When the Indonesian financial authority OJK decided to consult the religious authority about the legality of sharia-compliant fintech startups late last year, it was an early indication of a perceived rise in the sector, following the lead of neighbour Malaysia.
The growth of sharia fintech in Indonesia has been rapid. In fact, the country’s Sharia Fintech Association, which was established only in February, already has 28 members. This number does not include the conventional players that have, or are planning to, launch sharia products to tap the Muslim market.
The interest is understandable given the size of the market for Islamic fintech. The key statistics are these: as many as 88 per cent of Indonesia’s population is Muslim and its unbanked population is as high as 64 per cent.
According to a 2017 Sharia Fintech Business Study published by state telco firm Telkom Indonesia, the market size for sharia lending is worth up to Rp 7.3 trillion ($525 million).
The buzz surrounding sharia fintech has caught the attention of both the financial and religious authorities and has prompted both parties to prepare a fatwa to serve as a legal basis for operations of sharia-based fintech firms.
“I see fintech sharia as a solution to the huge demand for sharia financing, which is hindered by the lack of physical outlets of sharia banks,” said Adiwarman Karim, a member of sharia division of the country’s religious authority DSN-MUI, who is involved in the discussions with the OJK on the fatwa.
However, despite the vigour and optimism among sharia fintech players in both countries, venture capital firms still seem hesitant about pouring capital into the sector.
Sharia Fintech Association chairman Ronald Yusuf Wijaya said that it was normal for sharia fintech startups to start off slow as educating the market is going to be a key task. Also, sharia fintech is, by nature, much more meticulous when it comes to its financing procedures and selective in its decision making. This makes it difficult for players to compete with conventional fintech firms in terms of speed and growth.
He concedes that at the moment, sharia fintech players have yet to attract the attention of venture capital firms. He puts this down to a lack of traction from players who are still within their first year of operation.
“Some international VCs have shown interest in sharia fintech, but they are looking for those that are already fairly developed,” said Wijaya, who is the co-founder and country head of regional Islamic fintech firm Ethis Ventures in Indonesia. “I’m optimistic that in 2-3 years, sharia fintech can attract interest from local and international VCs.”
Interestingly, however, the concern from VCs may be bigger than just mere traction.
Mandiri Capital Indonesia investment head Aldi Adrian Hartanto believes that sharia fintech startups would need a more convincing business model and market approach in order to attract investment. Focusing on sharia market alone, for one, is not seen as a strong differentiator amid tight competition in the country.
“You cannot just say that we are a sharia-compliant company focusing on sharia product as your main differentiator or advantage. It is not difficult for other players to have an Islamic product as well, while they also have their core (conventional) products too,” he said.
Hartanto’s comment was in acknowledgement of a few of Indonesia’s notable fintech players who are looking to tap the sharia market. P2P startup Investree has announced the launch of its sharia product, while peer UangTeman has also shared plans to venture into the sharia segment.
Mandiri Capital’s own fintech portfolio company Amartha claims to offer financing using sharia contracts, although the company does not label any of its products sharia-compliant.
Hartanto added that companies that do wish to focus solely on the sharia segment must ensure that they really understand the market and figure out the right approach in order for the business to be sustainable.
Hartanto’s views on sharia fintech seem to be shared by international VCs.
Arshad Ahmed, co-founder and managing director of investment firm Elixir Capital, says that international VC and PE firms based in the US and Europe, in particular, have stayed away from Muslim markets in general as investments in such markets are not seen to offer commensurate returns.
“A small number of VC and PE firms focus on Muslim markets, although not necessarily CIBF (Contemporary Islamic banking and finance (CIBF) or Shari’ah-compliant opportunities. The main reason for this is that reaching and retaining a sizable user base among CIBF or Shari’ah-compliant consumers is a costly proposition that’s viewed as not capable of delivering the multiples or returns that VC and PE funds look for,” said Ahmed, who is also recognized as a leading authority in and critic of sharia-related investment practices.
Like Hartanto, Ahmed said that a fintech startup that can “cross over to the mainstream/ conventional finance” would be more appealing to investors and would find it easier to find VC or PE support.
Malaysia, however, seems to see it differently. The country has made various efforts to provide funding for Muslim-focused tech (also known as TaqwaTech).
Malaysia has previously announced plans to establish the world’s first Islamic venture capital fund in partnership with the Islamic Development Bank (IDB). It has also through MAVCAP, a venture capital company owned by the Finance Ministry, invested in the Meranti Asean Growth Fund managed by Gobi Partners, for which TaqwaTech is one of the key focus areas.
Malaysia was ranked first for Islamic fintech by Bloomberg Intelligence earlier this year based on the number of sharia-compliant fintech startups per market. The UK and UAE were ranked second and third, respectively. Among the findings of the analysis was that that tailored regulation and clarity on rules are key drivers for growth in the sector.
The move by Indonesia’s Financial Services Authority (OJK) to provide a legal basis of operation for sharia-based fintech firms is seen as an early step to facilitate the growth of players in the sector. If such regulatory support is continued and provided Indonesian players are able to find a sustainable business model, it would not be surprising to see Indonesia dethrone Malaysia as the king of Islamic fintech.
“As a function of sheer numbers, of course, Indonesia can overtake Malaysia, and I expect the Indonesians will,” said Ahmed of Elixir. “Indonesians are not afraid to cross over between conventional finance and contemporary Islamic banking and finance (CIBF), a fact that itself is derivative from ‘Indonesia’s less bifurcated regulation scheme’.”