AAOIFI governance standards: Sharia disclosure and financial performance for Islamic banks

Abstract

The uniqueness of Islamic banks (IBs) is shown through compliance with Islamic law (Sharia) which is approved through Sharia Supervisory Board (SSB) and presented for stakeholders by Sharia Supervisory Board Report (SSBR). This study seeks to achieve three main objectives as follows: (1) it identifies the degree of IBs’ transparency in compliance with Sharia and their commitment with the governance standards that issued by Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI); (2) it aims to measure the impact of adoption AAOIFI on the degree of Sharia disclosure; and (3) it seeks to test the economic consequences of Sharia disclosure based on its impact on financial performance. We analyse content of annual reports and websites of 120 IBs across 20 different countries for year 2016. Regression analysis shows compliance level for Sharia disclosure based on our index for SSBR is 53% with higher level compliance for IBs that apply AAOIFI standards comparing with banks that adopting International Financial Reporting Standards (IFRS). Therefore, adopting AAOIFI has a positive effect on enhancing the degree of Sharia disclosure. Moreover, Sharia compliance has a positive influence on financial performance based on both Returns on Assets (ROA) and Tobin’s Q as a robustness test. This study adds value to Islamic accounting literature by being a primary study. There is a lack of research on the topic and this paper measures the consequences of Sharia disclosure over the financial performance of IBs as well as the role of Islamic standards (AAOIFI) in enhancing the image of Islamic banks through supporting their compliance with Sharia.