Definition of mudarabah

Literally, the word mudarabah is derived from the Arabic “daraba” which means travelling for business. Technically, mudarabah is a type of partnership where one party provides capital and the other party provides labour and management skills. So, there are two parties: capital provider and manager. The one who provides capital is called “Rabbul Mal” / Capital provider. And the working partner is called “Mudarib” or Manager. The practice of mudarabah was common in the Arab society before the advent of Islam. The Prophet Muhammad (peace be upon him) himself entered into a Mudarabah contract with Khadijah (May Allah be pleased with her) in pre-Islamic period.

Why mudarabah is allowed?

When Islam came, it approved the practice of mudarabah. Because, mudarabah fulfills the needs of different types of people. On one hand, there are people who have capital, but they lack in entrepreneurial and management skills. On the other hand, there are people who have entrepreneurial and business management skills, but they don’t have capital to do that. The contract of mudarabah enables both parties to enter into a partnership and make profit. The capital provider benefits from the expertise and skills of the manager. Likewise, the manager gets benefits from capital to invest in profitable venture and earn money.

Classification of mudarabah contract from the perspective of work limitations

The mudarabah contract can be divided into two categories from the perspective of work limitations: unrestricted and restricted.

Unrestricted mudarabah (Al-Mudarabah al-Mutlaqah)

It is a form of mudarabah contract where the capital provider doesn’t restrict manager and give him full freedom in terms of capital administration. In this case, the manger has no restriction in business type or location etc. He has a luxury to invest the money and do whatever he wants based on his expertise and experience. In other words, he is authorized to do anything which is done in normal course of business. But if he wants to do some extraordinary activity which is not in the normal routine of traders, then he has to get prior permission from capital provider.

Restricted mudarabah (Al-Mudarabah al-Muqayyadah)

It is a form of mudarabah contract where the capital provider restricts manager to a particular type of business or to a particular location. In this case, the manager has to work or invest capital within the given boundaries. The capital provider has a right to put any condition which he thinks appropriate as long as that would not constrain manager from his basic operations.

Now we need to know what are the basic conditions and characteristics of mudarabah contract and how it works in modern Islamic financial institutions. We will look at these questions in our next article in sha Allah.