ISLAMIC BANKING IN OMAN TODAY and THE WA PDF

2014
ISLAMIC BANKING IN OMAN TODAY & THE

WAY FORWARD
Muhammad Arsalan
4/23/2014
Intentionally left blank
Contents
3
CONTENTS
LIST OF TABLES
LIST OF BOXES
GLOSSARY
LIST OF ABBREVIATIONS
EXECUTIVE SUMMARY
INTRODUCTION
GROWTH STORY INTACT
10
OMAN BANKING SECTORDYNAMICS & DRIVERS
11
ISLAMIC BANKING IN OMAN FORECASTS, OUTLOOK AND REALITIES
12
ISLAMIC BANKING IN OMAN: START-TO-DATE
14
Reviewing Deposits Side-Products-
14
Income Determination & Profit Distribution Practices- Market Discipline
15
Reviewing the Asset Side
17
STRATEGIC DIMENSIONS
17
Is it more than a Three Horse Race?
17
The Sacrosanct Shariah Compliance
18
Principled Stand Islamic Banking Regulatory Framework
18
Trade Based Products Structures
19
Islamic Banking Windows: Efficiencies or Cannibalization?
20
The 60-40 Strategy Islamic Banks to Benchmark the Scales
21
The Big opportunity In the Small Enterprise Segment
22
Earnings Dynamics
22
Optimizing the Capital
23
CONCLUSION
List of Tables
................................
.........
11
Projections on the Islamic Banking Industry Size quantified in terms of Assets
13
....
Bank wise details of Assets, Equity, Deposits, Financing, Profitability and Deposit Rates Disclosures
...........
16
Retail or corporate financing side products along with their underlying Islamic Finance Contract
20 A review of convention banks, Segment-wise breakup of asset and deposit, yields and capital adequacy
List of Boxes
1 ..Recent Regulatory Directives CBO
2 ....Meehaq, the Maverick!
3..Dispersion of Product Weights- Does it Matter?
4........Investment Deposits Accounts Distributing Net or Gross Profit?
5.....Maisarah Breaking the Murabaha Mould
6..............Shariah Compliance for Murabaha Trade Transaction in Letter & Spirit
7......Non Existent Salam & Istisna Products
8......Capital Adequacy Standards: Tailored to Islamic Banks
Glossary
List of Abbreviations
Executive Summary
The fledgling yet vibrant Islamic Banking industry in Oman, has lately been attracting a lot of attention for
its vigorous legislative, regulatory and market developments. Right from the time, when in 2011 a Royal
Decree was issued to incorporate Islamic Financial System, which paved way for the promulgation of
regulatory framework, and subsequent realization of 2 Independent Banks and Six window operations
operating in the Monarchy - a lot has been written on the prospects and the promise that Islamic Banking
in Oman has got to offer. Presently, almost all of the eight Islamic Banking Institutions (IBIs) in Oman have
completed an year of operation, and account for a signifcant 3.24% (OMR 745 Bn) of the overall Banking
Assets in the country. This stipulates the need to factually assess the performance of IBIs against the
visualized goals, to identify prospects, gaps, challenges and impediments and align the strategy to address
them.
Islamic Banking in Oman: Present State & The Way Forward (the paper) take a descriptive and
exploratory approach to encompass the progress of Islamic Banking in Oman in the backdrop of the
dynamics of local economy and the overall Banking Industry. An objective, as well as a strategic review of
the Banking Industry is carried out to identify the the opportunity pockets and challenges for the nascent
faith based format of Banking.
In the first section, the paper describes the overall economic scene and its growth dynamics. The following
section, presents an illustrustation to define the structure of Omani Banking Industry with a thorough
segment wise breakup of asset and liabilities, advance to deposit ratio, leverage, capital adequacy,
spreads and efficiencies. In its effort to relate the expectations and realities, a cross-section interpretive
analysis of the future projections by Moodys, Ernst & Young and Arqaam Capital is carried out, to develop
their grounding in the present facts. In a later section titled The Sixty-Forty Strategy, an insightful
discussion on strategic implications and recommendation, based on the circuitous and interdependent
relationship of deposit and asset mix, Capital Adequacy and the overall efficiency of a bank is also
presented. The benchmarks of the existing conventional banking industry, would enable Islamic Banks to
sway their strategic goals, while they follow their respective organic growth. As an indicative yardstick, it
can serve as an overarching frame to avoid any major deviations in shape costly deposit mix or lowerthan-the-optimum credit portfolio.
The value of the paper is driven by the comprehensive and exhaustive presentation of Financial
information, product analysis, profit rates, balance sheet and revenue structures, followed by intuitive
analysis to elaborate the strategic and operational dimension of all the eight IBIs operating in Oman. A
detailed compare and contrast commentary, on the deposit and financing side products being offered,
their underlying shariah contracts is being presented. In all its rigor, the paper not only explores the
progress of overall Islamic Banking industry, but also highlights the performance and distinctive features
of Individual IBI. Islamic Banking Regulatory Framework (IBRF) issued by the Central Bank, is maintained
as a pivotal reference through out the paper, to examine the operations and offerings of the IBIs and
underscore the key driver of performance, innovations and probable limitations.
In the conclusive section of Strategic Dimensions, the paper seeks to outline strategic insights (and
perhaps future directions) based on competitive positioning, success drivers, product innovations,
operational limitations for the manager of Omani IBIs. In its intuitive pursuit, the study also portends
practical intricacies in Shariah Compliance, Deposit Pool Management and asset liability management,
that IBIs in Oman would come across. The strategic dimensions presented are backed by cases,
constructs, propositions and artifacts driven from domestic banking industry or Islamic Banking
experience in other jurisdiction. The paper in its pragmatic approach, quotes and elaborate the anomalous
growth and the daring business model of Meethaq, the principled stance of the regulator, the product
innovation of Maisarah, the opportunity in the SME segment, Shariah Compliant structures to exploit
trade intensive and specially non-oil trade in Omans economy. Shortly, the reader would surely find this
paper useful in developing a perspective of Islamic Banking Industry in its independent capacity, as well as
a subset of the broader Financial Intermediation scene in Oman.
Introduction
Oman has been one of recent entrants into Islamic Banking and Finance scene, with a well established
regulatory framework roll out and a nascent industry players comprising of two Independent Islamic Bank
(IIB) and 5 Islamic Banking (IBW). Ever since the Royal Decree adjusting the banking law to allow the
shariah compliant format of banking was announced, competition has been seen tough among the local
banks themselves. Apart from the two fully integrated Islamic banks -- Bank Nizwa and Al izz bank -- the
country's biggest commercial banks have also set up their own Islamic banking windows which iclude Bank
Muscats
Meethaq,
National
Bank
of
Omans
Muzn.
Bank of Sohars - Sohar Islamic, BankDhofars Maisarah, Ahlibank Hilal Islamic and Oman Arab Banks Yusr have been announced. A lot has been written on the prospects, potential and promise of Islamic
Banking in this GCC Country, with analysts generally optimistic on the overall growth of the industry both
in terms absolute Islamic Assets as well as market share.
Oman has been classified as an oil-rich economy, heavily dependent on the dwindling oil resources, which
sourced around 80% of its revenue in 2012 (S&P, Dec 2013). Thus, aligned with its regional peers Oman's
economy and external position stands exposed to commodity prices. However the government has been
framing all sorts of initiatives to diversify into non-oil economy (tourism and mining primarily) by means of
high investment supported by higher public and private consumption.
Oman is a youthful Muslim monarchy with strong faith driven population as benchmarked by World Banks
realist index of 97%. The official numbers for the population is 2.78 Mn (World Bank, 2011)
Growth Story Intact

The Sultanate favorable demographics (60 % of the population is between the age of 15 to 45 years)
coupled with a pro growth and employment backdrop, augur well for the fortunes of the financial sector.
The GDP growth during 2000 to 2012 has averaged around 5.6%. Recent government regulations raising
minimum wages and expanding employment amongst the masses have also been supportive of
consumption and the deposit base of the nations banks. This has also translated positively into a 10% YOY
growth in banking Assets to surpass OMR 23 Bn mark.
In recent years, a recovery in the prices of crude oil and production coincided to enable supportive
government expenditure and an accommodative monetary policy portending well for growth in the
country and its banks. Expectations of a continuing expansionary fiscal policy to sustain the current
momentum in growth, provide an optimistic outlook for the medium term future. Obvious risks include a
substantial fall in oil prices. However, years of fiscal prudence have yielded adequate reserves to ensure
continued pro-growth initiatives remain unhampered, even in the event of a mild fiscal deficit.
The Eighth Five-Year Development Plan (2011-15) emphasizes a large public investment program. Non-oil
activities are expected to grow by an annual rate of 6 percent at constant prices, according to the CBO,
and private sector involvement through domestic and foreign private investment is expected to
complement government spending. With estimates for the future dwarfing the past activity, USD 50
billion is projected to be spent over the next 10 years, of which USD 28 billion is expected to be awarded
between 2013 and 2015 driving growth and the resultant credit off-take in the nation.
Oman Banking SectorDynamics & Drivers

Prima facie, Oman has a thriving, efficient and stable financial intermediation system, with a high Advance
to deposit ratio and is deeply rooted into private retail and corporate sector. Around 63% of the deposit is
raised from the private sector, which is re-channeled to the private sector to an even higher level of 84%
in shape of credit outlay. The illustration below describes the breakup and distribution of the nations
Banking Industry.
Structure of Oman Banking Industry Equity, Leverage, Breakup of Financing and Deposit Activity & Efficiency
[Data is sourced from CBOs Annual Report 2012 and Monthly Report February 2014]
The total Banking assets in Oman are around OMR 23.20 Bn with a breakup of an equity of OMR 2.67 and
deposits of OMR 16.47 Bn(CBO Annual Report 2012 & Monthly Report February 2014). Total credit of
OMR Rs 15.38 Bn turns it into 93% Advance to Deposit Ratio (ADR) banking sector. More encouraging is
the fact that OMR 13Bn (out of OMR 15 Bn) is channeled into private sector. Albiet a small population,
households (despite being a small population) contribute heavily on both on the deposits and asset side.
10
Box-1
Recent Regulatory Directives CBO

A lot of useful insights can be drawn to identify opportunity
pockets, potential challenges and discrepancies by modeling it
against the existing banking industrys norms.
Islamic Banking in Oman

Forecasts, Outlook and Realities
A lot has been touted and perhaps speculated about the
Islamic Banking and markets appetite based on regional
market growth stories
(e.g. Qatar, KSA, UAE etc). These
The central bank has been actively tweaking the

reigns of the Banking industry, to ensure stability
and efficiency of the financial system. A summary of
directives by Central Bank of Oman (CBO) are as
follows:
Action/Directives
Ceiling on Personal Loan
Pricing
Minimum SME Lending for
banks set at
Overall Portfolio Capping on
Personal Loan
Detail
Decreased
8.5% to 7%
5%
Capping on Housing Portfolio

Relaxed
Increased to 15%
from 10%
from
Decreased to 35%
from 40%
projections are broadly, based on cognitive reveries, heuristics and optimism driven by broad
generalizations and the growth stories from the past - Without much reference to the dynamics of the
local banking industry, regulatory paradigm and balance sheet structures.
To quote a few, Moodys reports are optimistic for Islamic Banking in the Oman making a ballpark
projection in its ability to grab six to eight per cent share of system assets within the next three to five
years. Quantifying this verdict by Moodys, Islamic Banking assets should reach around OMR 3 Bn mark,
assuming 10% YOY growth of overall Banking assets, 8% penetration of Islamic Banking in a period of 5
years. Ernst & Youngs on the other hand settles-in with a conservative stance, and see it surmounting
USD 6.00 Bn (OMR 2.3 Bn) in a matter of few years. Arqaam Capital Research, which is a Dubai based
outfit foresee turns out with the most optimistic, professing that by 2017 IBI would generate around 15
per cent of all loans by 2017.
Table 1: Projections on the Islamic Banking Industry Size quantified in terms of Assets
Research Origin
Claimed Estimates Projection *
IB Industry Asset size

(Bn OMR)
Ernst and Young
Islamic Banking to reach USD 6 Bn in next few years. [Assuming 5 years i.e. 2018]
2.3
Moodys
IBI to grab six to eight per cent share of system assets within the next three to
3.00
five years i.e 2018. [Assuming 8% share in 5 years]

Arqaam Capital
Islamic financial institutions as a whole will generate around 15 per cent of all loans
IB Credit = 3.35
by 2017.
IB Total Assets = 5.05
* The quantification of the broad estimates by various research companies has been based on Oman Banking Industry-wide norms such as
Leverage of 8x, ADR of 93%, YOY growth of 10% etc.
A careful factual review of the footings and projected growth of Islamic Banking Industry based on ground
fact, Industry dynamics and consumer profile appears to be non-existant. This study reviews the present
11
Box-2
Meethaq, the Maverick!

Bank Muscats window Meethaq (with a meager capital of
20.00 Mn) has been very quick to inflate its balance sheet to
leverage over 10X against the overall industry norm of 8X
leverage. Interestingly, this steep growth is primarily
state of Islamic Banks (mostly operational for 1 to 4

quarters), tries to model the growth and progress against
the industry benchmarks, with due weightage to the
attributed to its inherited musharaka (retail housing)

portfolio amounting to OMR 168 Mn which later has grown
up to a level of OMR 280.66 Mn as of Dec 2013. The asset side
is dominated by long-term musharaka portfolio (referred
above), on the other hand the unusual growth in deposit built
up on the balance sheet is mainly comprising of deposits from
Banks and Financial Institutions which contribute OMR 134
Mn whereas the remaining OMR 66 Mn have been driven from
the government sector. With over 7 branches, the bank has
not been able to mobilize any significant retail or private
sector deposits till Dec 2013.
Islamic Banking specifities.
This idiosyncratic and perhaps artificial balance sheet

structure makes it a difficult situation for the asset-liability
maturity profile to manage, wherein 65% of the assets are
over 5 years maturity, which is alarmingly funded by a very
low maturity deposit. This eventually leads to Asset Liability
mismatches, as reported on their balance sheets.
and Six Islamic Banking windows has managed to grab a
However, given the monopolistic penetration and legacy that

its parent bank enjoys with over 38% of the market share,
shouldnt be posing much of a trouble to tweak the matter.
Moreover, the high yield (6.3%) that this retail musharaka
asset, keep its affordable for the bank to manage its liquidity
even through interbank markets wherein it can engage
relatively low cost liquidity, while keeping its spreads intact.
above the overall banking industry average of 93%.
The uniqueness of Meethaq doesnt ends here, when the bank

being smart enough, recognized the troubles ahead and
unveiled its yet another out-of-the-box strategy. Instead of
going for aggressive deposit mobilization to rationalize its
deposit mix, the bank opted for an altogether distinctive route.
In an extra-ordinary Board meeting held recently, the board
announced the setup of OMR 500 Mn SUKUK program for
Meethaq. This can be viewed as an innovative business Model,
where the bank instead maintaining saving and term deposit
accounts can use a flexible sukuk structure to fund its assets.
Albeit, all of its break through innovation, the Bank is not
losing sight of the core banking business lines. The bank
intends to expand its branch network to 15 branches to
ensure its outreach to consumer base
Islamic Banking in Oman:

Start-to-Date
Oman Islamic Banking industry, with an initial equity
base of OMR 348.5 Bn and a branch network of 32
Branches representing two Independent Islamic Bank
noticable 3.24% share of the overall Banking assets.

Interestingly, the Islamic Banking industry is operating at
an Advance-to-Deposit ration of over 129%, which is well
These advances, predominantly are retail and real estate

centric, but would hopefully rationalize as the Industry
takes on the momentum. The progress should be viewed
in the backdrop of the embryonic phase, that Oman
Banking industry is going through.
The Islamic Asset base of OMR 745 Mn is largely
dominated by Meethaq (IBW of Bank Muscat) with 40%
share. But this may not come as a surprise as Bank
Muscat happens to claim equally dominant share (38%)
of the overall banking assets as well. As of December
2014, not much can be seen on the core banking
activities in shape of
retail deposits mobilization or
private sector lending. Nevertheless, the stage is all set

for the get-set-go thrust, with all sorts products
launched, branches functioning, IT infrastructure and Human resource in place. The table below , takes a
micro view of the bank-wise core activity, by presenting financial statements data on equity, deposits &
financing breakup and number of branches as measure of physical outreach. Additionally, this table also
12
elaborate on the deposit profit management practices by presenting profit-sharing ratio, absolute profit
rates offered, deposit product weights assigned and most interestingly %age dispersion of the weights
across various deposit product.
Table 2: Bank-wise details of Assets, Equity, Deposits, Financing, Profitability and Deposit Rates Disclosures
NIZWA
NATURE
ALIZZ
Independent
Bank
MEETHAQ
SOHAR
MUZN
HILAL
Al Yusr
MAISARAH
Bank
Muscat
Sohar
Bank
National
Bank
of
Oman
Al
Ahli
Islamic
Bank
Oman
Arab
Bank
Bank
Dhofar
Total
Window
Equity (OMR - Mn)
150
100
26
10
15
25
10
12.5
Initiated on
Dec '13
Sept13
Jan '13
Apr '13
Jan '13
Dec 13
Jul '13
March '13
348.5
Deposit Base (OMR in Mn) rounded for whole numbers

As of
Dec 13
Dec13
Dec 13
Dec 13
Sept 13
Dec 13
Sept 13
Sept 13
Current
13
0.5
4.6
3.7
1.4
5.5
NA
1.968
Savings/Timed
6.9
0.6
Saving: 10.4
15.6
15.1
4.0
NA
8.3
36
0.2
5.1
20.4
30.668
264.6
Term: 212.0
Financing Assets (OMR in Mn) rounded for whole numbers

Consumer
12.0
0.5
Commercial
275.61
9.5
3.703
10.092
352.202
29.203
Total Assets (OMR in Mn) rounded for whole number * (assumed as sum of equity and deposits, incase of data unavailibility)
170
100
52
25.1
75.2
10*
14.4*
745
6.2
(0.65)
(0.6)
(0.3)
(0.5)
(1.3)
(2.787)
298.3
Profits (OMR in Mn) rounded to one decimal place

(2.405)
(3.232)
Profit sharing Ratio Bank:Depositor

50:50
NA
80:20
70:30
NA
NA
NA
NA
32
Number of Branches
Product Participation Weights [1 Month to 12 Month ]

a) 1M
45
NA
0.3
0.14
NA
NA
NA
NA
NA
b) 12M
70
NA
2.0
0.21
NA
NA
NA
NA
NA
*1M
0.42
NA
0.15
NA
NA
NA
NA
NA
12M
0.95
NA
NA
NA
NA
NA
NA
NA
567%
50%
Absolute Rates Offered
% Dispersion = (b-a)/a x100

56%
*For simplification 1M versus 12M weightages have been taken, ignoring the volume based categorization. Table - 2
13
Reviewing Deposits Side-ProductsMost of the innovation has been seen on the deposit side, and very rightly so as it takes deposits for banks
to lend and earn profits. Almost all of the IBBs and windows have well defined call, timed, remunerative
and non-remunerative deposit products, bundled with
other benefits aligned to the targeted customer base.
Broadly, deposits are mobilized on the underlying contract
of Qardh (for Current Account) and Mudaraba (for savings
and terms deposits).
Income Determination & Profit

Distribution Practices- Market
Discipline
Meethaq and Nizwa have taken the lead, with well
articulated and properly disclosed Profit sharing ratio,
product wise weightages and respective yields across
various time-volume based slabs. Nizwa Bank and Meethaq
presentation
and
disclosure
of
profit
distribution
management has been extremely transparent and regularly

updated, with monthly disclosures along with the reporting
of profit sharing ratio (PSR). In terms of PSR, Meethaq seeks
the highest Mudaribs share i.e. up to 80% of the income.
Commendably, Meethaq took a step further towards the
transparency by publishing the participation weightages
assigned to the banks equity contributed to the Mudaraba
Box-3
Dispersion of Product Weights- Does it

matter?
The product-wise weights is a banks management
discretionary tool, and can be craftfully used to tune
in the deposit profit rate profile. As a thumb rule
higher tenor/volume deposit classes gets the
higher weightages, translating in to higher profit
rates. In effect, the spread of the weights from the
normal saving account vis--vis higher term/volume
account, can be indicative of the banks inclination
for longer term/higher volume depositor. However,
irrationally high dispersion leads to a
disadvantaged commoner which is somewhat
viewed to be incoherent to the Shariah Ideals.
Similar instances of unreasonable weightages have
been addressed in Pakistan by the Central Bank
directive which says The maximum weightage to
the Mudaraba based deposit of any nature, tenor
and amount shall not exceed 3 times of the
1
weightages assigned to saving deposits . It is
worth highlighting here that for Meethaq this
spread multiple is as high as 6.7x. The dispersion of
weights (as presented in the table above) of 567%
against its peers (Sohar Islamic and Nizwa Bank)
average of 50%, might cause some concern to the
bank and its depositor. This is evident from the
uncompetitive profit rate of 0.15% offered by
Meethaq being hugely dwarfed by Nizwa Bank in the
1 Month Term Deposit category.
Pool along with balances in Profit Equalization Reserves. Except of Nizwa, Meethaq and Sohar, none of the
Islamic banking operations have had formal disclosures of deposit products related disclosure on their
website, not even the basic profit sharing ratio, despite of the fact that almost all of them have mobilized
mudaraba based deposits as reflected on their balance sheets.
In contrast to many regional jurisdictions, and in compliance with AAOIFI and CBOs IBRF, the Investors
Account Holder Equity has been reported separately between the liabilities and shareholder equity,
instead of being reported as a mere liability, considering its Profit Loss sharing of the underlying mudaraba
contract.
14
Box-4
Investment Deposits Accounts Distributing

Tieing up with Takaful Services to bundle Bancatakaful
Net or Gross Profit?
CBOs IBRF has adapted Gross income method as a standard
for income determination and profit distribution to Investment
Account holder. However, there is another (AAOIFI defined)
income distribution method called Net income method,
wherein the net income including the fee based income,
adjusted for management overheads is subjected to profit
distribution to depositor. This method may have been a viable
choice, especially for an emerging market, like that of Oman
with scarce liquidity management venues and a developing
lending book. Both the methods come with their own inherent
trade-offs. Nevertheless, this option might have added to the
sustainability and stability of the nascent Islamic Banking
Industry in the region. As a trade-off, Displaced commercial
risk, could have been a concern, which arises when the bank
isnt able to offer market competitive returns.
Implications
Trade-offs of including fee based income versus
Management Overheads is a strategic balance to strike,
however the method of Gross income method has been
prevalent across all major Islamic Banking Jurisdiction, and
rationalizes the choice of CBO.
Nevertheless, it is important to note here that the generally inloss Islamic Banks/windows in Oman, with almost no fee
based income streams and relatively higher overheads on
their Profit and Loss Statement. This situation turns in to a
relatively disadvantaged equity shareholder with negative
EPS, in comparison to an earning Investment Account
Holder. Further, it would be based on a fairness principle on
the depositor as well as the Banks.
products and provide Takaful coverage for consumer

base has also been picking up lately in Oman Islamic
Banking scene. Meethaq, being the first Islamic Banking
Operation in the sultanate which packaged a
Bancatakful product suite on its offerings. Recently,
Maisarah has also announced its collaboration with AlMadina Takaful to offer Bancatakaful services.
Reviewing the Asset Side

Broadly, the asset side products have been design for
retail and SME/Corporate clientele, wherein Vehicle
Finance, Home Finance, Credit Cards, Personal Finance
are offered for the retail segment. Corporate/SME
segment on the other hand, comprises of trade,
working capital and term/project finance. A deeper
analysis of the product offerings reveals that the
overall industry seems to have general consensus over
the product structures and their respective underlying
shariah contract; i.e. Murabaha for Vehicle Finance &
Working Capital Finance & Ijarah for term financing to
the corporates. Conversely, the case of Home finance is
somewhat diversified with Banks employing Murabaha, Ijarah, Diminishing Musharaka, Istisna and even
Sale - Lease Back. Interestingly, Personal Financing has only been
on the shelves of Nizwa Bank and Alizz Islamic Bank offered on
the basis Murabaha and Ijarah. It is only Meethaq and Alizz which
are offering Credit Cards, on the basis of Ujrah and Murabaha,
claiming it to be interest component, but with not much details
of the product processflows. Meethaq Bank retained its
eccentricity by offerings Home Financing solution, with an
underlying contract based on Diminishing Musharaka, against the
15
Box-5
Maisarah Breaking the

Murabaha Mould
Bank Dhofars Maisarah, though havent been
on top of it, in terms of numbers with 2
branches and equity of OMR 12.5 Mn,
nevertheless have been amongst the few, not
only in Oman but across the world, who have
been able to break the Murabaha Mould.
Maisarah, boasting of its inclination for the
ideals of Islamic Finance has launched
Mudarabah (equity based profit loss sharing
model) based Working capital financing
solution for its commercial banking product
suite.
prevalent norm of employing Ijarah/Forward Ijarah for housing finance as adapted by the rest of the
Industry players.
The table below would present an overview of retail or corporate financing side products, on the
showcase of all the Islamic Banking operations in Oman.
Retail Finance Products
Car
Finance
NIZWA
SME / Corporate Financing Products
Home
Finance
Personal
Financing/
Credit
Card
Working
Capital
Financing
Infrastru
cture
Finance
Long Term
Project
Finance
Treasury
Ijarah/
Murabaha
Ijarah/Muraba
ha
NO*
NO
NO
NO
NO
Murabaha
ALIZZ
Murabaha
Ijarah
Services
Ijaraha/
Murabaha
Murabaha
Murabaha
/IMB
IMB/Forw
Ijarah
Sale & Lease

Back /DM
WaadForward
Contract
Meethaq
Murabaha
Diminishing
Musharaka
NO
Ujrah
Murabaha
Ijarah
DM
ND
Maisarah
NWA***
NWA
NWA
NWA
Musharaka*
(Press release)
NWA
NWA
NWA
Sohar
ND
Ijarah/
Murabaha
[Press
Release]
NWA
NO
NWA
NWA
NWA
NWA
Yusr
Murabaha/
Ijarah
DM
NO
NO
Murabaha
Ijarah
NO
NO
Al-Ahli
Murabaha
Murabaha/I
MB/DM/Istis
na
NO
NO
ND
ND
ND
ND
Muzn
Murabaha
IMB/
Sale
and Lease
Back
for
Conversion
NO
NO
Murabaha
IMB
/
Forward
Ijarah/
SaleLeaseback
Table 3: Retail or corporate financing side products along with their underlying Islamic Finance Contract
*NO - Product Not Offered
** ND - Product offered on the Banks Website/press, but underlying Shariah contract Not Disclosed
*** NWA - No website available
DM- Diminishing Musharaka , IMB Ijarah Muntahia Bi Tamlik
16
Strategic Dimensions
Now, that the stage is all set for the almost all of the eight Islamic Banking players, the next few years are
going to be critical in shaping up the industry scene. There are a lot of strategic dimension to it including
the legacy of the existing banks (operating through windows), regulatory stance, product innovation,
targeting of niche segments, cross selling or Banking the unbanked and most importantly the Shariah
governance and assurance.
Would it be Windows or the Independent Banks that are going to thrive? Varying opinion prevail on this,
with some weighing more to windows having the inherent advantage of infrastructure, penetration and
scale efficiencies. Whereas, others perceive it to be a three horse race, with Nizwa, Alizz and Meethaq
leading the market share.
Is it more than a Three Horse Race?

Dubai-based Arqaam Capital Research predicts that Bank Muscat will have 36 per cent of the countrys
Islamic banking market by 2017, followed by Nizwa with 33 per cent and Alizz with 23 per cent. This is
an interesting claim on the face of it, as Meethaq has the lowest equity of OMR 26 Mn against OMR 150
Mn of Nizwa and OMR 100 Mn of Alizz. However the present state of affair, validates the lofty assertions
on Meethaq made by the research company. Arqaam further suggested that remaining 8 percent shall be
shared by Sohar, Maisarah and Muzn, with no mention of Oman Arab Banks Yusr. It would be premature
to drive any generalization about the market shares of the Eight
players, given the vigor and enthusiasm that have been exhibited
by them. However, in the longer term it would be the shariah
compliance, product innovation and the service level that would
create the difference.
The Sacrosanct Shariah Compliance

Islamic Banking is a fresh endeavor in Oman, creating its early
impressions on the consumer base. The regulator has taken a
stringent, yet principled instance on Shariah Compliance (most
prominent being the use of tawaruq and commodity murabaha),
and now is the turn of Industry to follow. It would be the first
mover, in the right direction that is going to turn the tables. A
review of prior research, establishes the fact that Shariah
17
Box-6
Shariah Compliance for Murabaha

Trade Transaction in Letter & Spirit
CBOs IBRF stipulates that the invoice issued
by the supplier will be in the name of the
Licensee i.e. Islamic Bank, as the commodity
would be purchased by an agent on behalf of
the Licensee"
The compliance of this clause may not be
difficult in case house hold financing (car,
house etc), however this is going to be a
challenge in case of SME and Commercial
Lending, wherein mass procurement of raw
material is being financed by the bank. As a
matter of recurring business practice, invoices
are usually raised in the name of the customer
(eventual buyer) and are practically not
possible to be raised in favor of the bank (The
same challenge was faced by Pakistan, while
its compliance drive for AAOIFI and has been
documented as an exception).
Compliance is one of the key purchase reasons of Islamic Banks consumer base. Islamic Banks should
ensure a meticulous Shariah governance framework vis--vis brand image and ensure income cleansing to
charity funds with all its due presentation as stipulated by AAOIFI and CBOs IBRF.
Principled Stand Islamic Banking Regulatory Framework

CBOs IBRF commendably is a comprehensive and a principled framework, which has integrated the best
practices and standards from AAOIFI and IFSB etc. A review of the regional regulatory frameworks that
have been in the business for decades, would further endorse IBRFs fullness. Paying full heed to Shariah
governance, has recently announced formation of National Shariah Board serving as a supervisor and
point of reference, to the boards of individual Islamic banks.
Despite of all hue and cry and concerted lobbying efforts, the regulator stood firm by its fundamental
stance against the alleged use of commodity murabaha and tawaruq for Short Term Liquidity
management. However, the Central Bank being cognizant of the dearth of liquidity management venues
(except for Interbank Wakalah arrangement) has relaxed ceilings of foreign placements to the Islamic
banks. Besides, the Central Bank is also keen to issue Government Sukuks which may also add up to the
options for liquidity management for the local Islamic Banks. Islamic Banks and windows have somewhat
sorted out the matter of liquidity management by domestic and offshore interbank wakalah
arrangements as reflected on the balance sheets as well.
Trade Based Products Structures

Oman is a thriving trade economy with overall trade accounting for 103% of the GDP. Export account for
OMR 20.05 Bn, whereas Imports amounts to OMR 11.01 Bn. It is worth noting here that, around 30% of
the total exports comprises of Non-oil (OMR 3.6 Bn) and re-exports (OMR 2.5 Bn). Besides the large Oil
portion, Oman exports comprises of Mineral (OMR 422 Mn), Base Metals (OMR 671 Mn) and interestingly
Box-7
Non Existent Salam & Istisna

Products
OMR 175 Mn was from live cattle.

In addition to the mainstream Oil based Trade, Islamic Bank can
strike in to the Non-oil trade and re-export segment. Islamic
Financing contracts inherently are suited to be applied on trade
Surprisingly, none of the Islamic Lenders in

Oman have offered Corporate Financing
products based on Salam or Istisna. It is worth
mentioning here that Salam and Istisna
Financing is a widely adapted debt based
financing contract across various Islamic
Banking Jurisdictions, and has been authorized
by the CBOs IBRF.
18
transaction. Oman with its huge volumes of documented trade ,

posses an opportunity for Islamic Banks to structure trade financing
transaction on the basis of Murabaha, Salam and Istisna.
Re-exports transaction can also be structured either on the basis of
Murabaha finance to the trader, or back to back Murabaha for the
buy side and salam/Istisna for processing and export transaction. Parallel Salam and Istisna may also be
structured where the Islamic Bank can capitalize on its independent role as a buyer and seller.
Rather then sticking only to the basic Murabaha, a whole suite of shariah compliant trade financing
solutions, to cater the needs of Packing, Pre and Post shipment Export Financing and even bill
discounting, can be effectively commissioned - In the most compliant manner, and in complete coherence
with the covenants of documentary credits. Further, forward covers to hedge currency risk can also be
offered to the customer on Waad contract.
Wholesale and Retail Trade segment which contributes around OMR 2.2 Bn or 7.3% of the GDP is another
potential sector, that Islamic Banks can delve in to is. With sale based product structures Islamic Banks are
fully poised to penetrate in to this segment, by offering supply chain financing solution to this segment.
It is worth highlighting here that, majority of the trade is sourced in or destined to the neighbouring
countries such as India, China, KSA, UAE, with GCC countries accounting for a major share of the trade.
Thus, it can be trade sector which can potentially integrate and magnify Omans Islamic Banking Scene in
to the wider ambit of a Halal Economy.
Islamic Banking Windows: Efficiencies or Cannibalization?

While, it is generally believed that Islamic windows of existing conve ntional banks will likely be well
placed to capture market share, given their ability to leverage much of the existing infrastructure,
employees, partly common back office and the brand of the parent franchise In my personal experience,
windows virtually have a limited playfield, with the existing large scale corporates and even the High
networth individuals being earmarked as a NO-GO area, if they are already working with their
conventional parent bank. Window's endeavors to bid a competitive proposition to penetrate in to the
market, is viewed as invasive and tantamounts to cannibalization.
There appears to be tacit agreement amongst the C-level management to not to compete from within.
For example, one can foresee Bank Muscat's Meetaq experiencing a very limited market, as its parent
Bank being the market leader with 38% of the overall market share. It must have been on board with
almost all of the large accounts, and might have been graded as a strategic bank by most of the Large
scale business enterprises them, owing to its penetration, access, services and scale. This would leave its
window Meethaq with a limited market to dwell-in and may hamper its progress. On the brighter side, it
may also turn in to a blessing-in-disguise, with windows pursuing the unbanked and underbanked
segments, thus complementing the financial inclusion and broader diversification objectives of the
sultanate.
19
The 60-40 Strategy Islamic Banks to Benchmark the Scales

Interestingly, an unweighted mean of the major industry players approximates a 60:40 CASA: Term
deposit breakup to be a prevalent norm. Similarly, a 60:40 on the Corporate: Retail Credit portfolio mix
has also been observed in the industry. The table below furnishes a sector-wise breakup of asset and
deposit in addition to yield and capital adequacy measures.
Table 4:A review of convention banks, Segment-wise breakup of asset and deposit, yields and capital adequacy
Industry
Averages
(Unweighted)
Deposit
Distribution
(% of total)
Bank
Muscat
Bank
Dhofar
Bank
Sohar
National Bank of
Oman
Al-Ahli
Bank
CASA (% of
total)
42.0
64
39
38
46
23
Term (% of
total)
58.0
36
61
62
54
77
Corporate
58.2
61
59
67
51
53
Retail
41.8
39
41
33
49
47
ROE %
14.5
14.3
13.7
14.7
13.9
15.8
ROA %
1.7
1.8
1.7
1.5
1.5
2.1
Assets:Equity
8.2
7.14
7.3
9.6
9.3
7.7
RWA:Asset %
100.2%
93
101
95
109
103
51.4
59
36
45
72
45
Loan Distribution
Returns
Fee Income: Net Income %
*Stats sourced from Oman Arab Bank Investment Management Group Report as of October 2013.
The variables in the table above are highly interdependent; the deposit mix versus the credit mix defines
the spread, which subsequently sets the yield. The credit mix along with the overall leverage drives the
capital adequacy, which eventually lay down the overall risk appetite of the bank. As apparent in the
example of National Bank of Oman (NBO) wherein the Risk Weighted assets (RWA) is significantly higher
than the industry averages, probably due to greater share of the retail lending on the asset side.
The 60-40 benchmark may enable Islamic Banks to sway their strategic goals, while they follow their
respective organic growth. As an indicative yardstick, it can be an overarching frame to avoid any major
deviations in shape costly deposit mix or lower-than-the-optimum credit portfolio.
Moreover, the overall industry is leveraged around 8 times the equity, which can be used to make a
ballpark estimate of the future industry size to be around OMR 2,700 Mn at the present equity levels of
OMR 334 Mn. The size of around OMR 3 Bn (or 8% of the Banking Assets share in 5 years) is also coherent
with the earlier estimates made on the basis of Moodys and E&Y expectations.
20
The Big opportunity In the Small Enterprise Segment

Around 91,000 SMEs are known to operate in Oman contributing 13.8% to the GDP. The regulator
recognizing the significance of has directed to lend to SME for at least 5% of their aggregate Advances.
On the conventional banking front, Bank Muscat apparently has the most established, well-staffed and
branded as Al-Wathbah- product suite on offer for SME including working capital, equipment, Point-ofsale receivables, contract and Trade Financing products.
Meethaq, with its legacy of SME/ Transaction banking, and with its
fast growing deposit base, it is apparently very well positioned to
exploit the SME potential on the Shariah compliant modes as well.
For an emergent Islamic Banking, SME segment is especially
suitable as it offers smaller per party risk exposures topped by
higher yield, and thus furnishes a well diversified and fragmented
portfolio.
Moreover, Islamic Banking can provide a reasonable thrust to the
Countrys vision towards a lower oil dependency and diversification
towards non-oil GDP. With Private sector Credit almost half the
GDP, 96% Muslim population - Islamic Banking is fully poised to
mobilize financial inclusion of the faith driven SME segments, and
subsequent growth of the unorthodox and perhaps ignored
business sectors such fisheries and agriculture.
Box-8
MoCIs SME Loan Guarantee

Program Does it Work for Islamic
Banks?
Ministry of Commerce and Industry (MOCI) is
operating a Loan-Guarantee program with
Oman Arab Bank and Bank Muscat as its
channel partners, wherein 50% of loan
amount is guaranteed and banks earn 6% on
the remainder 50% of the loan, turning it in to
a 3% subsidized loan to SME obligor. Shariah
Compliant products can be structured for
such subsidized financing by Islamic Banks in
Oman (as has been rolled-out in other
jurisdiction, for example Islamic Export
Refinance Scheme is offered in Pakistan to
extend subsidized funding to preferred Export
sector. This is achieved by means of
Musharaka Pool between the State Bank of
Pakistan and the channel Bank, which
subsequently extend the financing to the
borrower through Shariah Compliant mode of
Murabaha, Istisna or Salam.
This would
enable Islamic Bank to penetrate swiftly in to
a large base of SME segments, by offering
partly guaranteed financing on a very
attractive pricing.
The SME's segment generally is graded as relatively more faith

driven and have been considered sizably unbanked in Oman (Bank Muscat, SME Presentation 2012).
Furthermore, the purpose driven and asset backed nature of Shariah compliant products, makes it good fit
for Islamic Banks to penetrate in to this segment. For the Islamic Lender, the trade based nature of
working capital financing, provides an opportunity of referral marketing. The bank through its existing
clientele tends to get introduced to either its Supplier (Murabaha) or Buyer (Salam/Istisna). Besides, this
segment also offers cross sell opportunities including, payroll accounts, personal financing bundled for
the staffing etc.
21
Earnings Dynamics
Banking Sector in Oman reportedly enjoy a handsome spread of around 4.2% with weighted average cost
of deposits of 1.177 and whereas the corresponding lending yields 5.4%. The higher spread may be
attributable of to a lucrative deposit distribution, with one third of zero cost deposit and a similar fraction
in low cost saving account. On the asset side, over 45% of the credit flows to the highly rewarding
household portfolio. Though the regulator has been careful on rationalizing the household credit portfolio
by capping the consumer portfolio overall pricing and diverting the
flow to House loan from general personal lending products.
It is evident that Omans banking industry is heavily reliant on the
Box-9
Capital Adequacy Standards:

Tailored to Islamic Banks
fee based income averaging around 50% of the net income.

Despite of all its peculiarities, the existing tried and tested
structural norms of the conventional counterpart, offers a lot to
learn for the Islamic Banks.
In view of the above, Islamic Banks should be targeting fee based
income, by pushing cross sell initiatives, customer oriented service
levels to route highest ancillary business through its counters.
Technology services and conventional commission and processing
fee based income as apparently is going to be a critical factor in
the overall efficiency of IB industry in Oman.
Optimizing the Capital

A critical review of the risk weighted assets (RWA) as a percentage
of the actual assets reveals that higher credit portfolio outlay to
The IBRF underscores the Central Bank's

creditable recognition of the unique risk
profile of Islamic Bank, and its directives for
Capital Adequacy tailored to be consistent
with Basel as well as IFSB's guidelines. The
IFSBs pragmatic approach to incorporate the
Profit loss sharing nature of the Investment
account holder funds, with a certain degree of
Displaced Commercial Risk (as measured by
the variable 'Alpha'), would ease out the
capital adequacy requirement (CAR). The
'Alpha' is supposedly set on supervisory
discretion and Oman's IBRF has taken a
moderate path (as compared to regional
jurisdiction) by fixing it to 0.3). It is pertinent
to mention here that Alpha oscillate in
between 0 to 1 range with Alpha=1 implying
an Investment Deposits to behave like a fixed
return and capital guaranteed deposit and
Alpha=0 refers to a perfect Profit Loss sharing
Mudaraba based investment.
the retail segment leads to greater RWA and thus pressures the
capital adequacy of the Bank. It is the same reason that makes
bigger Banks like Bank Muscat and Bank Sohar with retail
portfolio in 30 to 40% band enjoy relaxed capital adequacy ratio
owing to lesser RWA. On a broad-brush basis, IBs in Oman should
be capping retail/house hold lending to 40 to 45% levels to
optimize their risk adjusted yield and overall risk appetite.
22
Implications
As referred earlier, the easing out of the CAR,
would supposedly have direct and positive
impact on the overall efficiency of the Islamic
Banks, as it enable better allocation of the
expensive capital in to profitable venues.
Central Banks of Oman (CBO) posed Alpha of
30% optimizes/relaxes its capital adequacy
(with a floor requirement of 12% as set out in
IBRF), and thus better risk adjusted returns
and risk appetite.
In the backdrop of such balanced CAR
regulations, IBs managements are expected
to carry out smart and efficient allocation of
the capital for an optimum risk adjusted
return on the overall portfolio.
Conclusion
With eight IBIs and their 32 branches, as asset base of OMR 745.00 Mn, Equity of 349.00 Mn, Deposits of
295.00 Mn and Advances of 381.00 Mn in their very first year of operation, it would be safe to claim that
Islamic Banking Industry has taken off, and taken off well. The journey from here onwards would surely
depend much on IBIs striking the right balance, based on many factors including niche marketing, product
innovation, market segment identification, capital and yield optimization, regulatory and Shariah
governance. This paper has envisaged a pragmatic and action-oriented outlook of Islamic Banking
Industry in Oman, with a solid grounding in facts. An individual as well cross sectional examination of the
IBIs is presented, to review its convergence with the overall financial scene, and derive strategic
imperatives. This study features the ideas for product innovation for SME and trade segments, trends and
gaps in financing products, anomalies in investment deposit profit management, and implications of
regulatory directives pertinent to IBIs in Oman. Moreover, prevailing industry norms, products, deposit
and financing mix, profitability drivers have also been deliberated. Indeed it is going to be the right move,
in the right direction that would certainly take Omani Banking Industry to newer heights.
23
Islamic Banking
in Oman
Today and the Way Forward
A SPECIAL REPORT
OMAN
Above: Mosaic detailing in the Sultan Qaboos Grand Mosque, Muscat, Oman (Philip Lange). Cover: Entrance to the Sultan Qaboos Grand Mosque (Ivan Pavlov).
In this first of a two-part special, Muhammad

Arsalan Aqeeq reviews the progress of Islamic
finance in Oman since inception in 2011.
n 2011 a Royal Decree was issued to establish

an Islamic financial system, which paved the
way for the promulgation of a regulatory
framework, and the subsequent establishment
of two independent banks and six window operations
in the Sultanate.
The Sultanate of Oman is one of the recent
entrants into the Islamic banking and finance scene,
with a well-established regulatory framework rollout and nascent industry players comprising of two
independent Islamic banks and six Islamic banking
windows. Since the Royal Decree adjusting the
Omani banking law to allow the Shariah-compliant

format of banking was announced, competition has
been seen tough among the local banks.
Apart from the two fully integrated Islamic
banks Bank Nizwa and al izz bank the countrys
leading commercial banks have also set up their
own Islamic banking windows, including:
alhilal Islamic ahlibank
Maisarah
Bank Dhofar
Meethaq
Bank Muscat
Muzn
National Bank of Oman
Sohar Islamic Bank Sohar
Yusr
Oman Arab Bank
Much has been written on the prospects, potential
and promise of Islamic Banking in this GCC country,
with analysts generally optimistic on the prospects
for the overall growth of the industry both in terms
of absolute Islamic assets as well as market share.
cont. overleaf
www.cpifinancial.net
ISSUE 85 | Islamic Business & Finance
21
OMAN
cont. from pg 21
The fledgling yet vibrant Islamic banking industry in Oman has been
attracting a lot of attention for its vigorous legislative, regulatory and
market developments. Presently, almost all of the eight Islamic banking
institutions (IBIs) in Oman have completed a year of operations, and
account for a significant 3.24 per cent (OMR 745 billion) of the overall
banking assets in the country.
This two-part research paper takes a descriptive and exploratory
approach to encompass the progress of Islamic banking in Oman
against the backdrop of the dynamics of the local economy and the
overall banking industry. An objective, as well as a strategic review of
the banking industry is carried out to identify the opportunities and
challenges facing the nascent faith-based format of banking.
Oman has been classified as an oil-rich economy,

heavily dependent on dwindling oil resources,
which were responsible for around 80 per cent of
its revenue in 2012 (S&P, December 2013). Thus,
aligned with its regional peers, Omans economy
and external position are exposed to commodity
prices. However, the Government has been framing
a variety of initiatives to diversify the non-oil
economy (tourism and mining primarily) by means
of high investment supported by higher public and
private consumption.
Oman is a youthful Muslim monarchy with
a faith-driven population of some 2.78 million
(World Bank, 2011).
GROWTH STORY INTACT
The Sultanates favourable demographics (60
per cent of the population is between the ages of
15 to 45 years) coupled with a pro-growth and
employment backdrop, augur well for the fortunes
of the financial sector. Omans GDP growth during
2000-2012 averaged around 5.6 per cent. Recent
government regulations raising minimum wages and
expanding employment have also been supportive
of consumption and the deposit base of the nations
banks. This has also translated positively into a 10
per cent year-on-year growth in banking assets to
surpass the OMR 23 billion mark.
In recent years, the strength of the crude oil
price and rising production have coincided to
enable supportive government expenditure and
an accommodative monetary policy portending
well for growth in the country and of its banks.
Expectations of a continuing expansionary fiscal
policy to sustain the current momentum in growth
provide an optimistic outlook for the medium-term
future. Obvious risks include a substantial fall in
22
Islamic Business & Finance | ISSUE 85
$50 billion
is projected
to be spent
over the next
10 years, of
which $28
billion is
expected to
be awarded
between
2013 and
2015, driving
growth and
the resultant
credit offtake in the
nation
oil prices. However, years of fiscal prudence have

yielded adequate reserves to ensure continued progrowth initiatives remain unhampered, even in the
event of a mild fiscal deficit.
The Eighth Five-Year Development Plan (201115) emphasises a large public investment programme.
Non-oil activities are expected to grow by an annual
rate of six per cent at constant prices, according to
the Central Bank of Oman (CBO), and private sector
involvement through domestic and foreign private
investment is expected to complement government
spending. With estimates for the future dwarfing past
activity, $50 billion is projected to be spent over the
next 10 years, of which $28 billion is expected to be
awarded between 2013 and 2015, driving growth
and the resultant credit off-take in the nation.
BANKING SECTOR DYNAMICS & DRIVER
Prima facie, Oman has a thriving, efficient and
stable financial intermediation system, with a high
advance-to-deposit ratio and is deeply rooted into
the private retail and corporate sectors. Around
63 per cent of deposits are raised from the private
sector, which is re-channelled to the private sector
to an even higher level of 84 per cent in shape of
credit outlay.
Total banking assets in Oman are around OMR
23.20 billion with a breakup of equity of OMR 2.67
billion and deposits of OMR 16.47 billion. Total
credit of OMR 15.38 billion turns it into a 93 per cent
advances-to-deposits ratio (ADR) for the banking sector.
More encouraging is the fact that OMR 13 billion (out
of OMR 15 billion) is channelled into private sector.
Albeit a small population, households contribute heavily
on both on the deposits and asset side.
A number of useful insights may be drawn to
identify opportunity pockets, potential challenges
and discrepancies by modelling against the existing
banking industrys norms.
ISLAMIC BANKING FORECASTS AND REALITIES
A lot has been touted about Islamic banking and
the Omani markets appetite based on growth
stories elsewhere in the GCC (e.g. Qatar, KSA,
UAE etc.). These projections are, broadly, based
on cognitive reveries, heuristics and optimism
driven by broad generalisations with but little
reference to the dynamics of the local banking
industry, regulatory paradigm and balance
sheet structures.
To quote a few, Moodys reports are optimistic
for Islamic Banking in Oman, making a ballpark
OMAN
FIGURE 1: Structure of Omans Banking Industry: Equity, Leverage, Financing and Deposit Activity
Net earnings
OMR 305 m
Free Based Income OMR 60 m

20% of Net Earnings
Net Spread 4.237%
Saving -33%
Time
-33%
Demand -33%
Deposits - Private Sector

63%
Weighted Average Cost of

Deposits 1.116%
Weighted Average Lending

Yield 5.353%
Advance: Deposits
93.4%
Household 48%
Public Sector Enterprise OMR 2.00 bn
Total Credit (TC) OMR 15.38 bn
Total Deposits (TD) OMR 16.47 bn
Non Financial
Corporates 29%
Private Sector Credit OMR 13.00 bn

Household Credit 45%
Total Banking Assets

OMR 23.20 bn
Deposits - Government &

Public Sector - 35.2%
Non Financial Corporates

47%
Equity Capital OMR 2.67 bn

Deposits: Equity
5.7%
Total Assets: Equity

7.8%
Data Sources: CBO Annual Report 2012, Monthly Report February 2014
projection in its ability to grab six to eight per cent

share of system assets within the next three to five
years. Quantifying this verdict by Moodys, Islamic
banking assets should reach around OMR 3 billion,
assuming 10 per cent YOY growth of overall banking
assets, eight per cent penetration of Islamic banking
in a period of five years. EY (previously Ernst &
Young) holds to a more conservative stance, and
sees Islamic banking surmounting $6.00 billion
(OMR 2.3 billion) in a matter of few years. Arqaam
Capital, a Dubai-based investment bank, offers the
most optimistic forecast, suggesting that by 2017
Islamic banking in Oman would account for around
15 per cent of all loans by 2017.
A careful factual review of the foundation and
projected growth of Islamic Banking Industry
based on industry dynamics and consumer profiles
appears to be non-existent. This study reviews
Omans Islamic banks (mostly operational for
one to four quarters) and endeavours to model
growth and progress against established industry
benchmarks, with due weighting to the specifics
of Islamic banking.
RECENT REGULATORY DIRECTIVES

The CBO has been actively tweaking the reins of the banking industry to
ensure stability and the efficiency of the financial system. A summary of
recent CBO directives shows:
Action/Directive
Detail
Ceiling on Personal Loan Pricing
cut from 8.5 per cent to seven

per cent
Minimum SME lending for banks set at:
five per cent
Overall portfolio cap on Personal Loans
cut from 40 per cent to

35 per cent
Cap on Housing portfolio relaxed
increased to 15 per cent from

10 per cent
Islamic banking assets should reach

around OMR 3 billion, assuming
10 per cent YOY growth of overall
banking assets
cont. on pg 24
cont. overleaf
23
OMAN
cont. from pg 23
TABLE 1: Projections on the size of the Omani Islamic banking industry by assets
Research Origin
Claimed Estimates Projection *
Asset size
EY
Islamic banking to reach $6 billionin next few years [assuming 5 years i.e.
2018].
OMR 2.3bn
Moodys
Islamic banking to grab 6-8 per cent share of system assets within the next
three to five years i.e. 2018 [assuming eight per cent share in 5 years].
OMR 3.00bn
Arqaam Capital
Islamic financial institutions as a whole to generate around 15 per cent of all

loans by 2017.
OMR 5.05bn (of which,

credit OMR 3.35bn)
*The quantification of the broad estimates by various research companies has been based on Oman banking Industry-wide norms
such as leverage of 8x, ADR of 93 per cent, YOY growth of 10 per cent, etc.
MEETHAQ, THE MAVERICK!
ISLAMIC BANKING IN OMAN: START-TO-DATE

Omans Islamic banking industry, with an initial
equity base of OMR 348.5 billion and a network
of 32 branches representing two independent
Islamic banks and six Islamic banking windows
has managed to grab a 3.24 per cent share of the
overall banking assets. Interestingly, the Islamic
banking industry is operating at an advance-todeposit ratio of over 129 per cent, which is well
above the overall banking industry average of 93
per cent. These advances, predominantly are retailand real estate-centric, but will, it is to be hoped,
rationalise as the industry takes on momentum.
Progress should be viewed against the backdrop
of the embryonic phase that the Omani Islamic
banking industry is going through.
The Islamic asset base of OMR 745 million is
largely dominated by Meethaq (Bank Muscats
Islamic banking window) with a 40 per cent share.
This may not come as a surprise as Bank Muscat
happens to claim an equally dominant share (38
per cent) of overall Omani banking assets as well.
As of December 2013, not much can be seen in
the core banking activities in the shape of retail
deposits mobilisation or private sector lending.
Nevertheless, the stage is all set for a get-setgo thrust, with all sorts of products launched,
branches functioning, IT infrastructure and human
24
Bank Muscats window Meethaq (with a meagre capital of OMR 20

million) has been very quick to inflate its balance sheet to leverage
over 10x against the overall industry norm of 8x leverage. Interestingly,
this steep growth is primarily attributed to its inherited Musharaka
(retail housing) portfolio amounting to OMR 168 million which latterly
has grown to a level of OMR 280.66 million as of December 2013. The
asset side is dominated by this long-term Musharaka portfolio. On
the other hand, the unusual growth in deposits on the balance sheet
is mainly comprised of deposits from banks and financial institutions
which contributed OMR 134 million whereas the remaining OMR 66
million have been driven from the Government sector. With over seven
branches, the bank has not been able to mobilise any significant retail
or private sector deposits till Dec 2013.
This idiosyncratic balance sheet structure makes it a difficult
situation for the asset-liability maturity profile to manage, wherein 65
per cent of the assets are over five years maturity, which is funded by
very low maturity deposits. This leads to asset/liability mismatches.
However, given the monopolistic penetration and legacy that
its parent bank enjoys with over 38 per cent of the market share, it
shouldnt pose much of a problem to tweak the matter. Moreover,
the high yield (6.3 per cent) of the retail Musharaka assets, keeps
it affordable for the bank to manage its liquidity through interbank
markets wherein it can engage relatively low cost liquidity, while
keeping its spreads intact.
The uniqueness of Meethaq doesnt ends here, when the bank.
being smart enough, recognised the troubles ahead it unveiled
another out-of-the-box strategy. Instead of going for aggressive
deposit mobilisation to rationalise its deposit mix, the bank opted
for an altogether distinctive route. In an extraordinary Board
meeting in March 2014, the Board announced the setup of an OMR
500 million Sukuk programme for Meethaq. This can be viewed as
an innovative business model, where the bank instead maintaining
saving and term deposit accounts can use a flexible Sukuk structure
to fund its assets.
However, Meethaq has not lost sight of its core banking business
lines. The bank intends to expand its branch network to 15 branches to
ensure its outreach to a broader consumer base.
OMAN
TABLE 2: Assets, Equity, Deposits, Financing, Profitability and Deposit Rates Disclosures
NIZWA
NATURE
AL IZZ
Independent
Parent
Bank
MEETHAQ
SOHAR
MUZN
ALHILAL
AL YUSR
MAISARAH
Bank
Muscat
Sohar
Bank
National
Bank of
Oman
Al Ahli
Islamic
Bank
Oman
Arab
Bank
Bank
Dhofar
Total
Window
Equity
(OMR
million)
150
100
26
10
15
25
10
12.5
Launch
date
Dec
2013
Sept
2013
Jan 2013
Apr 2013
Jan 2013
Dec 2013
July 2013
March
2013
348.5
Deposit Base (OMR million)

As of
Dec
2013
Dec
2013
Dec 2013
Dec 2013
Sept 2013
Dec 2013
Sept
2013
Sept 2013
Current
13
0.5
4.6
3.7
1.4
5.5
NA
1.968
Savings/
Timed
6.9
0.6
Saving:
10.4
15.6
15.1
4.0
NA
9.5
8.3
36
0.2
5.1
20.4
30.668
264.6
Term: 212.0
Financing Assets (OMR million)
Consumer
12.0
0.5
Commercial
275.61
3.703
10.092
352.202
29.203
Total Assets (OMR million; assumed as sum of equity and deposits, in case of data unavailability)
170
100
298.3
52
25.1
75.2
10
14.4
745
(3.232)
6.2
(0.65)
(0.6)
(0.3)
(0.5)
(1.3)
(2.787)
Profits (OMR million)

(2.405)
Profit-sharing Ratio (Bank/Depositor)

50:50
NA
80:20
70:30
NA
NA
NA
NA
32
Number of Branches
7
Product Participation Weights [1 Month to 12 Month ]

a) 1M
45
NA
0.3
0.14
NA
NA
NA
NA
NA
b) 12M
70
NA
2.0
0.21
NA
NA
NA
NA
NA
Absolute Rates Offered

1M
0.42
NA
0.15
NA
NA
NA
NA
NA
12M
0.95
NA
NA
NA
NA
NA
NA
567%
50%
% Dispersion = (b-a)/a x100

56%
NA
cont. overleaf
25
OMAN
cont. from pg 25
DISPERSION OF PRODUCT WEIGHTS DOES IT MATTER?

Product weighting is a banks management discretionary tool, and can be used to tune in the
deposit profit rate profile. As a rule of thumb, higher tenor/volume deposit classes get higher
weightages, translating in to higher profit rates.
In effect, the spread of the weights from the normal saving account vis--vis higher term/
volume account, can be indicative of the banks inclination for longer term/higher volume
depositors. However, irrationally high dispersion leads to disadvantaged customers which may
be viewed as somewhat incoherent when compared to Shariah ideals.
Similar instances of unreasonable weightages have been addressed in Pakistan by the Central
Bank, the State Bank of Pakistan, which issued a directive saying, The maximum weightage to
the Mudaraba-based deposit of any nature, tenor and amount shall not exceed three times the
weightages assigned to saving deposits.
It is worth highlighting here that for Meethaq this spread multiple is as high as 6.7x. The
dispersion of weights (see TABLE 2) of 567 per cent against its peers (Sohar Islamic and Nizwa
Bank) average of 50 per cent, might cause some concern to the bank and its depositors. This is
evident from the uncompetitive profit rate of 0.15 per cent offered by Meethaq being dwarfed by
the 0.42 per cent offered by Bank Nizwa in the one-month term deposit category.
resource in place. TABLE 2 takes a micro view

of core activity, presenting financial statements
data on equity, deposits and financing together
with number of branches as measure of physical
outreach. Additionally, this table also elaborates
on the deposit profit management practices by
presenting profit-sharing ratio, absolute profit
rates offered, deposit product weights assigned and
the percentage dispersion of these weights across
various deposit products.
DEPOSITS
Most of the innovation has been seen on the
deposit-side, and very rightly so as it takes deposits
for banks to lend and earn profits. Almost all of
the banks and windows have well-defined call,
timed, remunerative and non-remunerative deposit
products, bundled with other benefits aligned to
the targeted customer base. Broadly, deposits are
mobilised on the underlying contract of Qardh (for
Current Account) and Mudaraba (for savings and
terms deposits).
MARKET DISCIPLINE
Meethaq and Nizwa have taken the lead, with
well-articulated and properly disclosed profitsharing ratios, product weightages and respective
yields across various time-volume based slabs.
Bank Nizwas and Meethaqs presentation and
26
disclosure of profit distribution management has

been extremely transparent and regularly updated,
with monthly disclosures along with the reporting
of profit sharing ratio (PSR). In terms of PSR,
Meethaq seeks the highest Mudaribs share i.e. up
to 80 per cent of the income.
Commendably, Meethaq took a step further
towards the transparency by publishing the
participation weightages assigned to the banks
equity contributed to the Mudaraba Pool along
with balances in Profit Equalisation Reserves.
With the exception of Nizwa, Meethaq and Sohar,
none of the Islamic banking operations have had
formal deposit products-related disclosure on
their website, not even the basic profit sharing
ratio, despite the fact that almost all of them have
mobilised Mudaraba-based deposits as reflected
on their balance sheets.
In contrast to many regional jurisdictions, and
in compliance with AAOIFI and the CBOs IBRF,
the Investors Account Holder Equity has been
reported separately between the liabilities and
shareholder equity, instead of being reported as a
mere liability, considering its profit/loss sharing
of the underlying Mudaraba contract.
Tying up with Takaful services to bundle
BancaTakaful products and provide Takaful
coverage for the consumer base has also been
picking up lately in Oman. Meethaq was the
Almost all
of the banks
and windows
have welldefined
call, timed,
remunerative
and nonremunerative
deposit
products,
bundled
with other
benefits
aligned to
the targeted
customer
base
OMAN
first Islamic banking operation in the Sultanate

to package a BancaTakaful product suite in its
offerings. More recently, Maisarah announced
its collaboration with Al-Madina Takaful to offer
BancaTakaful services.
ASSETS
Broadly speaking, asset-side products have been
desigedn for retail and SME/corporate clientele,
wherein vehicle finance, home finance, credit
cards and personal finance are offered for the
retail segment. The corporate/SME segment
comprises of trade, working capital and term/
project finance. A deeper analysis of the product
offerings reveals that the overall industry seems
to have a general consensus over certain product
structures and their respective underlying Shariah
contracts; i.e. Murabaha for vehicle finance and
working capital finance, Ijarah for term financing
to the corporates.
MAISARAH BREAKING
THE MURABAHA MOULD
Bank Dhofars Maisarah, with just two
branches and equity of OMR 12.5 million, has
nevertheless been amongst the few, not only
in Oman but across the world, which have been
able to break the Murabaha mould. Maisarah,
boasting of its commitment to the ideals of
Islamic finance, launched a Mudarabah-based
(equity-based profit/loss sharing model)
working capital financing solution for its
commercial banking product suite.
Conversely, home finance is somewhat more

diversified with banks employing Murabaha, Ijarah,
Diminishing Musharaka, Istisna and even Sale/
Lease Back. Interestingly, personal financing is
offered by Bank Nizwa and al izz Islamic Bank on
the basis of Murabaha and Ijarah. Only Meethaq
and al izz offer credit cards, on the basis of Ujrah
and Murabaha.
Meethaq stands out among those offering home
finance, doing so through underlying contract
based on Diminishing Musharaka, against the
prevalent norm of employing Ijarah/Forward Ijarah
for housing finance as adopted by the rest of the
Industry players.
INVESTMENT DEPOSITS ACCOUNTS DISTRIBUTING NET OR

GROSS PROFIT?
The CBOs Islamic Banking Regulatory Framework (IBRF) has adopted
a gross income method as a standard for income determination and
profit distribution to Investment Account holders. However, there
is another (AAOIFI-defined) income distribution method, the net
income method, wherein the net income including the fee-based
income, adjusted for management overheads is subjected to profit
distribution to depositors. This method may have been a viable choice,
especially for an emerging market, like that of Oman with scarce
liquidity management venues and a developing lending book. Both
methods come with inherent trade-offs. Nevertheless, this option
might have added to the sustainability and stability of the nascent
Islamic banking industry in the country. As a trade-off, displaced
commercial risk could have been a concern, arising when a bank isnt
able to offer market competitive returns.
IMPLICATIONS
Trade-offs of including fee-based income versus management
overheads is a strategic balance to strike, however the gross income
method is prevalent across all major Islamic banking jurisdictions, and
rationalises the CBOs choice.
Nevertheless, it is important to note here that the generally in-loss
Islamic banks/windows in Oman have almost no fee-based income
streams and relatively high overheads on their P&L. This situation
turns in to a relatively disadvantaged equity shareholder with negative
EPS, in comparison to an earning Investment Account Holder.
cont. overleaf
27
OMAN
cont. from pg 27
TABLE 3: Retail & Corporate financing products and their underlying Islamic finance contract
Retail Finance Products
SME/Corporate Finance Products
Car
Finance
Home
Finance
Personal
Credit
Financing/ Card
Working
Capital
Financing
Infra-structure
Finance
Long
Term/
Project
Finance
Treasury
NIZWA
Murabaha
Ijarah/
Murabaha
Ijarah/
Murabaha
NO*
NO
NO
NO
NO
AL IZZ
Murabaha
Ijarah
Ijarah/
Murabaha
Murabaha
Murabaha
/IMB
IMB/Forward
Ijarah
SaleLease
Back /DM
WaadForward
Contract
MEETHAQ
Murabaha
Diminishing
Musharaka
NO
Ujrah
Murabaha
Ijarah
DM
ND
MAISARAH NWA***
NWA
NWA
NWA
Musharaka*
NWA
NWA
NWA
SOHAR
ND
Ijarah/
Murabaha
NWA
NO
NWA
NWA
NWA
NWA
AL YUSR
Murabaha/ DM
Ijarah
NO
NO
Murabaha
Ijarah
NO
NO
ALHILAL
Murabaha
Murabaha/
IMB/DM/
Istisna
NO
NO
ND
ND
ND
ND
MUZN
Murabaha
IMB/
Sale-Lease
Back for
Conversion
NO
NO
Murabaha
IMB/ Forward
Ijarah/ SaleLease back
* NO - Product Not Offered

** ND - Product offered on the Banks Website/press, but underlying Shariah contract Not Disclosed
*** NWA - No website available
DM- Diminishing Musharaka , IMB Ijarah Muntahia Bi Tamlik
ABOUT THE AUTHOR
Muhammad Arsalan Aqeeq is a qualified and experienced

Islamic Finance Practitioner and enthusiast, specializing in
Shariah-compliant product structuring, corporate lending,
Credit risk assessment and project finance, having served
both conventional and Islamic financial institutions. He
has diversified experience in managing products, client
segments, P & L, sales, marketing, training, and channels.
He holds a Bachelor of Engineering degree from
NED University, an MBA from Institute of Business
Administration, Karachi. He is a qualified CDIF from
CIMA, UK. He has experience of structuring corporate
lending products including the Shariah-compliant
models of Murabaha, Salam, Istisna, Ijarah and Sukuk.
Arsalan is a staunch believer in the prospects of Islamic
Finance as a viable financial alternative which, according
28
to him, solicits a transformation from Shariah-compliant

to Shariah based. He has recently established WAAD
Associates, a research and training entity founded by
like-minded professionals, engaged in pragmatic, actionoriented research and training endeavours in collaboration
with counterparts based in UAE, Qatar and KSA.
He has been serving as a faculty and corporate trainer
for the Institute of Bankers Pakistan, PAFKIET, SZABIST,
Dubai Islamic Bank etc. Arsalan has contributed
to numerous international and domestic training
programmes and courses on Islamic banking, Islamic
accounting standards, credit analysis and corporate
finance, etc.
He may be reached at arswasti@yahoo.com and at

pk.linkedin.com/in/arsalanaqeeq/
Islamic Banking
in Oman
Today and the Way Forward
A SPECIAL REPORT
OMAN
Cover: Grand Mosque, Muscat (Philip Lange/Shutterstock); above: Traditional Shipbuilding, Sur, Oman (Wolfgang Zwanzger/Shutterstock).
In this concluding instalment of a two-part

special, Muhammad Arsalan Aqeeq looks to the
future for Islamic finance in Oman
20
he stage is now set for the eight Islamic

banking players in Oman. The next few
years are going to be critical in shaping
the industry. There are a lot of strategic
dimensions, including the legacy of the existing
banks (operating through windows), regulatory
stance, product innovation, targeting of niche
segments, cross selling, banking the unbanked
and, most importantly, Shariah governance
and assurance.
OMAN
Will it be windows or the independent banks

that are going to thrive? Opinions differ with some
suggesting windows have an inherent advantage of
infrastructure, penetration and scale efficiencies.
Whereas others perceive it to be a three horse
race, with Nizwa, al izz and Meethaq leading
market share.
MORE THAN A THREE-HORSE RACE?
Research by Dubai-based investment bank Arqaam
Capital predicts that Bank Muscat will have 36
per cent of the countrys Islamic banking market
by 2017, followed by Nizwa with 33 per cent
and al izz with 23 per cent. This is an interesting
claim on the face of it, as Meethaq has the lowest
equity of OMR 26 million against OMR 150
million for Nizwa and OMR 100 million for al
izz. However the present state of affairs appears
to validate the lofty assertions regarding Meethaq
made by Arqaam, which also suggested that the
remaining eight per cent will be shared by Sohar,
Maisarah and Muzn, with no mention of Oman
Arab Banks Yusr. It would be premature to drive
any generalisation about the market shares of the
eight players, given the vigour and enthusiasm
that have been exhibited by them. However, in
the longer term it will be Shariah compliance,
product innovation and service levels that will
create the difference.
SHARIAH COMPLIANCE FOR MURABAHA
IN LETTER & SPIRIT
The Central Bank of Omans IBRF stipulates
that the invoice issued by the supplier will be
in the name of the licensee i.e. Islamic bank,
as the commodity would be purchased by an
agent on behalf of the licensee.
Compliance to this clause may not be
difficult in the case of household financing
(automobile, housing, etc.). However, this is
going to be a challenge in the case of SME
and commercial lending, wherein mass
procurement of raw materials is being
financed by the bank. As a matter of recurring
business practice, invoices are usually raised
in the name of the customer (eventual buyer)
and are practically not possible to be raised in
favour of the bank (The same challenge was
faced by Pakistan, in its drive for compliance
with AAOIFI standards and has been
documented as an exception).
SACROSANCT SHARIAH COMPLIANCE

Islamic banking is a fresh endeavour in Oman,
creating early impressions on the consumer base.
The regulator has taken a stringent, yet principled
stance on Shariah compliance (most prominent
being on the use of Tawarruq and commodity
Murabaha), and now it is the turn of the industry
to follow. A review of prior research clearly
establishes the fact that Shariah compliance is
one of the key purchase reasons put forward by
Islamic banks consumer base. Islamic banks
should ensure a meticulous Shariah governance
framework vis--vis brand image and ensure
income cleansing to charity funds with all due
presentation as stipulated by AAOIFI and the
Central Bank of Omans (CBO) Islamic Banking
Regulatory Framework (IBRF).
PRINCIPLED STAND
The CBOs IBRF is a commendably comprehensive
and principled framework, which has integrated
the best practices and standards from AAOIFI
and IFSB etc. A review of the regional regulatory
frameworks that have been in the business for
decades, would further endorse the quality of the
IBRF. Paying full heed to Shariah governance is
the formation of a National Shariah Board serving
as a supervisor and point of reference, to the boards
of individual Islamic banks.
Despite concerted lobbying efforts, the
regulator stood firm on its fundamental stance
against the use of commodity Murabaha and
Tawarruq for short-term liquidity management.
However, the CBO, being cognisant of the dearth
of liquidity management venues (except for
interbank Wakalah arrangements), has relaxed
ceilings of foreign placements to the Islamic
banks. Besides, the CBO is also keen to issue
Government Sukuk which may also add to the
options for liquidity management for Omans
Islamic banks. Both the independent banks and
the windows have addressed the issue of liquidity
management through domestic and offshore
interbank Wakalah arrangements as reflected in
their balance sheets.
TRADE-BASED PRODUCT STRUCTURES
Oman is a thriving trade economy with overall trade
accounting for 103 per cent of Gross Domestic
Product (GDP). Exports account for OMR 20.05
billion, whereas imports amount to OMR 11.01
billion. It is worth noting here that around 30 per
cont. overleaf
21
OMAN
cont. from pg 23
NON-EXISTENT SALAM AND ISTINA PRODUCTS

Surprisingly, none of the Islamic lenders
in Oman have offered corporate financing
products based on Salam or Istisna. It is worth
mentioning that Salam and Istisna financing
is a widely adopted debt-based financing
contract across various Islamic banking
jurisdictions, and has been authorised by the
CBOs IBRF.
cent of total exports come from non-oil exports

(OMR 3.6 billion) and re-exports (OMR 2.5 billion).
Omans non-oil exports include minerals (OMR
422 million), base metals (OMR 671 million) and
interestingly OMR 175 million in live cattle.
In addition to mainstream oil-based trade, Islamic
banks may target the non-oil trade and re-export
segment. Islamic financing contracts are inherently
suited to be applied to trade transactions. Oman
with its huge volume of documented trade, offers
opportunities for Islamic banks to structure trade
financing transactions on the basis of Murabaha,
Salam and Istisna.
22
Re-exports transactions may also be structured

either on the basis of Murabaha finance to the
trader, or back-to-back Murabaha for the buy
side and Salam/Istisna for processing and export
transactions. Parallel Salam and Istisna may also
be structured where the Islamic bank can capitalise
on its independent role as a buyer and seller.
Rather than sticking only to basic Murabaha, a
whole suite of Shariah-compliant trade financing
solutions to cater the needs of packing, pre and post
shipment export financing and even bill discounting
can be effectively commissioned: in the most
compliant manner, and in complete coherence with
the covenants of documentary credits. Further,
forward covers to hedge currency risk may also
be offered to the customer via Waad contract.
The wholesale and retail trade segment which
contributes around OMR 2.2 billion or 7.3 per
cent of the GDP is another potential sector that
Islamic banks may delve into. With sale-based
product structures Islamic banks are fully poised
to penetrate in to this segment, by offering supply
chain financing solution.
It is worth highlighting here that, the majority of
the trade is sourced in or destined to neighbouring
OMAN
countries such as India, China, KSA, UAE, with

GCC countries accounting for a major share of
the trade. Thus, this trade sector can potentially
integrate and magnify Omans nascent Islamic
banking industry in the context of the wider ambit
of a Halal economy.
ISLAMIC WINDOWS OFFERING EFFICIENCY
OR CANNIBALISATION?
It is generally believed that the Islamic windows
of existing conventional banks will likely be well
placed to capture market share, given their ability
to leverage much of the existing infrastructure,
employees, partly common back office and the brand
of the parent franchise. However, in my personal
experience, windows virtually have a limited playing
field, with existing large scale corporates and even
high net worth individuals being earmarked as
NO-GO areas if they are already working with the
conventional parent bank. A windows endeavours to
offer a competitive proposition to penetrate into the
market, may be viewed as invasive and tantamount
to cannibalisation of existing market share.
There appears to be tacit agreement amongst
C-level management not to compete from within.
For example, one may foresee Bank Muscats
Meethaq experiencing a very limited market, as
its parent conventional bank is already the market
leader with a 38 per cent share of the overall banking
share. It is likely to have existing relationships
with almost all the large accountes in the country
and be viewed as a strategic bank by most large
scale business enterprises, owing to its penetration,

access, services and scale. This would leave its
window Meethaq with a limited market to dwell
in and may hamper its progress.
On the brighter side, it may also turn in to
a blessing-in-disguise, with windows pursuing
the unbanked and underbanked segments, thus
complementing the financial inclusion and broader
diversification objectives of the Sultanate.
THE 60-40 STRATEGY BENCHMARKING
THE BANKS
Interestingly, an unweighted mean of the major
industry players approximates a 60:40 term
deposit:current account/savings account (CASA)
mix. A similar 60:40 mix between the corporate
and retail credit portfolios has also been observed
in the industry.
The variables in Table 4 are highly interdependent;
the deposit mix versus the credit mix defines the
spread, which subsequently sets the yield. The
credit mix along with overall leverage drives capital
adequacy, which eventually affects the overall
risk appetite of the bank: apparent in the example
of National Bank of Oman (NBO) wherein risk
weighted assets (RWA) are significantly higher
than the industry averages, probably due to greater
share of the retail lending on the asset side.
The 60-40 benchmark may enable Islamic
banks to sway their strategic goals, while they
follow their respective organic growth. As an
indicative yardstick, it can be an overarching frame
The
wholesale
and retail
trade
segment
which
contributes
around OMR
2.2 billion or
7.3 per cent
of the GDP
is another
potential
sector that
Islamic banks
may delve
into
TABLE 4: Review of conventional banks
Industry
Averages
(Unweighted)
Deposit
Distribution
(% of total)
Bank
Muscat
Bank
Dhofar
Bank
Sohar
National
Bank of
Oman
Ahli
Bank
CASA (% of
total)
42.0
64.0
39.0
38.0
46.0
23.0
Term (% of
total)
58.0
36.0
61.0
62.0
54.0
77.0
Loan
Distribution
Corporate
58.2
61.0
59.0
67.0
51.0
53.0
Retail
41.8
39.0
41.0
33.0
49.0
47.0
Returns
ROE %
14.5
14.3
13.7
14.7
13.9
15.8
1.7
1.8
1.7
1.5
1.5
2.1
Assets: Equity
8.2
7.14
7.3
9.6
9.3
7.7
RWA: Asset %
100.2
93.0
101.0
95.0
109.0
103.0
51.4
59.0
36.0
45.0
72.0
45.0
ROA %
Fee Income: Net Income %
*Stats sourced from Oman Arab Bank Investment Management Group Report as of October 2013.
cont. on pg 26
23
OMAN
cont. from pg 25
to avoid any major deviations that could result in

a costly deposit mix or lower-than-the-optimum
credit portfolio.
Moreover, the overall banking industry is
leveraged around eight times equity which can
be used to make a ballpark estimate of the future
industry size at around OMR 2,700 million, at
the present equity levels of OMR 334 million.
The size of around OMR 3 billion (or an eight
per cent share of banking assets in five years) is
also consistent with the earlier estimates made on
the basis of Moodys and EY expectations (see
part one, Islamic Business & Finance, #85, p.24).
SMALL ENTERPRISE, BIG OPPORTUNITY?
Around 91,000 SMEs are known to operate in
Oman accounting for 13.8 per cent of GDP. The
regulator, recognising the significance of the sector,
has directed banks to lend to SMEs at least five
per cent of their aggregate advances.
On the conventional banking front, Bank Muscat
apparently has the most established, well-staffed
product suite on offer for SMEs, branded AlWathbah, including working capital, equipment,
point-of-sale receivables, contract and trade
financing products.
Meethaq, with this legacy of SME/transaction
banking and with its fast growing deposit base, is
apparently very well positioned to exploit the SME
potential in a Shariah-compliant mode as well.
For an emergent Islamic banking industry the
SME segment is especially suitable as it offers
smaller per party risk exposures topped by higher
yield, and thus furnishes the prospect of a welldiversified portfolio.
Moreover, Islamic banking can provide a

reasonable boost to the countrys vision towards
lower oil dependency and diversification towards
non-oil GDP growth. With private sector credit
almost half of GDP and a 96 per cent Muslim
population, Islamic banking is poised to mobilise
financial inclusion of the faith-driven SME segments,
and subsequent growth of what have been, perhaps,
previously ignored or underserved business sectors
such fisheries and agriculture.
The SME segment generally is graded as
relatively more faith-driven and has been considered
significantly unbanked in Oman (Bank Muscat, SME
Presentation 2012). Furthermore, the purpose driven
and asset-backed nature of Shariah-compliant
products, makes Islamic banking solutions a good
fit to penetrate into this segment. For the Islamic
MOCIS SME LOAN GUARANTEE PROGRAMME DOES IT WORK FOR ISLAMIC BANKS?
Omans Ministry of Commerce and Industry (MOCI) is operating a Loan-Guarantee programme with
Oman Arab Bank and Bank Muscat as its channel partners, wherein 50 per cent of the loan amount
is guaranteed and the banks earn six per cent on the remainder 50 per cent of the loan, turning it in
to a three per cent subsidised loan to SME obligor.
Shariah-compliant products may be structured for such subsidised financing by Islamic banks
in Oman (as has been rolled-out in other jurisdictions, for example the Islamic Export Refinance
Scheme is offered in Pakistan to extend subsidised funding to preferred export sectors. This is
achieved by means of a Musharaka pool between the State Bank of Pakistan and the channel bank,
which subsequently extend the financing to the borrower through a Shariah-compliant mode of
Murabaha, Istisna or Salam. A similar structure in Oman would enable Islamic banks to penetrate
swiftly into the SME segment, offering partly guaranteed financing at very attractive pricing.
24
OMAN
CAPITAL ADEQUACY STANDARDS: TAILORED

TO ISLAMIC BANKS
The IBRF underscores the CBOs creditable
recognition of the unique risk profile of Islamic
banks, and its directives for capital adequacy
are tailored to be consistent with Basel as
well as IFSB guidelines. The IFSBs pragmatic
approach to incorporate the profit/loss sharing
nature of Investment account holder funds
with a certain degree of displaced commercial
risk (as measured by the variable alpha), would
ease the capital adequacy requirement (CAR).
The alpha is supposedly set on supervisory
discretion and Omans IBRF has taken a
moderate path (as compared to other regional
jurisdictions) by fixing it to 0.3. It is pertinent
to mention here that Alpha oscillates in
between the 0 to 1 range with Alpha=1 implying
an investment deposit to behave like a fixed
return and capital guaranteed deposit and
Alpha=0 referring to a perfect profit/loss
sharing Mudaraba-based investment.
IMPLICATIONS
The easing out of the CAR, should have a direct
and positive impact on the overall efficiency
of Islamic banks, enabling better allocation of
expensive capital into profitable venues.
Against a backdrop of balanced CAR
regulations, the managements of Omans
Islamic banks have the opportunity to carry
out smart and efficient allocation of capital
for an optimum risk-adjusted return on the
overall portfolio.
lender, the trade-based nature of working capital

financing, provides an opportunity for referral
marketing. The bank, through its existing clientele,
tends to get introduced to both suppliers (Murabaha)
and buyers (Salam/Istisna). Besides, this segment
also offers cross-selling opportunities including,
payroll accounts, personal financing bundled for
staff, etc.
EARNINGS DYNAMICS
The banking sector in Oman reportedly enjoys
a handsome spread of around 4.2 per cent with
The banking
sector
in Oman
reportedly
enjoys a
handsome
spread of
around 4.2
per cent with
weighted
average cost
of deposits
of 1.177
per cent
whereas the
corresponding
lending
yields 5.4 per
cent
weighted average cost of deposits of 1.177 per

cent whereas the corresponding lending yields
5.4 per cent. The high spread may be attributable
to a lucrative deposit distribution, with one third
zero cost deposit and a similar fraction in low cost
savings accounts. On the asset side, more than 45
per cent of credit flows to the highly rewarding
household portfolio. Though the CBO has been
careful in rationalising household credit portfolios
by capping consumer portfolio overall pricing and
diverting credit flow to housing loans and away
from general personal lending products.
It is evident that Omans banking industry
is heavily reliant on fee-based income which
averages around 50 per cent of net income. Despite
peculiarities, the existing tried and tested structural
norms of the Sultanates conventional banking
sector holds many lessons for Islamic financiers.
Islamic banks should be targeting fee-based
income, by pushing cross-selling initiatives
and customer-oriented service levels to route
highest ancillary business through its counters.
Technology services and conventional commission
and processing fee-based income will also be
critical factors in the overall efficiency of Islamic
banking in Oman.
OPTIMISING CAPITAL
A critical review of risk weighted assets (RWA)
as a percentage of actual assets reveals that higher
credit portfolio outlay to the retail segment leads
to greater RWA and thus pressures the capital
adequacy of the bank. It is the same reason that
makes bigger banks like Bank Muscat and Bank
cont. on pg 28
25
OMAN
cont. from pg 27
Sohar with retail portfolios in the 30-to-40 per cent

band enjoy relaxed capital adequacy ratios owing
to lesser RWA. On a broad-brush basis, Islamic
banks in Oman should be capping retail/house
hold lending to 40-to-45 per cent levels to optimise
their risk-adjusted yield and overall risk appetite.
CONCLUSION
Omans eight Islamic banking institutions, with 32
branches, built an asset base of OMR 745 million,
equity of OMR 349 million, deposits of OMR 295
million and advances of OMR 381.00 million in
their very first year of operation.
It would be safe to claim that the Sultanates

Islamic banking industry has taken off, and
taken off well. The journey from here onwards
will surely depend on banks striking the right
balance, based on many factors including niche
marketing, product innovation, market segment
identification, capital and yield optimisation,
regulatory and Shariah governance. This paper
has envisaged a pragmatic and action-oriented
outlook for the Islamic banking industry in
Oman through which the right moves may
be made in the right direction to grow the
industry successfully.
ABOUT THE AUTHOR
Muhammad Arsalan Aqeeq is a qualified and

experienced banker, Islamic finance practitioner
and enthusiast, specialising in Shariah-compliant
product structuring, corporate lending, credit
risk assessment and project finance; having
served in both conventional and Islamic financial
institutions. He has diversified experience in
managing products, client segments, P & L, sales,
marketing, training, and channels.
He holds a Bachelor of Engineering degree from
NED University, an MBA from Institute of Business
Administration Karachi. He is a qualified CDIF from
CIMA, UK. He brings with him years of experience
of structuring corporate credit products including
26
Shariah-compliant modes of Murabaha, Salam,

Istisna, Ijarah and Sukuk covering a variety
of sectors, including: coal, edible oil, textile,
rice, food grain processors, tannery and sugar
manufacturers, ethanol, FMCG, pharmaceutical,
distributions and automobile assembly.
Arsalan is staunch advocate of the
prospects of Islamic Finance as an ethicalyet-viable alternate financial system which
to him solicits a transformation from
Shariah-compliant to Shariah-based. He
has recently established WAAD Associates,
a research and training entity founded
by likeminded professionals, engaged in
pragmatic and action-oriented research and
training endeavours - in collaboration with
counterparts based in the UAE, Qatar and KSA.
Recently, he received a Chevening
Scholarship from the UK Government to
carry out post-graduate research at Durham
University, Institute of Islamic Economics and
Finance. He has been serving as a Faculty and
corporate trainer in the Institute of Bankers
Pakistan, PAFKIET, SZABIST and Dubai Islamic
Bank, among others. Arsalan has contributed
to numerous international and domestic
training programs and courses on Islamic
banking, Islamic accounting standards, credit
analysis and corporate finance etc.
He may be reached at arswasti@yahoo.
com or pk.linkedin.com/in/arsalanaqeeq/ and
tweets @arsalanaqeeq.
Omans
eight Islamic
banking
institutions,
with 32
branches,
built an
asset base
of OMR
745 million,
equity of
OMR 349
million,
deposits of
OMR 295
million and
advances
of OMR 381
million in
their very
first year of
operation

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2014

ISLAMIC BANKING IN OMAN TODAY & THE

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GROWTH STORY INTACT

OMAN BANKING SECTORDYNAMICS & DRIVERS

ISLAMIC BANKING IN OMAN FORECASTS, OUTLOOK AND REALITIES

ISLAMIC BANKING IN OMAN: START-TO-DATE

Reviewing Deposits Side-Products-

Income Determination & Profit Distribution Practices- Market Discipline

Reviewing the Asset Side

Is it more than a Three Horse Race?

The Sacrosanct Shariah Compliance

Principled Stand Islamic Banking Regulatory Framework

Trade Based Products Structures

Islamic Banking Windows: Efficiencies or Cannibalization?

The 60-40 Strategy Islamic Banks to Benchmark the Scales

The Big opportunity In the Small Enterprise Segment

Optimizing the Capital

Projections on the Islamic Banking Industry Size quantified in terms of Assets

Growth Story Intact

Oman Banking SectorDynamics & Drivers

Recent Regulatory Directives CBO

Islamic Banking in Oman

(e.g. Qatar, KSA, UAE etc). These

The central bank has been actively tweaking the

Capping on Housing Portfolio

Claimed Estimates Projection *

IB Industry Asset size

Ernst and Young

five years i.e 2018. [Assuming 8% share in 5 years]

IB Total Assets = 5.05

Meethaq, the Maverick!

state of Islamic Banks (mostly operational for 1 to 4

attributed to its inherited musharaka (retail housing)

Islamic Banking specifities.

This idiosyncratic and perhaps artificial balance sheet

and Six Islamic Banking windows has managed to grab a

However, given the monopolistic penetration and legacy that

above the overall banking industry average of 93%.

The uniqueness of Meethaq doesnt ends here, when the bank

Islamic Banking in Oman:

noticable 3.24% share of the overall Banking assets.

These advances, predominantly are retail and real estate

retail deposits mobilization or

private sector lending. Nevertheless, the stage is all set

Equity (OMR - Mn)

Deposit Base (OMR in Mn) rounded for whole numbers

Financing Assets (OMR in Mn) rounded for whole numbers

Profits (OMR in Mn) rounded to one decimal place

Profit sharing Ratio Bank:Depositor

Product Participation Weights [1 Month to 12 Month ]

Absolute Rates Offered

% Dispersion = (b-a)/a x100

Income Determination & Profit

management has been extremely transparent and regularly

Dispersion of Product Weights- Does it

Investment Deposits Accounts Distributing

products and provide Takaful coverage for consumer

Reviewing the Asset Side

Maisarah Breaking the

SME / Corporate Financing Products

Sale & Lease

Is it more than a Three Horse Race?