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Islamic Finance Putting Farming Business on a Firmer Ground

  Aug 19, 2016

By Jaafar S. Abdulkadir

Kenya’s agricultural sector is increasingly gaining a greater footing as a driver of economic expansion, heightening the need for financiers to rethink their strategies.

As the sector grows, so has Islamic finance providers continued to deepen their investments in supporting the sector. Through Salam financing, institutions playing in Islamic finance are becoming critical to driving the growth of the agricultural sector.

Under Islamic finance, is an innovative financing contract considered appropriate for the production of primary commodities especially in the agricultural sector where the farmers have dire needs for funds to purchase seeds, fertilizers, farm implements, and other domestic needs.

The structure allows the seller of the specified goods in terms of quality and quantity to undertake to deliver the same at an agreed future date against the upfront payment of the full price.

Normally the Sharia does not approve of any forward sales but Salam transactions where payment is immediate but delivery is deferred under certain conditions are permissible. The validity of Salam transactions depends upon making full payment for goods to be delivered later and where.

Lower Price

The main objective behind the legitimacy of the Salam sale is to relieve people of their hardships in trading and financing activities.

The Salam price is generally lower than the price of a spot sale and this is what motivates banks to employ this contract. The bank, when executing a Salam contract with a farmer can also have a parallel Salam contract with another party buying the goods after delivery.

The first Salam contract and the parallel contract must be independent and should reflect that the bank is a buyer in the former and the seller in the latter. The two contracts must be tied together, making the performance of one contingent upon the other.

The wheat farmer in Narok can approach a bank to finance his production. The bank pays the agreed price on the spot awaiting the delivery of the wheat.

Salam sales can reduce the risk arising out of uncertainties of market prices, especially during harvest. Salam may sound like a regular forward contract, but it’s not permissible without the full payment of the price at the time of executing the contract.

Abdulkadir is the head of Islamic banking at KCB and the chair of the Islamic finance sub committee at Kenya Bankers Association. Jaffer Abdulkadir is an alumnus of Masters of Public Policy and Management Class of 2015.

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