The Indonesian Government has implemented a law prohibiting the export of raw minerals by foreign investors or subjecting their export to progressive export taxes, as well as, a law requiring the divestment of foreign held mining licenses. Foreign Mining interests in Indonesia have been adversely affected by these laws. Chinese investors in Indonesia’s mining industry should consider their rights to compensation from the Indonesian Government under China’s investment protection treaties with Indonesia.
On 12 January 2014, Indonesia’s ban on the export of unprocessed ore, Regulation No. 1 of 2014 (“MEMR 1/2014”), came into effect, meaning that all mineral commodities (excluding coal) must now be processed or refined domestically prior to export.
MEMR 1/2014 forms part of the 2009 Mining Law, an initiative that was introduced to increase Indonesia’s exploitation of its own natural resources. MEMR 1/2014 aims to increase the domestic processing of ore and stimulate investment in Indonesia’s limited domestic smelting infrastructure.
While a 3-year exception has been made in relation to semi-processed materials including iron, copper, titanium, lead, manganese and zinc. Indonesia’s Ministry of Finance has imposed new export taxes of these minerals that increase each year for the term of the 3 year exception, as part of the plan to encourage the processing of materials domestically.
Not only will the regulations affect foreign investors’ current business models, Indonesia’s onshore processing capacity is also in question. Many investors are therefore unsure of how to proceed in the new market climate and the ramping up of Indonesia’s divestment program.
Late last year, Minister of the Ministry of Energy and Mineral Resources Republic Indonesia issued the procedure for implementing the 2009 Mining Law. It requires that, upon 5 years of operation, foreign owned shares in an IUP Company (a company holding Production Operation Mining Permits, formerly known as Mining Authorisations, that permit the commencement of a production operation stage upon completion of an Exploration IUP stage) to be offered for sale to a list of Indonesian participants comprised primarily of state owned entities. The offers are to be made in stages so that by the 10th year, at least 51% of the shares are owned by the Indonesian Participants (“Divestment Program”). Unlike MEMR 1/2014, the Divestment Program applies to coal mining industries.
Regulation No. 27 of 2013 on Procedures for Divestment and Share Pricing and Changes to Investment in Mineral and Coal Mining Business (“MEMR 27/2013”) provides guidance on how the Divestment Program will be implemented. IUP companies are required to begin divesting shares 90 days after their fifth year of production.
MEMR 27/213 requires that Chinese investors divest their shareholdings at a price equal to replacement cost being: investment cost – (accumulation/amortization + liabilities). It is possible that this pricing mechanism will result in a price below market-value. This pricing mechanism may also be inconsistent with Indonesia’s Investment Law pursuant to which the Government can acquire investments upon payment of market price.
If IUP Companies fail to comply with the Divestment Program, their mining activities may be suspended or their IUP or production operation permit revoked.
What Can Chinese Investors Do?
Foreign-investors are scrambling to mitigate the fallout of MEMR 1/2014 and the Divestment Program and implement strategies to manage political risk going forward. For many, this will mean either accepting the losses resulting from the introduction of MEMR 1/2014 and the Divestment Program or attempting to challenge the regulations in Indonesia’s courts. It is unclear whether local courts will provide effective and just remedies to foreign investors.
However, Chinese investors have additional rights of protection. This is because the Chinese and Indonesian Government have agreed that the Indonesian Government will provide certain additional protections for Chinese investors. Chinese investors can seek compensation from the Indonesian Government for losses suffered if the Indonesian Government does not abide by the promised protections.
These additional protections and rights have been provided under the Bilateral Investment Treaty between Indonesia and China (“China-Indonesia BIT”) and under the 2008 Agreement on Investment of the Framework Agreement on Comprehensive Economic Cooperation between the People’s Republic of China and the Association of Southeast Asian Nations (“AIFACEC”).
What rights do Chinese Investors have?
According to the China-Indonesia BIT and the AIFACEC, Chinese investors with investments in Indonesia can require the Indonesian Government to:
(a) pay adequate compensation (assessed at market values) if it “expropriates” (or takes) the Chinese investment;
(b) accord fair and equitable treatment to the investment;
(c) encourage investment and create favourable conditions for investors to invest in its territory;
(d) submit disputes to independent arbitration (enforceable in a similar manner as international commercial arbitration).
(e) give ‘most favored nation status’, so that any protections granted to foreign investors of other states must also be offered to Chinese investors. Indonesia is a party to numerous bilateral and multilateral treaties with other countries and these may be a source of further protections; and
(f) not subject Chinese investors to treatment less favourable than that afforded to its own investors.
Depending on your circumstances, any number of these protections might be breached by the Mining Law or the Divestment law. If so, as a protected investor under China’s treaties, it will be possible to claim compensation from the Indonesian Government. Before doing so, the investment treaty rights will provide a good background within which negotiations with the Indonesian Government can be conducted.
How can Chinese Investors enforce their rights?
These treaties provide a clear and effective method of recourse against Indonesia for Chinese investors affected by MEMR 1/2014 and the Divestment Program. Unlike claims commenced against the state in that host state’s local court system, claims brought under the China-Indonesia BIT or AIFACEC, are determined by an independent tribunal appointed by the parties or by an impartial arbitral institution.
The China-Indonesia BIT provides for disputes to be resolved by ICSID Arbitration at the International Centre for the Settlement of Investment Disputes, a member of the World Bank Group in Washington. Claims brought under the AIFACEC provide an open ended choice of institutions and rules if the parties consent, or a choice of ICSID Arbitration or United Nations Commission on International Trade Law if an agreement cannot be reached.
Importantly, the enforcement process is effective. If an ICSID tribunal grants an award in favor of a Chinese investor, then the award may be enforced against assets located in any of the 158 countries that are parties to the 1965 Washington Convention. For most other tribunals, awards may be recognized and enforced against assets located in any of the 149 countries that are parties to the1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards.
Chinese parties are more frequently relying on the rights provided to them by the Chinese Government under investment treaties. Recent cases include: Ping An Insurance v Belgium;ChinaHeilongjiang International & Technical Cooperative Corp, Beijing Shougang Mining Investment, and Qinhuangdaoshi Qinlong International Industrial v Republic of Mongolia; Tza Yap Sum v Peru.
If you are concerned about the impact of these laws on your investment, please contact us. Our team consists of experts in investment treaty arbitration as well as fluent mandarin speakers. We can help you develop a risk management and dispute resolution strategy.
You can also obtain further information about China’s investment treaties at:
Comments on the scope and impact of Indonesian laws were prepared with the assistance of ABNR Law (IFLR 2013 Indonesian Law Firm of the Year).