(a) Is it more usual for the financing needs of these types of corporates to be satisfied out of capital (equity) raisings; retained earnings; or external borrowings?

 

The following answer is based on general experience and our knowledge of the economic situation in normal times. At present, the Indonesian economic crisis has distorted what would be a typical answer to this question.

Prior to the present economic crisis, most private companies would obtain financing from local borrowing sources. As a company became larger, it would turn to foreign lending markets. Upon reaching the next stage of growth, the company would typically turn to capital markets to raise a portion of its financing requirements.

On the other hand, cooperatives generally would rely on retained earnings for some of their financing and on capital raised from their members for most of their financing.

State-owned enterprises would most likely depend on equity injections from their owner (i.e., the GOI) for most of their financing needs and rely on external, local borrowing for some financing. We note that the retained earnings of State-owned enterprises are considered revenues of the GOI, but that the GOI allows companies to retain a portion of such retained earnings for working capital purposes.

(b) What are the main sources for borrowing for these types of corporates?

The main sources of borrowing are Indonesian domestic banks and foreign banks. Lending syndicates are also common and may consist of a combination of Indonesian banks and foreign banks.

(c) Is there significant competition among lenders and significant choice of sources for borrowing available to these types of corporates?

Historically, there has been significant competition among lenders and significant borrowing choices. The liberalization of the banking industry, beginning in the late 1980s, saw a rapid growth in the number of Indonesian banks. This increase in the number of banks led to increasing competition among them for suitable borrowers. This growth, in the absence of proper and effective central bank administration, also led to weak lending practices, including lending to inter-company groups, in excess of central bank legal lending limits requirements.

(d)What is the present average rate of interest payable in respect of unsecured and secured debt?

There is no publication of which we are aware on the average rate of interest payable in respect of unsecured and secured debt in Indonesia. We believe the rate varies from bank to bank depending on normal commercial factors.

(e) Is finance generally available for long, medium and short-term borrowings?

Yes. However, banks have tended to favor shorter lending terms in Indonesia. Banks prefer to lend on a short-term basis rather than on a medium or long-term basis. The rapid increase in commercial paper and promissory note borrowing by Indonesian corporations, particularly those denominated in foreign currency, is one of the reasons for Indonesia's corporate debt crisis, as all of these transactions were short-term borrowings used to finance long-term corporate needs.

(a) What part does the central bank of this economy play in the regulation of the banking and finance sector?

Would it intervene or seek to influence the outcome or course of events if, for example a large corporate with debt exposure to a number of banks was in financial difficulty?

The role of the regulator of the banking and finance sector is shared between the central bank, Bank Indonesia ("BI"), and the DOF. Based on International Monetary Fund ("IMF") recommendations, the current regime has indicated that the central bank should be independent and should be the only institution with the authority to manage monetary policy and monitor banks. A new Banking Law, Law No. 10 of 1998 (November 10, 1998) ("Law No. 10") has been recently adopted which makes the central bank more independent.

It is possible for the central bank to intervene if a large corporate is in financial difficulty. The central bank is a lender of last resort and has the discretion to exercise its power based on its own judgement and considerations. Typically, however, we believe the central bank has not acted as a direct lender of last resort to Indonesian corporations. The central bank has acted as a lender of last resort to Indonesian banks. It has provided liquidity credits to private Indonesian banks that have undergone financial difficulties. Indonesian corporations, particularly large companies, have obtained financing from state banks for both working capital and capital expenditure purposes. While state banks may have acted as a lender of last resort to Indonesian corporations in some cases, there is no express policy to this effect. To the extent that BI has provided liquidity credits to Indonesian banks, it is an indirect lender of last resort to Indonesian corporates. The GOI has recently emphasized publicly that it (presumably through the central bank) will not use its resources to prevent the insolvency of private corporate borrowers.

(b) Is there any tradition in this economy for a 'main' or 'house' or 'lead' bank to become involved as a chief negotiator or leader in the case of the financial difficulty or insolvency of a large corporate borrower with debt exposure to a number of banks?

In normal economic times (i.e., before Indonesia's present economic crisis), those banks with the largest exposure would assume a lead position among banking syndicate members, and among the debtor banks generally, in negotiating a solution to a bank customer's financial difficulties. This is also the present situation. We note that in the case of Indonesian domestic banks, because of the collapse of the Indonesian banking system, the GOI has assumed the role of chief negotiator in dealing with many Indonesian corporates. This resulted from the takeover of many Indonesian banks and their assets by the GOI.

(a) Is assessment or analysis of lending risk widely practised in this economy?

Yes.

(b) If so, does the average lending bank make adequate assessment of risk analysis when contemplating lending to a corporate borrower?

The issue of whether or not an adequate risk analysis is made depends upon the business sector involved, the borrower and whether or not the lending bank is Indonesian or foreign. In general, lending banks do make adequate risk analysis assessments but there are a number of impediments to properly assessing risk in Indonesia, including a lack of transparency concerning the judicial system, an underdeveloped security registration system, and a lack of sufficient corporate financial information.

(c) Would it be usual or common for a lending bank to regularly monitor the financial performance of a corporate borrower?

Yes. Most funding agreements provide for financial reports to be provided by corporate borrowers.

(d) Would it be usual or common for a lending bank to be regularly supplied with copies of the financial statements of a corporate borrower?

Yes. Copies of financial statements are provided on a quarterly or semi-annual basis, pursuant to covenants in most loan agreements.

(a) Is there a significant source of foreign bank lending in this economy?

Yes. At least there used to be considerable foreign bank lending in Indonesia prior to Indonesia's economic crisis. This lending has now been drastically reduced.

(b) If so, is it usual for this funding to be provided by the foreign bank/s alone or in combination with funding from local or domestic bank/s?

Domestic and foreign sources of financing are common in normal times. Foreign banks often loan to borrowers alone and in combination with local banks, and vice versa.

(c) Are you able to detect whether there are significant differences in approach and funding terms when a foreign bank is involved in the lending (as compared with a purely local or domestic funding)?

Based upon general experience, there tend to be differences in approach and funding terms between foreign and local banks in lending to Indonesian corporations. Loan documentation, in the case of local banks, tends to be much less complex than with foreign banks. Extensive security interests are commonly taken by both types of banks but the security documentation in the case of foreign banks tends to be more complex than that for local banks. Foreign banks tend to conduct extensive due diligence of their borrowers before credit extension. Local bank due diligence is more modest, perhaps due to their greater familiarity with their borrower. Foreign banks use lawyers to check corporate authorization and other legal compliance issues, and to issue legal opinions thereon, whereas local banks' use of lawyers is much less frequent or is done solely by in-house lawyers.

(d) If so, what are the main differences?

Please see our reply to question (c) above.

(a) Is 'related' or 'exclusive' lending (ie where a corporate borrower and a bank have an established commercial relationship such that only that lender is looked to as the source of borrowing by the corporate borrower) common in this economy?

Related or exclusive lending is common. Banking relationships are created between Indonesian corporates and particular banks. When the particular relationship bank is unable to meet the credit requirements of the corporate, the corporate will look to establish additional relationships with other banks.

(b) If no, what effect does this have if the corporate borrower is in financial difficulty or is insolvent?

Not applicable.

(a) Is 'syndicated' lending (ie where a group of banks or financial institutions join together to provide funding for a corporate borrower) common in this Indonesia?

Yes.

(b) If so:

(i) does a lead bank perform the role of 'agent' on behalf of all the lenders; and/or

Yes.

(ii) is the concept of a 'trustee' (or similar) for a syndicate of banks (ie where the 'trustee' holds any security for the syndicated funding on trust for the syndicate of banks) known and/or practised in this economy?

The trust concept is not a part of the Indonesian legal system. However, in syndicated loans, there is often a security agent, which is a role assumed by one bank on behalf of the other members of the syndicate.

(iii) if the corporate borrower is in financial difficulty or is insolvent what function does the 'agent' or 'trustee' perform?

The agent bank performs a liaison function between the corporate borrower and other members of the syndicate.

(a) Is the concept known as 'debt subordination' (ie, a contractual arrangement between lenders in which there are 'layers' of 'senior' and 'junior' debt and which has the effect of postponing repayment of the 'junior' debt until payment has been made of the 'senior' debt) recognised and practised in this economy?

Indonesian law recognizes the concept of "debt subordination". Debt subordination between private lenders is created by contract. The lender and debtor must agree that the particular loan will be subordinated to other debt. Such other debt must be specified or there must be an agreement that the loan in question is subordinated to all debt.

Indonesian law does create certain priorities and privileges. Please see our response to question L.2 below.

Pursuant to Article 1134 of the ICC, a privilege is acknowledged by the law to one creditor over the other, based upon the nature of the debt. However, pledges and mortgages are superior to privileges, except where the law expressly stipulates otherwise. (Please see our discussion in Section L.2 below.)

In practice, a loan from a shareholder is usually treated as a subordinated debt to be repaid by the company after all its obligations to third parties have been paid.

(b) If so, is debt subordination recognised and/or enforced under the insolvency regime of this economy?

Yes. Subordinated debt is recognized and enforced under the insolvency regime in Indonesia, pursuant to Article 119 paragraph (2) of the Indonesian Company Law and Articles 58, 107, 108 and 109 of Indonesia's Bankruptcy Law, Law No. 4 of 1998 (September 9, 1998) (the "Bankruptcy Law").

(a) Is it permissible for banks to own equity in a corporate borrower?

Yes, but with restrictions. See our discussion below.

(b) If so, is it permissible for a bank to convert debt to equity?

Yes, but only on a temporary basis and only if a debtor has failed to repay its debt to the bank. A bank's capital participation is limited to a maximum of five years. If at any time before the end of this five-year period the company has made a profit, then the bank should terminate its investment in the company. In the event that the maximum period has been exceeded and the company concerned has not made a profit, the commercial bank must write off its participation in the company. Presumably, a share transfer must accompany such write-off, but this is not clear from the relevant regulations.

(c) Are there instances where this has in fact occurred, particularly in the context of either:

(i) in the context of an 'informal work out' as a result of the insolvency or approaching insolvency of a corporate borrower; or

(ii) in the context of a formal insolvency administration of a corporate borrower?

(i) Yes. Debt for equity swaps have occurred in the context of informal workouts as the result of the inability of a corporate borrower to repay its debts.

(ii) Prior to Indonesia's present economic crisis, debt for equity swaps generally did not occur in the context of formal insolvency or bankruptcy proceedings. Typically, such proceedings were not commenced to recover debts, because of Indonesia's antiquated Bankruptcy Law and perceived difficulties in the enforcement of such rights in the Indonesian courts. The Bankruptcy Law was amended in 1998, as a result of the economic crisis and the IMF's encouragement. Debt for equity swaps are possible (and always have been), in the context of formal bankruptcy proceedings and otherwise, and the amendments to Indonesia's Bankruptcy Law, if effectively enforced, should encourage more corporate reorganizations in the context of bankruptcy proceedings. To date, however, there has been little, if any, actual experience in debt-equity swaps in the context of such proceedings.

(d) In such a case, is it usual for the bank to be then represented on the management or board of the corporate borrower?

Management of Indonesian companies is conducted by its Board of Directors. It is possible for Indonesian nationals from a lender to sit on the Board of Directors of any Indonesian company. It is also possible for Indonesians to sit on the Board of Commissioners of an Indonesian company. Because of the potential liability of Directors for management activity, lenders may be reluctant to have their personnel sit on a Board of Directors.

Foreign nationals cannot sit on wholly Indonesian-owned companies, except specific limited circumstances. Foreign nationals can sit on the Board of Directors of foreign investment law companies but, for the same reasons of liability as noted above, foreign nationals may be reluctant to so serve. Foreign nationals can serve on the Board of Commissioners of foreign investment law companies. It should be noted, however, that the power of the Board of Commissioners may be limited.

(a) Is there a market for 'debt trading' (ie, where a bank might sell or trade the debt owed to it by a corporate borrower) in this economy?

Long term and medium term debt is not typically traded and there is no market for such debt trading. However, short term debt, represented by commercial paper and promissory notes, is common and Indonesian corporates issue such paper to local and foreign financial institutions, which then trade such paper among various types of financial institutions and investors, including banks.

(b) If so, is debt trading common in this economy, particularly where the corporate borrower is insolvent or near insolvent?

Trading of debt is not common for debtors in corporate insolvency.

(a) Is the concept of a third party 'guarantee' (as distinct from a security over property) to support corporate borrowing known and practised in this economy?

Yes. The Indonesian legal system recognizes third party guarantees. These can be given by individuals (personal guarantees) and by corporate entities (corporate guarantees).

As regards personal guarantees, it should be observed that if a married person wishes to give a guarantee, the spouse of such person is required to consent, if marital property is to be subject to the guarantee. This is required as a result of the Indonesian Marriage Law, Law No. 1 of 1974 (January 2, 1974) ("Law No. 1").

As a general rule, a corporate guarantee may fall outside the powers of a company to grant, if one or more of the following is true:

(i) the corporate guarantee is expressly prohibited by the company's articles of association;

(ii) the corporate guarantee cannot, taking into consideration the circumstances of the case, be reasonably viewed as being in furtherance of the activities set out in the company's articles of association;

(iii) the corporate guarantee cannot, taking into consideration the circumstances of the case, be reasonably viewed as in the interests of the company.

Sub-paragraphs (i) and (ii) refer to ultra vires acts. These principles are not codified and Indonesian law is not clear as to ultra vires acts in the context of guarantees or otherwise. Because judicial decisions are not systematically reported and do not have stare decisis legal effect in any case, the legal status of the ultra vires concept should be viewed as uncertain under Indonesian law.

(b) Is there a law which regulates the power to take or give a guarantee?

Title 17 of the ICC sets forth the provisions governing guarantees. These consist of 30 Articles (Articles 1820 through 1850, Article 1828 having been revoked).

(c) Is it common or usual for corporate borrowing to be supported by guarantee/s?

Yes.

(d) If so, are these guarantees usually taken from owners/directors of the corporate borrower; from other corporates associated with the corporate borrower (eg subsidiaries or holding company); or from unrelated third parties?

Guarantees are usually taken from the owners of a corporate borrower or from other corporates associated with the corporate borrower. Directors and Commissioners may also be, and often are, owners of the corporate borrower. It is not common for non-shareholding Directors or Commissioners or other unrelated third parties to provide guarantees of corporate debt.

Please see our general comments above concerning ultra vires acts. If a parent company gives a corporate guarantee of a debt of a subsidiary, such guarantee would ordinarily be considered in the interests of the parent company and therefore not an ultra vires act. If, however, a subsidiary issues a guarantee of a loan to its parent company or its individual shareholders, the corporate purposes of the subsidiary may not be served by such a guarantee. In this case, the issuance of the guarantee may be ultra vires, voidable and unenforceable against the guarantor. To avoid such an argument, when a corporation gives a guarantee, a legitimate corporate interest of the guarantor should be served by the issuance of the guarantee.

(e) Is there a law which regulates the enforcement of guarantees?

The ICC applies to guarantees governed by Indonesian law. BI decrees and decision letters regulate bank guarantees and Ministry of Finance ("MOF") decrees regulate guarantees by state agencies and state-owned corporations.

(f) Is it easy or difficult in practice to enforce guarantee obligations?

It is difficult, due to uncertainties and inconsistencies in the application of the law by the Indonesian courts and to other vagaries of the Indonesian judicial system. Certain provisions of the ICC (namely, Articles 1403, 1430, 1831, 1833, 1837, 1838,1843, 1847, 1848, 1849) must be waived in order for a creditor to make a direct claim against a guarantor when the primary obligor fails to pay. These ICC articles are uniformally waived so that the creditor can proceed directly against the guarantor. In 1994, however, the Surabaya High Court, an appellate court in Indonesia, found in the Bentoel case that guarantors could not waive such provisions in a suit by creditors against personal guarantors of the primary corporate obligor. Although most practitioners regard this decision as erroneous on the law, the status of this matter should now be regarded as uncertain.

(g) Is it usual to require that a guarantor should give security over the property of the guarantor as an additional comfort to the lender?

No. It would be uncommon but it is also not rare.

(h) Does the insolvency of a corporate borrower have any effect on the enforcement of a guarantee?

Yes, it does. Article 1832, sub-paragraph 4 of the ICC stipulates if the debtor becomes bankrupt or insolvent the guarantor cannot demand that the debtor's assets be sold before the creditors makes a claim against the guarantor.