ECONOMIC OVERVIEW OF INDONESIA
Indonesia is currently the largest economy in southeast Asia and is predicted to become the world’s fourth largest economy by 2050.1 Some of the main drivers of strong projected economic growth in Indonesia are its favourable demographics – it is estimated that approximately 50% of its population of 262 million (in 2017) are under the age of 302 – and its emerging middle class: real income growth will lift private consumption. Infrastructure investment will also remain high.3 As Indonesia fast approaches the position of the world’s fourth largest economy by 2050, it will find itself with the power to influence the Indo-Pacific region, shape its economic and political architecture, and be a global influence.4 The level of ease of doing business in Indonesia is improving slowly, and since mid-2015, the Government has prioritised reforms aimed at improving the business climate, including streamlining procedures for setting up and running a business.5 Below are Indonesia’s key economic indicators6 which show that in 2017, Indonesia’s Gross Domestic Product (GDP) was US $1.015 trillion, real GDP growth (% change year on year (yoy)) was 5.1% and its population was 262.0 million. Indonesia’s current account position has been deteriorating steadily for the past 18 months and now shows a very substantial deficit.7 More precisely, the current account deficit increased to approximately US$8 billion in the second quarter of 2018 compared to a quarterly average of approximately US$4 billion over the period second quarter 2015 to first quarter 2017. There was a particularly dramatic increase in the current account deficit, of more than 67%, from approximately US$4.6 billion in the second quarter of 2017 to approximately US$8 billion in the second quarter of 2018. The recent increase in the current account deficit has been accompanied by a significant weakening in the value of the Indonesian Rupiah which has slid from approximately Rp13,800:US$1 in early 2018 to Rp15,221:US$1 as at 19 October 2018,8 a decline of approximately 10%. Various reasons have been advanced for the rapidly increasing current account deficit but Indonesia’s unfortunate position, as a growing net oil importer in a time of rising oil prices, is almost certainly one of the main reasons. The above facts indicate that the macroeconomic outlook for Indonesia, as a whole, is positive. Indonesia is predicted to achieve a prolonged period of economic growth in order to become the world’s fourth largest economy by 2050. Given Indonesia’s expected rise to become an economic powerhouse, it is becoming increasingly important for Australia to cement itself as a key trading partner of Indonesia so we can capitalise on the economic opportunities that will flow as a result of this rise. However, it is clear that Indonesia will not achieve its ambitious growth trajectory without the support of foreign investment and capital, particularly in infrastructure and education which have been cited on a number of occasions as being of strategic importance to the Government. Although Indonesia has made some significant strides to improve the investment climate and the ease of doing business, there still remains areas for improvement to encourage greater foreign investment.
1.2 AUSTRALIA’S TRADE AND INVESTMENT RELATIONSHIP WITH INDONESIA
Despite Indonesia being Australia’s closest northern neighbour, the two-way bilateral trade and investment relationship between Indonesia and Australia is regularly described as “underdone”.9 The two countries have unexpectedly low levels of trade and investment links for economies which share a border.10 Analysis completed by the Perth USAsia Centre shows that trade relations among the G20 economies reveals the paucity of Australia-Indonesia economic ties. The share of two-way trade in 2016 among the sixteen contiguous dyads within the G20 (countries which share either a land or maritime border), reveals that Indonesia and Australia have the lowest bilateral trade volumes of any contiguous pairing within the G20, accounting for 2.8 and 2.0 percent of each other’s two-way trade respectively. Even Russia, which was the subject of economic sanctions by some G20 members during 2016, had deeper trade relations with several of those countries with sanctions in place than the relationship between Australia and Indonesia. Australia’s trade and investment relationship with Indonesia is illustrated in the table below:
1.3 INDONESIA-AUSTRALIA COMPREHENSIVE ECONOMIC PARTNERSHIP AGREEMENT – OPPORTUNITIES FOR INCREASED TRADE AND INVESTMENT (a) Introduction In a joint media release made on 31 August 2018 by The Hon Scott Morrison MP, the Australian Prime Minister and Australian Senator, the Hon Simon Birmingham, Minister for Trade, Tourism and Investment, it was announced that Australia and Indonesia have successfully concluded the Indonesia-Australia Comprehensive Economic Partnership Agreement (IA-CEPA) negotiations which commenced in 2010.13 The IA-CEPA is the main bilateral initiative deployed to rectify the gap in Indonesia-Australia economic relations. The goal of the IA-CEPA is to create a framework for closer economic connections, by addressing barriers to trade (both tariff and non-tariff barriers) while improving mutual access to service markets. It also seeks to increase bilateral investments through facilitation and regulatory cooperation measures.14 (b) Key outcomes of the IA-CEPA for Australian business – services and investment Market access outcomes on services and investment will provide increased certainty to Australian businesses and services suppliers in the Indonesian market, including guaranteed levels of Australian ownership. Indonesia’s commitments are much stronger than they have ever agreed to before in a trade agreement. Indonesia will not be able to limit the level of Australian ownership – or require that ownership be divested – below the percentages agreed (with limited exceptions). IA-CEPA also contains a set of high-quality, modern rules governing the treatment of services and investment, as well as modern rules on digital trade.
(c) Services and investment – highlights (i) Mining and related services – Australian ownership not less than 67% of contract mining services and mine site preparation services is permitted (now a guaranteed minimum that can never be reduced by Indonesia) (ii) Construction services – Australian ownership not less than 67% for most construction-related work is permitted (now a guaranteed minimum that can never be reduced by Indonesia). (iii) Energy: Indonesia committed to allow Australian ownership up to: + 95% of power plants (more than 10 megawatts); + 75% of oil and gas platform construction; + not less than 67% for electrical power construction, installation, operation and maintenance (now a guaranteed minimum that can never be reduced by Indonesia); + not less than 55% for electrical power installation constructions (now a guaranteed minimum that can never be reduced by Indonesia); + 51% of geothermal power plants (10 megawatts or less); geothermal surveying, drilling and operations; and offshore oil and gas drilling. At the time of writing, there was limited information on the content of the IA-CEPA. However, we expect that additional information will become available in due course on the benefits of the IA-CEPA for Australian businesses. As such, we encourage our readers to monitor any further developments on the IA-CEPA so that you can capitalise on the opportunities to trade with or invest in Indonesia.
AUSTRALIAN COMPANY PROFIL
Although the Indonesian mining sector is a key player on the international mining stage, the sector is far from reaching its full potential. This presents a significant opportunity for growth, development and an increase in foreign investment. Despite the availability of various investment opportunities, the regulatory climate has generated a number of challenges for foreign companies seeking to explore the possibilities in Indonesia. Against the backdrop of the existing challenges, there are a number of Australian companies with current and substantial operations in Indonesia with Australian companies among the leading investors in Indonesia’s energy and resources sector. Indonesia has been a particular export target for Australian companies in the mining services sector with the 2015 Austmine National Survey indicating that almost half of Australian mining equipment, technology and services (METS) sector companies are exporting to Indonesia. Co-authors Julia Scott and Alena Stirton recently discussed the Indonesian investment experience with representatives of three Australian companies with current operations and projects in Indonesia. CEO of Nusantara Resources Limited, Mike Spreadborough, CEO of Bis Industries Limited, Brad Rogers and Vice President (Asia Pacific) of Orica Limited, Todd Peate each provided their unique insights. Although each representative was open about the investment challenges, the overall message is positive. The following company profiles set out a summary of these recent Q&A discussions.
2.1 MINING SECTOR Nusantara Resources Limited Nusantara Resources Limited (Nusantara) is a mining and resources company listed on the Australian Securities Exchange. Nusantara has a 100% interest in the Awak Mas Gold Project in Sulawesi, Indonesia through its wholly owned Indonesian subsidiary, PT Masmindo Dwi Area (PT Masmindo). The Contract of Work (CoW) between PT Masmindo and the Government of Indonesia was recently amended in March 2018, securing Nusantara’s tenure over the Awak Mas Project until 2050. This is a significant achievement in Indonesia’s growing gold mining industry. CEO of Nusantara, Mike Spreadborough, recently discussed the company’s positive investment experience in Indonesia. “I think it’s a lower risk business environment compared to other places in the world…Indonesia is an Asian powerhouse,” said Mike Spreadborough. How would you describe Nusantara’s experience operating in Indonesia? Nusantara continues to promote its good relations with the Government, the local provincial governments and the local regency government. This has assisted Nusantara in ensuring a supportive environment for its business. The Awak Mas Gold Project has received the required approvals (including environmental approvals) to commence construction. By reaffirming the CoW, it has consolidated Nusantara’s position as the sole holder of that CoW until 2050, with possible extensions until 2070. How has the business landscape changed over the years for Australian companies wanting to invest in long-term mining projects in Indonesia? Do the changes encourage more foreign investment in the mining sector? In relation to Indonesia, most Australians are not familiar with the current business and investment landscape. A key message is that Indonesia is quite a sophisticated economy, growing at 5% a year. There is a focus on developing infrastructure, education, health and telecommunications projects commenting that “it’s really no different to the economy we see in Australia”.
Within the current regulatory and legal framework of the mining sector in Indonesia, what advice would you give companies looking to invest in Indonesia in the long-term? Nusantara promotes heavily to investors that despite what people may think, the regulatory environment in Indonesia is quite stable. Mike went on to say “We don’t find the regulatory environment is that much different to Australia…we don’t see any great issues.” Nusantara endorses Indonesia as a great mining jurisdiction with good infrastructure and a highly qualified and educated workforce that are familiar with the mining industry. It is unavoidable that foreign mining companies are required to divest 51% of the project 10 years after starting up. In Nusantara’s experience, as a new project, 10 years provides a very stable period. There are also a range of great Indonesian partners that can assist in developing the projects and bringing them into production. Although it is not necessary, having an Indonesian partner early on in the project can assist in reducing any sovereign risk.
How does Nusantara incorporate capacity building or other initiatives involving the local Indonesian community into the operation of the Awak Mas Gold Project? Nusantara works with the local community to build awareness around project development. The company has put funding aside to upgrade and develop medical and health facilities in local communities. Nusantara has also put a policy in place to attract the local workforce and build capacity to ensure local businesses are in a position to tender for contract work. Mike concluded by saying, “I think you can kind of sum up that we think it’s a great area to invest. There’s a great opportunity to do some mineral resource projects…”
2.2 MINING SERVICES Bis Industries Limited Bis Industries Limited (Bis) is an Australian mining services company that provides logistics, materials handling, specialist underground equipment and consulting services to resources companies across Australia and Indonesia. Bis first entered the Indonesian market in 2014, securing a contract to provide handling, haulage and logistics solutions to a coal mining operation in Tabang in East Kalimantan (Tabang Project). The success of the Tabang Project promoted the further expansion of Bis’ Indonesian operations. The company recently entered into a 5 year contract for load and haul services at the Gunung Bara Utama coal mine in East Kalimatan, with a two-year option to extend. Bis CEO Brad Rogers discussed the company’s entry into the Indonesian market and the various factors affecting Bis’ ongoing investment decisions. In summarising Bis’ decision to commence operations in Indonesia, Brad stated that: “There were some positives and negatives in our estimation of Indonesia. Ranking Indonesia against every other mining jurisdiction in the world, we came up with the view that Indonesia was the best market to go into first.” Why did Bis choose Indonesia as its first overseas market to invest? Back in 2011 it was clear that the Australian iron ore and coal mining market was shifting towards steady, slow production. Although Bis’ long term business relationships would ensure Australia remained a good market for the company, Bis recognised the availability of overseas investment opportunities. The company was looking to target a market with favourable conditions for its unique business offering. Brad discussed the decision to extend Bis’s off road load and haul business into the Indonesian market: “So for the off road load and haul business, we literally did a kind of global search against an evaluation framework to determine what would be an attractive market for Bis, and Indonesia came up as the most attractive market in the world in that regard.” Bis recognised that its dual cab technology and higher payload solutions equipped it with a disruptive and competitive advantage over other players in the Indonesian market. Brad acknowledged Bis’ intention to expand its existing strategy: “…we want to be different, different and sustainable;
different adds value, and let’s take that thinking to the best market in the world and that was Indonesia for that particular role.” Is Bis looking at other opportunities in Indonesia to expand its Indonesian footprint? Bis’ current operations are coal contracts in East Kalimantan. Bis is interested in expanding into non-coal contracts, potentially involving gold and nickel to allow the business to diversify and spread across other parts of Indonesia. Brad recognised that expanding across different commodities is beneficial from a risk management perspective. As it currently stands, a major change to the thermal coal market or unfavourable weather conditions in East Kalimantan has the potential to significantly impact both of its Indonesian operations. What have been the greatest challenges to starting and running a business in Indonesia and how does this compare (if at all) to running a business in Australia? Despite acknowledging that the requirement that foreign investors divest mining projects after 10 years has been a deterrent for many overseas investors in the mining sector, in relation to Bis’ own experience Brad indicated that “our own experience of investing in Indonesia has been very positive”. Prior to making the decision to invest, Bis took the time to properly understand the market, form the necessary relationships and develop sufficient confidence in the opportunities and risks. Brad offered the following reason for Bis’ comparatively positive investment experience: “I think maybe that’s partly to do with us being quite diligent in who we choose to do business with and we are focused on the kind of quality corporate counterparties..” What advice would you give other Australian companies looking to invest in Indonesia? Take the time to learn from the experiences of others. “The reality is, no matter how good your homework and entry strategy is, you’re going to get some things that go wrong.” Although not unique to Indonesia, it is often said that it is difficult to find people with the right skills – how does Bis go about either finding the right people to ensure that you can meet your commitments to your clients? “The usual part of going there, spending time, showing that you’re serious and explaining your plan to good people…form proper relationships wherever in the world you are and make sure you bring value to your counterparty.”
Orica Limited Founded in 1874, Australian company Orica Limited (Orica) is one of the largest global providers of commercial explosives and blasting systems to the mining, quarrying, oil and gas and construction markets. Orica’s footprint extends over 100 countries, including Indonesia. Orica provides technical, operational and commercial services to customers in the mining and oil and gas sectors in Indonesia (through Indonesian subsidiary, PT Orica Mining Services (OMS)) and Indonesia’s largest ammonium nitrate plant, Kaltim Nitrate Indonesia (KNI) is a joint venture between Orica Investment (Indonesia) Pty Ltd and local partners. The KNI plant was constructed in 2009 with production commencing in 2012. KNI is strategically located near some of the largest coal projects in East Kalimantan. Although design and construction of the KNI plant was primarily managed by foreign engineering experts, the current operating team comprises around 160 Indonesian nationals. Orica’s Vice President, Australia Pacific, Todd Peate, provided some insights into Orica’s experience in Indonesia and its decision to invest in the KNI project. In relation to Indonesian investment opportunities generally, Todd summarised: “There is a great optimism about business in Indonesia and as the mining sector conditions continue to improve, it’s critical that any supplier takes a look to understand the possibilities for them.” What were the main motivations for Orica to invest in Indonesia? Orica has been providing services to the mining industry in Indonesia for many years. In the early stages of investment, Orica’s operations were based on customer need. As a result, Orica would mobilise its emulsion plants and delivery systems. Earlier this decade, Orica and its joint venture partners commissioned the 330 kilotonne KNI facility. This was a significant investment that was driven by customer need and Indonesia’s desire to reduce its reliance on critical imports for the mining industry. KNI’s proximity to the large East Kalimantan coal market was viewed as the logical next step for Orica’s Indonesian operations and aligned closely with overall growth in the industry.
What have been the greatest challenges to running a business in Indonesia and how does this compare (if at all) to running a business in Australia? As a supplier to the Indonesian mining industry, the regulatory environment is an area that customers are consistently looking to navigate. The dynamic nature of the regulations have impacted investor confidence in the investment and expansion opportunities in the country. The impact of changing regulations is not an experience that is unique to Orica’s customers in Indonesia. Todd acknowledged that over the past 10 years similar issues have been impacting Orica’s Australian customers. To respond to the regulatory challenges in Indonesia, Todd provided the following insight: “The key is patience, processes are not as straight forward so anyone doing business in Indonesia needs to be patient and work through any issues that arise.” What are the top 3 pieces of advice you would give to other Australian companies in the METS sector looking to invest in Indonesia? “It cannot be done remotely. You cannot be “remote control” in Indonesia. It is a market that works on a lot of relationships and the building of trust over time. It would be a mistake to believe you can fly in and fly out and be effective. You need great partners. Orica is really fortunate to have great, long term partners right across the value stream in Indonesia. We work collaboratively and it’s important that you are aligned on a very frequent basis with your partners. Seek advice. It’s likely whatever it is you are contemplating, others have tried before. There are many people that are open to assist and help you on your pursuit of investing in Indonesia. Spend time in the market, identify all of the relevant stakeholders and go about seeking their advice. One conversation may save you many nights of issues.” And finally, in your opinion, would you recommend that other Australian METS companies look to Indonesia as a potential investment destination? “Yes. I am always bullish about Australian companies opportunities in Indonesia but you need to have a clear plan in place before you decide to jump in.”
OPPORTUNITIES IN RESOURCES
3.1 MINING (a) Overview of the mining law in Indonesia Indonesia continues to be an important player in the global mining scene with significant levels of coal, copper, gold, tin and nickel. Global mining companies continue to rank Indonesia highly in terms of coal and mineral prospects. The modest uptick in global commodity prices has improved the outlook of the sector. Indonesia’s commitment to substantially increasing its level of infrastructure investment should also reduce costs over time in getting commodities to market.19 Article 33 paragraph (3) of the Indonesian Constitution affirms that: “the earth, the water, and natural resource wealth that are buried within the earth are to be under the control of the State and utilized for the greatest prosperity of the community.” Pursuant to Article 8 of Indonesia’s 1967 Mining Law, foreign parties could participate in large-scale Indonesian mining projects through Contracts of Work (CoWs) and Coal Contracts of Work (CCoWs) whilst relatively smallscale and medium-scale mining projects could only be conducted by Indonesian national parties by virtue of Mining Licenses (KPs). Neither (i) a foreign entity nor (ii) an Indonesian company in which foreign investors may legally hold shares (PMA Company) could hold a KP under the 1967 Mining Law. A PMA Company could, however, hold a CoW or a CCoW. On 12 January 2009, the 1967 Mining Law was repealed and replaced by the 2009 Mining Law.
The 2009 Mining Law contemplates that: (i) KPs will be replaced by Mining Business Licenses (IUPs); (ii) CoWs/CCoWs will be replaced by Special Mining Business Licenses (IUPKs); (iii)IUPs/IUPKs may be held by any type of Indonesian business entity, including a PMA Company, without any initial restriction or limitation on share ownership but with an unspecified divestiture obligation applicable to PMA Companies holding IUPs/IUPKs to be carried out starting after 5 years of production; and (iv)mandatory local value added activities to be carried out in respect of both coal and metal minerals. (b) Recent changes to the mining law (i) Introduction With effect from 21 February 2018, Indonesia issued the Minister of Energy and Mineral Resources (MoEMR) Regulation No. 11 of 2018 on The Procedures for Granting Areas, Licensing and Reporting in Mineral and Coal Mining Business, which makes some significant changes to the licensing regime. This new regulation revokes and replaces eight previous regulations.20 The new regulation does not make any changes to the basic metrics of IUPs/IUPKs being maximum area size, maximum term, number of permitted renewals and issuing authority, all of which are carried over from previous regulations. The overview that follows looks, in turn, at the material changes only that the new regulation has introduced for mine owners who are CoW/CCoW holders and mine owners who are IUP/IUPK holders.21
(ii) Mine Owners — CoW/CCoW holders Adjustment of activity stages CoWs/CCoWs presently provide for five activity stages being (i) general inspection, (ii) exploration, (iii) feasibility, (iv) construction and (v) operation production. The regulation adjusts the activity stages of CoWs/CCoWs to two only, being (i) exploration (covering general survey, exploration and feasibility study), and (ii) operation production (covering construction, mining, processing and/or refining, and transportation and/or sales).22 Each activity stage will be the subject of a decree (Surat Keputusan or SK) issued to the relevant CoW/CCoW holder. The intention is that the SK will refer only to either “exploration” or “operation production” so that general survey, exploration and feasibility study activities will all be covered by one SK for “Exploration” while construction and operation production will be covered by a second SK for “Operation Production”. Upgrades To the extent that a CoW/CCoW holder is not already at the operation production stage, its activity stage is to be upgraded to that of “Operation Production” once its Work Plan has been approved by the Ministry of Energy and Mineral Resources (Ministry) and, in any case, not later than 21 August 2018.23 Amendment of CoWs/CCoWs After many years of negotiation, substantially all CoW/ CCoW holders finally signed CoW/CCoW Amendment Agreements with the Ministry in early 2018 which provide for, amongst other things, the relevant CoWs/CCoWs to be replaced by IUPKS not later than the expiry of the current terms of the relevant CoWs/CCoWs. Those CoW holders who want to be able to export less than fully refined metal mineral products, must convert their CoWs into IUPKs before exporting less than fully refined metal mineral products as a pre-condition to obtaining the Ministry recommendation for an Export Permit. All of those CoW/CCoW holders who signed CoW/ CCoW Amendment Agreements were also obliged to accept a 51% divestiture requirement within 10 years and increased non-tax government revenue and other tax imposts although, in many instances, the applicable rate of corporate income tax was reduced.
(iii) Mine owners — IUP/IUPK holders Security deposits There has been a change in the calculation of the amount of the security deposit that must be included as part of an IUP/IUPK application following a party being declared the winner of a mining business license area tender. The previously required Security Deposit amount was 10% of the higher of the value of data compensation, total investment and replacement cost. This has now been changed to a fixed amount which is stated as being (i) Rupiah 5,000,000 in the case of IUPs/IUPKs less than or equal to 40 hectares and (ii) Rupiah 150,000 per hectares in the case of IUPs/IUPKs greater than 40 hectares.24 Rights and obligations of IUPK holders The new regulation sets out what we understand is intended to be a comprehensive statement of all the rights and obligations of IUPK holders in one place (rather than across various laws and regulations as was previously the case). Accordingly, we now have a clearer and more comprehensive statement of the rights and obligations of IUPK holders,25 which should go some way towards reducing the uncertainty surrounding IUPKs and otherwise make it possible to evaluate IUPKs, as an alternative to CoWs/CCoWs, in a more fully informed manner. Ownership of minerals and coal One of the rights of IUP/IUPK holders is the right to own and sell the minerals (including “associated minerals” but excluding radioactive minerals) and coal that they produce once the relevant production royalty or non-tax governmentrevenue, due in respect of such minerals and coal, is paid.26 The right to own minerals and coal is in the current mining law27 but has been largely ignored by resource nationalists. This is despite the fact that, without this right, IUP/IUPK holders would not be in a position to sell the minerals and coal produced by them or otherwise transfer good title to those minerals and coal to the buyers, whether domestically or by way of export, unless they were acting as agents of the Government. We suggest that the restatement of the rights of IUP/IUPK holders in respect of the ownership of minerals and coal in the new regulation is an attempt to resolve the apparent inconsistency in MoEMR Regulation No. 9 of 2017 regarding procedures and the pricing mechanism for divestiture of shares