LAST YEAR MANOJ Nanwani, a research analyst at BNP Paribas Peregrine, had almost completed the depressing task of surveying the distressed Indonesian banking sector when he stumbled across a nugget in the dross. “It’s a real bank!” he announced to his clients, proof that there was still a flicker of life in the country hit worst by Asia’s 1997 financial crisis.
The commendable bank was a small regional operation based in Java, one of a select group that came through the crisis almost unscathed. Bank NISP’s success sprang from its concentration on lending to small and medium-size companies and latterly retail consumers; its base in Bandung, which meant it was closer to and knew more about the affairs of its customers; and its long-term adherence to good governance.
Now, five years after the crisis, a lot more banks are facing up to reality, spurred on by lower interest rates and the inescapable conclusion that the old conglomerate-dominated corporate sector will not revive soon. Driven by the sale of several banks to foreign strategic investors, Indonesian banks are getting down to developing a more discriminating approach to lending. Not surprisingly, many are following Bank NISP’s example. It emerged from the crisis with a much lower proportion of non-performing loans than its competitors, and with no need for state recapitalization. Since then, the bank’s market sector has boomed and it has capitalized on this growth.
Most of the rest of the banking sector adopted a different and ultimately unsuccessful strategy. Small companies and retail consumers were never fashionable as clients for most Indonesian banks, whether owned by the state or conglomerates. There were too many large businesses around that were much easier to lend to, even if some of them might have been a bit too closely connected for comfort.
Fiddly loans to consumers and small companies were reckoned to be more trouble than they were worth. The result was that when the corporate sector collapsed in 1998 in a mire of debt denominated in US dollars after a currency devaluation, so did the banks. Many were closed, some were merged, and a lot were recapitalized by the state, at massive cost. Since then many of them have been living off interest payments on their recapitalization bonds.
That’s no longer an attractive option. Despite much criticism of her government, president Megawati Sukarnoputri has managed in 18 months to bring big improvements in macroeconomic stability. This has resulted in a stronger currency and a reduction in interest rates. Passive bank earnings from recapitalization bond interest have dropped from 18% to 13%, forcing the banks to start lending in order to make real profits.
A sustained banking sector recovery is crucial to a market perception that Indonesia has at last emerged from the crisis. The country has recorded growth rates of nearly 4% for several years, has stabilized its currency and brought down interest rates. Exports are performing well and consumer spending is robust. What’s missing is investment. The lack of apparent investment is partly a result of a focus on cheap assets taken over by the government but a key factor is banks’ willingness to lend. The newly confident banks, which have now mainly finished cleaning up balance sheets and writing off old non-performing loans, have targeted consumers and small and medium-size companies.
Loan growth was up by more than 25% last year and a survey by CLSA Securities shows that major banks are expecting growth to average 29% in 2003. Banks say that the Bali bomb attack in October last year has slowed demand for loans from large corporations – which was weak anyway – but that demand remains robust from small and medium-size customers looking to expand, and from consumers. “The black-market economy in Indonesia is huge, and it is the SME customers that are of most interest,” says Michael Chambers, head of research at CLSA Emerging Markets, in Jakarta. “Much of their activity is unreported, but they may have access to credit, especially if they own a primary place of residence.”
Many larger banks have been slow to penetrate this new source of customers because of their past reliance on Jakarta-based lending to conglomerates. Systems and training are now being introduced by larger banks such as Bank Mandiri, which is due for a public listing later this year, and Bank Central Asia, which was sold to foreign investors last year.
One leader is Bank Danamon, currently controlled by the Indonesian Bank Restructuring Agency (IBRA), the body set up by the government to clean up the mess after the crisis. A 51% stake is up for sale to strategic foreign investors, with a further 20% to be sold in the market. The government hopes to raise $400 million.
Danamon’s loans in 2002 reached Rp18.5 trillion ($2.1 billion), up 75% on the previous year, and growth this year is likely to reach 59%. Its loan-to-deposit ratio is nearly 50%, qualifying it as a member of the small group of what the analyst identified as real banks. Danamon says it has tight controls on the risks that necessarily accompany such speedy loan growth, with non-performing loans at 3.5% of gross loans. Bank Danamon is the fifth-largest Indonesian bank, and last year made unaudited profit of Rp948 billion, up 31%. A possible buyer is Singapore’s DBS Bank – if any sale is not scuppered by the increasingly strong political mood in Indonesia against privatization of state companies and banks.
Although the anti-privatization campaign is regarded by some analysts as a purely political exercise signalling the beginning of next year’s presidential election campaign, it focuses attention on an issue that has blighted the financial sector since the crisis and caused most of banking’s problems. This is the liquidity payments made to the banks by Bank Indonesia, the central bank, at the time of the collapse of the rupiah in late 1997.
The bank pumped Rp159 trillion (then about $30 billion) into private banks to prevent a collapse of confidence and a widespread run on the system. Much of the money was sent offshore by the banks’ owners or otherwise misused. The government later took over many of the banks involved and signed settlement agreements with their owners under which assets were pledged to cover the liquidity payments. Many of those assets are now worth much less than their original alleged value.
An accelerated sell-off
Late last year IBRA chairman Syafruddin Temenggung, as part of the process of winding up the agency, announced that he planned full and final settlements with all debtors and an accelerated sale of the remaining seven banks under the agency’s control. The government wants the agency wound up so that it can also exit from its long-term arrangements with the IMF with a clean slate. Syafruddin was confident the plan could now proceed. “Politics has been the stumbling block,” he said, “but now I have a clear mandate to go ahead and end the uncertainty.”
| View graph. | ||||||
From the government side he was correct, but politics in Indonesia are not now so easily brushed aside. The government may have misjudged the strength of public opinion about the corrupt cronies, not for the first time. Complaints were renewed that the corrupt debtors were getting off scot-free and that some of the cronies were secretly buying back into their old companies and banks using offshore vehicles – and picking them up at fire-sale prices.
The anger reached a climax this January when the sale of a strategic interest in state-owned telecom Indosat to a government-linked Singapore company came under attack for alleged irregularities. This coincided with a government announcement of plans to increase fuel and utility prices that sparked nationwide demonstrations followed by a government climbdown.
Now critics are arguing that bank privatizations mean not only that the original bankers are getting away with billions of dollars but that the government is raising only a pittance because market prices are so low, a long-held argument given new impetus by Iraq-related market gloom worldwide. The anti-privatization campaign now threatens to spill over into separate government plans to sell stakes in Bank Mandiri and Bank Rakyat Indonesia, two wholly state-owned banks, later this year.
In the past, privatizations have been proposed by the government and approved by the lower house of parliament, the DPR. Late last year, when complaints arose about the Indosat deal, members of parliament criticized the sell-off despite having already approved it. Officials now believe it may be necessary to draw up and put to parliament a specific privatization bill to avoid such arguments in the future.
Politics and privatization
“There is concern that privatizations will get caught up in politics,” says Keat Lee, chief financial officer at Bank Mandiri, the state-owned bank. “The public in many ways does not understand the arguments in favour. There is a need for the idea to be articulated and for more support from intellectuals.”
| View graph. | ||||||
The rise in political opposition to privatization is ironic given Indonesia’s performance in the early 1990s under Suharto, who was ousted in 1998. Unlike other developing countries such as neighbouring Malaysia, which sold off state assets to cronies, Indonesia conducted virtually all its privatizations through initial public offerings. It often listed in New York or London as well as Jakarta through American depositary receipts and attracted foreign and domestic institutional investors as well as local retail interest.
The process attracted no political opposition at all, and still doesn’t if the government sells additional shares in the market. The change in policy towards strategic sales away from market IPOs appears to have angered the senior management of state-owned companies, who in some cases have campaigned against the entry of foreign investors, mobilizing staff and local politicians in support of their cause.
An opportunity to return to the market-led IPO system may come later this year with the planned listings of Bank Mandiri and Bank Rakyat Indonesia. Mandiri has been constructed since the crisis out of the remains of four old state-owned banks and has a dominant position in Indonesia. Although those banks were formerly mainly involved in corporate lending, the reconstructed bank inherited a strong nationwide retail base, with nearly 700 branches. This has been boosted by nearly 1,500 new ATMs, a fourfold increase.
The bank now has 240,000 credit card customers, compared with zero two years ago. Its internal structure has been completely reorganized, with a centralized back office. Its balance sheet has been cleaned up, with non-performing loans now down to 9% and still falling. Although Mandiri still has a loan to deposit ratio of 31%, that is up from 25% 15 months ago. The bank also reports annual loan growth of 30%.
Mandiri has tapped the capital markets twice in the past two years, with a $125 million floating-rate note in 2001, 40% of which was sold to offshore investors, and a $125 million tier 2 capital subordinated debt issue last year that attracted 60% offshore interest. The government is believed to be planning to sell a 30% stake to investors. This would raise $500 million at book value.
The second state bank to go to market later this year will be Bank Rakyat Indonesia (BRI), the third largest. A survivor of the financial crisis, it is a world leader in the provision of micro credit. The bank now has a customer breakdown of 30% in micro-credit loans of up to $500, 48% retail, and the rest small and medium-size companies. Less than 10% of its business is with large corporate customers. Loans have grown 20% over the past two years and the bank expects that to continue. Non-performing loans are at 2% to 3%.
The government seems likely to sell off 30% of BRI. “As the ‘people’s bank’, it seems likely we will have a market IPO rather than seek a strategic investor,” says BRI’s general manager for finance and accounting, Kurt Bohn. “Micro credits is a very specialist area and it’s probably unnecessary to bring in outside expertise.” As is the case with Mandiri, management would also like the bank’s customers to become investors.
BRI has a loan-to-deposit ratio of 60%, qualifying it as a “real bank”, and though NPLs moved into double digits after the financial crisis, a major feature of micro-lending worldwide is customers’ commitment to repaying loans. This enabled BRI to survive the financial crisis comparatively unhurt.
The struggle to sell off the non-survivors still looks as though it could be protracted. Although IBRA managed to sell Bank Niaga to Commerce Asset Holdings of Malaysia last year at a better price than it achieved for Bank BCA earlier in the year, difficulties remain with several others. Bank Lippo is embroiled in a major row with capital markets regulator Bapepam and the Jakarta Stock Exchange, accused of misleading investors, and is being required to report its financial condition weekly. Last year the bank issued two reports to investors in a month. In the first it stated that its capital adequacy ratio was 24.8 and in the second that it had dropped to 4.
Investors suspect that the internal shenanigans could be related to an attempt by the bank’s old owners, the Riady family, to regain control of the bank via a rights issue. Currently 59% of the shares are controlled by IBRA, following a Rp7 trillion recapitalization. Bank Internasional Indonesia (BII) is involved in the complex web of restructuring deals affecting Asia Pulp and Paper, the holding company of the Widjaya family, which also used to control the bank. Bondholders remain dissatisfied with the terms of APP’s most recent offer and negotiations seem likely to be protracted, with disposal of the bank an impossibility before they are concluded.
Bank Permata, which is an amalgam of five acquisitions, of which the best known are Bank Bali and Bank Universal, is only just beginning a restructuring designed to get non-performing loans down from 12%. This bank is now the seventh largest, with nearly 800 branches and ATMs and 1.3 million customers, but is heavily loss-making. Will investors be interested in these IPOs and strategic sales in the improved banking climate? “People do like to harp on the negative, but if you look at the markets and the currency, they have both recovered since the Bali bombing,” says an analyst. “You could say the people who are involved with Indonesia now are immune to the risks.”
