Integrating Technology into Islamic Finance

The progression of Islamic finance has been extensive and of colossal impact. With its growth rate beyond expectations and confidence levels at an all-time high, the industry is doing well out of the current economic turmoil. However, does its technological capabilities meet the requirements of up-to-the-minute customers? RAHAYU MUSA KAMAL spoke to technology experts on what needs to be done to ensure smooth growth. With the ever-changing technological advancements in tandem with today's fast-paced and on-the-go lifestyle, it seems like every aspect of our lives now revolves around state-of-the-art creations that have made daily affairs easier to execute than before. Consumers are more open to the latest innovations, hence to live up to their expectations and to cater to demand, fledgling industries like Islamic finance have no choice but to be equipped with modern yet suitable capabilities for growth. There has long been a misconception about adopting technology into Islamic finance. The impression given is that it operates similar to its conventional partner. However, this has proven to be somewhat inaccurate as espousing the technology similar to that used by conventional banks can't be done. First of all, being an Islamic bank, a set of Shariah principles must be followed. According to Jamil Hassan of Oracle Financial Services Software, Islamic banks have to adhere to a set of Shariah principles that regulate them to organize their products (liabilities and assets) in an entirely different way from conventional banking. The principal consultant of Islamic banking gave an example that in Islamic banking, imposition of interest is prohibited on all financings and most contracts between Islamic banks and their borrowers are conducted under the framework of trading (i.e. buy and sell). As for the depositors, the deposits placed in the banks fall under the concept of Mudarabah, where all profits accrued (and losses incurred), after deducting the banks' fees, are passed back to the depositors. "In this context, the underlying technology for a bank's core banking system has to be re-engineered to fully address the requirements of Shariah in an integrated way. It should be capable of handling financing contracts and have a robust profit distribution engine. These attributes are mandatory for Islamic banks that want to be successful and are able to compete head on with their rivals, whether Islamic or conventional banks," Jamil said. He added that the core banking system must be flexible enough so that new products and services can be supported and released within a short time; and can be updated on a regular basis by its vendor so that all best practices and new developments elsewhere are made available to the Islamic banks. For David Hii, a few issues need to be addressed when it comes to technology and the Islamic finance industry. "The business measure of Islamic finance is changing very quickly. "As a result, there are different requirements and ways of doing business, and that is happening a lot faster than expected. "Islamic banks are constantly seeking ways to partner and also leverage on the existing banks they are a part of because several Islamic banks are part of a big group, so this is called technical integration," said the chief technology officer of Microlink Solutions. He said Islamic bankers have this perception that technology can help their business but contended technology can't solve everything as what is more important is the ability to offer good service along with the technological advancements. Hii pointed out that without good consultants, Islamic banking providers would not be able to maximize the benefits of technology as well. "Over the last five years, there have been changes in how we can build our software; this is where it can help the Islamic banking world. It's important to build what you need and continue to grow from there. It will involve compromise from both parties; the bankers will have to understand that there are limitations," said Hii, adding that this will require vast consulting experience between the software provider and the bankers. He said bankers must understand that one cannot change the game plan later on in the project without making compromises, and that communication is important. Outsourcing the most viable option For Islamic banking, it is imperative that the software used be suitable for all its transactions and customers. Jamil explained that currently, Islamic banks are typically small (usually fewer than 50 branches, with an asset size of US$5 billion or less) and do not have extensive IT budgets and expertise to manage their technology platform to meet the future competitive landscape. In addition, as these banks are regulated by the same regulators as the conventional banks, similar processes and controls are being imposed, resulting in higher operational costs for Islamic banks. "Given the above, Islamic banks should choose technology platforms that can be leveraged for the longest possible timeframe (between five and seven years, at least), supported by strong and reputable organizations with a deep understanding of and strong commitment to Islamic banking," he said, adding that strong and reputable technology solution providers will ensure that their technology platforms are constantly updated with the latest functionalities, regulations and technologies required for the smooth operation of these banks. "The most viable way for Islamic banks is to outsource the task of upgrading technology to their technology solution providers. It is thus imperative that Islamic banks spend considerable time selecting the right technology providers that they want to partner with. "Choosing the right technology partner will allow Islamic banks to move rapidly and stay ahead of the competition while a wrong choice can set a bank back by months or even years. Hence, a strategic long-term partnership with the technology vendor that can support growth is an important consideration," Jamil said. Hii, on the other hand, explained the importance of knowing the services banks are providing so that it will be easier for the software engineers and the end result will be of high quality. "Both parties should know what is required and what needs to be done. It is only natural so that it will be a win-win situation for both. There will be a lot of integration that is required. Technology allows banks to integrate in a different environment, to expand the business," said Hii. On the different types of solution providers available now and how Islamic financial institutions select the product that suits them best, Jamil, an expert in this field, explained that at the functional level, most solutions from global technology providers have the required functionalities to support the existing operations of a bank. He said these solutions, however, differ in the following areas: At the same time, technology is also undergoing rapid changes, with applications such as Java, Web 2.0 and Service Oriented Architecture being among the latest trends. A committed player in Islamic finance will have to ensure that it continues to enhance its solution offerings by incorporating functionalities that are in demand while maintaining a practical approach in upgrading its underlying technology so as to align itself with the latest IT trends. "A bank should choose a solution from a solution provider that can demonstrate the above three important criteria. A solution that exhibits these three behaviors will ensure that a bank is able to use its system for as long as possible, thus maximizing its agility to compete in the marketplace and yet, maintain operational costs to the minimum," explained Jamil. Compatibility factor Meanwhile, Hii lamented the lack of expertise on the Islamic banking solution providers' side. "There are now a lot of different tools to cut short the learning cycle as many mediums can be used to communicate between the service provider and the clients. Normally, for an average software engineer, it will take three to six months to really master the skills of creating software for Islamic finance, but since there are so many tools now, more and more can be done," said Hii, adding that in many instances, the service provider need not learn everything about its clients as long as it knows the right questions to ask and gathers correct information. With Islamic finance being a young industry, issues like being on a par with its conventional counterpart, which has existed for years, and tried and tested mostly everything related to information technology, problems are bound to crop up. For Jamil, the most important criteria are the compatibility between the culture and aspirations of the bank and that of the solution provider. Many failures in software implementation occur during the implementation phase as a result of people-related issues, such as the wrong personnel being deployed for the project, lack of dedication by various team members and a lack of direction by top management. He stressed that a solution provider that has shown resiliency in managing all its previous projects, especially in a similar environment faced by the bank, is likely to be able to handle all issues expeditiously without upsetting too many parties within the project teams. "Selection of a solution provider is a strategic decision, hence objectivity and professionalism must be maintained throughout the decision process. As the partnership is to last a minimum of five years (with little option for 'breakup'), a solution provider must be one that understands the bank's culture, is respectful of the various forces within the bank and is flexible yet fully committed to assist the bank in its journey — all these are imperative if a bank intends to take full advantage of the system that it procures from the vendor," Jamil concluded.