Vol 2 (2005) - Issue 2

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Reform of Indonesian Bankruptcy Law

In 2004 foreign investors were once again alarmed by the use of Indonesian bankruptcy law to force a solvent Indonesian subsidiary of a multinational financial institution into insolvency proceedings (The Pru case - see below). This led the Indonesian Government to introduce legislation in late 2004 to limit the possibility of such events occurring in the future.

Background to the Indonesia Bankruptcy Law

Insolvency proceedings can be started in Indonesia by court proceedings or through informal mechanisms. The Commercial Court, which was established on 21 August 1998, deals with bankruptcy petitions (before then insolvency cases were handled by the ordinary civil courts). During the 1998 banking crash, the government set up a number of informal mechanisms to facilitate negotiations between a debtor and its creditors:

- The Jakarta Initiative Task Force (JITF) whose aim is to provide corporate debt restructuring and ‘workout’ plans for creditors and debtors.

- Indonesian Debt Restructuring Agency (INDRA) which assists companies in resolving their debt problems by giving them fixed exchange rates to strengthen the value of IDR.

- The Indonesian Bank Restructuring Agency (IBRA) which facilitates bank and loan restructuring. The IBRA acquires the banks’ non-performing loans and injects new funds to recapitalize the companies concerned.

In order to understand how the Pru case arose it is necessary to consider the genesis of the 1998 amendment to the bankruptcy law. It was amended at the behest of the International Monetary Fund (‘IMF’) as a result of the IMF’s insistence that there should be suitable creditor protection as one of the conditions of its USD 4.8 billion bailout package (following the banking crash earlier that year). The result was that the bankruptcy law did not focus on a company’s solvency but only on whether it had paid its debts. Indeed, pursuant to Article 1 of the Bankruptcy Law, a debtor who has two or more creditors and fails to pay at least one matured debt may be declared bankrupt by the court.

The Pru case

A former consultant, Lee Boon Siong, of the local arm of Prudential PLC (one of the UK’s largest insurers) sought USD 40 million in damages after PT Prudential Life Assurance (Indonesia’s leading investment-linked insurance company) terminated an agent recruiting and training contract with him in late 2003. The Indonesian court decided that Lee was owed USD 400 000 and in late April 2004 the Central Jakarta Commercial Court declared PT Prudential Life Assurance bankrupt. Under the applicable Indonesian law, any company with more than one unpaid debt could be declared bankrupt by a commercial judge. The effect of the judgment was, according to the Prudential’s spokesperson, that it had to halt its Indonesian operations temporarily and to seek Court approval before continuing.

The Prudential appealed the bankruptcy ruling and in early June 2004 the Indonesian Supreme Court overturned the lower court’s decision. One of the three Supreme Court judges who made the new ruling, Abdul Rahman Saleh, said the affair was a contractual dispute and should never have become a bankruptcy case. The judge was quoted on Reuters as saying ‘This should have gone through an ordinary court, not a bankruptcy hearing’. The Supreme Court’s decision was a victory for common sense given that the company was solvent (its local assets exceeded USD 400 000 many times over) and able to meet its debts as they fell due.

The Pru case was not a one-off. In 2002 the Indonesian arm of Canada’s Manulife Financial Corp was declared bankrupt despite being solvent. The decision was subsequently overturned by the Supreme Court after protests by the Canadian Government and foreign business groups. If Indonesia had a concept of legal precedent the Prudential bankruptcy case should have been rejected at first instance. However, it follows a civil law approach and the judiciary is able to apply the law as they see fit without being bound by the previous decision of a higher court.