Time to apply Islamic Concepts to Emerging Business Theory and Practice, By Shaukat Amer

© Islamic Finance Today

Shaukat  Amer is Assistant Professor of the Department of    Management Sciences, COMSATS Institute of Information Technology,  Attock Campus –Pakistan. He has spoken and written  extensively on Islamic  Accounting  Theory and Principles and on Corporate Governance based on Islamic Valuese

Today at a time of economic and financial crises, it is high time that we revamped present business and management theories and principles in line with Islamic principles and so mend our severed relationship with Allah. The love and fear of Allah is the foundation of all wisdom and this should be the basis for all theories and principles that seek to guide human endeavour. This will not only address governance issues but it is also possible that new ideas for achieving organizational goals in the right direction would emerge. This will also help to avert situations of economic and financial crises. The Qur’an and Sunnah could certainly help us to explore these opportunities. In this respect there are three immediate tasks that need to be taken in hand. These are:

1-    Development of a New Financial System which create real economies instead of bubble economies through Islamic concept of creation of value to avoid economic and financial crises.

2-    A New form of Business Organization replacing the present corporate form of business organization to resolve governance issues which normally arise due to limited liability and separation of management from the ownership.

3-    Development of a new accounting theory based on Islamic principles.

These are three urgent and important tasks which need to be addressed. Our aim should be to develop different disciplines which could ultimately replace present theories and practices in the exploitation-oriented business world so that non-Muslims may also benefit. We need not necessarily use words like Islamic finance, Islamic accounting, Islamic marketing, Islamic trade and management etc. Our work should be of such nature that the non-Muslim world would be obliged to embrace these disciplines as well.

The present financial system based on interest is largely responsible for the economic and financial crises the world has faced from time to time.  Interest should not be considered merely as a fixed addition to the principal amount; rather it includes all unjustified increments arising out of transactions prohibited under the teachings of Islam. The present financial system by nature promotes speculative business. This is mainly facilitated through creation of money by financial institutions and investment in stock markets without any reference to creation of value through producing more and more goods and services. This results in bubble economies which in turn leads to economic crises such as we witnessed recently.

Islamic teachings on the subject of “bay” strongly promote transactions which create value as it mainly deals with the valuation aspect of business transactions. If we study the ahadith related to “bay” a message is conveyed that settlement of transactions in “bay” will lead us to settle financial transactions in a justified manner which will in return also create value. So we may call it “Principle of Equal Settlement and Value Creation”. We can build a new financial system on the foundation of this concept.

Further all the Islamic financing arrangements encourage creation of goods and services.      Therefore, it is rightly said by Mufti Taqi Usmani in his book Islamic Finance that one of the most important characteristics of Islamic financing is that it is an asset-based financing.  So we need a new financial system which creates real economies through achieving real growth. In this respect the Islamic concept of creation of value (I call it ‘Principle of Equal Settlement and Value Creation) and Islamic financing arrangements (both basic and non basic modes of finance) can provide a solid foundation for the development of a new financial system.

However, this is not possible without extensive conceptual work in the light of  Quran and Sunnah under the methodology of Usul-ud-Deen. The uphill task in this respect is to invent a new mode of money which itself has value so that it should maintain the notion of “value create value”. This will entirely change the present scenario of simple creation of money in the financial market without any reference to creation of value.

The new financial system will also bring stability to the financial markets as these will deal in goods and services having real value instead of speculative transactions.
Now we come to the need for the development of a new accounting theory based on Islamic principles. In order to make successful business decisions, the following roles must be performed by accounting:

1     Keeping Safe Custody of Interests of all the Stake Holders. This is more than Book-Keeping.

2    Accurate Valuation of Business Transactions
3    Certifying the True and Fair View of Business to all the Stakeholders.

4    Enabling Accountability of all the Stakeholders.

5    Providing Reliable Information for Successful Decision Making to all the Stakeholders.

However, the present accounting profession has desperately failed to perform these functions. Accounting is normally defined as a process of identifying, measuring, recording, classifying and summarizing business transactions which make it possible to achieve its major goal of financial reporting to the stakeholders for decision making. In the context of present criticism of accounting, the financial reporting on the affairs of an entity have a very special meaning. Accounting testifies to the correctness and fairness of business transactions to the parties to whom these are related.

Unfortunately, the present accounting profession often comes under pressure from the management to do its bidding in manipulating accounts which has damaged its concept of “true and fair view”. This has also limited its certification scope. Even within the framework of GAAP or International Accounting and Reporting Standards, the management with the help of accountants often manipulate accounting information to deceive other stake holders in order to meet its fraudulent objectives. Testifying to the correctness and fairness of business transactions in its actual and true spirit is the basis of all financial reporting. If the financial reports cannot testify to the correctness and fairness of business transactions to its stakeholders then it denies them its most vital role.

Normally it is said that accounting is required for valuation and it has nothing to do with accountability. This is a misconception since without proper accountability a business transaction can not be valued correctly. Accounting based on the Islamic Principle of Amanah dictates that the interests of all the stake holders should be kept in the safe custody of a trustworthy person. This is more than mere book-keeping. Further one vested with such authority is also responsible for accurate valuation of business transactions. Regarding amanah or the Exercise of Trust Allah Subhanahu wa Ta’aala ordered human beings  “Lo! Allah commandeth you that ye restore deposits to their owners”(Surah Nisa, Ayah 58 of  The Holy Qur’an)

The Principle of ‘Shahadat’ dictates revealing a true and fair view of the business. Present–day accounting is not only responsible for recording, classifying and summarizing business transactions accurately, but also to report on financial affairs as the final outcome of this process. The starting point in the system is identifying and recording of business transactions correctly on the basis of objective evidence so that the financial information which would be based on these records may be reliable and may be helpful for decision making. Accordingly we have to apply the Principle of ‘Shahadat from the very beginning. This will result in a just course of action for business affairs which would ultimately result in true and fair financial reporting. Ultimately this will help to discourage malpractices like off balance sheet reporting.In the context of development of a new accounting theory based on Islamic teachings, the principles of  ‘Amanah’ and ‘Shahadat’  can play an important role in performing its due role as outlined here. The principle of ‘Amanah’ will ensure automatic accountability while valuating the business transactions which will lead it to its correct valuation while the principle of ‘Shahadat’ will certify correctly the true and fair view of business and provide reliable information to the stakeholders for successful decision making. The “Principle of Equal Settlement”, as in case of development of a new financial system, is similarly innovative in development of a new accounting theory/setting accounting standards (This principle is equally useful in other fields of management like marketing, HR and international business). This principle deals with the valuation of business transactions in a justified and correct manner as it is based on Divine guidance.

Thus this will be equally helpful in valuation of business transactions under the scope of accounting. Islam has a unique concept of mutual consultation i.e. ‘shura’ which can provide a strong base and guidance for setting accounting standards.In simple words a business transaction can be defined as a business activity which can be expressed in monetary terms. However, the main issue attached to a transaction is that it should be valued in a most objective manner, maintained properly and reported correctly. In every business transaction, something is being exchanged in monetary terms in exchange for another thing in monetary terms. It means that we are exchanging value in exchange of value. This principle of ‘Equal Settlement’ has been derived from the ahadith which mainly deal with the valuation aspect of a business transaction. The ahkam or rules in these ahadith basically relate to bay transactions. However, as these relate to valuation and settlement of transactions, these may also serve as guidelines to set accounting standards for valuation and settlement of business transactions. These ahadith give us a clear message how bay transactions should be valued in a most objective manner. We should remember that the concept of bay has a very broad meaning in Islam and is not restricted to trade only.

Islam has a unique system of mutual consultation (Shura) to run the affairs of the world. The Qur’an, while describing the qualities of the Muminun (believers) includes those  “who (conduct) their affairs by mutual consultation”(Verse 38 Ash-Shura). Since there would be a need for a body to set accounting standards based on accounting theory in line with the Islamic principles discussed here, we propose that this body work in line with the Islamic concept of Shura.

The corporate form of business organization is coming under heavy fire nowadays, and not just from intellectuals, but even ordinary folk who are becoming wary of the increasing influence of corporate entities in their day to day life. A company’s distinct features of limited liability and separation of management from ownership has made this possible. All the major issues of corporate governance  are created due to these two peculiar characteristics. There is no doubt that the corporate form of business organization has brought a revolution in the business world which is unprecedented in human history. However, the limited liability concept easily bails out the management for their wrongdoings which may result in severe losses either to creditors or to the share holders. So in the context of Islamic teachings, it is rightly said that  the limited liability concept  is not simply denial of huqooq (rights) of creditors only but is also a denial of huqooq of all the stake holders and especially of share holders. In the context of separation of management from ownership it is said that shareholders have lost control over their own wealth and the officers have gained control of the wealth which they do not personally own. Even if we see the point of separation of management from ownership parallel to the concept of Mudarib (Manager) and Rabb-ul-Mal (Investor), the losses to owners by the fraudulent acts or negligence of managers can not be justified

In the corporate form of organization shareholders are the real owners but they are not involved in the day to day affairs of the business due to separation of management from the ownership. They elect a Board of Directors as their representatives to represent their interests. Unfortunately in the first instance there is always an issue of shareholders activism especially in the case of individual shareholders and outside corporate structure. In the second instance their elected representative i.e. BOD (Board of Directors) do not often discharge their full responsibilities. In real terms instead of monitoring management of a company on behalf of its owners i.e. shareholders, they patronize the chief executive of the company and other management for various reasons and benefits. This is where Islamic modules such as Mudarabah can come in. The relationship between Mudarib (Manager) and Rabb-ul-Mal (Investor) can be used as a basis for inventing a new form of business organization.  A new organization based on this relationship will automatically disapprove the wrong doings of the management. Further in this case the management will also be responsible for any liabilities that may arise due to fraudulent management practices and negligence. The present trend of the world economy has made the future of mankind very gloomy indeed.

The emerging scenario is detrimental not just for Muslims, but the world at large. This is borne out by the present economic crisis which has put in danger the wellbeing of a good many economies regardless of their affiliations. Thus there is an urgent need to change the philosophy of doing business from maximization of wealth of owners to maximization of wealth of the larger society. We should remember that the message of Islam is to care for each and everyone. It is therefore high time that we applied Islamic concepts into our economic life.