BIFS 2013 ISLAMIC FINANCIAL SYSTEM

GROUP B

ARTICLE REVIEW

PREPARED FOR:
DR. SITI LATIPAH BINTI HARUN

PREPARED BY:
NUR FIRZANA IRDINA BINTI ANUAR (277500)

DUE DATE:
15 MAY 2023
 The 1997 collapse of Islamic Bank Ltd in the country South Africa served as a prime
example of this practise.Its failure was caused by the ineffective of management and
governance practises, as mentioned in the following South African Reserve Bank's (SARB)
Inspectors' Report (IR), rather than a lack of faith in Islamic financing. IBL management
outrageously claimed that depositors' savings were safe in response to rumours, even though
the contrary was actually true. The origins and effects of the bank's collapse are demonstrated
in this essay. The discussion of bank negative outcome literature with South African
experiences is covered to the next section. Finally, empirical evidence and a discussion of the
effects of bank collapse on Islamic financing are offered.

Few studies, with the exception of one by Ali (2007), concentrate on troubled and
Islamic financial institutions failure, as well as structured methods to study the reason of failure
using distress prediction model. Besides that, there is a strong and substantial body of literature
on traditional bank crisis and the collapse. The use of conventional financial models as a handy
starting point for the analysis of Islamic bank failures is made possible by the lack of adequate
Islamic finance models. According to Naser and Pandlebury (1992), creative accounting is
frequently used to present favourable impressions in debt covenant requirements. According
to Amat, Blake, and Dowds, the consensus among all the studies is that inventive accounting
practises are dishonest, immoral, and unfair to stakeholders.

Over the past few years, a number of banking institutions have failed, and this has
generally been attributed to scams, liquidity runs, and subpar management (Okeahalam, 1998).
As a result, the SARB4 has been less willing to assist failing banks. Research on South African
bank failure can be divided to several sections. The first is the regulators' poor response time
to identify the transperancy and reporting issues between early crisis models, regulatory
violations, and the tax noncompliance (the SARB, business regulators, and tax authorities)
(Okeahalam, 1998; Okeahalam & Maxwell, 2001). The regulatory authorities' delaying tactics
for intervening in bank crises are harshly criticised by these researchers. Ngaujake (2004) also
noted the following frequent causes of failure and distress: insufficient cash, poor management,
fraud, and, most significantly, insider and unsecured lending.
 The awarding of the licence was seen as the earliest test case for the entry of Islamic
finance, despite some doubts being voiced by the regulator (as Islamic financing was still a
novel idea in South African financial markets at the time). IBL was thus given a conditional
(limited) banking licence. Despite this fact, IBL had an implied duty as an Islamic institution
to uphold Shariah ethics and current prudential standards through its role as a custodian of
depositors' funds as a new entrant to the market essentially to promote a new banking ideas.
Due to the fiduciary duty of care principle in fiqh muamalat as the mustawda' (custodian) of
depositors cash, this argument is presented first. Furthermore, there is a need to repair the
reputational harm brought on by the failure of a previous non-bank financial investment firm
in South Africa that was reportedly Islamic. Banks are prone to runs, which is a frequently
overlooked rule in banking. In the case of IBL, the SARB was totally concerned about
preventing potential bank contagion through "inter-connectedness" among banks and by
releasing a "concatenation of cross claims and litigation"

Problems with credit risk and poor management. The wadi'ah, custodial and fiduciary
relationship between directors and the bank. By means of this, banks must carry out their duties
honestly and in good integrity for the benefit of depositors. A detailed examination of the credit
risk performance reveals a gravely non-functional approach to managing credit risk. Concerned
about its managing procedures, reporting requirements, and dishonest activity, the SARB
decided to seek out financial data from sources outside of IBL. This course of action was
probably taken as a result of the reserve bank's unhappiness with its inability to get precise and
insightful information from IBL management. In addition, the management of IBL hid behind
the self-regulatory position accorded to genuine Islamic banks and that, in any case, given that
it was operating in South Africa, it was unlikely to be able to operate as a genuine Islamic bank
and that the RoB and the SARB should have been more watchful. Regarding poor management,
the inspectors' report verified IBL had filed for bankruptcy by the end of September 1997, in
part due to significant insider lending and unsecured lending—causes mentioned in other bank
failures.
Significant Inaccuracies, Non-Compliance, and Accounting Mistakes. Critical ratio analysis
reveals early warning indications of poor management and debt stress. The two most
detrimental elements are the practise to shift items off balance sheet in order to improving the
balance sheet and early and dubious revenue recognition. According to Amat, Blake, and
Dowds, accounting figure manipulation is nothing new as IBL did in the run-up to its
liquidation. Additionally, these contracts had deferred revenue built-in, which IBL unwisely
recognised at the time of the contract, as opposed to revenue smoothing in systematic
recognition over the course of the contract, as prudent accounting dictates. The cession of IBL
book obligations and collateralized fixed assets to other banking institutions in order to get
Riba’-based loans was also not included in the annual reports.

Additionally, IBL's risk-weighted capital adequacy ratios were below average, -1.2%,
while the minimum need was 8%. According to the SARB DI200 monthly returns, these returns
were merely window dressing to show compliance. A second unearthed practise involved the
fraudulent crediting of R12.14 million to share capital and matching debit entry being displayed
as a fictitious suspense account asset. This practise involved the erosion of shareholders' funds.
Section 38 of the South African Companies Act 61, 1973 was flagrantly broken by this
behaviour. Other irregularities included violations of regulatory rules, specifically the
requirement to notify the regulator right once banks encounter runs on demand deposits.
Evidence points to significant withdrawals prior to collapse, practise that resembles oppressive
conduct towards small depositors in that large depositors who were closely connected to
management were given preference over other claimants with regard to demand deposit
covenants.