CASE-STUDY SIMULATION

AL-AMAN ISLAMIC BANK

TITLE: RISK MANAGEMENT & GOVERNANCE SAGA

ABSTRACT

Al Aman Islamic Bank, a recent entrant into the Islamic finance sector, found itself
embroiled in disputes within just five years of commencing operations. In July 2014, the
bank introduced a new Islamic deposit product rooted in the Tawarruq concept without
obtaining prior approval from the Central Bank, leading to a series of controversies.

The CEO, Mr. Abdul Aziz, presented the proposed product to the board and successfully
persuaded them to proceed with the product launch. This decision was influenced by the
substantial investment already made in product promotions, including the distribution of
flyers, advertisements, and promotional materials. Mr. Abdul Aziz expressed his
commitment to kick-starting a nationwide roadshow to promote the new Commodity
Murabahah Term Deposit (CMTD) in replace of the existing Mudarabah General
Investment Account (MGIA), highlighting that the deposit product would enable the bank
to comply with the Islamic Financial Services Act (IFSA 2013) on the deposit requirement
that must be principal guaranteed and to meet the liquidity requirements in Financing to
Deposit ratio. He also assured the board that the product had received full endorsement
from the Shariah Committee. After considerable persuasion, the board ultimately approved
the product.

About six months following the launch of the product, Al-Aman Islamic Bank faced a
substantial penalty imposed under the IFSA2013 due to its shortcomings in governance
and compliance, as outlined in the Act. This penalty resulted from a series of investigations
initiated against the bank. The investigation was prompted by the external audit findings
who claimed that the bank's financial products and services did not adhere to Shariah
principles in the conversion of existing MGIA into CMTD as there was no ‘aqad being
executed i.e., absence of customer’s consent on the conversion. What initially began as a
routine inquiry swiftly escalated into a corporate governance crisis. Mr. Abdul Aziz, who
was already under scrutiny following the stern actions taken by the Board, has now been
directed by the Central Bank to submit a comprehensive report addressing these
allegations.

BACKGROUND OF Al-Aman ISLAMIC BANK

Al-Aman Islamic Bank, initially established as the Islamic banking subsidiary of Overseas
Banking Corporation (OBC) with headquarter in Singapore, is a fully owned subsidiary
since its incorporation in 2008. The bank is dedicated to delivering outstanding financial
products and services aligned with Shariah principles, with a core mission of creating value.
The decision by OBC to venture into the Islamic financial services sector by launching its
Islamic subsidiary was a response to the increasing demand for Shariah-compliant
banking.

Al-Aman Islamic Bank offers several core banking products and services such as savings
account, credit card and financing. Leveraging on its parent bank’s infrastructure and
resources, Al-Aman Islamic Bank has a wide network of branches and ATMs across the
country.
BOARD OF DIRECTORS

On April 15, 2008, the inaugural board meeting convened to conduct a comprehensive
review of the Memorandum of Association (MOA) and the Articles of Association (AOA).
Among the items on the agenda were the selection of the Chairman from the Board of
Directors and the formulation of guidelines for the appointment of Shariah Committee, as
stipulated in the MOA and AOA. Furthermore, the Board of Directors deliberated and
reached a consensus on the adoption of robust and prudent policies and practices that Al-
Aman Islamic Bank would need to implement.

During that meeting, a resolution was reached to establish a total of 8 board members.
Additionally, the board members reached a consensus on their overarching responsibility,
which was to maximize shareholder value and protect the interests of all stakeholders.
Consequently, they believed it necessary to actively participate in the bank's daily
operations, granting them the authority to intervene in management decisions.

The Board was well-informed about the imperative nature of adhering strictly to the
regulatory framework on Corporate Governance for Islamic Banks. In alignment with these
procedures, it was understood that all board members held significant responsibilities
within the board of directors. However, the Board held the belief that the Accounting and
Auditing Organization for Islamic Financial Institutions (AAOIFI) standards should serve as
the primary reference for the bank's operations. Mr. Azli Abrakah, one of the board
members, championed the idea that embracing AAOIFI standards would grant the bank a
competitive advantage in the international market. This perspective garnered majority
support among the board members, resulting in a consensus to implement AAOIFI
standards, despite objections raised by another board member, Miss Tengku Sabrina
Jalaluddin. She emphasized the importance of conducting the bank's operations prudently
within the framework of the relevant laws and policies of the home country, noting that
"AAOIFI standards are only used voluntarily as a basis for internal guidelines by Islamic
banks in this country."

The Board additionally made determinations regarding the formation of various board
committees, including the Nominating Committee, the Board Risk Committee, the Board
Audit Committee, and the Shariah Committee. These specialized board committees were
tasked with supervising key functional domains and addressing issues that warranted
thorough examination and careful deliberation. The board acknowledged the pivotal role
of capable executive management in ensuring the bank's success. Given the bank's recent
establishment, the board contemplated appointing junior management officers who
possessed relative competence to oversee the bank's daily operations, coupled with
internationally recognized qualifications.

THE BOARD OF DIRECTORS

The constitution of the board should embody its impartial and unbiased function, devoid of
any one individual or minority members wielding excessive influence over the bank's
decision-making. Additionally, the board should encompass directors possessing a well-
rounded blend of competencies and expertise. The composition of Al-Aman Islamic Bank's
board consisted of 8 members with diverse educational and practical backgrounds. The
board members were as follows:

1) Mr. Eric Tan, an Oxford Law School graduate who is not of the Muslim faith, boasts
over 5 years of experience in the specialized field of Commercial Law. He serves
as a non-independent non-executive director on the board.
 2) Tengku Sabrina Jalaluddin, an independent non-executive director, possesses a
master’s degree in human resources management from the Business &
Management School of MSU University Shah Alam, Malaysia.

3) Mr. Raymond Vargas, an independent non-executive director, has earned a PhD in

Business Administration from the University of Kentucky (USA). He brings over a
decade of experience from his tenure in the finance division of the Federal Reserve
Bank, USA.

4) Mr. Jonathan Wong, a Certified Public Accounts, serves as a non-independent non-

executive director. Previously, he held the position of President at Rating Agency
Malaysia (RAM) and currently holds the role of Managing Director at Forward
Takaful Sdn. Bhd.

5) Mr. Azli Abrakah, an independent executive director, boasts five decades of

expertise in both the local and global Islamic finance sectors. His illustrious career
includes a decade-long tenure as Chief Finance Officer (CFO) at the Dubai Islamic
Bank in UAE.

6) Dato’ Razman Razli, holding a master’s degree in Public Relation from Cardiff
University, serves as the Chairman of the Board and a non-independent executive
director. Additionally, he is the board member of the Employee Provident Funds
(EPF).

7) Mr. Abdul Aziz, the Chief Executive Officer of Al-Aman Islamic Bank, possesses a
MSc. in finance from Indiana University, Bloomington, USA and a BBA degree in
Accountancy from the University of Malaya. He holds the position of non-
independent executive director on the board.

8) Datin Suriati Sameon, with over two decades of experience as the Head Regulatory
Officer of the Bursa Malaysia and currently serving as an Advisor to the Malaysia
Anti-Corruption Commission (MACC), holds the position of Chief Financial Officer
and is a non-independent non-executive director.

Datin Suriati was categorized as a non-independent director by the Nominating Committee

due to her ownership of more than 5% equity linked to the bank. Furthermore, during this
meeting, Madam Safiah Zukri assumed the role of company secretary. Madam Safiah,
who holds a law degree from Universiti Malaya (UM) and possesses 13 years of experience
in the financial sector, took on the responsibility of ensuring that board procedures were
adhered to and that relevant rules and regulations were duly observed.

APPOINTMENT OF DIRECTORS

All directors and the CEO of Al-Aman Islamic Bank met the 'fit and proper' criteria.
Nevertheless, Mr. Azli Abrakah was previously involved in a minor fraud offense when he
operated a financing company approximately 8 years ago. He has since shown remorse
and transformed his ways, earning the trust of many individuals.

Mr. Abdul Aziz assumed the role of CEO after achieving consensus among the Board
members, who recognized his high competence. As CEO, he held direct responsibility for
overseeing Al-Aman Islamic Bank's day-to-day operations. The CEO's term of
appointment was set by the Board not to exceed 5 years. In contrast, non-independent
directors could serve for up to 10 years, even if they were found to have not diligently
fulfilled their responsibilities.

Mr. Azli Abrakah, holding a Degree in Accountancy, previously worked as a practicing

accountant at Ernest & Yong. Initially, he hesitated to accept his appointment as a Board
member upon learning that Al-Aman Islamic Bank had chosen Ernest & Yong to conduct
the bank's financial audit. He did not disclose his role at Ernest & Yong to the other Board
members but intended to address this matter at the upcoming Board meeting after
resolving it with his firm.

The Nominating Committee possesses the authority to disqualify board members,

including the CEO, should they be found to not meet the 'fit and proper' criteria as outlined
in the Corporate Governance Policy for Islamic Banks. Furthermore, if any board members
were discovered to have been negligent in carrying out their duties, it is the responsibility
of the Nominating Committee to recommend their removal to the Board.

COMPOSITION OF THE SHARIAH COMMITTEE

A Shariah Committee was established with the purpose of ensuring strict adherence to
Shariah principles in all aspects of Al-Aman Islamic Bank's operations. Consequently, the
Committee was entrusted with overseeing all Shariah-related matters pertaining to the
bank's business activities. The principal functions and responsibilities of the Shariah
Committee encompass:

• Advising the Board on matters related to Shariah within the bank's business
operations.

• Approving Shariah policies and procedures to ensure their alignment with Shariah
principles.

• Validating and endorsing relevant documentation to guarantee that the financial

products and services offered by the bank comply with Shariah principles.

• Formulating written Shariah opinions when the bank submits applications to the
Central Bank for new product approvals. Furthermore, the Shariah Committee is
responsible for providing endorsement and decisions regarding the Shariah
compliance of the concept, mechanism, or structure of every new product.

Al-Aman Islamic Bank has embraced the Shariah Governance Policy Document (SGPD)
issued by the Central Bank. In accordance with the SGPD’s stipulations, all members of
the Shariah Committee, except Mr. Shahril Nizam, possess either a Shariah or Fiqh
Muamalat degree and exhibit a significant expertise in Islamic transactional law and
Shariah regulations. The names of the committee members are provided below:

1) Mr.Shahril Nizam, holding a master's degree in financial engineering, was

designated to serve on the Shariah Committee with the specific role of offering
valuable guidance and counsel to the other Shariah advisors regarding banking
and financial matters. The Board unanimously supported Mr. Shahril Nizam’s
appointment, as it was their belief that this appointment remained in accordance
with the provisions outlined in the Shariah Governance Policy Document and did
not raise any objections.
 2) Mr. Johari Hasbullah presently serves as a member of the Shariah Committee at
Affin Islamic Bank. When approached by Al-Aman Islamic Bank with an attractive
remuneration package, he initially hesitated to decline the offer, given the more
favourable compensation compared to his current position at Affin Islamic Bank.
After careful contemplation, Mr. Johari Hasbullah ultimately opted to tender his
resignation to his current employer. However, he intended to do so only after the
successful launch of Affin Islamic Bank's latest project.

3) Datin Rusni Hassan, a highly esteemed Shariah advisor, is also the spouse of Dato’
Razman Razli, a member of the board. She holds a bachelor's degree in finance
and a master's degree in Islamic finance from Monash University. Previously, she
held the position of Chief Finance Officer at Saadiq Islamic Bank, establishing
herself as a recognized industry authority within the Islamic finance sector.

4) Mr. Amir Khan, known for his outspoken nature among the Shariah Committee
members, was chosen as the Chairman by unanimous decision. He holds a degree
in Shari’ah law from Yarmouk University, Jordan with a distinction, and possesses
five years of professional experience as a Shariah Advisor for an Islamic bank in
Kuwait.

5) Dr. Izzati Mubarak serves as a lecturer at KUIS University, Selangor, a prominent

Islamic University in Malaysia. Over the past 15 years, she has engaged in
extensive research and contributed papers to numerous leading academic journals
in the field of Islamic finance. Her educational background includes a bachelor's
degree in human science, a master's degree in Islamic Studies, and a PhD in
Shariah. Undiscovered to the Board, it came to light that prior to her appointment
at Al-Aman Islamic Bank, a bankruptcy petition had been filed against Dr. Izzati.
This petition resulted from an unpaid debt for which her husband had failed to make
repayment, and she had acted as the guarantor in the matter.

The members of the Shariah Committee were well-informed that Al-Aman Islamic Bank
had enlisted the services of a prestigious Shariah consultancy firm located in Kuala Lumpur
namely Amanie Group. The bank regularly sought guidance from this firm every four
months to ensure a thorough review of the bank's compliance with Shariah principles.
Their function resembled that of an external consultant.

The Shariah Committee's duties and responsibilities were stipulated in the Shariah
Governance Policy Document. Consequently, committee members were obligated to
participate in a minimum of 75% of Shariah Committee meetings each financial year. The
board also determined that Mr. Eric Tan should be present at these meetings due to his
legal background. His attendance was deemed beneficial in providing the Shariah
Committee members with insights into the prevailing legal and regulatory framework. This
decision to involve Mr. Eric Tan in the Shariah Committee meetings aimed to facilitate the
committee's decision-making process. Serving as a representative of the board, Mr. Eric
Tan had the opportunity to engage directly with the Shariah Committee, ensuring alignment
between the priorities of the board and the Shariah Committee.

In accordance with the mandates of the Shariah Governance Policy Document, the Shariah
Committee was responsible for evaluating the activities undertaken through Shariah
review, Shariah audit, Shariah research, and Shariah risk management. Nevertheless,
due to resource constraints, the Head Shariah, Hj. Razman Yousofi had assumed dual
responsibility for both the Shariah Advisory and Shariah Compliance Review functions.
except for Shariah Audit. Their decision to exclude Shariah Audit was made to uphold
transparency & independency throughout the entire operations of Al-Aman Islamic Bank.
Notwithstanding, the Head Shariah is caught in the middle as the head overseeing both
the advisory and control functions and was claimed to be more accommodative to the
bank’s management team headed by the CEO Abdul Aziz.

MORE COMPLIANCE ISSUES DISCOVERED

a) Ijarah Muntahiah Bi Tamlik (IMBT) Property Financing

Al-Aman Islamic Bank offered a package of financing facilities to its customer Puncak
Harta Sdn Bhd comprising of Ijarah Muntahiah Bi Tamlik Term Financing (IMBT) i.e., a
financing lease for property financing of RM20.0M and Bai Bithaman Ajil Cash Line
Facility-i (BBA Cash) of RM1.0M for its working capital needs. Prior to completion of
the factory construction, the bank financing was via Ijarah Mawsufah Fi Zimmah (IMFZ)
i.e., a forward lease structure.

Upon advice by the bank’s solicitor that all documentations have been executed and in
order, the bank made the release of both facilities starting with the property financing
which was released progressively followed until full disbursement followed by the
working capital line six (6) months later upon completion of the factory construction,
renovation & refurbishment.

The Relationship Manager released the Ijarah Financing for the property financing i.e.,
upon execution of Asset Purchase Agreement (APA) followed by Ijarah Agreement as
espoused in the Product Disclosure Sheet (PDS). Subsequently, the BBA Cash was
released accordingly as per PDS upon execution of Asset Purchase Agreement (APA)
followed by Asset Sales Agreement (ASA) for working capital to run the business.

After thorough deliberations, the committee members concluded that are several
Shariah Non-Compliant Events (SNCE) existed, creating uncertainty about the
product's compliance with Shariah principles. Consequently, they concluded that the
product did not meet Shariah requirements due to the following:

• It was found that the asset purchase under APA in BBA Cash is invalid since, it
uses the same asset transacted earlier under Ijarah Term.

• However, the subsequent sale under ASA in BBA Cash is valid as the ASA
transaction should stand independently from the earlier APA transaction.

• As the ASA in BBA Cash is considered valid, the status of the rental income
amounting to RM135,000 received from the date of ASA executed in the BBA Cash
Line until the date of the pronouncement of SNCE by the Shariah Committee is
questionable.

The Relationship Manager claimed that he was following strictly the PDS which was
developed by the Shariah Advisory and Islamic Product team with full endorsement by the
Shariah Committee. Hence, there should be no issue of SNCE and his contention was
supported by Mr. Eric Tan who was in attendance as the permanent representative of the
Board. Mr. Tan assured the SC that all legal documents on both products had sufficiently
provided for independence of the two contracts.
On the contrary, the Head Shariah contended that this is an issue of operationalization of
Shariah contracts where it involves a package and should not be considered independently
and reiterated that the product structure is Shariah-compliant on a stand-alone basis.

Following the Board meeting and updates from Mr. Eric Tan, the CEO was cautioned on
the inconsistency of the decision-making by SC members pertaining to the approved
Shariah-compliant products of which their terms of contracts may need to be reassessed
by the bank. The case is closed without referring to the bank’s internal SC nor escalated
to the Shariah Advisory Council in the Central Bank.

b) Commodity Murabahah Revolving Financing (CMRF)

Al-Aman Islamic Bank managed to secure this deal through a networking call made
during an Oil and Gas Exhibition at Kuala Lumpur Convention Centre in June 2012.
The customer, Robust Engineering Sdn. Bhd. (RESB) incorporated on 10th February
2001 is engaged in business of providing engineering and mechanical services to the
oil and gas industry.

The bank strategy was to provide Commodity Murabahah Revolving Financing (CMRF)
to cater for contract secured from Petronas Group and other O&G players for the
company’s pipelines services such as fabrication, installation, and testing commission
which usually short-term and revolving every six (6) months.

Following a self-health check conducted by the business units i.e., Business Banking
Division, it was found that there was non-execution of commodity trading for one
revolving period of 3 months from May to July 2012. It was claimed that the officer in-
charge was on maternity leave and the relief officer was not aware about the process
for CMRF as he was usually handling the conventional Revolving Term Loan only.
Hence, there was no commodity trading executed but the revolving facility was
renewed accordingly for another 3 months.

The officer in-charge noticed the mistakes upon her return and reported it to the Head
of Business Banking Division who advised her to proceed with the subsequent
revolving process and credit the quarterly profit amount from CMRF as per normal
practices. Whilst she follows to the instruction given by his superior, this incident was
referred to the Shariah Advisory who later advised her to submit a written and formal
report to the Shariah Committee for deliberation as there could be a potential SNCE
issues.

Upon presentation to the Shariah Committee, it was ruled that there was a Shariah
Non-Compliant Event since in the absence of the commodity purchase by customer as
underlying assets hence there is no debt being created and the profit received about
RM950,000 is tantamount to riba and it requires purification by channelling to charitable
organization. The business unit was asked to present a rectification plan on the next
course of action, but Mr. Eric Tan contended that it will be a big blow to the bank and
will propose ways to recoup the amount back from customer. A unanimous decision
by all SC members were received except the SC Chairman Mr. Amir Khan who
disagree on any proposed recoupment of the losses as it is unfair to customer to be
penalised for the bank’s mistakes.

Apparently, a rectification plan was not submitted, and the Head of Business Banking
communicated verbally to the Shariah Secretariat that they have resolved the issue at
their end, indicating that no additional updates are required. The Head of Shariah
provided the CEO with an update on the outcome, but the CEO responded that this
 issue now falls under the authority of the parent bank due to its association with the
bank's Group revenue and its nature as a business decision.

Subsequently, upon checking by the Shariah Compliance Review revealed that the
Business Banking Division had requested RESB to consent to give rebate or ‘ibra to
Al-Aman Islamic Bank for the profit charges during the previous revolving period that
was done without any commodity trading. This is to justify the earnings that could
otherwise be classified as riba.

On this finding, the matter was escalated to SC for notification only but was deliberated
in lengthy and the case was referred to Human Resource Department as it may involve
an attempt for deception which is beyond the purview of the SC. It was contended that
the ‘ibra or rebate from customer was not appropriate without SC’s endorsement.

FINAL COUNTDOWN

A day after Al-Aman Islamic Bank incurred a fine, the bank publicly disclosed the initiation
of an internal review. Just three days later, the bank made the decision to postpone its Q3
2013 earnings conference call. Following an exhaustive and comprehensive investigation,
the Board Audit Committee concluded that the bank's internal controls were deficient,
highlighting several Shariah governance and Shariah Non-compliant issues. The board
responded by implementing a series of corrective measures, including the appointment of
a new CEO. Additionally, it was recommended that a risk management system be
developed as a safeguard prior to any issuance of Shariah Committee resolution and
certification.

Al-Aman Islamic Bank faced another setback when Mr. Sharil Nizam tendered resignation
from the Shariah Committee. In a statement announcing his resignation, Mr. Shahril Nizam
remarked, "The deficiencies in Al-Aman Islamic Bank's Shariah governance were not
attributable to the inadequacies of the Shariah Committee members but rather stemmed
from the significant pressure exerted on them by the bank's management. "He further
expressed his belief that replacing the CEO was merely an attempt to superficially address
the entire ordeal, and he regarded Mr. Abdul Aziz as an unfortunate scapegoat in this
situation.

DISCLAIMER:

THE INFORMATION AND CONTENT PRESENTED IN THIS CASE STUDY ARE SOLELY INTENDED FOR EDUCATIONAL PURPOSES AND DO NOT
PERTAIN TO ANY INDIVIDUAL OR ORGANIZATION. THEREFORE, THE AUTHOR WILL NOT TAKE ANY LIABILITY TOWARDS ANY LEGAL CLAIM
ON THIS ARTICLE.