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Journal of Islamic Accounting and Business Research Management accounting systems in Islamic and conventional financial institutions in Malaysia Siti Zaleha Abdul Rasid Abdul Rahim Abdul Rahman Wan Khairuzzaman Wan Ismail

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Article information: To cite this document: Siti Zaleha Abdul Rasid Abdul Rahim Abdul Rahman Wan Khairuzzaman Wan Ismail, (2011),"Management accounting systems in Islamic and conventional financial institutions in Malaysia", Journal of Islamic Accounting and Business Research, Vol. 2 Iss 2 pp. 153 - 176 Permanent link to this document: http://dx.doi.org/10.1108/17590811111170557 Downloaded on: 14 June 2015, At: 21:30 (PT) References: this document contains references to 55 other documents. To copy this document: [email protected] The fulltext of this document has been downloaded 2284 times since 2011*

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Management accounting systems in Islamic and conventional financial institutions in Malaysia Siti Zaleha Abdul Rasid

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International Business School, Kuala Lumpur, Malaysia Downloaded by UNIVERSITI TEKNOLOGI MALAYSIA At 21:30 14 June 2015 (PT)

Abdul Rahim Abdul Rahman Department of Accounting, Kuliyyah of Economy and Management Science, International Islamic University, Malaysia, Kuala Lumpur, Malaysia, and

Wan Khairuzzaman Wan Ismail International Business School, Kuala Lumpur, Malaysia Abstract Purpose – The purpose of this paper is to explore whether there is any difference in the management accounting systems (MAS) of conventional and Islamic Financial Institutions (IFIs) in Malaysia. Design/methodology/approach – The paper was based on a survey of 45 conventional and IFIs listed on the Malaysian Central Bank’s web site. The respondents were the chief financial officers (CFO). Post-survey semi-structured interviews were also conducted with eight respondents to gain further insights into the survey findings. Findings – The survey results indicate that IFIs use MAS information that is broader in scope, more timely, more integrated and more aggregated than conventional financial institutions. The post-survey interviews provide deeper and contextualised insights into this issue. The interview findings illustrate that IFIs normally develop and adopt an integrated accounting and enterprise system. Within this comprehensive enterprise system, the management accounting function is integrated with other functions of the organization. Research limitations/implications – Since this study was conducted in the context of Malaysian financial institutions, the results may not be generalizable to other organizations. The findings of this study highlight the importance for IFIs to have integrated enterprise systems. Besides assisting in complying with Shari’ah and regulatory requirements, the integrated systems also support better decision making. Originality/value – The paper fills a gap in the literature, as very few studies have examined the issue of management accounting in financial institutions. The paper is also one of the limited studies that explore the issue of MAS in IFIs. Keywords Malaysia, Islam, Financial institutions, Accounting systems, Management accounting systems, Shari’ah Paper type Research paper

1. Introduction Management accounting systems (MAS) refers to the systematic use of management accounting techniques to achieve organizational goals. The International Federation of Accountants (IFAC, 1998) defines management accounting as the process of identification, measurement, accumulation, analysis, preparation, interpretation, and communication of information (financial and operational) used for the planning, control and effective use of resources by an institution’s management. Thus, management

Journal of Islamic Accounting and Business Research Vol. 2 No. 2, 2011 pp. 153-176 q Emerald Group Publishing Limited 1759-0817 DOI 10.1108/17590811111170557

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accounting becomes an integral part of the management process in an organization providing information essential for: . controlling the current activities of an organization; . planning its future strategies, tactics and operations; . optimizing the use of its resources; . measuring and evaluating performance; . reducing subjectivity in the decision-making process; and . improving internal and external communication (IFAC, 1998). In short, the use of MAS can be expected to satisfy a manager’s information needs (Govindarajan, 1984; Mia and Chenhall, 1994). In the past, financial services were highly regulated with many of the products offered and the rates charged controlled. There were also strict regulation and control of geographic expansion. In a highly regulated industry, there was less need of management accounting information for performing day-to-day and longer term tasks. However, deregulation, rapidly advancing technology, competitive forces and globalization have all put an end to this complacent approach (Kafafian, 2001). In addition, emphasis on financial innovation and shareholder value as well as mergers and acquisitions activities between insurers, banks and asset management companies, have resulted in the emergence of financial conglomerates that further exacerbates the competitive environment, especially for stand-alone entities. To function effectively in a dynamic environment undergoing rapid transformation, financial institutions have to enhance their competitive advantage. A manager’s ability to make informed decisions is closely linked to the quality of management accounting information available (Kafafian, 2001; Rezaee, 2005). A good management accounting programme serves as an important tool for providing good decision-making information (Cole, 1988) and this is particularly important in the case of financial institutions as their collapse would affect the stability of the whole economy. Hence, it is critical for all financial institutions to have efficient MAS for internal decision making, planning and control (Siti Zaleha and Abdul Rahim, 2009) in order to maintain their stability. The Malaysian financial system is based on the dual banking system in which the conventional financial system operates alongside the Islamic financial system. The development of the Islamic Financial Institutions (IFIs) has contributed to the strengthening of Malaysia as an International Islamic Financial Centre (MIFC). IFIs are different from conventional financial institutions as their objectives, operations, principles and practices must conform to the principles of Islamic Shari’ah ( Jurisprudence) and Islamic ethics as enunciated by Shari’ah. The IFIs have to adhere to the Shari’ah compliance framework and they are also exposed to certain risks that are specific only to them. The complex nature of the IFIs requires a governance structure that is more comprehensive. Besides adhering to Shari’ah, they are also required to remain competitive in order to survive in the changing business environment. MAS, which has a wider scope covering internal, external, past, future, financial and non-financial information and able to be provided in an integrated, aggregated and timely manner, are ideal for providing the necessary information to aid decision making, planning and control. However, MAS for IFIs has received limited attention as most prior literature on accounting for IFIs focuses mainly on financial accounting related


to measurement and reporting issues (Abdul Rahim, 2003; Abdel Karem, 1990; Talib, 2000). Hence, the purpose of this paper is to explore whether there is any difference in the MAS of conventional and IFIs in Malaysia. The current study is intended to fill the void in the literature on management accounting in IFIs. The remainder of the paper is structured as follows. The next section reviews the relevant literature and develops the hypotheses, followed by the research method in Section 3. Results and discussion are presented in Section 4 and finally, Section 5 presents the conclusions. 2. Literature review A well-designed MAS will assist managers to be more effective in decision making. Traditionally, management accounting information has been delineated in financial terms, but recently it has been expanded to include non-financial (operational or physical) information, including quality and process times, as well as more subjective measurements such as customer satisfaction, employee capabilities and new product performance (Atkinson et al., 2001). The enhanced role of MAS to assist managers in attention directing and problem solving has resulted in the evolution of MAS to incorporate external and non-financial data focusing on marketing concerns, product innovation, strategic planning and predictive information related to these areas (Mia and Chenhall, 1994). Hence, MAS are now viewed in a broader aspect (Mia, 2000; Hussain, 2000). Besides fulfilling the traditional function of providing quantitative and financial information, MAS have expanded to include information relevant for innovation, marketing and organizational design. In fact, there is little difference today between the information provided by MAS and that provided by a management information system (MIS) (Mia, 2000). The challenge faced by financial institutions is in sustaining their competitive edge by being cost efficient without compromising the quality of their services. In fact, financial problems and failures in financial institutions are no longer considered unique (Hussain, 2000). The key to survival is to have an internal management reporting system that can signal problem areas and allow management to react swiftly and assuredly. Following the deregulation of the financial sector and the rapid advances in technology, information on pricing, product mix and market share strategies have become more important to the financial services sector (Rezaee, 2005; Kafafian, 2001) and such information will be available through the MAS within an organization. The current pace of technological and economic innovation in the financial markets illustrates the critical need for information as an aid to sound decision making by financial institutions (Hussain, 2000). By providing financial and non-financial information, MAS facilitates the decision-making process, as the scope has expanded to include effectiveness, control, market analysis, quality assessment, customer satisfaction, empowerment and competitive status management (Ostinelli and Toscano, 1994 as cited in Hussain, 2000). MAS in a financial institution can play an important role by providing information on the effectiveness of a sales promotion programme, revenue by business units, product lines and customer category (Rezaee, 2005; Kafafian, 2001; Mia and Patiar, 2001). By having MAS as an internal information system, the investments required for a programme and their outcomes can be monitored closely. Managers can use MAS information to benchmark the organization’s performance against competitors to determine whether they are offering products and service attributes to customers

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at a competitive price. This is possible since MAS provides information on performance of each business unit, each product and even each customer. With an integrated system, performance can be monitored to every possible detail, as performance management is seen as the main task of the management accounting function (Otley, 2001). The management of financial institutions depends on concise and relevant information to help them carry out their daily duties. Well-managed firms should have good information structures and MAS can be seen as a tool for managing resources, measuring performance, warning of risks, aiding decisions, and providing data for planning. Cole (1988) specifically argues that a good MAS does the following: . tells the cost and profitability of doing business by organization, product, and major customers; . avoids surprises; . allows all managers to explain their performance as it is reported; . allows everyone to participate in planning via plan-to-actual reporting used as a management tool; . provides timely, accurate, relevant, and understandable reporting; . ensures that only one set of numbers is circulating within the organization; and . reduces or eliminates complaints about information non-availability. Some financial institutions have turned to activity-based costing (ABC) as a way to measure accurately the consumption of shared resources by a particular customer or product (Max, 2004; McDonald, 2004; Robinson and Chappelear, 2002; Kafafian, 2001). In fact, Max (2004) asserts that the application of ABC in the financial services sector today identifies new and unique ways to leverage cost and profitability information, including: . activity-based pricing, particularly for business-to-business services; . linking ABC information to performance management scorecards and processes; . providing information on a process view of costs, both to support cost improvement needs and to enable ongoing accountability for management by the business process; and . information on the profitability of discrete customer relationships. As financial organizations continue to consolidate, diversify, and become more competitive, the management accounting and information functions need to also grow rapidly and become more important. Table I presents a summary by Kafafian (2001) of the types of management information that is currently utilized by the financial industry to meet new challenges. Table I shows that in the planning process, strategic planning and budgeting information are used. In addition, financial institutions also utilize Asset/Liability Management (ALM) information, responsibility reporting and profitability analysis. Furthermore, financial institutions also have a number of support functions that provide various information to aid management decision making, planning and control. The information needs of MAS can be considered in terms of its general information characteristics – scope, timeliness, integration and aggregation (Chenhall and Morris, 1986; Chia, 1995; Lal and Hassle, 1998; Bouwens and Abernethy, 2000;

The planning process


ALM Responsibility reporting Profitability analysis

Support functions

Strategic planning Budgeting Line of business Organizational Branch Product Customer/relationship Market segment Opportunity Funds transfer pricing Item costing/activity-based-costing/ performance measurement Data warehousing Marketing customer information file Data mining/data mapping

Source: Kafafian (2001)

Moores and Yuen, 2001; Tillema, 2005; Agbejule, 2005). MAS is considered sophisticated when it produces information that is broad in scope, timely, integrated and aggregated. The balance scorecard (BSC) is an example of a MAS tool having all the four information characteristics (Tillema, 2005) while ABC systems provide information that is only integrated and aggregated (Choe, 2004). Owing to the challenges of deregulation, diversification and competition, the financial services sector needs to use sophisticated MAS. The development of management accounting and information functions should move in tandem with the changing environment of the financial services sector. 2.1 Relevance of MAS to IFIs The management of IFIs needs management accounting information as an organizational control mechanism. Since all IFIs activities should comply with the norms of Shari’ah and Islamic ethics, they need more management information for decision making, planning and control activities to meet both business and religious objectives. The process of product innovation in IFIs is more tedious and more stringent to ensure that the contracts associated with the transactions are not in violation of Shari’ah. In fact, the presence of the Shari’ah Supervisory Board (SSB) requires MAS to be more sophisticated as this board has the power to examine all information related to Islamic bank transactions to determine whether religious objectives are met (Islam et al., 2000). The need of MAS can also be argued from the sources of funds perspective. Unlike conventional banking systems where customers are entitled a guaranteed return, the return on investment for Islamic bank investment holders is uncertain since they share the profit or loss incurred by the bank (Haron and Shanmugam, 2001; Errico and Farahbaksh, 1998; Mannan and Fazlul Hoque, 2006). In fact, they are also exposed to the risk of losing all of their initial investment. Therefore, their decision to invest will depend on their evaluation of the bank’s ability to realize acceptable rates of return and to maintain its capital at a level sufficient for solvency purposes (Noraini, 2005). Potential investment account holders will normally refer to the annual reports, web sites and brochures before making their decisions. For this reason, transparency

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Table I. Types of management information utilized by financial institutions

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in reporting plays an important role (Noraini, 2005). Reporting can be more transparent if external reporting is supported by the internal reporting functions supplied by the MAS because it serves as an organizational control mechanism facilitating control via reporting and creating visibility in the action and performance of its members (Chia, 1995). Thus, the implications of the Shari’ah compliance framework on the use of MAS information need to be explored. The research on this issue is still scant, with the only study available to date being one by Islam et al. (2000). Islam et al. (2000) studied the information adequacy of MAS in the banks in Bangladesh. They argue that the adoption of a profit-sharing system of mudarabah and musharakah by Islamic banks in their financing activities requires a different set of MAS information in terms of scope and integration. In mudarabah activities, where banks share the profit and bear the losses of their business, the managers need a relatively broad scope of information about the day-to-day business operations and prospects of their clients. A broad scope of information is also required in musharakah activities as they involve direct participation of the banks. In contrast, non-Islamic bank managers place more emphasis on securing collateral from business clients instead of entering into venture capital with their clients, and consequently they require a narrower scope of information (Islam et al., 2000). The results of Islam et al. (2000) show that managers of Islamic banks in Bangladesh, in contrast to those in non-Islamic banks, believe that they have better designed MAS in terms of scope and integration. Their findings support the argument that profit-sharing systems in the financing activities of mudarabah and musharakah in Islamic banks require broad scoped and integrated MAS information (Islam et al., 2000). However, more research is needed to confirm their conclusion as the study only considers the profit-loss sharing mode of financing, which is not widely practiced by Islamic banks. This issue should be argued from a broader Shari’ah compliance perspective that includes information required in managing the various types of products that need a variety of contracts. In addition, similar issues should be considered for other IFIs, such as Islamic insurance organizations. 2.2 Development of hypotheses The scope of an information system consists of three sub-dimensions, which are focus, quantification and time horizon (Gordon and Miller, 1976; Gordon and Narayanan, 1984; Chenhall and Morris, 1986). A broad scope MAS provides information which is externally focused (e.g. economic conditions, etc.), non-financial (e.g. customer preferences, etc.) and future oriented (e.g. probabilistic) (Chenhall and Morris, 1986; Gul and Chia, 1994; Choe, 1998; Bouwens and Abernethy, 2000). The main difference between IFIs and conventional financial institutions is that their objectives and operations, as well as principles and practices, must conform to the principles of Islamic Shari’ah ( Jurisprudence) and Islamic ethics as enunciated by Shari’ah. The principles are: (1) prohibition of riba’ (interest); (2) application of al-bay’ (trade and commerce); (3) avoidance of gharar (ambiguities) in contractual agreements; prohibition of maisir (gambling); and (4) prohibition of conducting business involving prohibited commodities (Saiful Azhar, 2005).


Transactions in IFIs involve different Islamic contractual relationships in which various underlying Shari’ah principles have been used. In the Islamic banking sector for example, the relationship between investment account holders and the banks and the relationship between the banks and their customers (borrowers) are different from conventional banking systems. In conventional banking system, all deposits are treated as liabilities. In Islamic banks, savings are categorized into Al-Wadi’ah (safe custody) and Al-Mudarabah (profit sharing) saving accounts. Under Al-Wadi’ah, banks act as a trustee for its customers (Alam, 2000; Razali, 1999) while under Al-Mudarabah, banks act as a manager for the funds of its customers. The deposits will be invested and profits and losses will be shared with the account holders based on mutual agreement (Alam, 2000; Razali, 1999). Looking at the asset side of the balance sheet, in conventional banking systems, the banks are the lenders and customers are the borrowers and all transactions are subject to interest payment. Hence, IFIs require a broader scope of information to comply with the various Shari’ah principles. Although equity-based financing (mudarabah and musharakah) is not widely used at the moment, some arguments related to MAS information may still be considered. Equity-based financing is risky since there is no fixed assured return to the banks (Taylor, 2003; Sarker, 1999). It takes into consideration risk-sharing, thus the capital involved in trade might grow or decrease over time (Haron and Shanmugam, 2001; Mannan and Fazlul Hoque, 2006; Hassan and Ahmed, 2002). In the case of mudarabah for example, profits are to be shared according to an agreed proportion but losses will be borne by the bank (Taylor, 2003; Alam, 2000; Dar and Presley, 2000). Therefore, Islamic banks have to carefully scrutinize the feasibility and projections provided by the customers and at the same time undertake stringent credit analysis and risk assessment (Taylor, 2003). In short, they have to be selective in choosing clients to finance under equity-based financing modes (Sarker, 1999). Islam et al. (2000) argue that the adoption of this equity-based form of financing requires a different set of MAS information in terms of scope and integration. A relatively broad scope of information is required to assess the prospects of their clients and to carry out day-to-day business operations. Thus, we offer the following proposition: H1. There is a significant difference regarding the scope of MAS between IFIs and conventional financial institutions. Timeliness of information refers to the provision of information on request and the frequency of reporting collected information. Timeliness influences the managers’ ability in responding quickly to events. MAS, together with timely information, is able to report upon the most recent events and provide rapid feedback on decisions (Chenhall and Morris, 1986; Bouwens and Abernethy, 2000). In Islamic banks, the profit rate for their financing are fixed. However, the return on the deposits fluctuates depending on market conditions. Therefore, to prevent mismatch between assets and liabilities, timely information is required by IFIs in calculating their profit distribution. At the same time, IFIs take a partnership position in their equity-based financing, and timely information is required so that decision making, planning and control can be made effectively since the IFIs themselves become a stakeholder in the businesses to which they provide financing (Greuning and Iqbal, 2007). By being partners with their customers, it is critical for IFIs to have reliable and timely information (Greuning and Iqbal, 2007). Based on the arguments above, the following proposition is proposed:

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H2. There is a significant difference in the use of timely MAS between IFIs and conventional financial institutions. Coordination of the various segments within a sub-unit is an important aspect of organizational control. Integrated MAS characteristics that may assist coordination include information about the activities of other departments within the firm and information on the impact that decisions in one department have on the performance of another. The information may relate to input, output, operating processes and the technology employed by other departments (Bouwens and Abernethy, 2000; Chenhall and Morris, 1986). In the Islamic banking system, different products require different contracts, which lead to different kinds of relationship. For example, unlike financing in conventional banking where the bank is the lender and the customer is the borrower, in murabahah (deferred sale) financing, the customer is the buyer and the bank is the agent who buys and sells the product to the buyer. Therefore, it is a trading contract which is permissible by Shari’ah. In ensuring compliance with Shari’ah, a regulatory body called the SSB is set up (Abdul Rahim, 2006; AAOIFI, 2001; Haron and Shanmugam, 2001). The Islamic insurance operators are also answerable to their SSBs. They are only allowed to invest their funds in Shari’ah-approved avenues. In order to comply with Shari’ah, the extent and nature of MAS information needed by IFI managers for day-to-day monitoring and decision making will be more complex than that required by managers in conventional financial institutions (Islam et al., 2000). The presence of SSB requires MAS to be more integrated since this board has the power to examine all information about an IFI’s transactions to ensure adherence to Shari’ah principles (Islam et al., 2000). The study by Islam et al. (2000) found evidence that the extent of integration of information is greater in Islamic banks than in non-Islamic banks. Hence, it is proposed that: H3. There is a significant difference in the use of integrated MAS between IFIs and conventional financial institutions. Information aggregation deals with a variety of ways to collect and summarize the data within periods of time or area of interest, such as responsibility centers or functional areas (Choe, 1998). Aggregate information represents summarized information that covers periods of time or diverse management area while disaggregated information represents excessively detailed information that may include only one period or one functional area (Choe, 1998). Owing to the unique nature of the IFIs, they are also exposed to specific risks in addition to the normal credit, market and operational risks faced by conventional FIs. These specific risks include equity investment risks, displacement risks, liquidity risks and Shari’ah risks. Contrary to conventional FIs, IFIs invest on the basis of equity-based assets (including partnership based Mudarabah and Musharakah investments) that expose the IFIs to volatility in earnings due to liquidity, credit and market risks associated with equity holdings (Iqbal and Mirakhor, 2007). Loss of capital is also possible in Mudarabah and Musharakah contracts despite proper monitoring. Therefore, aggregated information by product is required by IFIs to determine the capital charge for each type of product. Thus, we offer the following proposition: H4. There is a significant difference in the use of aggregated MAS between IFIs and conventional financial institutions.


3. Research method Data were collected using postal questionnaires and semi-structured interviews. This study considered the whole population of finance and insurance companies listed on the Malaysian Central Bank web site. The population was 106 financial institutions with 45 FIs randomly selected for this study. The choice of single industry will minimize environmental heterogeneity (Moores and Yuen, 2001). The environment is further controlled by selecting institutions that provide banking and insurance services only. Although restricting the sample will limit the ability to generalize the results, it is believed that specific industry analysis will substantially raise the internal validity over a multi-industry analysis (Ittner et al., 2003). 3.1 Development of questionnaire A questionnaire was developed to measure the extent of use of information provided by the MAS in the surveyed organizations for decision making, planning and control. The characteristics of the information were divided into four main dimensions, namely, scope, timeliness, levels of integration and levels of aggregation. The characteristics of the MAS information were measured based on Bouwens and Abernethy (2000), Chong and Chong (1997) and Chenhall and Morris (1986). The measurement developed by Chenhall and Morris (1986) has been shown to be robust across a variety of settings (Chenhall, 2003). The extent of use of these MAS information characteristics were also used by other studies (Mia and Chenhall, 1994; Chong and Chong, 1997; Agbejule, 2005). The dimensions of scope (six items), timeliness (four items), integration (four items) and aggregation (six items) were measured based on Bouwens and Abernethy (2000) and Chenhall and Morris’s (1986). Following Bouwens and Abernethy (2000), the wording of the items were changed slightly to ensure that the instrument was applicable to the context of this study. Likert scales of 1 (not at all) to 5 (to a very great extent) were used for this section. The questionnaire was first pre-tested on seven academics from the local universities. They were either experts in management accounting and financial systems or experts in research methodology. Pilot testing is important to ensure validity and reliability of research instruments (Sekaran, 2000). Pilot testing was also conducted with two senior finance managers and six managers from the financial institutions. A revised version of the questionnaire was prepared accordingly. 3.2 Administration of questionnaire The questionnaire was mailed to the chief financial officer (or the most senior position in the Finance Department) of each financial institution. They were chosen because they were the ones responsible for management accounting in the organizations. According to Rodeghier (1996), in using the survey research, contacts are very important and there should be at least three contacts with the sample, each slightly different in tone and content, to ensure a high return. Thus, one week after the survey packets were sent, phone calls were made to ensure that the organizations had received the packets. Five weeks after the first mailing, another set of questionnaires was sent to non-respondents. Follow-ups were made again through email and telephone calls after the second mailing. 3.3 Profiles of respondents and financial institutions As shown in Table II, the largest category of respondents was head of finance/general manager finance/vice president finance (35.6 per cent), followed by finance manager

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Categories

Job designation

CFO/director of finance Head of finance/GM finance/vice president finance Senior manager finance/ assistant VP finance Finance manager Others Between 1 and 3 years Between 3 and 10 years Between 10 and 20 years More than 20 years No information provided


162

Length of time holding current position Table II. Profile of respondents

Conventional Islamic (n ¼ 27) (n ¼ 18) Freq. % Freq. %

Total (n ¼ 45) Freq. %

4 10

14.8 37

3 6

16.7 33.3

7 16

15.6 35.6

3

11.1

5

27.8

8

17.8

7 3 13 10 1 2 1

25.9 11.1 48.1 37.0 3.7 7.4 3.7

4 0 12 4 1 0 1

22.2 0 66.7 22.2 5.6 0 1

11 3 25 14 2 2 2

24.4 6.7 55.6 31.1 4.4 4.4 4.4

(24.4 per cent), senior manager finance/assistant vice president finance (17.8 per cent), CFO/Director of Finance (15.6 per cent), and others (6.7 per cent). A total of 25 (55.6 per cent) respondents have been holding their current position between one and three years, 14 (31.1 per cent) between three and ten years, and 4 (8.9 per cent) for more than ten years. Table III summarizes the profile of the organizations involved in the survey. About 27 (60 per cent) organizations offer only conventional financial services, while 18 (40 per cent) offer only Islamic financial services. The majority of the organizations (conventional 85.1 per cent and Islamic 55.7 per cent) had more than 100 employees. This indicates that the majority of the organizations involved in this survey may be considered large in size. In terms of total annual revenue, 70.3 per cent of the conventional FIs and 44.5 per cent of the IFIs had a total annual revenue of more than RM100 million. In terms of total assets, 51.8 per cent of the conventional FIs and 61.2 per cent of the IFIs had more than RM1 billion worth which further suggest that most of the firms surveyed were large in size. The majority of the conventional FIs (71.1 per cent) had been in operation for more than five years. However, most of the IFIs (66.7 per cent) had been in operation for less than five years. It has been only in the last five years that the growth of IFIs has contributed to the strengthening of Malaysia as an International Islamic Financial Center (MIFC). Most of the IFIs (88.9 per cent) were locally owned while only 51.9 per cent of the conventional FIs were locally owned. 3.4 Post-survey semi-structured interviews Semi-structured interviews were conducted to gain in-depth understanding of the issues surveyed. The respondents who were involved in the questionnaire survey provided the basis for the sample selection for the interviews. Eight interviews were conducted with respondents with similar backgrounds: they were in senior position and experienced enough to represent their organization as almost all of them were in the top management team, with an average age of 44 years, and had on average served the company for 11 years and had on average held their current position for four years. All the eight interviewees were from IFIs (Table IV).


Background variable

Category

Number of employees Less than 100 100-499 500-999 1,000-1,499 1,500-1,999 Above 2,000 No information Annual revenue Less than RM100 million RM100 million to RM499 million RM500 million to RM999 million More than RM1 billion No information Annual total assets Less than RM500 million RM500 million to RM999 million RM1billion to RM4.99 billion RM5 billion to RM9.99 billion More than RM10 billion No information Firm’s age Less than 5 years 5-10 years 11-20 years 21-30 years 31-40 years 41-50 years More than 50 years Ownership structure Local Foreign Joint venture

Conventional (n ¼ 27) Freq. % 3 13 8 2 0 0 1 5 11 5 3 3 3 6 11 1 2 4 1 4 1 6 5 3 7 14 12 1

11.1 48.1 29.6 7.4 0 0 3.7 18.5 40.7 18.5 11.1 11.1 11.1 22.2 40.7 3.7 7.4 14.8 3.7 14.8 3.7 22.2 18.5 11.1 25.9 51.9 44.4 3.7

Islamic (n ¼ 18) Freq. % 8 5 1 1 1 2 0 6 3 4 1 4 3 1 5 3 3 3 12 2 2 1 0 0 1 16 2 0

44.4 27.8 5.6 5.6 5.6 11.1 0 33.3 16.7 22.2 5.6 22.2 16.7 5.6 27.8 16.7 16.7 16.7 66.7 11.1 11.1 5.6 0 0 5.6 88.9 11.1 0

Total (n ¼ 45) Freq. % 11 18 9 3 1 2 1 11 14 9 4 7 6 7 16 4 5 7 13 6 3 7 5 3 8 30 14 1

24.4 40.0 20.0 6.7 2.2 4.4 2.2 24.4 31.1 20.0 8.8 15.6 13.3 15.6 35.6 8.9 11.1 15.6 28.9 13.3 6.7 15.6 11.1 6.7 17.8 66.7 31.1 2.2

4. Results and discussion This study has investigated whether there is any difference in the MAS of conventional and IFIs. Since IFIs have to meet both business and religious objectives, they are expected to have a broader scope, more timely, highly integrated and highly aggregated MAS information than conventional FIs. Table V presents the descriptive statistics for each MAS item for IFIs and conventional FIs. As can be seen, the mean scores of each item for IFIs are higher than those for conventional FIs. The hypothesis was then tested by comparing the mean scores for use of MAS by IFIs and conventional financial institutions using an independent-samples t-test. Table VI presents the results of the t-test. The data in Table VI indicate that the mean scores for scope, timeliness, integration and aggregation for IFIs were higher than the mean scores for conventional financial institutions. The observed significance level for all the MAS dimensions is evidently lower than the 0.05 confidence level, thus supporting the hypothesis that there is a significant difference between the use of MAS between IFIs and conventional financial institutions. The results suggest that in order to meet religious as well as business

MAS in Malaysia

163

Table III. Profile of sample firms

JIABR 2,2 Interviewee Position


164

1 2 3 4 5

Length of time in current position (years)

23 17 2 14 17

10 4 2 2 2

Male Male Male Male Male

47 53 37 38 39

12 3

4 3

Male Male

38 50

2

2

Male

46

Head of finance Senior manager finance Head of finance Senior manager finance Assistant general manager finance Manager financea Senior vice president/ company secretary finance and administration Chief financial controller

6 7 Table IV. Background of the interviewees

Length of service in the company (years)

8 a

Note: Representing the head of finance

IFIs

Table V. Descriptive statistics of MAS items

Gender Age

Scope Information relates to future events Quantification of the likelihood of future events Non-economic information Broad factors external to organization Non-financial relates to productivity Non-financial relates to market information Timeliness Immediately upon request Given automatically Provided frequently Reported without delay Integration Precise targets activities of all departments Impact on different departments’ decision Cost and price information of the departments Impact of your decision and influence of others Aggregation Different sections or functional areas Effect of events on particular time periods Influence of events on different functions Effect of different departments’ activities Input into decision models What-if analysis

Conventional FIs Mean SD

Mean

SD

3.89 3.94 3.89 3.94 3.67 3.89

1.183 1.110 0.832 0.802 0.767 0.832

2.85 2.52 2.59 2.93 2.63 3.19

1.099 0.893 1.047 1.107 0.967 0.962

3.89 3.89 4.28 4.00

0.900 0.758 0.575 0.907

3.52 3.26 4.04 3.44

0.935 0.944 0.808 0.751

3.89 3.72 3.67 3.78

0.758 0.895 0.840 0.647

3.26 3.11 3.11 2.93

0.859 0.892 0.934 0.917

3.83 4.11 3.61 3.83 3.61 3.67

0.924 0.758 0.916 0.985 0.850 0.840

3.44 3.74 3.00 3.56 2.74 2.85

0.801 0.764 0.832 0.801 0.903 0.864

objectives, IFIs use MAS information that is broader in scope, more timely, more integrated and more aggregated than conventional financial institutions. The results can be summarized as follows (Table VII). Interviews were conducted with eight interviewees from IFIs to further examine the possible reasons for IFIs to use more sophisticated MAS than their conventional


counterparts. Four interviews were conducted with Islamic banks, one interview with a bank that offers Islamic financial services only and three with Islamic insurance companies. Most of the interviewees stated that there was not much difference in the overall financial accounting systems for recording and reporting purposes between IFIs and conventional FIs, as both are subject to the Malaysian Accounting Standards Board (MASB) and International Accounting Standards (IAS). However, since IFIs and conventional business transactions are based on totally different concepts they have to do a great deal of customization to the support or the application systems (i.e. the system used to process the transaction inputs into outputs). In expressing his views, the Head of Finance for a local Islamic bank said:

MAS in Malaysia

165

We ride on the parent’s accounting system. They create a separate GL book [. . .]. so funds are managed separately. But the terms are all based on the conventional system and we have to make some adjustments [. . .]. We try to modify the system to suit the Islamic products, but there will still be some problems because it was not designed for Islamic products. Islamic and conventional system is totally different. Recording and reporting is not an issue [. . .] the major issue is actually the support system.

Similarly, the Senior Finance Manager of another Islamic bank said: The present conventional accounting system is sufficient. However, adjustments have to be made for Islamic products. A simple example is the fixed rate for BBA house. The current conventional application system does not recognize selling price and purchase price. When the application system does not recognize both prices, the same will occur in the GL system because of the interface between GL and application systems [. . .]. So at the end we have to do further enhancement to both systems.

MAS dimensions

Services

n

Mean

t-value

Sig. (two-tailed)

Scope

Conventional Islamic Conventional Islamic Conventional Islamic Conventional Islamic

27 18 27 18 27 18 27 18

2.7840 3.8704 3.5648 4.0139 3.1019 3.7639 3.2222 3.7778

24.518

0.000

22.346

0.023

23.00

0.004

22.800

0.008

Timeliness Integration Aggregation

Hypotheses H1. There is a significant difference in the conventional financial institutions H2. There is a significant difference in the conventional financial institutions H3. There is a significant difference in the conventional financial institutions H4. There is a significant difference in the conventional financial institutions

Table VI. Results of t-test on use of MAS

Results use of broad scope MAS between IFIs and

Supported

use of timely MAS between IFIs and

Supported

use of integrated MAS between IFIs and

Supported

use of aggregated MAS between IFIs and

Supported Table VII.

JIABR 2,2


166

The interviews above reveal that although there is little difference in terms of overall financial accounting system, additional fields or features of the systems are required to cope with the various Islamic products that require different contracts and different relationships. Thus, to address the issues of Shari’ah, IFIs require more information than conventional FIs. 4.1 Scope The empirical evidence from this study suggests that in order to be Shari’ah compliant, IFIs use a broader scope of MAS information than conventional FIs. In a related interview, the Senior Finance Manager for an Islamic bank reflected on the need for non-financial information in decision making: Last time, when we were “windows” [1], the environment was different; we were just a side business. Now we are an entity by itself. We have to work on the bottom-line but at the same time we have to ensure that all the Shari’ah compliance issues are addressed.

Besides looking at business operations, other aspects of the organization also have to be Shari’ah compliant. For instance, the Senior Vice President Finance and Administration of an Islamic Insurance Company said: We have four Shari’ah committee members from outside and we have a Shari’ah compliance department. They liaise with the Shari’ah committee. We need their approvals from the introduction of the products to the delivery of the products and other things related to Shari’ah have to be endorsed by the Shari’ah committee [. . .]. Our Shari’ah compliance department looks at Shari’ah compliance for the company as a whole. Not just on the products, but also looks at the ethics of the staff.

The findings from the survey (Table VI) and the interviews are consistent with Islam et al. (2000) who find that managers of Islamic banks need a relatively broader scope of information about their business operations and the prospects of their clients. IFIs require more non-financial information especially those related to the issue of Shari’ah compliance. As managers of customer funds, IFIs have to make sure that the funds are managed in accordance with the principles of Shari’ah. Hence, more non-financial information related to Shari’ah compliance is required by them. For example, IFIs have to make sure that revenues come from activities permitted by Shari’ah. “Cleansing” activities will be carried out if there is any doubt as to the source of the income. To do this, IFIs have to check the sources of the income. For instance, the Head of Finance for an Islamic bank stated: We closely monitor our source of income. Normally we will quantify the non-halal income and we will not record it as income in our income statement. It will be recorded in one account to become a special fund to be distributed to the public under maslahah ummah [. . .]. Example would be the interest received that was not contracted before, and this normally happens when we deal with non-muslim or conventional banks.

In addition, in conventional commercial banking systems, there is a lender and borrower relationship where each transaction is subjected to interest payments. However, in the Islamic banking system, a different relationship exists depending on the nature of the product. For example, murabahah financing is a trading contract, while mudarabah and musharakah involve participatory contracts that are founded on equity-based financing contracts. Thus, to ensure that the contracts associated with the transactions are not against Shari’ah, the process of product innovation in IFIs is more rigorous.

Various underlying Shari’ah principles are used. This again requires a huge amount of non-financial information related to Shari’ah issues. IFIs have to go through more processes than conventional in order to get approval for product introduction. In expressing his view related to product innovation, a senior finance manager for an Islamic bank said:


Whenever we want to introduce a new product we cannot just show one piece of paper to the Shari’ah committee saying this and that with modus operandi that is very skeleton [. . .]. Now it is going to be a thick document, to the extent that the operation manual also has to be vetted through by the Shari’ah committee.

In equity-based financing, Islamic banks need to be selective in choosing their clients as the returns are not guaranteed. In dealing with mudarabah financing, the Head of Finance for an Islamic bank stated: We analyze documents closely at the application stage [. . .]. Once financing is approved, we review their business performance yearly [. . .]. It is purely business and indirectly on Shari’ah [. . .]. When non-compliance issue arise, then we will report.

Furthermore, in musharakah financing, once a partnership has been established with the client, Islamic banks have to participate directly in the business. Aside from the constant monitoring conducted to ensure that business activities are in accordance with Shari’ah, IFIs must ensure that the business activities provide the expected return to both parties. In making business decisions both parties have to consider market, economic and technological factors, which are all external information. Business decisions are also made based on the forecasting of information. As for the Islamic insurance business, management has to monitor funds collected from customers and certify that they are invested in Shari’ah compliant businesses. Thus, more external and future information is required to ensure that operation and day-to-day activities of the IFIs are in accordance with Shari’ah. When talking about investing their funds, the Senior Vice President for Finance and Administration for an Islamic Insurance company stated: If we want to invest in the stock market, we only invest in the Shari’ah approved counters. Like in the money market, if we want to invest in banks, then we have to go to Islamic banks. We cannot invest in the conventional banks. And for bonds, we have to buy suku¯k. Investments must be Shari’ah certified.

4.2 Timeliness The empirical findings from the survey reveal that IFIs use more timely information than their conventional counterparts. A possible explanation for this is quite possibly that IFIs take a partnership position (Greuning and Iqbal, 2007). Furthermore, in Islamic banks, deposits are not based on guaranteed return but based on profit sharing, with a fixed amount on the asset side and a varied amount on the liability side. If profits are overly distributed, then banks may have insufficient funds to meet their obligations. Thus, calculation on profit distribution has to be prepared and submitted monthly to the Central Bank. According to the Head of Finance for an Islamic bank: We have to submit our profit distribution report to Bank Negara every month. This is the biggest and the most comprehensive information that we have to gather but conventional banks are not required to do this.

MAS in Malaysia

167

JIABR 2,2


168

The same view was echoed by the Assistant General Manager Finance of a bank offering Islamic financial products only: Deposits are taken under murabahah and the rates are not fixed unlike the loan. So the income side is fixed. What happens if next year there is an economic crisis? The rate of return on deposits increases, but income is fixed. Then margin will be reduced. Thus, we must have sophisticated information to simulate all these scenarios.

With timely information, decisions on profit distribution can be made effectively and the possible mismatch of assets and liabilities can be monitored closely. Another possible reason for this is the size of the IFIs themselves. The IFIs in this study are mostly smaller than conventional FIs and in smaller organizations, bureaucracy can be expected to be lower. With advances in information technology, information can be stored and retrieved quite efficiently. 4.3 Integration Consistent with Islam et al. (2000), the findings of this study suggest that IFIs use more integrated information than conventional IFIs. IFIs use information about the activities of the various departments within the firm alongside information on the impact of decisions on them (Chang et al., 2003; Bouwens and Abernethy, 2000; Chia, 1995). The issue of Shari’ah compliance in product innovation gives a possible explanation for these findings. Product innovation requires the integrated effort of various departments; including the SSB, product development, legal, marketing and finance. IFIs have to make sure that the contracts associated with the new products conform to Shari’ah. The need for more integrated MAS in IFIs is increased because all transactions are monitored by SSB to ensure Shari’ah compliance (Islam et al., 2000). In fact, with Shari’ah audit coming into practice, highly integrated MAS will be required so that compliance throughout the value chain can be easily tracked. When describing their information system, the Senior Vice President of a new Islamic insurance company remarked: Ours is a full package system starting from the point of sale. We have the package which I think other insurance companies do not have [. . .]. The advantage of our system is that when they key-in at the front line, it will be updated automatically in the General Ledger system.

4.4 Aggregation The findings of this study also suggest that IFIs use more aggregated information than conventional FIs. The aggregation of information by product is required by IFIs in calculating their capital charge for risk management. Under the capital adequacy ratio (CAR) requirements, IFIs have to identify the Shari’ah concept of each product because the weight ratio for each product varies according to whether the products have collateral or not. In explaining this new development, the Senior Finance Manager for an Islamic bank stated: Our system must now have new features regarding our products. Previously we disregarded the Shari’ah concept. We did not put any indication as whether it is BBA, murabahah, etc. [. . .]. Now, if you have a housing loan under BBA and musharakah, you cannot join them together because they are based on different concept.

For Islamic insurance operators, aggregated information is very important in evaluating potential investment and also in monitoring the performance of the

companies where the funds are invested. On this issue, the Chief Financial Controller for a foreign Islamic Insurance company noted:


When we invest, we have a system in place to monitor the performance of the investment. If we go to the equity market, we have to make sure that we can manage them [. . .]. Now it is very difficult to follow each company individually. So we make use of those indices available such as the Dow Jones [. . .]. We also rely on the Securities Commission’s lists of Shari’ah approved counters.

The empirical findings from the survey was supported in the interviews, which revealed that in order to be Shari’ah compliant, IFIs rely on a broader scope of information in addition to the traditional financial and quantitative nature of accounting information. The empirical findings from both the survey and the interviews also reveal that IFIs use more integrated and aggregated information than conventional FIs. In addition, IFIs are expected to be more transparent in reporting and consequently require more integrated and aggregated information that covers a wider scope of information. Realising that riding on the parent’s company conventional system may not be sufficient for Islamic banks, one Islamic subsidiary converted their accounting system into a new system called iMAL. According to the senior finance manager of this company, iMAL will be more suitable for Shari’ah compliance objective and he claimed that the company will be the first to use this system in Malaysia. Some of the big Islamic banks in other countries like the Kuwait Finance House have also started using the system. In explaining about this solution, he said: The conventional system is not suitable for Islamic banks because many calculations such as profit are different. The terms used are also different. Conventional FIs use the word “loan” and “interest”, but Islamic banks call it “financing” and “profit”. The implementations are also different.

In implementing this project, the bank gets advice from a group of experts. According to the senior executive who handles the project: There are two main characteristics of iMAL. First, it involves a real time posting, so when the users key in the transactions they can see the result straight away [. . .]. The Islamic products are already in the chart of accounts and the chart of accounts has been categorized into for example murabahah, wakalah,, etc. It is suitable for Islamic banking system since the Shari’ah concept is already in the chart of accounts.

The iMAL can be integrated into the customer information system and information about the customers can be extracted easily. In fact, the iMAL system can be linked to many other application systems to extract the information required for decision making. He stressed that: The integration will be more universal and comprehensive, where you can use the system for budgeting, for employees’ attendance, for stock taking of stationery, time taken to serve a customer, etc.

Besides having real-time posting, where information can be provided in a timely manner, the second characteristic highlighted by the senior executive is the capability of the system to navigate into detailed information. In explaining this, he stated: The uniqueness of the system is that you can drill down. Let’s say at 11.30 am you have deposits amounting to RM1 million, and in the next 10 minutes the amount increases

MAS in Malaysia

169

JIABR 2,2

to RM2 million. Then the headquarters will know from which branch or customer the increment originated. Posting and results are real time.

Owing to the high linkages and the real-time processing, aggregated or summarized information by products, by branch or by time period can be obtained easily and in a timely manner. Related to this, he added:


170

If the Central Bank wants a report, we just select a date, at a finger tip we have all the information required.

Thus, this iMAL system is an example of a system that is able to capture a broader scope of information. At the same time, it is built on Shari’ah rules and regulations. It can be integrated or easily linked to other application systems, thus banks can easily obtain the information required to support their operations. The integrated and real-time posting enables summarized or aggregated information to be retrieved in a timely manner. Hence, iMAL fits the criteria of a sophisticated MAS. Besides complying with the Shari’ah and other regulatory requirements, the system can bring a competitive advantage to the IFIs. The availability and use of sophisticated information allows managers of the IFIs to make more effective decisions, which in turn improves organizational performance. The above findings are to be expected, as MAS is part of a wider MIS (Upchurch, 2002; Bouwens and Abernethy, 2000). MAS can also be viewed more broadly (Mia, 2000; Hussain, 2000) and there is not much difference between the information provided by a specific MAS and that provided by other MISs. With the advancement in IT, many organizations are adopting strategic enterprise management systems in which management information across all functions and disciplines is integrated into a common database (Brignall and Ballantine, 2004). Hence, MAS has become part of the enterprise management system. Thus, as found in this study, MAS may not be the only major factor that contributes to the difference between the MAS of IFIs and those of conventional financial institutions. The difference might be due to the difference in the overall MIS of the organization. The MIS for IFIs might be broader in scope and more integrated to cover Shari’ah compliance issues (Islam et al., 2000). 5. Conclusion The aim of this study has been to determine whether there is any difference between the MAS of conventional and IFIs. A survey on financial institutions in Malaysia was conducted and semi-structured interviews were carried out to gain further insights into the survey findings. The study shows that IFIs use MAS information that is broader in scope, more timely, more integrated and more aggregated than conventional financial institutions. In order to meet both religious and business objectives, IFIs require sophisticated MAS information, which is available through the use of strategic management accounting (SMA) tools and techniques such as the BSC and ABC. The use of these techniques brings a competitive advantage to IFIs, as SMA places customer needs at its top of priority. The study has illustrated that IFIs normally develop and adopt an integrated accounting and overall enterprise system. With this comprehensive enterprise system, the management accounting function is integrated with other functions in the organization. This study is subjected to the usual limitations associated with questionnaire-based survey research. It is important to interpret the results in the light of the study’s limitations.


This study covers only financial institutions in Malaysia, thus the findings cannot be generalized to other enterprises or to other countries. As for the respondents, this study involved top management as the sole respondents and representatives of their respective organizations. Nonetheless, the information sought is not beyond their knowledge as top management are normally well-versed in the diverse aspects of the organization. Future research can consider collecting data from individuals at various levels of the organization. This study has provided an avenue for further investigation on issues of MAS for IFIs. A future focus might be on how MAS helps in strategic and operational decision making by considering the need for Shari’ah compliance. Researchers might also focus on the role of MAS in promoting transparency and accountability in IFIs. A case study approach would be able to provide a deeper and richer understanding of this issue. In addition, future studies might examine the significance of supporting activities (departments) in the delivery of Islamic financial products. It is also worth including for further study the need to explore value chain components in IFIs, and how they help contribute to the value of the products they offer. Note 1. Conventional bank that offers Islamic financial services under the interest-free banking system.

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Appendix Please indicate the extent of use of the following information provided by your management accounting systems (MAS) for decision making, planning and control by circling the appropriate number. MAS INFORMATION CHARACTERISTICS (The information system should include: files, reports, documents, minutes, accounts, and notes, available for decision making and provided within the organization)


Not at All SCOPE (a) Information which relates to possible future events (e.g possible changes in government regulations). (b) Quantification of the likelihood of future events occurring (e.g., probability estimates). (c) Non-economic information, such as customer preferences, employee attitudes, labor relations, attitudes of government and consumer bodies, competitive threats, etc. (d) Information on broad factors external to your organization, such as economic conditions, population growth, technological developments, etc. (e) Non-financial information that relates to the productivity information such as hours of computer breakdowns, employee absenteeism, customer services, etc. (f) Non-financial information that relates to market information such as market size, growth share, etc.

TIMELINESS (a) Information that is provided immediately upon request. (b) (c) (d)

Information that is given automatically upon its receipt into information systems or as soon as processing is completed. Reports that are provided frequently on a systematic, regular basis such as daily reports, weekly reports, etc. Relevant information that is reported without delay after occurrence of certain event.

INTEGRATION (a) Information on precise targets for the activities of all departments within your organization.

To a very great extent

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5

1

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3

4

5

1

2

3

4

5

1

2

3

4

5

1

2

3

4

5

1

2

3

4

5

Not at All


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2

3

4

5

1

2

3

4

5

1

2

3

4

5

1

2

3

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5

Not at All


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5

(b)

Information that relates to the impact of different departments’ decisions on performance of overall organization.

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5

(c)

Cost and price information of the departments in your organization. Information on the impact of your decisions throughout your organization, and the influence of other departments’ decisions on your area of responsibility.

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5

1

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5

(d)

MAS in Malaysia

175

JIABR 2,2


176

AGGREGATION

Not at All


(a)

Information provided on the different sections or functional areas in your organization, such as marketing and production, or sales, cost, or profit centers.

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5

(b)

Information on the effect of events on particular time periods (e.g. monthly/ quarterly/annual summaries, trends, comparisons, etc.).

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5

(c)

Information which has been processed to show the influence of events on different functions, such as marketing or services associated with particular activities or tasks.

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5

(d)

Information on the effect of different departments’ activities on summary reports such as profit, cost, revenue reports for the overall organization. Information in formats suitable for input into decision models (such as discounted cash flow analysis, incremental or marginal analysis and credit policy analysis) Information in forms which enable you to conduct “what-if” analysis.

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5

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(e)

(f)

Corresponding author Siti Zaleha Abdul Rasid can be contacted at: [email protected]

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