Sukuk under the Egyptian Law

The financing of projects and economic activities through Islamic Sukuk has gained more attention from officials and economic experts in the Arab Republic of Egypt. This is because they are low risk financing tools that can be used by entities interested in funding their projects and activities without being burdened by interest, guarantees, or requirements that hinder their growth or negatively impact their future.

The Sukuk

Sukuk are financial instruments (securities) of equal value issued for a specified period not exceeding 30 years. Each sukuk represents an undivided ownership share in (assets, benefits, rights of a specific project, its entitlements, or its cash flows), as specified in the public offering prospectus or information memorandum.

Securitization Process

A financial process through which assets, benefits, or rights of a project subject to financing are acquired, and sukuk are issued in exchange, pursuant to the issuance agreement.

Securitization Company

An Egyptian joint stock company established for the sole purpose of issuing sukuk. It acquires the assets, benefits, project, or rights subject to financing on behalf of the sukuk holders.

The legal framework for Islamic Sukuk was reorganized and included in the Capital Market Law No. 95 of 1992 and its executive regulation. There was also a desire to use them in financing national projects, leading to the issuance of the Sovereign Sukuk Law No. 138 of 2021 to have a specific law that aligns with the peculiarities of securitizing state assets and safeguarding them from the risk of misappropriation or encumbrance and preventing foreign investors from owning important state assets.

The issuance of Law No. 138 of 2021 is seen as a positive step towards attracting investments to Egypt and diversifying sources of financing for the government. This law provides a legal basis for the issuance of Sovereign Sukuk and outlines the procedures and requirements for their issuance. Furthermore, it ensures the protection of state assets that are securitized through Sukuk and establishes mechanisms for monitoring and oversight to prevent any misuse or mismanagement of these assets.

Sukuk is the most specifically regulated Islamic financial instruments, by virtue of Law No. 95 of 1992, as amended by Law No. 17 of 2018 (the Capital Markets Law), which covers all envisaged Sukuk types, the issuance regime and redemption rights, with FRA being the competent regulator.

In April 2020, Egypt’s FRA approved the first Sukuk issuance worth EGP2 billion (US$127 million) by a subsidiary of Talaat Mostafa Group, Egypt’s largest listed real estate developer. The Sukuk issued by the subsidiary of the Arab Company for Projects and Urban Development, will be available for trading and for expedited payment but will not be transferable for shares, according to FRA.

Sukuk Structure

The Sukuk structure would involve the Ministry of Finance, seeking to raise funds, to establish a special purpose vehicle (SPV) in the form of a joint stock company to which it would transfer the right of usufruct over the Assets used to back the Sukuk. The SPV, as an agent, will then issue and sell to investors the Sukuk in the form of paper or electronic certificates, which represent a share of the ownership over the Assets. The investors being Sukuk holders, will then receive a pro-rata of the income generated by such Assets.

The SPV will be a separate legal entity that is fully controlled by the government, with its issued and paid up capital not less than one million Egyptian pounds and its articles of association, will be issued by a decree of the Minister of Finance. The Executive Regulations of the Law will specify the disclosure requirements for the SPV and will address how the SPV will hold independent accounts for each issue of Sukuk, whether inside or outside the Arab Republic of Egypt.

As an agent for the Sukuk holders, the SPV will enter into a Sukuk issuing contract with the Ministry of Finance by which the Sukuk will be issued. This issuance contract will regulate the rights and obligations of the Ministry of Finance and the SPV in its capacity as agent of the Sukuk holders as well as matters such as the investments to be entered into with the proceeds of the Sukuk, the duration of such investments and expected returns.

The Law requires Sukuk issued locally to be listed on the Egyptian Stock Exchange and kept in the Misr for Central Clearing, Depository and Registry (MCDR) while international Sukuk to be listed on international stock exchanges as per international sovereign issuances. This will help attract new Egyptian and foreign investors to invest in accordance with the principles of Islamic Sharia.

Types of Sukuk in the Egyptian Law

Mudaraba Sukuk: Mudaraba is a profit-sharing contract between a partner providing capital and another providing labor. Its validity requires the delivery of capital to the entrepreneur, agreement on profit sharing, and profit realization only after the safety of the capital. After the final settlement of the mudaraba assets, a real settlement is defined by selling those assets in an auction or by liquidation based on accounting and auditing rules.

Murabaha Sukuk: A sale contract where the commodity is valued and a pre-agreed profit is set between the seller and buyer. In the context of Murabaha Sukuk, the structure, involves purchasing commodities from the agent of the Sukuk holders at a deferred price and agreed-upon profit. The source periodically pays distributions primarily based on profit, and at the end of the term, the capital of the Sukuk is returned, representing the commodity sold in the Murabaha.

Musharaka Sukuk: A contract between two or more parties where capital and profits are shared. The participation certificate represents direct ownership in the assets of a company or project, whether new or expansionary. It is considered a partner, and the proceeds from the subscription are employed to purchase income-generating assets or in a commercial project, including cash, liquidity, fixed, and current assets.

Ijarah Sukuk: A lease or rent contract where a known benefit is sold for a known compensation. Ijarah Sukuk represent ownership of an asset that is leased. The holders of the Sukuk are considered the owners of the leased asset, acting as the lessor in the lease contract. This entails rights and obligations of the lessor. The Sukuk holder receives a share of the rent according to their ownership percentage in the leased asset. Ijarah Sukuk are tradable from the moment of issuance, as the leased asset is considered a non-financial asset owned by the Sukuk holders.

Parties of Sukuk Issuance process

• Sukuk Company: The entity that issues Sukuk and holds the assets, benefits, rights or projects being financed on behalf of the Sukuk holders. It also transfers the funds collected to the beneficiary and acts as an agent for the Sukuk holders, ensuring the periodic payment of returns and the redemption value at the Sukuk maturity date.
• Beneficiary: Legal entity that benefits from the financing revenues resulting from the Sukuk issuance and holds the assets, benefits, rights, projects or other rights.
  The Egyptian Capital Market Law allows certain entities, companies, authorities, and international or regional organizations to benefit from financing through issuing their own Sukuk.
• Issuance Arranger: A bank or a financial securities company established in accordance with concerned laws or any other licensed institution authorized by FRA to manage and organize the issuance of Sukuk on behalf of the beneficiary and issuer.
• Paying Agent: A licensed bank by the Central Bank of Egypt to act as an agent for the issuer in coordinating the payment of Sukuk and the redemption of their value at the end of the period to the Sukuk holders or one of the licensed companies engaged in the activity of issuance and central registration.
• Credit Rating Agency: A licensed company by FRA to study the credit worthiness of the Sukuk issuer and to issue a report indicating its ability to fulfill its obligations towards the Sukuk holders or not.
• Custodian: A licensed company by FRA to provide financial and legal record-keeping services for Sukuk, and to perform clearance and settlement for the emerging financial positions resulting from Sukuk trading operations and registration of mortgage rights on them. The custodian also monitors the entitlements of the Sukuk holders and provides periodic reports to either the Sukuk issuer or the beneficiary as the case may be, according to contracts, or Sukuk agreements.
• Legal Counsel: This is a legally independent person from the beneficiary and the parties involved in the Sukuk process. They are appointed with the approval of FRA to represent the Sukuk holders and protect their rights, and act as a delegate for the issuance in cases where the Capital Market Law permits the beneficiary to issue their own Sukuk by it selves. Legal experts are required to structure the Sukuk transaction in accordance with Egyptian law and Islamic finance principles. They also draft the necessary contracts and legal documents.
• Auditors: Independent auditors ensure the financial statements related to the Sukuk are accurate and in line with the agreed-upon terms, providing transparency for investors.

The sovereign Sukuk in Egyptian Law

According to Sovereign Sukuk Law No. 138 of 2021 in Egypt, they are defined as “nominal government securities of equal value and tradable on the stock exchange, issued for a specified period not exceeding thirty years, representing common shares in the rights of beneficial assets as determined by the issuance prospectus”. These securities are tradable through sale, purchase, mortgage, or inheritance at market value, which is determined by market supply and demand levels.

Egypt prepared to issue these Sukuk by enacting the Sovereign Sukuk Law and its executive regulations to provide the necessary legislative framework for introducing a new type of government securities that comply with Islamic principles. This was done in collaboration with leading banks in Islamic finance and Sukuk issuance, along with the involvement of local and international law firms to cover all technical, legal, and marketing aspects in accordance with global practices aligned with Islamic principles.

Under the Sovereign Sukuk Law in Egypt, these Sukuk are issued in their Shariah-compliant form through the securitization company, as it has a sole purpose: issuing sovereign Special Purpose Vehicles (SPVs) known as Sovereign Purpose Companies, or Sovereign Securitization Companies.

The issuance of Sovereign Sukuk is based on the usufruct right of state-owned assets, through the sale or lease of this usufruct right or by any other means in accordance with the issuance contract, ensuring the Sukuk holder’s share according to Islamic principles.

Regulating codes and resolutions

Law No. 17 of 2018, which was followed by the issuance of Prime Minister Decree No. 2479 of 2018 concerned with amending some provisions of the Capital Market Law and its Executive Regulations, enacted the rules and provisions governing the legal framework and contractual formulas for issuing Sukuk, the parties to the issuance process, their roles, provisions for issuing and procedures for Sukuk.

As a complement to the legislative framework governing Sukuk, several resolutions were issued by the Authority’s Board of Directors regarding Sukuk, which dealt with the following:

1. Law No. 138 of 2021 regarding providing a legal basis for the issuance of Sovereign Sukuk and outlines the procedures and requirements for their issuance.
2. Resolution No. 50 of 2019 regarding the terms and conditions related to the beneficiary that wishes to issue Sukuk by itself, determining the minimum and maximum value of the Sukuk issued by the authorized entities, the conditions and procedures to be followed to approve the issuance of Sukuk to international and regional financing institutions, the conditions and rules for registering Sukuk that offer a private subscription on one of the stock exchanges in Egypt, and the terms and conditions of trading of Sukuk outside stock exchanges.
3. Resolution No. 61 of 2019 regarding the regulations of the formation and membership of Sharia supervisory committees for issuance of Sukuk compliant with the provisions of Islamic Sharia.
4. Resolution No. 188 of 2018 regarding accounting standards for companies issuing Sukuk and beneficiary companies, including auditing standards that are adhered to by auditors.
5. Resolution No. 176 of 2018 regarding the requirements for establishing and licensing of Sukuk company.

Conclusion

Egypt’s Sukuk Law (No. 16 of 2021) marks a significant step in the development of the country’s Islamic finance industry. It provides a legal and regulatory framework for Sukuk issuances that balances the need for financial innovation with the principles of Islamic finance. By promoting asset-backed, Shariah-compliant investments, the law is designed to attract investment, enhance economic growth, and expand Egypt’s role as a financial hub in the Middle East and North Africa (MENA) region