The Roundtable on Sustainable Palm Oil certification (RSPO) was introduced in November 2008 as a credible international standard to promote the growth and use of sustainable palm oil products [3]. As the second largest palm oil producer (32%) and exporter (37%) in 2017 [4], Malaysia launched her own certification in 2013 namely, the Malaysian Sustainable Palm Oil certification (MSPO). The MSPO helps to improve and implement the production of Malaysian sustainable palm oil. It is a stepping-stone on the path to Malaysia’s long-term commitment to the sustainable production of palm oil [5]. The MSPO also helps to prove that the Malaysian palm oil industry does not adversely affect the environment and mitigates the pressure from the anti-palm oil lobbyists and Western NGOs [6]. Therefore, the Malaysian government has announced mandatory MSPO certification by the end of 2019.

Due to the importance of the palm oil industry and the high demand for palm oil from all over the world, many firms have taken the opportunity to become one of the palm oil players. In 2017, most (74.4%) of the palm oil companies complied with Shariah[footnoteRef:3]. Given their Shariah-compliant status, these companies should also fulfil the Shariah-compliant manners as well as the higher objectives of Shariah (maqasid Shariah), the fundamentals of which are the preservation of religion, life, mind, offspring and wealth [7-8]. In addition, the preservation of the environment is also fundamental for appreciating the role and place of the higher objectives of Shariah in the modern era of globalisation [9]. The environment is a gift to humankind by God and people are bound to protect it from pollution or damage [10-12]. Therefore, it is important for them to adopt the sustainability certification to create a balance between earning profits and fulfilling the objectives, especially regarding the preservation of life and the environment during the production of palm oil. Indeed, Islam permits people to earn profits on the condition that the business does not affect the maqasid Shariah [13]. [3: The word of Shariah refers to Islamic religious law based on al-Quran and Hadith.]

However, the problem is that only half of Sharia palm oil companies have adopted at least one sustainability certification. This is illustrated by the fact that companies with sustainability certifications – either the RSPO and/or the MSPO certification – account for only 51.7% or 15 companies. As at 2017, six companies had adopted both certifications, while four companies had RSPO and five companies complied with the principles of MSPO. This indicates that approximately 48.3% or 14 companies have yet to obtain a certificate. The non-certified companies may have concerns regarding the additional operating costs of certification. This is because the costs associated with the certification might affect the firms’ profitability [14]. Moreover, the current announcement regarding mandatory MSPO certification has highlighted the possible additional costs of compliance with the requirements [15] which would reduce firms’ profitability. For example, the cost of adopting MSPO and RSPO is approximately RM3,000 to RM4,000 per hectare [16]. Meanwhile, the average membership fee for RSPO is RM9,583 biannually [16-17]; the MSPO is currently subsidised. The non-adoption of sustainability certification may signal a companies’ ignorance about environmental preservation which affects their Shariah-compliant status. Therefore, the question is whether Shariah-compliant palm oil companies will remain profitable after accounting for the cost of sustainable certification.

This study will help to promote sustainable practices among Shariah-compliant palm oil companies through the adoption of sustainability certification and help to provide a better understanding of certification. This will lead to the increase number of companies with certification and directly contribute to higher production of certified palm oil in Malaysia. Previous studies on the relationship between sustainability certification and a firms’ profitability are inconclusive. The empirical evidence in the literature shows a positive relationship between certification and profitability [18-20], while some studies find no relationship [21-24]. Moreover, there is also very few studies have provided quantitative evidence empirical research focuses specifically on the RSPO and MSPO in the Malaysian context. Previous studies have examined empirically on the effect of sustainability certification towards profitability, but it was not in palm oil industry, MSPO and Malaysian context (see, Gijs et al. 2015; Segarra-Oña et al. 2012 & Ferron 2012). Hence, this study intends to fill the gaps in the research by examining the effect of RSPO and MSPO certification on the profitability of Shariah–compliant palm oil companies in Malaysia.

The organisation of this paper is as follows. Part one describes the research background, problem statement, objective, and significance of the study. Part two presents the review of the relevant literature. The methodology and findings of this study are discussed in parts three and four. Finally, part five provides the conclusion and some implications of the study.

2. Literature Review

Islamic principles (maqasid Shariah) guide humankind in managing the earth and utilising all the resources of the land to ensure protection for present and future generations. The principles direct and protect human life regarding the preservation of life, religion, lineage, wealth, and intellect [25]. The preservation of the environment is an additional fundamental that appreciates the role and place of the higher objectives of Islamic law in the modern era of globalisation [9]. As the steward (khalifah) of the environment, conservation is important and is related to the preservation of life. Alongside performing religious duties such as praying, people must sustain the relationship between God, humanity and the environment (11, 26]. Therefore, people must preserve the environment and create peace and trust (amanah). This is highlighted in Islam, as previously mentioned, in the Surah ar-Rum verse 41[footnoteRef:4]. Preservation of the environment is a religious practice in all communities as it is seen as one of the most important ethical systems [27]. This is because, the religious belief system provides more influential guidance regarding moral values and for shaping individual attitudes towards the environment [28-29]). [4: Surah Ar-Rum verse 41 which means:
‘Corruption has appeared throughout the land and sea by (reason of) what the hands of people have earned so He may let them taste part of (the consequence of) what they have done that perhaps they will return (to righteousness)’.]

A study by Barom [30] reveals that social responsibility, including concerns about environmental protection, is one of the important matters for investors when considering Islamic investments along with jurisprudence (fiqh) injunctions and other economic aspects. Moreover, Ibrahim et al. [31] opine that the environment must be sustained first before sustainable economic achievement. This is supported by [32] and Scheyvens et al. [33], who say that environmental degradation is significant to economic reduction. The author stresses that unmanaged land and water violates the economic principle and economic sustainability is unachievable. This is in keeping with the view of Alserhan [34] who says that where Islam requires traders, society at large and individuals must strike a balance between profit and social responsibility.

However, a study by Lim et al. [35] found that the production of Malaysian palm oil is still below the sustainability threshold. This is because there are some companies who are unable to demonstrate a high level of environmental performance due to significant investment and insurance cost [36]. Non-compliance with environmental criteria could potentially expose the companies with a legal liability, financial responsibility, property damage and loss [37]. Nawawi et al. [38] find that companies ignore the environmental protection issues due to the high cost of treatment. The study suggests that those companies that operate by closely following the environmental regulations are given tax incentives for their effluent treatment processes to motivate them to operate sustainably. Meanwhile, Kadarusman and Herabadi [39] opines that a reward system able to encourage more parties to comply with RSPO principles. Thus, policymakers play a significant role in determining the proper policies that reduce the environmental impact of the palm oil industry [40].

Previous studies prove that compliance with an environmental regulation such as the RSPO and MSPO positively affects the financial performance of the firms. A recent study by Preusser [41] finds a positive correlation between the area of plantation certified by sustainability certification and crude palm oil (CPO) price. Specifically, those firms with at least 40% of their plantation area certified by RSPO have a higher CPO price compared to those firms with 20% or less certified areas. Joshua et al. [42], in their analysis of incremental financial costs and benefits of RSPO compliance, indicate that RSPO-certification reduces the cost of sales expenses and labour turnover by 6%, and improves revenue. This finding is consistent with that of Gijs et al. [20] where the Forest Stewardship Council (FSC) certification has a positive impact on the net present value of tropical forest producers and small/medium growers. The companies receive significant benefits by having FSC certification such as tax incentives, research fees and government support.

Also, Humphries and Kainer [43] show that FSC certification provides better opportunities for forest operators in terms of their access to European markets. Anderson et al. [44] state that companies’ consider subscribing to sustainable certification due to the export and governmental requirements as well as to improve the quality of their products. This is because international markets consider the environmental management system (EMS) certification to be more important than the price and quality of products. Besides, since awareness of the issues surrounding environmental sustainability have increased, investors are more interested in investing in companies who make their sustainability practices public. Ainia and Deddy [45] support the previous finding of a positive correlation between the disclosure of sustainability practices with the financial profitability of firms. This is because by following sustainability practices a company experiences a positive impact on their operations, profits, and investors’ trust, as well as reducing the risks to the reputation of palm oil companies [46]. This is supported by Omar et al. [47], Hussein et al. [48] and Zhao et al. [49]. However, there are some studies found that economic performance had no relationship with sustainability certification like Rahman et al. [22], Segarra-Oña et al. [23], Nor et al., [24], Yusof and Yew [14] and Shahimi et al. [50].

3. Methodology

This study applies a quantitative research approach by empirically analysing the effect of sustainability certification on the profitability of Shariah–compliant Malaysian palm oil companies. The study uses panel data estimation because the dataset of the study is a cross-sectional and time-series observation. For the empirical model, the study uses the return on assets (ROA) as the dependent variable as a proxy for the firm’s profitability. Wahab and Ramli [51]. The ROA is the most popular measurement to calculate the profitability of a firm [52-54]. A high ROA figure illustrates that a firm is efficient in managing their assets to earn higher profits. It also provides clearer information regarding the financial strength of firms for the long-term [55-57]. The ROA is calculated by dividing the earnings before interest tax (EBIT) by the total assets. Using the EBIT as the nominator rather than the net profit in the ROA, is useful for the sample palm oil companies who have different financing structures. Since the sample in the study consists of firms with foreign shareholders i.e. United Plantation Bhd. and IOI Plantation, this ratio allows for a more accurate measurement of profitability. This is because the nominator of the EBIT ignores the tax burden and interest expenses. This ratio also provides a pure measure of the true return on assets [58]. Hence, the EBIT is more appropriate for measuring the ROA [59].

In addition, this study introduces a new independent variable -SUSC- a proxy to sustainability certification which serves as the independent variable under investigation. SUSC is a dummy variable which takes the value of one for a Shariah-compliant firm with at least one sustainability certification – either the RSPO and/or the MSPO certification – otherwise it is 0. The SUSC is an important piece of data since it provides information regarding the status of a firms’ sustainability certification..A dummy variable is an important piece of data and it is valid to incorporate it in a regression model Gujarati [60]. A similar measurement was also employed by Heras-Saizarbitoria et al. [59] in their study of the impact of ISO certification on financial performance. The other independent variables are leverage (LEV), liquidity (LIQ), firm size (SIZE), sales growth (GROWTH), and the average price of crude palm oil (P) is the control variable [61-64]. The control variable is important for producing reliable results on the effect of the independent variable on the dependent variable. For example, a larger firm is more efficient at utilising their resources to increase profits than a smaller firm. The regression model used in this study is shown in equation (1).

ROAit = ?0 + ?1SUSCit + ?2LEVit + ?3LIQit+ ?4SIZEit + ?5GROWTHit + ?6Pt + ?it (1)

3.1. Data and Sources of Data

The sample used in this study is the Shariah-compliant palm oil companies listed in Bursa Malaysia from 2013- 2017. The study focuses on the palm oil industry because it is important for Malaysia’s economy and income. Most of the palm oil companies in Malaysia (74.4%) are Shariah-compliant and their status was obtained from the List of Shariah-compliant Stock issued by the SAC in November 2017. The period of study begins in 2013 which was when the MSPO was introduced. Details of the Shariah-compliant membership of the RSPO and MSPO were obtained from their websites.

3.2. Data Analysis

Multiple regression analysis is conducted to examine the significance of sustainability certification on the profitability of Shariah–compliant Malaysian palm oil companies. As the data contains time series and cross-sectional observations, a panel data model is applied and estimated using Stata 12.

4. Results and discussions

4.1. Descriptive Statistics Analysis

Descriptive statistics analysis explains the data distribution by reporting the mean, standard deviation, skewness, kurtosis, and Shapiro-Wilk test. The data will normally be considered distributed if the value of skewness is equal or near to 0 and the kurtosis is equal or near to three [65]. In Table 1, the results show that all the variables have values of skewness and kurtosis near to zero and three, subsequently, except for LIQ and GROWTH. It is important to have normality in data distribution as it allows for reliable explanation and inference [66]. The findings indicate that the Ordinary Least Square (OLS) estimation method could not produce a better result. Therefore the Generalised Least Square (GLS) method is more appropriate to use in this study [60].

Table 1: Descriptive Statistic Analysis

4.2. Pearson Correlation Matrix

Correlation analysis is used to explain the strength and direction of the linear relationship between the variables. A multicollinearity problem exists when the correlation coefficient is larger than 0.8 [67]. Pearson correlation analysis is used to explain the strength and direction of the linear relationship between continuous variables. Table 2 shows that the correlation coefficient of each variable is well below 0.8 which indicates the absence of a severe multicollinearity problem. Hence, all variables can be used for estimation.

Table 2. Pearson’s Correlation Results

.

4.3. Findings

The White test and the Wooldridge test are conducted to detect heteroscedasticity and autocorrelation problems. The result of the White test shows that the value of the chi-square (chi2= 7.27, p-value = 0. 9999) is not significant at 1%. Hence, the study fails to reject the null hypothesis which indicates that there is no heteroscedasticity problem. Autocorrelation occurs when the error term of the observations in the regression model are related. Consequently, the standard errors are inconsistent. The Wooldridge test shows there is a serious autocorrelation problem where the f-statistic is 22.162, and the p-value is 0.0001.

As the data is not normally distributed and exposed to the autocorrelation problem[footnoteRef:5], an estimation using the Ordinary Least Square (OLS) becomes less efficient. A Generalised Least Square (GLS) can tackle these issues Wooldridge [68]. The GLS is able to handle the data better by giving it equal weight and the error of the models is not correlated [69]. Therefore, this study employs GLS to estimate the relationship between the sustainability certification and profitability. In the GLS estimation, the goodness of fit is determined by the Wald test; an alternative to the R-squared method [70]. The Wald test evaluates the significance of particular independent variables in a statistical model. The significance of this test indicates that the parameters associated with the independent variables are not zero; hence the variables should be involved in the model. The information in Table 3 shows that The Wald test is significant at 1% level (chi2: 58.51, p-value: 0.0000), which demonstrates that all the parameters of the explanatory variables are not zero and should be included in the model. Impose [5: Cluster-robust standard errors had been conducted should have imposed cluster-robust standard errors as part to remedy the problem of autocorrelation and non-normality data. ]

Table 3. GLS Estimation Results

Notes: Value in the parentheses are the standard errors (SE),

***, ** and * denote 1%, 5% and 10% significant levels respectively.

Based on the regression result in Table 3, the SUSC is positively correlated to the ROA, at 1% significant level, after controlling LEV, LIQ, SIZE, GROWTH and P. Meanwhile, all control variables are significant at 10% significant level except for the LIQ and GROWTH. This indicates that Shariah–compliant palm oil companies who certified their palm oil with a sustainability certification have profitability that is 2.3% higher than non-certified companies. Although the LEV is highly significant, the effect on the ROA is rather minimal at a negative 0.004. The variable of firm size (SIZE) has a positive relationship with Shariah–compliant palm oil companies which signifies that a 1% increase will improve ROA by around 1.5%. Meanwhile, a 1% increases in the average price of crude palm oil increases a Shariah–compliant Malaysian palm oil firms profitability by 7.5%.

Table 3 shows that the SUSC sustainability certification has a positive relationship with the profitability of Shariah-compliant palm oil companies of 2%. The result indicates that Shariah-compliant palm oil companies with at least one sustainability certification have higher profits than non-certified companies. This result is consistent with the findings of Humphries and Kainer [42] and Gijs et al. [20] who found that having Forest Stewardship Council (FSC) certification helped to improve the performance of forest operators. This result is also consistent with that of Ferron et al. [19] who concluded that Brazilian companies with environmental management system certificates tended to be more profitable than firms without such certification. The result was similar to that found by Haslinda and Glen [18], Perry et al. [71] and Hafizuddin et al. [72] where leveraging on sustainability certification especially the RSPO and/or the MSPO certification not only maximises environmental protection but also increases a firms’ profitability. The significance of the RSPO and MSPO for producing higher profits for palm oil companies shows that the announcement by government of a mandatory MSPO in 2019 is relevant. The Malaysian government also gives financial incentives to all Malaysian palm oil supply chain companies to reduce the burden of subscription costs. This empirical evidence provides a response to the concerns of non-certified companies about the additional costs associated with sustainability certification subscription.

When Shariah-compliant palm oil companies certify their plantation areas, they are able to sell their CPO at a higher price. Preusser [40] found the same results for firms with at least a 40% plantation area certified by the RSPO who were able to sell their CPO at RM2468 per tonne compared to firms with a 20% or less certified area at RM2,310 per tonne. In addition, RSPO-certification is significant for reducing the cost of sales expenses and labour turnover by 6% while also increasing the revenue of these companies [41,73]. By producing certified pam oil, Malaysia can counter the claim that her palm oil industry adversely affects the environment and mitigate the pressure from the anti-palm oil lobbyists and Western NGOs. Besides, there are advantages for certified palm oil companies who disclose their sustainability practices in their annual reports [44]. Islam encourages people to earn profits as a motive to increase the productivity and quality of a business, on the condition that the business does not harm the maqasid Shariah [13]. This is part of business ethics and is a most important principle to follow [74]. Hence, Shariah-compliant palm oil companies tend to perform and operate transparently to fulfil the objectives of the maqasid Shariah regarding the preservation of the environment. In addition, some investors prefer to invest in Islamic investments who fulfil their social obligations by not ignoring environmental protection requirements [30]. This is because the environment must be sustained first before sustainable achievement in an Islamic economy [31] as mentioned in the Al-Quran[footnoteRef:6]. In short, it is important for Shariah-compliant palm oil companies to comply with the principles of the RSPO and MSPO. [6: Surah Ar-Rum verse 41.
]

As expected, the price provides a positive indicator of a firms’ performance as represented by the EBIT. The results of Ramasamy et al. [75] support the finding that the annual average CPO price has a positive relationship with profitability. The price is determined by world markets, and the performance of firms is affected because higher prices are associated with higher profits. Accordingly, Deng and Luo [76] suggest that the commodity price has a positive relationship with total palm oil exports and increases the profitability of the producer companies. Firm size is also positively and significantly related to firm profitability. This finding is consistent with other studies by Muritala [77] and Rahim [78]. Islamic finance requires Shariah-compliance to acquire funds from a lender and they must charge their assets as collateral [79-80]. Hence, larger firms have greater potential than small firms to obtain more debt from external financiers or sukuks [81]. It is suggested that these companies invest more in tangible assets such as land and equipment due to cheaper funding compared to the cost of intangible assets [80]. However, the assets must comply with the requirements of Shariah and not be used for any activities prohibited by Shariah such as major tenants operating conventional banking on the land or the building of Shariah-compliant companies [82]. Hence it is suggested that Shariah-compliant palm oil companies in Malaysia increase their assets to enjoy the benefits of credibility which makes it easier to obtain more capital.

Among the other variables, only financial leverage negatively influences the Shariah-compliant palm oil companies’ profitability. A study by Katherine and Subiak [83] and Adlina [84] also find a negative relationship between leverage and plantation companies profitability. This indicates that Shariah–compliant companies should avoid too much leveraging to obtain higher profits. If the Shariah–compliant palm oil companies acquire too much debt, this has the potential to reduce their performance and risk bankruptcy [85]. Hence, Shariah–compliant companies must take on no more than 33% of debt [86-88]. Otherwise, more equity is suggested to finance the business [89].