darussalam (BIBD), which is now the Sultanate’s largest bank – Islamic or conventional. In 2007 the Sultanate brought all these developments together within its far-reaching policy vision, Wawasan 2035.

This long-term strategy aims to transform Brunei Darussalam into one of the top 10 nations in the world in terms of quality of life, with a high-skilled, highly educated population working in a dynamic and sustainable economy. Eight pillars for the implementation of this strategy are outlined, with one of them an economic plan to diversify away from reliance on oil and gas, with the services sector one of four priority clusters targeted as drivers of this diversification. Within services, financial services is one of the three areas identified, along with logistics and tourism.

In financial services, Wawasan 2035 aims to establish Brunei Darussalam as an international financial centre, with a special emphasis on Islamic finance. The creation of a regulatory framework for this has since been a major priority of the government, as has the boosting of sharia-compliant services and products. The plan aims to raise the contribution of the financial sector to the Sultanate’s GDP from 5% in 2015 to 8% by 2035.

Regulations

A major step in the regulatory process was the issuance in 2008 of the Islamic Banking Order and the Takaful Order. These supplemented the 1999 Islamic Banking Order, taking account of market and structural developments. The 2008 orders also aimed to establish a level playing field between Islamic and conventional outfits, as the latter had enjoyed a full structural and legal framework since the Banking and Insurance Orders of 2006. The 2008 Islamic Banking Order established a BN$100m ($71.1m) minimum for local Islamic banks in issued and paid up capital, while foreign Islamic banks have to have at least BN$500m ($355.8m) – as with conventional banks. Where the two codes still diverge is in the minimum paid up capital requirements for foreign head offices, which are BN$500m ($355.8m) for Islamic institutions and BN$1bn ($711.6m) for conventional. Islamic banks are also required to have a sharia advisory body to advise on compliance issues, composed of at least three scholars, two of whom must be from Brunei Darussalam.

In 2011 the Sultanate established the Monetary Authority of Brunei Darussalam (AMBD), which took over four departments within the Ministry of Finance (MoF) that previously had regulatory and supervisory authority over the financial sector. The AMBD now looks after the sector as a whole, Islamic and conventional, with two of its units particularly pertinent to the Islamic finance sector – the Banking and Specialised Markets Supervision Division, and the Insurance/ Takaful and Capital Markets Division.

BIBD has since gone on to become the country’s top bank, with 15 branches across the Sultanate, as well as being the sole Islamic provider of a full range of banking services. Meanwhile, the Islamic banking sector, when TAIB is included, has gone on to roughly equal market share with the conventional sector. AMBD figures for 2014 gave Islamic banks 41.1% of total assets and conventionals 41.9%, with the rest held by finance companies and offshore banks.

The BIBD also has two sharia-compliant subsidiaries, BIBD Securities, which provides brokerage services and works with sharia-compliant securities on the Kuala Lumpur and Singapore stock markets, and At-Tamwill, which provides consumer product financing, vehicle hire-purchase and fixed deposit services. The bank has stakes in the family takaful business, Syarikat Takaful Brunei Darussalam, fund manager BIBD Al-Kauthar Funds, and Belait Barakah, a vessel-leasing outfit. A history of robust results led ratings agency Standard & Poor’s to give BIBD an “A-” grade as a long-term issuer and an “A-2” short-term issuer grade in October 2015, making the bank the highest-rated lender in the Sultanate. The BIBD Group’s most recent available financial statement, for year-end 2015, shows total income for the group of BN$321m ($228.4m) for the year, up from BN$263m ($187.1m) in 2014. For the bank, income rose from BN$209m ($148.7m) to BN$252m ($179.3m). However, profit for the year was down slightly for the group, from BN$111.5m ($79.3m) in 2014 to BN$107m ($76.1m), but up for the bank, from BN$84m ($59.8m) to BN$101m ($71.9m). In terms of assets, for the group these too had declined slightly, from BN$7.67bn ($5.5bn) to BN$7.5bn ($5.3bn), and from BN$7.27bn ($5.2bn) to B$7.06bn ($5bn) for the bank. The most recent AMBD figures, from December 2015, suggest the whole banking sector had assets of BN$17bn ($12.1bn). Some of this is likely due to the overall slowdown in the economy – the IMF estimates a 1.5% contraction in GDP for 2015, following a 2.3% decline in 2014 – along with measures introduced to rein in household debt in May 2015.

Takaful Moves On

Meanwhile, the Sultanate’s takaful sector has achieved a strong position in the non-life segment, although family takaful remains small in comparison to its conventional life peers. Overall, in Q4 2015 the Brunei Darussalam insurance sector – life and non-life combined – had total assets of BN$1.4bn ($996.1m), divided between a conventional share of 65.8% of the total (BN$945m, $672.4m) and a takaful share of 34.2% (BN$421m, $300m). Compare this with Q3 2011, however, when the respective shares, conventional to Islamic, were 72% to 28%, and the growth of the sector becomes apparent. The AMBD figures for Q4 2015 also show that in terms of gross premiums, in non-life, conventional insurers recorded BN$15m (10.7m), while takaful companies listed BN$27m ($19.2m). In life, conventionals recorded BN$21m ($14.9m), and takaful firms BN$7m ($5m). Thus, in non-life, takaful firms have established a major share, particularly in motor insurance, the largest line of business in the Sultanate. Takaful companies in this line are often able to offer an advantage over conventional competitors in that the mudaraba (profit-sharing agreement) model is one in which surpluses in the underwriting results are shared between the company and the client, provided there has been no claim, or no claim beyond a certain value. This provides a variety of dividend for the policy holder, or no-claims bonus, with the added benefit that a no-claims bonus is a deduction from the cost of a policy renewal, whereas the surplus must be shared regardless of whether the policy is to be extended. This makes takaful motor insurance additionally attractive, particularly in more straitened economic times. The takaful sector is led by Takaful Brunei (TB), which has been in business since 1994. TB breaks down into a general and non-life arm, Takaful Brunei Am (TBA), and a family arm, Takaful Brunei Keluarga (TBK). TBA offers motor, fire, marine, aviation, performance bonds and miscellaneous accident takaful, while TBK offers employee protection, savings and mortgage protection, group hospital and surgical benefits. Between them, they employ over 200 people in the Sultanate, at 19 branches, while the company – which is 69% owned by the Sultan Haji Hassanal Bolkiah Foundation and 31% owned by BIBD – also has a real estate interest in the Dar 2 Serviced Apartment Complex in Bandar. Also in the takaful field is Insurans Islam TAIB, which also has general and family takaful components. The former is Insurans Islam TAIB General Takaful (IITGT), which covers motor, fire, marine hull and cargo, amongst other areas, while the latter is Insurans Islam TAIB Family Takaful (IITFT). This offers education, health, group family, mortgage and other family schemes. One foreign entity is also present in the Sultanate’s takaful market, Malaysia’s Etiqa, which offers both conventional and takaful products.

In terms of sector professional organisations, until 2013 takaful companies had operated independently of conventional insurers, with the latter gathered in the General Insurance Association Brunei Darussalam. As it became clear that this division did not serve the interests of either part of the sector, the Brunei Insurance and Takaful Association (BITA) was formed to include all the companies working in the sector’s two streams. The BITA has some 14 members and represents their interests to government, while promoting both conventional insurance and takaful at home and overseas.

The BITA has also now completed a general agency handbook, which sets out guidelines and regulations for all insurance agents operating in Brunei Darussalam. Such agencies must now be registered too, which involves passing the Qualifying Examination for Insurance and Takaful Agents. This has led to a major fall in the number of agents operating in the Sultanate, while also ensuring that those that do are properly qualified. Similar regulations may now be introduced for the life/family takaful segment, with this likely in the latter part of 2016.

Sukuk Issues

Brunei Darussalam now has a decade of experience in issuing Islamic bonds, with 127 issuances made as of February 18, 2016. The first sukuk was offered in April 2006, with some BN$9.5bn ($6.8bn) in total offered over the following years. Also as of February 18, 2016, the Brunei Darussalam government had some BN$625m ($444.7m) in sukuk still outstanding. Sukuk have thus been an important instrument in regulating liquidity in the banking sector. The issuing authority is the AMBD, with the MoF having held this responsibility, until the creation of the AMBD in 2011. Clearing and settlement also fall under the remit of the authority. All of the issues so far have been in the form of short-term Sukuk Al Ijarah, which are the most commonly used form of Islamic bond worldwide. They are straightforward, classical structures, which are widely accepted by sharia compliance authorities, based – as all sukuk are – on the performance of an underlying asset and making regular payments throughout their term. For Brunei Darussalam’s issuances, however, the term has typically been very short. A BN$100m ($71.2m) issuance, in February 2016, for example, had a 91-day tenor, and tenors seldom reach a full year.

A New Exchange

However, the AMBD has indicated that it intends in the future to issue longer-term sukuk, with this a key part of its plans to establish an indigenous capital market. Presently, Brunei Darussalam does not have its own exchange, with companies and corporates usually listing on other regional exchanges, such as those in Singapore and Hong Kong. In addition, the sukuk have usually only been offered to Brunei Darussalam-based banks, while no secondary market exists. The AMBD has said it intends to open a Brunei Darussalam exchange, potentially as soon as 2017. In the meantime, the authority has been bolstering its regulatory toolkit, issuing the Securities Market Order of 2013, with implementing guidelines issued in February 2015. The order includes new provisions to facilitate the public offering of sukuk and sharia-compliant securities more generally.

The issuance of long-term sukuk would be an important part of boosting liquidity and depth, developing the local sukuk market and a yield curve, while creating a better benchmark for local corporates to begin issuing more sukuk themselves. It would also enable the raising of more capital for the government. This latter point has grown in importance too, as the Sultanate has suffered major downturns in its revenue from oil and gas in recent years. A developed sukuk market would also reduce the cost of financing for companies, as in general, the cost of sourcing funding through sukuk is lower than sourcing through bank loans. Longer-term sukuk would also likely be made available to non-Brunei Darussalam-based banks, widening the prospective market. A timeline for the opening of an exchange – which would likely concentrate on securities before moving on to sukuk – has still not been set down, but with the current economic climate and the strengthening of the legal and supervisory framework within the sector by the AMBD, the 2017 date may be attainable. Long-term sukuk, may come as soon as 2016.

In terms of corporate sukuk, there have been few issuances, with most corporations looking to bank loans to finance operations. Indeed, as of September 2015 there had only been one noted corporate sukuk – Brunei LNG’s BN$100m ($71.2m) issue in 2006, which matured a year later. At the same time, there are a number of Islamic collective investment schemes (CISs) distributed and offered in Brunei Darussalam. The most recent data, from 2014, shows seven public Islamic CISs in operation, along with one private Islamic CISs. In this market, the Islamic side is gaining ground, with total market share rising from 25% in 2010 to 34% in 2014 – while conventional CISs fell, from 75% to 66%, over the same period.

Developing The Skills Base

Creating a wider and deeper sharia-compliant capital market, along with a more robust and internationally competitive Islamic banking and takaful sector, also depends on the ability of the Sultanate to both educate its public in the advantages of Islamic finance, and its ability to produce skilled, qualified and innovative personnel. In recognition of this, Brunei Darussalam set up the Centre for Islamic Banking Finance and Management (CIBFM) in 2010. CIBFM is an education and training arm of the AMBD, with a mandate to raise the standards of professionalism and innovation in the Sultanate’s Islamic finance sector – although it also offers courses in conventional finance subjects. Accredited by the Brunei Darussalam National Accreditation Council, the CIBFM has so far conducted 193 learning and development programmes, reaching over 3500 people. These participants have come not only from the finance sector, but also from government agencies and private sector outfits with some supporting role to the sector. Programmes are also closely tailored to the requirements of clients, as well as financial sector development as a whole. Currently, the centre is shifting its emphasis towards leadership development programmes. “If you want to have innovation and creativity in IFS you need people with the right skills and you need visionary leaders who can be responsive in fast-changing markets,” Suriati Taib, deputy CEO at CIBFM, told OBG.

Outlook

With many of the world’s top Islamic financial markets centred on countries where hydrocarbons have traditionally been a major source of revenue and economic growth, the fall in oil and gas prices of recent years has undoubtedly had an impact on the growth of Islamic finance. Most expectations are for growth in the sector to slow to single digits, worldwide, in the year ahead. The sector in Brunei Darussalam also faces a significant slowdown, as citizens tighten their belts and government projects and employment suffer cutbacks.

This confluence of events makes for a critical time in Islamic finance, with its ability to reposition and take advantage of the growing international, intra-regional and inter-regional links within the industry now key. While Brunei Darussalam may be a small market, it lies next to one of the world’s potentially largest – Indonesia – with many Bruneian banking and finance professionals urging that the sector look beyond the Sultanate’s frontiers for greater opportunities.