Indonesian courts scare off
investors By Bill Guerin
JAKARTA - "We would never see Indonesia again! I
can't imagine any condition that would attract us back
into that country," said Jim Bishop, vice president of
New York-based Caithness Energy, in December 2000.
Bishop was breathing a very audible sigh of relief after
Cayman Islands-registered Karaha Bodas Co (KBC), 40.5
percent owned by Caithness Energy, won a US$261 million
judgment, including $150 million in lost profits, from
an ad hoc arbitral panel in Geneva against Indonesia's
state-owned oil and gas company Pertamina.
The
protracted legal wrangling between the two and
Pertamina's attempts to challenge international rulings
using Jakarta courts added to Indonesia's reputation for
legal uncertainty. That reputation has not improved; in
fact, investor sentiment has reached an all-time low in
Indonesia. There is little faith in the local court
system, which has failed to uphold international
arbitration awards against local companies. The high
country risk is made even worse by the increasing
frequency of preposterous court decisions against
foreign enterprises.
Despite this, the senior
minister for the economy, Dorodjatun Kuntoro-Jakti, was
to take to the podium in London on Thursday at a "highly
exclusive summit" on a mission to persuade investors
there to invest in Indonesia.
His mission comes
only two days after the British Chamber of Commerce in
Jakarta warned potential British investors to stay away,
saying, "The law does not protect their investment here;
it appears not to be impartial and fair."
A
reported 31 percent slump in foreign direct investment
for the first four months of this year serves to
concentrate the mind, and sources in Jakarta said the
minister planned to address the issue of Indonesia's
legal system. Though conceding that there is a "large
and deep-seated problem" after decades of neglect, he
was expected to plead that legal reform is not an
"overnight affair" and would need political will,
funding and time.
Time appears to have run out
long ago, and attempts like these to drum up investment
will likely fall on stony ground.
Less than a
decade ago, foreign investors and lenders gave scarcely
a thought to the quality of Indonesia's legal system,
preferring perhaps to turn a blind eye to the lack of a
reliable and transparent commercial law system as they
fought for pole positions in the country's fast-growing
economy. The 1997 financial crisis changed all that.
Since then, Indonesian commercial law has been the
source of several disappointments for foreign investors
and lenders.
Indonesia established the
Commercial Court (Pengadilan Niaga) in 1998, along with
the much-heralded bankruptcy law, both insisted on by
the International Monetary Fund. The Commercial Court is
tasked with handling bankruptcy and insolvency
applications, though its jurisdiction can be extended to
other commercial matters. Appeals from the Commercial
Court go directly to the Supreme Court.
A case
will not necessarily end once the Supreme Court renders
its verdict. The next challenge is to enforce the
verdict, and the case can be reopened by one of the
parties to a dispute if they can furnish new evidence
that has a bearing on the decision.
The new law
was widely perceived as "creditor-oriented" and aimed
mainly at helping foreign lenders to force local
corporate creditors to the negotiating table. Instead,
it has been used by well-connected local players to
batter foreign investors or misused by the courts to
force healthy companies to shut down.
In 2002,
the Commercial Court declared solvent insurance company
PT Asuransi Jiwa Manulife Indonesia, a unit of Canada's
Manulife Financial Corp, bankrupt in a legal battle
against its former local shareholder. The Supreme Court,
however, overturned the verdict after protest from
various parties, including the Canadian government.
Last month, the same court declared the local
unit of Prudential, 94.5 percent owned by Prudential
Assurance Co PLC, Britain's No 2 insurer, bankrupt for
refusing to pay a contested debt. This was despite the
Finance Ministry agreeing its assets were two and a half
times the legal minimum.
"This case will indeed
affect the investment climate," Kuntjoro-Jakti said at
the end of last month when speaking to reporters about
the Prudential farce.
As a Supreme Court review
of the highly controversial bankruptcy order was
awaited, a court in Medan, the provincial capital of
Sumatra, last week annulled a purchase deal made by a
majority-owned subsidiary of the British plantation
group Rowe Evans. The company, Pangkatan Indonesia (PI),
bought the Sennah plantation estate in March 2002 for
Stg1.3 million ($2.3 million).
The Sumatran
court ordered PI to return the shares and decreed that
only the original investment should be repaid. The
reasoning? Lawyers had argued that the company's British
president, Matthew Adams, did not have a work permit
when he signed off on the deal.
Under Adams'
tenure PI paid off most of the acquired Stg575,000 of
debt and boosted the plantation yields to almost double,
said the company, which owns palm-oil, rubber and cocoa
plantations in Malaysia and Indonesia. The verdict was
"without any legal consideration" and would be fought
"tooth and nail", Rowe Evans' executive chairman, Philip
Fletcher, promised at a press conference. Hardly
surprisingly, Rowe Evans is reconsidering a $30 million
investment in Indonesia as a result of the ruling.
The saga of KBC, primarily owned by US companies
Caithness Energy (40.5 percent) and Florida Power &
Light (40.5 percent), helps illustrate just how tough a
nut Indonesia is to crack. This March, Pertamina's new
management finally agreed to pay the compensation, which
was by then $294 million after taking interest into
account. Fighting overt and rear-guard actions against a
defiant Indonesian court eventually won the day for KBC,
but it still hasn't collected a cent from Pertamina.
Pertamina's attempts to get the action moved
back to the legal arena in Jakarta were an example of
what has been termed "arbitral terrorism". This
describes a scenario whereby countries obtain domestic
court orders that aim to undermine arbitral proceedings
or awards.
Though failing in the case of
Pertamina, another round of terrorism in Indonesian
courts may soon be needed to engage in battle with other
foreign investors angry over broken contracts.
The biter may be bitten, as it were, if a
planned multibillion-dollar lawsuit against the
government over broken contracts in the mining sector
succeeds. Twenty-two mining companies had appealed to
the government to be allowed to resume their operations
in protected forests after the implementation of Law No
41/1999 on forests banning open-pit mining in protected
forests.
In March, 13 of the companies were
allowed to resume operations (see Mining
to resume in protected forests, March 17).
The remaining nine will not be given licenses to resume
their mining activities as no proven and economically
viable reserves have been found in their areas. They are
planning litigation at international arbitration courts
on the grounds that their contracts with the government
were made several years ago, before the law on protected
forests came into effect.
There is also an
ongoing arbitration case involving Mexican cement maker
Cemex SA, which was not awarded a controlling stake in
state-owned cement PT Semen Gresik as agreed in a 1998
privatization deal with the government. Cemex, the
world's third-largest cement maker, could conclude its
business operations in Indonesia if it fails to win
arbitration proceedings filed against the Indonesian
government with the World Bank's International Center
for Settlement of Investment Disputes (ICSID).
The debilitating downside of Indonesia's failure
to address legal reform properly is the effect this has
on attitudes of investors. Unlike capital flows to China
and Thailand, which mostly represent long-term
investments attracted by the upbeat economic prospects
of both countries, major foreign companies continue to
view Indonesia from the perspective of risk
minimization.
Failure to attract needed
investment and financing, and the thwarting of economic
growth means huge missed opportunities for the country.
As Charles Humfrey, the British ambassador in
Jakarta, put it when commenting on the Prudential case,
"The solution is for the Indonesians themselves to come
to. All we can do is underline the damage they are doing
to themselves."
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