Question

Islamic Finance Murabaha and Istisna'a

Problem 2 Ahmed runs a grocery store. He needs AED250,000 to buy goods that he will sell over the next 6 months. He approached an Islamic Bank which proposes him two products: 1. Murabaha a selling price of 300,000 2. A Mudharaba contract whereby the profit will be distributed 40% for the Mudarib and 60% for Rabb al mal Which product should he use if he expects to make a profit of AED120,000? Which product should he use if he expects to make a loss?

Answer 1

Answer

In case of Murabaha contract or cost plus profit financing, Ahmed gets AED 250,000 for AED 300,000.

If he's expecting to make a profit of AED120,000, then his final profit will be

Final Profit= Profit made by Ahmed - Profit paid to the bank.

= AED 120,000-(300,000-250,000)

=AED 70,000

In case of Mudharaba contract , the profit will be shared between Mudarib i.e.Ahmed and rabb al mal i.e the financier or bank, in this case.

In this case, the expected profit of AED 120,000 will be split in the ratio of 60:40 with Ahmed getting a 40% share.

Ahmed's share of profit = 40% of AED120,000= AED 48,000

Bank's share of profit = 60% of AED120,000= AED 72,000

As seen from the above calculations, Ahmed should choose Murabaha contract if he's expecting to make a profit of AED120,000, since his share of profit is higher at AED 70,000.

In case, he's expecting to make a loss, he should go for Mudharaba contract because in case of a loss, the bank bears loss as the entire money is being invested by the bank.