Choosing the right business funding option

Introduction
Equity financing refers to a particular method of funding a business to sustain and grow its operations. Equity involves raising funds by issuing shares for investors. Investors who buy shares of a company become shareholders and can earn investment gains if the stock price rises in value or if the company pays a dividend. Dividends are typically cash payments as a reward to shareholders for investing in the company. Equity finance allows a company to raise these funds without borrowing from conventional banks, which typically charge interest. In equity financing, there is no promise to repay the investment like in a loan arrangement, nor is there an interest component.

Impact
Equity finance has no impact on a firm's profitability, but it can dilute existing shareholders' holdings because the company's net income is divided among a larger number of shares. This means that the overall number of shares have increased but the percentage of shares owned by a shareholder decreases. For example, let's say a company has 100 shares outstanding, and an investor owns ten shares or 10% of the company's stock. If the company issues 100 additional new shares, the investor now has 5% ownership of the company's stock since the investor owns five shares out of 200. In other words, the investor's holdings have been diluted by the newly issued shares.

Generally, equity finance has the following characteristics:

• Shareholders get a level of ownership in the company
• Shareholders do no receive any interest payments, but may receive a dividend
• The investment is generally permanent without any maturity
• Upon liquidation, shareholders through equity financing are generally last to be paid

Sources of Equity Financing

• Funds are generally raised through the following methods when financing through equity issuance:
• Personal finances / bootstrapping - most small business begins this way
• Venture capital (VC) - businesses who specialise in making investments in companies in whom they see potential
• Private investors / angel investors - like VC, but they are usually individuals rather than firms
• Family & friends - taking cash from people you know in exchange for part ownership
• Crowdfunding or equity crowdfunding - a recent method of fundraising which gives the public early or exclusive access to a product or service in exchange for up-front funds. Equity crowdfunding involves offering shares for funds at an early stage
• Government - in certain circumstances a government grant may be available for small businesses
• IPO (or initial public offering) - to float your company on a stock exchange and sell shares to the public

Shariah structures for Equity Financing
There are two famous structures in Islamic Finance which are used to establish equity financing, they are Mudaraba and Musharaka.

Mudaraba
Mudaraba refers to a relationship between an investor (Rab al maal) and an investment manager (Mudarib) to establish a profit-sharing partnership to undertake a business or investment activity. Under this structure, the Rab al maal provides the financing or funds and the Mudarib provides the professional, managerial, and technical know-how to carry out the business or manage the investment. The Mudarib must invest the funds in a Shariah compliant way. The parties share in any profits according to a pre-agreed ratio. In a Mudaraba, the Mudarib:

• Puts only its time and effort at risk and does not contribute any capital.
• Is not responsible for any losses of the venture. Losses, however, are borne entirely by the Rab al maal.

Musharaka
A Musharaka is an investment partnership or joint venture compliant with Islamic principles. In a Musharaka, the financing party and its client contribute assets (cash or property) to a joint venture and share in the profits of the joint venture in agreed percentages. The joint venture is structured so that the financing party receives its initial investment plus a return that is usually calculated by a reference to a benchmark. Losses, however, are shared in accordance with the parties' initial investment. All Musharaka parties have the right to exercise control over the joint venture but it is typically managed by the client.
Musharaka is similar to Mudaraba except that in a Mudaraba only the financing party bears the losses associated with the joint venture or partnership.

A timely injection of business finance

The problem: Bradford-based pharmacy business Biomed Care Services was facing high demand for their medicine management solution. Strong growth meant that in order to continue delivering a high quality of service their stock control systems had to be improved.

The company, founded in 2015, had developed a strong presence in the north of England and become a key supplier to the NHS, servicing around 200 care homes and residential homes, along with private hospitals.

The solution: To maintain its growth, the company sought to raise £50,000 of additional working capital through Sharia-compliant finance.

Biomed Care Services had previous positive experience of raising over £36,000 of working capital with Qardus. This provided the confidence that the new working capital target could be achieved in the necessary timeframe.

The outcome: The company now has a two-year unsecured amortising finance facility with Qardus, giving it the capital required to support their next phase.

“It was great working with Qardus for a second time to raise this working capital facility. The additional funding will help support stock control to service the high demand we are currently experiencing. Thank you for making the process from end to end seamless and straightforward, we highly appreciate it.”Shahid Khan, Director, Biomed Care Services

“Qardus is the first ethical and Sharia-compliant crowdfunding platform that offers businesses such as Biomed Care Services an opportunity to access fast and affordable financing that adhere to Islamic finance principles and has been certified by Sharia advisors. We are very happy that we were able to meet our target within a few weeks.”Hassan Daher, CEO & Founder, Qardus Limited

Please remember that when investing in the offers available on the Qardus platform your capital is at risk and returns are not guaranteed. Past performance is not indicative of future results.

WHAT IS A HALAL MORTGAGE?
A halal mortgage is a mortgage that complies with the Islamic Sharia rules relating to mortgages, money, and borrowing. The financing terms of halal mortgages must comply with the principles of Sharia law, and many Muslims in the United Kingdom are on the lookout for support for halal mortgage and home finance products and services when they are considering moving home.

The main difference when comparing the financing of halal mortgages and traditional mortgages is that halal mortgages do not involve the payment of any interest. The process of obtaining a halal mortgage has some slight differences when compared to obtaining a traditional mortgage but it is very similar.

Halal mortgages are alternatives to standard mortgages on the market and were created to enable Muslim customers to buy real estate using Sharia compliant finance products.

Islamic Finance Principles Relating To Halal Mortgages

Moving houses can be a stressful time. The stress can be compounded for Muslims who are looking for banks and building societies that offer halal mortgages.The four main Islamic finance principles that apply to Islamic mortgages are:

RIBA
Riba refers to usury or interest and is strictly prohibited for Muslims as dictated by Sharia law. Islamic mortgages do not have any interest payment elements. This means that Muslims can get on the housing market and purchase property without being in breach of Sharia law.

IJARA
Ijara is an Islamic financing structure whereby the bank or building society that are financing the property purchase will buy the property and lease it back to you for a fixed monthly cost that has been agreed between the parties.

MUSHARAKAH
Musharaka refers to joint partnerships where you can make a decision with the bank to own separate shares in the property. As more and more monthly payments are made, thus the share owned by the bank is reduced until the homeowner owns the property outright. Co-ownership agreements like these are not common in the UK and are more common in commercial transactions.

MURABAHA
Murabaha is when the bank buys the whole of the property and sells it back to you for a higher price. The higher price is repaid in instalments and means that the bank can recover its costs, and the homeowner does not have to pay interest on the mortgage loan.

The structures within ijara, musharak and murahaba arrangements mean that Muslims can structure their finance terms in Sharia compliant ways.

HOW DO HALAL MORTGAGES WORK?
When looking for a halal mortgage, the general rule is that you should approach those banks or institutions that can prove that they work in a Sharia compliant way, and that they have been advised by an Islamic sharia law authority. Islamic mortgages are regulated by the Financial Conduct Authority. This means there are protections for Muslims looking for support when searching for halal mortgages.

When looking for lenders in the United Kingdom that offer halal mortgages, it is always advisable for Muslims to undertake additional due diligence on the terms and payments being offered by the bank.

Buyers should then compare the terms and process offered with other Islamic finance lenders on the market.

ARE HALAL MORTGAGES EXPENSIVE?
For Muslims looking for halal mortgages to purchase property, they normally need to ensure that they have a large deposit ready. Lenders offering halal mortgages will usually have higher administration costs.

Additionally, in exchange for not having an interest payment element anyone who takes on a halal mortgage may need a deposit of up to 20%. You should also factor in the costs of a survey, insurance, fees, stamp duty, and legal fees.

Before deciding on a lender, it is good practice to check the Financial Conduct Authority website to check that the lender is registered with them and therefore regulated.

Risks Associated With Halal Mortgages

Ethically, halal mortgages are far superior to traditional mortgages. Both parties in a halal mortgage transaction are beneficiaries. The risks may not be the traditional risks associated with non-halal mortgages (for example, increases in interest rates every few years), but you are still likely to face penalty payments if you have a co-ownership agreement with the bank for the property. This means that if you fail to make payments on time then you could be fined or face repossession.

One thing to watch out for when you are looking for Islamic mortgages is the stamp duty costs. Normally, a buyer pays stamp duty when the purchase of a property (if the property is over the UK stamp duty thresholds). With halal mortgages, as the bank is buying the property and then you are buying from them, this equates to a double payment of stamp duty.

Of course, the stamp duty costs also depend on whether you are buying your property back from the bank, or whether you have a co-ownership agreement with them.You should discuss the stamp duty costs with the bank before taking on the mortgage.

You should also note that although the bank legally owns the property, you may need to insure the property and deal with the general maintenance and upkeep of the property. Always make sure to add any additional costs to your overall purchase plan.

The Process

The process relating to taking out a halal mortgage is actually very similar to that of a traditional mortgage.This is what normally happens:

• The buyer will choose a property
• The buyer will negotiate and agree on the price with the seller
• The Islamic mortgage provider/bank will buy the property
• The bank will sell the property back to you at a higher price
• As a buyer, you will repay the bank in a series of installments

With a traditional mortgage, you would then take a loan from a bank and begin paying the repayments. With an Islamic mortgage there is no interest payable. Instead, the bank will buy the property and sell it back to you for a higher price. This is a form of halal refinancing arrangement.

For example, if the property is valued at £100,000, the bank may sell it to you for £140,000. As a buyer, you can repay this sum over a period of time.You should note that there are usually administration fees associated with halal mortgages, as there are with traditional mortgages. However, the fees for Islamic mortgages are usually lower.

Benefits Of Halal Mortgages

The most obvious benefit is that halal mortgages are not susceptible to fluctuating interest rates. As there is no interest payment element, as a buyer you will not have a changing rate of repayment.

However, if you have a lease agreement with the bank you may find the repayment rate is subject to change. This is why is it is important for Muslims to assess the terms of the halal mortgage.

Ultimately, the risks associated with halal mortgages are minimised on account of the bank sharing the risk with the buyer. Once the bank has agreed to sell the property at a fixed price, this price cannot change irrespective of market conditions.

Mainstream

As the Islamic finance world continues to grow to meet the demand from Muslims across the globe, so too are the options for halal mortgages. Islamic finance has firmly entered the mainstream finance world.

In addition, as halal mortgages are seen as ethically sound many non-Muslim customers are also keen to take advantage of the terms offered by Sharia compliant banks.

Many UK banks and building societies are now offering halal mortgages including Al Rayan Bank and United Bank Limited.