Criteria for Sharia-Compliant Private Equity Funds

I have been mana­ging Sharia-compli­ant funds for about 10 years. At that time, we struc­tu­red the first Sharia-compli­ant fund in Germany for a Saudi inves­tor. The busi­ness area perfor­med very well from around 2002 to 2009. The vehic­les were partly German designs, partly off-shore. I have super­vi­sed four of them. The invest­ments take place in Germany and Europe. Inves­tors were prima­rily private equity funds, family offices invest­ment banks from the GCC ( Gulf Coun­cil Coope­ra­tion). In the invest­ment region of Europe, there are likely to be perhaps a little more than two dozen such funds.

Fund cons­truc­tions are not very popu­lar with Arab inves­tors. Arabs much prefer to invest directly instead of entrus­ting money to a foreign fund mana­ger. In other words, private equity acti­vi­ties are less often carried out via fund cons­truc­tions, but more frequently on a deal-by-deal basis. Fund­rai­sing is then carried out for each investment.

Private equity is a good asset class for Sharia compli­ance with regard to the Quran, it can be well combi­ned with its prin­ci­ples. One of the prin­ci­ples is roughly, there must be oppor­tu­ni­ties and risks. The prohi­bi­tion of inte­rest also applies, which plays a role in leverage design. Of course, the indus­tries that are prohi­bi­ted (see above) must be obser­ved. This is easy to comply with. It’s a busi­ness area that’s doing well.

From the investor’s point of view, another point is crucial: if invest­ments are made, tech­no­logy trans­fer is desi­red in order to advance the region econo­mic­ally: Private equity funds always like to have a Shariah board, a board of direc­tors that requi­res appr­oval. All invest­ments must pass through the Board, which then issues the “fatwa” (appr­oval). There are about 30–50 people acting in funds world­wide, these are legal scho­lars from the Arab region with econo­mic exper­tise. They sit on around 300 boards worldwide.

On the ground in GCC, private equity is doing it hard. There are only a few compa­nies in which to invest. Demand is parti­cu­larly strong for health­care, clean­tech, such as water treat­ment, and infra­struc­ture. Venture capi­tal is perfect in terms of Sharia. In the case of buyout and growth capi­tal, the struc­tu­ring of the invest­ment in the target company beco­mes more complex.

Whether the number of funds will increase is hard to say. From my expe­ri­ence so far, I would say that previous invest­ments have suffe­red due to the struc­tu­ral crisis in the region in 2009 (e.g. the baíl out of Dubai). Howe­ver, some market parti­ci­pants have successfully estab­lished them­sel­ves and will conti­nue to operate in the market.