Environmental, social and governance (ESG) considerations are now at the forefront of investment decision-making, prompting a convergence with Islamic finance, a sector that has long prioritised ethical and socially responsible practices. The Star reported (May 9) that Malaysia will remain the biggest Islamic banking market in Asia-Pacific, accounting for about two-thirds of the sector’s total assets of about US$400bil. Rizal: AZAM represents the latest offering from Alliance Islamic Bank’s social financing model. It combines the principles of Islamic finance and social impact to uplift and empower the asnaf community.In a statement by S&P Global Ratings, the credit rating agency said the launch of new Islamic banks in Malaysia and other Asia-Pacific markets this year could improve access to financial services for underserved regions and segments, such as small businesses. As both ESG and Islamic finance (IF) prioritise ethical considerations and social responsibility in financial decision-making, it is timely with the growing global demand for investments that generate positive environmental and social impact alongside financial returns. While both are distinct, IF and ESG share a common ground in their emphasis on ethical and responsible financial practices. Shared values, different approaches Islamic finance prohibits involvement in activities deemed unethical or harmful (including those related to alcohol, gambling and even arms dealing). IF typically relies on specific Shariah-compliant financial instruments and structures, such as sukuk (Islamic bonds) and mudarabah (profit-sharing partnerships). ESG, on the other hand, focuses on evaluating a company’s environmental, social and governance performance using a range of metrics and frameworks such as Bursa Malaysia’s enhanced Sustainability Reporting Framework which will support businesses to adopt international best practices for ESG-related disclosures. In tandem, all IF institutions are guided by the following in Malaysia: > Islamic Financial Services Act 2013 (IFSA 2013) > Bank Negara > Securities Commission Malaysia (SC) These three work together to ensure that IF institutions operate in a stable and efficient manner while assuring that Islamic products and services are in accordance with Shariah law. As a subset of Islamic finance, Islamic banking differs significantly from conventional banking in its underlying principles and operational practices. While conventional banks rely on interest-based lending and borrowing, Islamic banking operates on the basis of Shariah-compliant contracts, which are rooted in ethical and social responsibility principles. These contracts can involve profit-sharing, leasing and other risk-sharing mechanisms, ensuring that both the bank and the customer share in the rewards and risks of the investment or financing activity. This approach offers unique tools and structures that can contribute significantly to achieving ESG goals. For instance, sukuk are structured to comply with Shariah principles, often financing projects with positive environmental or social impact. A closer look at IF instruments On the other hand, Islamic microfinance schemes have also been able to provide access to financial services for marginalised communities, promoting entrepreneurship and helping to alleviate poverty.Last year on Dec 8, Alliance Islamic Bank Bhd (AIS) introduced the Alliance Islamic Bank Zakat Microfinancing Programme (AZAM) to promote financial inclusion and equitable development by providing accessible and affordable financing opportunities. The bank aimed to tackle the estimated financing gap of RM90bil for micro, small and medium enterprises (MSMEs). Harnessing zakat funds is crucial to bridge the financing gap for underserved business owners in the bottom 40% (B40) segment and AZAM does it by distributing it via microfinancing, employing a revolving fund structure. This model sets a precedent for effectively utilising zakat to aid asnaf microentrepreneurs. The Memorandum of Understanding between Alliance Islamic Bank and AIM was signed by AIS CEO Rizal IL-Ehzan Fadil Azim (second from left) and AIM CEO Mohamed Shamir Abdul Aziz (fifth from left), witnessed by LZS chairman Tan Sri Datuk Seri Syed Anwar Jamalullail (fourth from left) and LZS CEO Mohd Sabirin Mohd Sarbini (far right), AIS chairman Datuk Wan Azhar Wan Ahmad (far left) as well as AIM chairman Datuk Seri Dr Syed Hussian Syed Junid (third from left) AIS’ programme, in particular, operates on the Qard concept (repayment without interest or profit), with repayments channelling back into the pool to support more qualified entrepreneurs, ensuring the sustainability of zakat funds. Following principles of value-based intermediation (VBI), AZAM aims to create a greater socioeconomic impact and achieve Shariah’s intended outcomes by distributing wealth in a just and effective manner. “The programme helps the underserved communities access funding and capital for their microenterprise. AZAM helps generate sustainable source of income and subsequently contribute towards achieving greater economic self-sufficiency and financial independence amongst recipients of the microfinancing,” said AIS chief executive officer Rizal IL-Ehzan Fadil Azim to StarESG. “The revolving fund structure of AZAM is key to its long-term sustainability. By requiring repayments, the funds are redistributed to new asnaf microentrepreneurs. Through this method, zakat financing is utilised repeatedly, providing multiplied and continuous benefits to asnaf microentrepreneurs. This approach ensures that the programme remains sustainable and continuously supports new asnaf microentrepreneurs, amplifying the positive impact on the asnaf community over time,” he added. So far, AIS has allocated RM225,000 to approximately 45 asnaf microentrepreneurs, with each beneficiary having received up to RM5,000 to start or grow their businesses. The zakat microfinancing programme launched by AIS is one example between the convergence of Islamic finance principles with ESG-related social impact initiatives. Rizal added: “Regarding environmentally sustainable practices, AIS supports initiatives that encourage sustainable and responsible business operations among the microentrepreneurs it assists. “For example, campaigns like the ‘Empowering Single Mothers’ and ‘Reducing Waste’ highlight our commitment to environmentally sustainable practices. These initiatives focused on supporting B40 women, particularly single mothers, promoting economic inclusion while encouraging waste reduction.” The zakat funds help provide ethical and sustainable financing to microentrepreneurs, while simultaneously contributing to poverty alleviation, financial inclusion, and economic empowerment, aligning with the core values of Islamic finance and the UN Sustainable Development Goals (SDG 1: No Poverty, SDG 8: Decent Work and Economic Growth and SDG 10: Reduced Inequalities). Transparency remains key Transparency and reporting play a crucial role in ensuring that IF investments reach the intended communities and generate the intended social and environmental impact.This is particularly important in the context of Malaysia, where the IF industry and ESG investing is growing rapidly and attracting increasing international attention. Shariah compliance requires Islamic financial institutions to provide clear and transparent information about their products and services, including the underlying assets, profit-sharing ratios and risk management strategies. These include regular independent audits of financial statements and ESG reports; adoption of standardised ESG reporting frameworks; and enhanced disclosure mechanisms for project selection criteria, impact assessments, and risk management strategies. Technology-enabled reporting platforms and stakeholder engagement through dialogue and feedback mechanisms can further promote transparency and accountability, ensuring the right groups receive the right aid. Robust reporting mechanisms are essential to avoid greenwashing or “greenhushing”, which can undermine the credibility of ESG initiatives and erode public trust. So, how do these institutions make sure that the money goes where it’s supposed to? For AIS, they work with Amanah Ikhtiar Malaysia (AIM), the largest microfinancing institution in Malaysia, to help oversee several aspects of AZAM including the screening of applicants and providing the infrastructure for fund disbursement and collections. Besides just financial assistance, Rizal said that AIM also helps to equip the beneficiaries with relevant skill sets through their capacity-building programme, which includes workshops on financial planning and entrepreneurial skill development. These initiatives foster sustainable growth and resilience, ensuring that beneficiaries are not only financially supported but also empowered to manage their businesses effectively. Another key partner in the AZAM programme is Lembaga Zakat Selangor (LZS) who plays a critical role in verifying the eligibility of the applicants of the programme too.> Part two of the cover story on page 9.
