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Despite the fact that there are literally millions of Muslim entrepreneurs in both

developed and developing nations looking for investment capital for their new

start-up ventures, the realm of the Islamic venture capitalist remains in an

evolutionary state. Nonetheless, the untapped potential for Islamic venture

capital remains huge. Moreover, the Islamic world has more than its fair share of

investors with high-end net worth looking to invest in potentially lucrative deals.

Thus, the convergence of both a ‘need’ and a ‘supply’ invariably lead to the

creation of a new product, and this is equally so in the case of purely Islamic

venture capital.

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The core to any proposed Islamic financing transaction is that Shariah (Islamic

law) prohibits interest-based lending. Moreover, Shariah further prohibits

investments in certain activities which are seen as being in violation of Islam,

such as gambling.

However, in essence, the mechanisms of venture capital do not provide for

interest-bearing lending. Rather, at the core of any venture capital funding is an

agreement to share in the risks of the business venture in return for the profits

derived from such business venture.

As such, rather than being contrary to Islamic law, many scholars hold that

venture capital funding complies with one of the cornerstone principles of Islam:

it provides much needed investment to start-up companies in return for

potential rewards, while accepting the risks that may be involved in such a

deal. This type of structure is the classic form of mudaraba financing used

over many centuries in the Islamic world.

Structuring an Islamic venture capital deal

The most accurate translation of a mudaraba financing is a contract under which

one person, the investor (known as the rabal-maal), brings financing and the

other person, the entrepreneur (known as the mudarib), brings expertise and

effort. Collectively they share the proportionate profit as per their pre-arranged

agreement.

Fundamental to the mudaraba financing structure, however, is the fact that the

entrepreneur cannot be placed at risk of losing any monetary investment/value.

If the business venture were to fail, then the maximum the entrepreneur could

lose is the investment they make in the business enterprise themselves (i.e., their

own money); plus any time and effort they put into the venture. The reason why

this is the case is because under Islam, you cannot loose what you do not

contribute.

In addition, under a mudaraba financing structure, strictly speaking, the investor

is not allowed to partake in the management affairs of the business venture in

which they have invested, they’re simply an investor – period. Day-to-day and

overall management of the business must be left to the entrepreneur.

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Major players in the Islamic VC Market

Given that mudaraba has been a central element to Islamic financing for

centuries, you may be mistaken in thinking that the Islamic venture capitalism is

a fairly mature market with hundreds of institutional investors. The reality is

almost the opposite. Venture capitalism is still fairly embryonic in the world of

Islamic financing and there are few Islamic institutional funds involved at this

time.

Prior to 1995, the majority of Islamic venture capital financings were undertaken

by what are known as “angels”. Angels are essentially high net worth individuals

who agree to invest in a business venture under the terms of Islamic financing

set out above. There were few, if any, established Islamic venture capital funds

at this time.

Post 1995 there was a boom in Islamic venture capital financing and today there

are over a hundred funds lending in excess of a billion dollars to new start-ups.

Following the development of Dubai as a major Islamic financing center, the

Dubai International Finance Center (DIFC) was established and a number of

leading Islamic venture capital funds are now regulated by the Dubai Financial

Services Authority (DFSA).

Among the founding members of Islamic financing venture capitalists is the

Dubai-based Injazat Capital Limited, who are also founding members of the Gulf

Venture Capital Association (GVCA), a leading light in the world of Islamic

venture capitalism. A newer entrant to the world of Islamic venture capitalism is

the aptly named Venture Capital Bank BSC (c), which is rapidly becoming one of

the larger Islamic venture capital funds in the Middle East.

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