Istisna’a, otherwise known as a manufacturing sale, is a special type of contract signed by parties to manufacture or create an object, which is non-existent at the time the contract was entered. This contract under Islamic finance originated from the customs and practices of Arabs in the classical era of Islam, where two parties are permitted to contract upon a non-existent object, with specific clarifications, for the manufacturer to deliver to the customer or client.
Istisna is now one of the most efficient Islamic finance contracts explored in the Islamic finance industry, to facilitate the infrastructural growth of society. Hence, individuals and/or companies now enter the Istisna’a contract over a non-existent object with a clearly specified description, to be delivered at an agreed time. This contract has, therefore, led to the proliferation of constructed real estate properties, the manufacturing of chattels -like cars, clothing lines, and other valuable commercial items.
From the foregoing, it is noteworthy that there are two broad categories, of Istisna contract under Islamic finance, which are classic Istisna and parallel Istisnaá.
The Classical Istisna’a is a direct contract between a manufacturer and the customer/consumer. However, parallel Istisna’a involves three parties –the contractor, the financier, and the customer. The financier contracts with the contractor for the latter to construct/manufacture the object, on the basis that the contractor guarantees the financier of successful sales of the object to third party(ies).
Parallel Istisna’a, unlike its Classical Istisna’a counterpart, is characterized by inherent risks, such as Inflation risk, Repayment risk, and Performance risk amongst others. This can however, be ameliorated by the existence of an Advance Performance Guarantee (APG) and/or Bank Guarantee (BG) given to the financier by the contractor, to cover the exposures of the financier in the contract.
On parallel Istisna’a, the buyer of the manufactured object must be able to pay as and when due, otherwise the financier will be faced with repayment risk. That is, where the object has been created and the contractor is unable to sell successfully to buyers or there is delayed payment from buyers to the contractor, the contractor would not be able to repay the financier the financed sum owed to the financier.
The period or tenure of a Parallel Istisna’a contract is advised to be as short as possible to avoid risks, such as delay in delivery of the goods from the manufacturer to the customer at maturity; the manufacturer delivers defective or inferior goods; cost incurred by the manufacturer turns out to be higher than the anticipated price; ownership cannot be possessed if the item is not delivered.
Istisna’a contracts are of unquantifiable value. It can be used for home financing facilities, amongst other things.