Investment in Indonesia – Let’s Be Careful Out There

By: Invezz
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on Nov 27, 2012
Updated: Jan 6, 2020

Contracts Get You Only So Far In Go-ahead But Opaque Wannabe Asian Tiger

When Sergeant Phil Esterhaus counselled – as he did each episode of 1980s police drama Hill Street Blues – the incoming shift at Hill Street police station with the words, ‘Let’s be careful out there’, he was of course referring to the streets of an unnamed American city. But he could have been addressing a group of prospective investors in Indonesia. For there are growing signs of a tide turning against unbridled foreign investment in Asia’s third – and the world’s fourth – most populous state.

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Yet, in something of a paradox, Indonesia ranks both regionally and globally as a country ‘most likely to succeed’ in attracting foreign direct investment, courtesy of its large – and largely untapped – reserves of oil & gas and a range of minerals. In UNCTAD’s Word Investment Report 2012, Indonesia places fourth – behind China, the US and India, in that order – in a ranking by transnational corporations of ‘prospective host economies for 2012–2014’. The CIA World Factbook puts Indonesia’s 2011 FDI stocks at nearly $105 billion, more than 20 percent up on the previous year and putting the country 34th in the world and ninth in Asia.

And Indonesia has big aspirations – there is a plan in place to lift the country from its current 17th spot into the top 10 world economies by 2025, and into the top five by 2040. Perhaps – but plus-six percent annual GDP growth through the 21st Century to date, global crises notwithstanding, is at least a good start.

But as recent events bear witness, it’s one thing for a foreign investor to spot a potentially lucrative investment in Indonesia’s minerals, oil or real estate and to cosy up over coffee with some local partners having – or claiming to have – the necessary political and bureaucratic connections to get the venture up and running. It’s quite another though to secure a watertight legal relationship which will sternly but fairly govern when things turn sour. And another thing again to insulate against a change in sentiment towards your venture at some point down the track.

One Company’s In-trepidation

On 20 July this year, it was seemingly business as usual at the Tujuh Bukit (Seven Hills) precious metals prospect on the island of Java in Indonesia. A workforce of some 460 – mostly local – together with their ex-patriate management, mostly on secondment from Intrepid Mines Ltd of Australia (ASX: IAU), were going about their daily business prospecting for gold, silver and copper. Just four days earlier the Queensland-based mining company – which asserts an 80 percent ‘economic interest’ in Tujuh Bukit – had seen its share price rise 10 percent on reporting a significant upgrade in putative deposits at the prospect.

All of a sudden, seemingly, representatives of Intrepid’s minority joint venture partner – Indonesian company PT Indo Multi Niaga (aka IMN) – appeared on the scene and ordered a shut-down with immediate effect. The Intrepid personnel were told to leave the site forthwith and – again seemingly – they complied without demur. It’s unreported what manner of persuasion was used, if indeed anything beyond a polite request.

How it could be that a 20 percent minority partner could impose its will on the majority is also by no means clear, either from the media coverage or from the – limited and obtuse – information provided on the Intrepid website. What is apparent though is that, four months down the track, what was hitherto being touted as possibly the world’s largest untapped precious metals prospect – with a potential value in the scores of billions and into which Intrepid had already sunk AUD 100 million of shareholder funds in exploration costs – lies dormant. An Indonesia investment adventure which, to this point at least, has gone horribly wrong.

Fight Fire With Fire – Or Notices of Dispute?

In a ‘Management’s Discussion & Analysis’ document on its website and dated 29 October, Intrepid says that ‘[t]he Company has issued a notice of dispute to PT IMN and its shareholders in relation to these events.’ One suspects that the people behind IMN – and we are given to understand that they are not without influence in Indonesian business circles – will not be quaking in their boots. Perhaps it would be otherwise if Intrepid had instead issued a phalanx of thick-necked gentlemen with baseball bats, to retake possession of their ‘economic interest’ in Tujuh Bukit.But of course, this is not the ‘western’ way of doing business. That way is to follow up on the notice of dispute – assuming it doesn’t bring IMN to heel – with the commencement of a civil action in the appropriate chamber of the Indonesian judicial system. Where, if the World Bank’s 2012 ‘Ease of Doing Business’ survey as it relates to Indonesia is to be given credence, the case will take 498 days to resolve, will involve 40 separate procedures, and will cost Intrepid 139.4 percent of whatever monetary value they put on the claim – with lawyers taking 111 percent.

Worth The Paper It’s Written On – Or Something Else?

When it comes to contracts enforcement, it seems Indonesia is not the best place to be – it’s ranked 144th out of the 185 countries surveyed by the World Bank on this particular measure. And, if Transparency International’s ‘Corruption Perception Index’ (for 2011, this year’s index is due out in a couple of weeks) is any guide, there’s a better than even chance that money rather than merit will determine the outcome of Intrepid’s legal proceedings. Indonesia scores a low 3.0 on the CPI’s scale of 0 to 10 – where 0 is a perception of ‘highly corrupt’ and 10 is virtually corruption-free – and is ranked 100th equal (along with the likes of Mexico and Malawi) of the 182 countries surveyed.

But it’s not only Intrepid Mines which finds itself on the wrong end of action taken by local interests in Indonesia. The Australian Financial Review on 17 November reported on other Australian companies’ misfortunes in an ‘increasingly hostile Indonesia’. Notably, Perth-based coalminer Churchill Mining (LSE: CHL) has filed suit against the Indonesian government, seeking more than $2 billion in damages after its valuable mining licences in Kalimantan on the island of Borneo were reportedly revoked by regional officials. Churchill’s chairman David Quinlivan was quoted as saying that, for all the promise of investing in Indonesia, he would not try his luck there again.

Growing Signs Of Economic Jingoism (aka ‘Sovereign Risk’)

And even before Intrepid’s bizarre experience in July, it also had been adversely impacted by government action. Earlier this year the Indonesian government introduced new rules concerning ownership of mining companies, under which a majority stake must be held by Indonesian interests not later than 10 years out from the commencement of production. Announcement of this quasi-nationalisation programme in March spooked the market for Intrepid equity both in Sydney and Toronto, with the stock shedding nearly half its value on the ASX before recovering to around 86 cents during April. But with the further slide following the events of 20 July, today Intrepid trades at around 30 cents, some 87 percent off its highs of around AUD2.25 two years ago, when the news from Tujuh Bukit really started to get exciting.Restrictions have also been imposed this year on the export of unrefined minerals and precious metals, the apparent objective being to force foreign-owned mining companies to shift processing and other value added into Indonesia.

The prospect of a country’s government intervening in some way in the affairs of private sector entities operating in that country is known as ‘sovereign risk’. It can happen anywhere in the world, of course, but is more likely to happen in a country lacking open – and accountable – government. Regrettably, Indonesia fits the bill. Notionally a democracy – with direct, popular election of the president every five years – in reality Indonesia is run by the military, in an uneasy alliance with Islam, and has been pretty much since Suharto ousted Sukarno in 1968. The current president, Susilo Bambang Yudhoyono – affectionately known as ‘SBY’ and now well into his second term, is army born and bred. Much is written about him in his personal Wikipedia entry – by a person or persons unknown but the word ‘sycophant’ comes easily to mind.

Indonesian Government – Club For The Boys (And Girls)

Of course his predecessor, Megawati Sukarnoputri, was not a career soldier but she exemplifies another aspect of Indonesian-style government – a club for the boys, and of course in Megawati’s case, girls. For she is the daughter of the country’s first post-independence leader, Sukarno. Indeed, nepotism is alive and well in Indonesian politics. A leading contender to replace incumbent president ‘SBY’ in 2014 is his 2IC, economy minister Hatta Rajasa, whose daughter happens to be married to SBY’s son. And neither Rajasa nor any other member of Indonesia’s council of ministers is an elected appointment – all have been hand-picked by the president himself and comprise a mix of business pals, technocrats, retired military and police officers, and the promised five women.

None of which is to say that Indonesia is a dictatorship in the classic mould. Reforms early in the current century gave some meaningful powers to a hitherto largely ceremonial legislature and there is a veritable glut of representative bodies throughout the country, right down to village neighbourhood level. But the fact remains that this emerging Asian powerhouse continues largely to be governed by edict, from the top down rather than bottom up. And, as noted earlier, the top includes the pervasive voice of the country’s eminently powerful Muslim religion.

The Powerful Presence Of Islam

Which may in part help to explain the ruling earlier this month of Indonesia’s constitutional court that the oil and gas industry regulator since 2004 – known as BPMigas (no relation to British Petroleum) – was a violation of the country’s constitution, because it had allowed, indeed facilitated, the passage into foreign ownership of too great an economic interest in this key industry. The constitutional court action was brought not by the government but by a collection of civic claimants, with the notable inclusion of Indonesia’s largest Islamic organisation.

Foreign Investors Getting Spooked?

Whatever the background manoeuvrings which preceded this court ruling – and ‘economic nationalisation’ is a phrase which has been getting a lot of media exposure since its release – the outcome is the relocation of Indonesia’s dealings with the rest of the world on oil & gas exploration, extraction and exploitation from an independent regulator to a government ministry. Of abiding interest to the multinational oil companies which have collectively sunk billions of dollars into investment in Indonesian energy extraction is the status going forward of their contracts with BPMigas. Most are keeping shtum at present with the government, from departmental heads and deputy ministers right up to the president himself, making soothing noises to the effect that it’s business as usual.

Except of course that it isn’t. President ‘SBY’ can speak for himself and the current administration but his say on things is unlikely to be determinative with the changing of the guard – even if groomed – in 2014. The international energy companies with huge stakes in Indonesia may well find themselves effectively renegotiating lucrative deals they had thought, until earlier this month, to be done and dusted. And renegotiating with interests much more intent on keeping Indonesian energy wealth for Indonesians – whatever exactly that might mean – than the late BP Migas. There is even a name for this shift in sentiment towards economic jingoism – ‘Hatta-nomics’ – emanating from the eponymous Minister for the Economy and putative presidential successor.

Yet Aren’t We Doing Well?

Ostensibly, the lie appears given to such a swing away from foreign investment in oil & gas by the recent news that Indonesia is attracting record amounts of inbound investment across all sectors. In late July, the Wall Street Journal reported that second quarter FDI had reached $5.9 billion, 30 percent up on the same period in 2011. Three months later, on 22 October, Reuters followed up with a story headlined ‘Direct foreign investment pours into Indonesia despite worries’, referable to third quarter FDI which had, at 56.6 trillion rupiah, just shaded the Q2 receipts.There’s no question that foreign investors, especially of the large multinational or sovereign wealth fund persuasion, like to deal with strong government in the host country. Especially when that country has an abundance of sought-after but largely undeveloped resources. Such investors are, despite what they might say in the ‘CSR’ page on their website, comfortable dealing with autocratic governments because the decision-makers in such regimes tend to have personal interests in getting the deal done. And thus the entry barriers tend to lower, even in economically or environmentally sensitive sectors such as mining and oil & gas.

Narrow-minded Nationalism Or Cunning Plan?

What they – foreign investors – hate to see, or even hear rumours of, is influential nationalists getting involved in their deals. Especially ex post facto. Probably we need to wait until early in the New Year to know for sure, but it’s likely that even now, some existing TNCs – transnational corporations – are reviewing their exit options or have already taken steps to downsize their Indonesian investment stakes.

With a per capita GDP of just $4,666 (PPP basis) in 2011 – according to the International Monetary Fund’s global table – Indonesia is way down the pecking order in terms of national wealth, indeed in 124th place and in company with the likes of Mongolia and the Congo Republic. The real Asian tigers – South Korea, Japan and Taiwan, for example – are seven to nine times wealthier. Ordinarily, economies in Indonesia’s position – developing, that is to say – are bending over backwards to attract and keep FDI.

That there are concrete signs of another way of thinking in Indonesia these days ought to give pause to investment ardour. Whether that is the intent in the corridors of Indonesian power, or whether there is a carefully calculated long play under way – to reap the benefits of foreign investment in Indonesia on local terms – remains to be seen.

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