The large variety of stakeholders requires a well-balanced approach to the various interests related to a company. The company itself has the prime responsibility of recognizing these interests and of ensuring that all these interests are met in an appropriate way through implementing an effective system of corporate governance. Companies and associations of industries and professionals therefore have the prime responsibility for setting and implementing rules and principles of corporate governance through their Articles of Association, Codes of Conduct and through the application auditing and accounting standards.  Companies and associations also have the prime responsibility in communicating with all companies on the importance of corporate governance and on providing assistance in implementing the rules and principles of Corporate Governance. The Government should play a facilitating role in this process, by ensuring a supporting level of regulation for minimum levels of transparency and stakeholder protection. Careful thought must be devoted to the balance between government-regulation needed and the self-regulation possible, to the scrutinizing effect of the market forces and to the way the regulation should be issued (laws, decrees, specific market regulations, local regulation). At all times should the ultimate objective of ensuring the essential level of transparency and stakeholder protection in an environment conducive to the corporate sector be observed.

2. Key Features of Corporate Governance in Indonesia

 2.1 Ownership

 Studies by the Asian Development Bank showed that in Indonesia on average the top five largest shareholders in companies control from 57 to over 65% of the company, which is high by international standards. Families often have a controlling ownership, either directly or through holding companies or nominees, which in itself is typical for a young stock market like Indonesia’s.

2.2 Shareholder Participation and Protection

 The Boards of Commissioners (BoC) have generally been ineffective in safeguarding the interests of shareholders, because family based shareholders have held dominant positions. Control mechanisms (‘checks and balances’), such as representation of third party interests through independent commissioners and independent committees for remuneration, nomination and audit have been lacking. Participation of minority shareholders in corporate decision making has been weak. Transparency has been poor as disclosure practices, accounting standards and their implementation have been inadequate.

2.3 Creditor Monitoring and Protection

The creditor’s position and role in corporate governance have been weak as creditors and banks themselves are poorly governed. The weak internal control and inadequate regulatory frameworks for the bank and non-bank financial institutions and banks’ apparently underdeveloped internal risk management systems explain this. Secondly, market scrutiny has been lacking as creditors and competitors have often been part of conglomerates owned by the same families as those who owned the borrowing firms. Thirdly, legal protection of creditors has been weak due to the inefficient judiciary system in Indonesia.  Moreover, insolvency laws and procedures have been generally inactive in Indonesia, both in protecting creditors and disciplining borrowers.

 2.4 Market for Corporate Control and Product Market Protection

The market for corporate control has been largely inactive. The difficulties experienced in mounting hostile takeovers reflect the concentration of ownership in companies. There is also an indication of concentration of industries, which prevents market mechanism on the market for corporate control.

2.5 Capital Markets and Corporate Finance

Due to the infancy of the capital markets in Indonesia, the capital markets were dominated by external finance, especially bank loans. Regulatory restrictions, ineffective legal procedures and lack of market infrastructure (e.i. credit rating agencies) have limited the role of corporate bonds and corporate financing. Firms undertook extensive foreign borrowing because foreign interest rates were liberalized whereas domestic interest rates were regulated. Moreover, pegged exchange rates were seen to guarantee against exchange rate fluctuations, so that the firms chose not to hedge their foreign debt.

 3. Recent Reforms in Corporate Governance

 3.1 Ownership

By allowing listed companies to offer additional equity (not limited to right issues) directly to the public, BAPEPAM has relaxed restrictions on shareholders imposed by specific groups.

 3.2 Shareholders Participation and Protection

Reforms or proposed reforms in this area have aimed mainly at strengthening the BoC, improving the role of the General Meeting of Shareholders (GMoS) and strengthening minority shareholders legal rights and protection. A mechanism of shareholder democracy, including one share one vote, class action suits etc., has been introduced. To promote greater transparency, changes to accounting and auditing standards financial reporting systems and disclosure requirements have been introduced.

3.3. Creditor Monitoring and Protection

To facilitate debt restructuring after the crisis, bankruptcy reforms have been introduced. However, further reforms in bankruptcy procedures and foreclosure laws are required to strengthen the role of creditors in disciplining companies and managers to protect creditors’ rights and to facilitate the process of corporate debt restructuring.

3.4 Market for Corporate Control and Competition

As part of debt restructuring, some conglomerates have sold non-core businesses and are focusing on their core competence. This should have the effect of reducing inefficient lending practices. Restrictions on hostile takeovers including bids from foreign investors, have been lifted, which aims to encourage foreign direct investment and foreign ownership particularly in debt restructuring.

4. Policy recommendations

In establishing rules and principles of Corporate Governance, a good balance must be found between compliance and performance. Laws and Codes of Conducts for Corporate Governance should reflect both the importance of compliance with internationally agreed standards on transparency and recognition of stakeholder interests, as well as the importance of achieving satisfactory financial results. Systematic self-reporting on both compliance and on the financial results, should become common practice.

The objectives and definitions of Corporate Governance should be reflected, and where possible stated explicitly, in all laws and codes of conduct on Corporate Governance. As a principle, self-regulation in the form of Codes of Conduct is preferable to legislation. Only where self-regulation proves to provide unsatisfactory results, should legislation be introduced and adequate enforcement be ensured.

4.1 Ownership structure

Concentrated and family based ownership structures to some extent hindered the development of sound corporate governance. Corporate Governance, and increased transparency, will serve to broaden the share ownership, including participation by financial institutions such as pension funds or foreign institutional shareholders, which will again lead to improved corporate governance through market scrutiny.

4.2 Internal Control and Shareholders Protection

In the presence of concentrated ownership and in the absence of external control from mature capital market and banks, the government needs to strengthen the regulation of the internal governance agent, e.i. the BoC.

 Board of Commissioners

 The role of the BoC should be:

• Identifying the principal risks of the company’s business;

• Monitoring the conduct and performance of the company and senior          management;

• Appraising the BoD and ensuring that there are adequate plans for succession planning;

• Providing strategic direction and adopting a corporate strategy;         

• Ensuring that a business plan is in place that is in the best interests of the shareholders;

• Ensuring that appropriate procedures are in place so that the business of the company is conducted in an honest, open and ethical manner;

• Appointing independent subcommittees.

The key elements of regulations to strengthen the BoC are:

1. Clear specification of the role and powers and the Fiduciary Duties of the Commissioners that provides a sound basis for enforcement on management;

2. Representation of independent Commissioners in the BoC;

3. Establishment of independent subcommittees, in particular audit and  remuneration.

Among the criteria for the election of Commissioners should therefore be that they are capable of performing their duties.

The BoC should have the authority to take over the work of the BoD, if the BoD is prevented from performing its duties for whatever reason.

The BoC should have at least 2 independent Commissioners who are competent as Chairmen of the Audit Committee and Remuneration Committee. The Audit Committee ensures that the Code of Corporate Governance is followed and that independence on the actions that are viewed as related party transactions are done in an arms length way (rephrase).  The Remuneration Committee ensures that the Executive compensation is done fairly and without undue influence by any controlling shareholder. A ‘Komisaris Utusan’ in whatever form should not be required.

In order to ensure a professionally operating BoC, a remuneration level of one third of that of the Direksi should be a principle to be included in the Code of Corporate Governance.

Board of Directors

The definition of ‘independent director’ in the view of the FCGI is, ‘unrelated director’, who is free from any interest or other relationship which could be perceived to interfere with his/her ability to act for the interests of the company. There should not be special roles or approval powers given to independent directors that will interfere with the authority and accountability of the CEO and hamper the proper management of the company. The FCGI believes that the CEO should be accountable for the management of the company. In order to avoid conflicts of interest, there should be limits on the amount of shares that a Director can have in the company that he works for. Corruption, collusion and nepotism must also be avoided by prohibiting the employment of relatives of a Director up to the third degree. The remuneration of the Directors should be disclosed.

In order to safeguard the professionalism of the company, rules must apply to ensure that the Directors have basic knowledge of management. Furthermore, the maximum term of appointment for a member of the Board of Directors should be five years. To ensure the continued professionalism of a Director, one or more Institutions qualified to conduct the required trainings and accredited to issue certificates of proficiency should be established.  

The supervisory role of the management should be delegated to the BoC. At least a weekly meeting of the BoD and a quarterly meeting of the BoD with the BoC should be required. A monthly reporting of the pembahasan kinerja of the company to the BoC should also be required.

Legal protection for the members of the BoD needs to be appropriate. A Director or Manager should in general not be held responsible for the negative effects of a business judgment if:

-          the business judgment was made in good faith for a proper purpose;

-          there is no material personal interest in the subject matter of judgment;

-          the decision maker (director/manager) is well-informed about the subject matter of judgment to the extent they reasonably believed appropriate;

-          there exists a rational belief that the business judgment was in the best      interest of the corporation.

Shareholders’ meetings and voting rights

 To ensure that minority shareholders’ rights are protected, one share-one vote and cumulative voting, raising majority percentage on critical corporate decisions and introducing class action suits should be introduced. In addition, insider trading regulations and measures to prevent, detect and penalize self-dealings involving controlling shareholders should be reviewed and strengthened.

For the protection of shareholder interest, Bapepam should increase the enforcement of the regulations already in place. Actions by majority shareholders must be disclosed if it will affect the value of the shares in the company.

Supervision of compliance with accounting, auditing and financial reporting standards

The quality of accounting and auditing standards and financial reporting systems should be improved by establishing a supervisory entity/board to regulate accounting, auditing and financial reporting practices, to enforce the standards and to impose sever penalties for fraudulent financial reporting.  

4.3 Creditor Monitoring Discipline and Protection

In the short to medium term, in Asian economies the key agents of external governance will be banks, and to ensure that they fulfill this role, major reforms are required. The rules and policies imposed by Bank Indonesia in banks and Bapepam on publicly listed banks should be reviewed, e.i.:

1.      Removing explicit and implicit guarantees by governments in favour of banks;

2.      Strictly enforcing limits on lending by banks to affiliated companies, officers, directors and related interests;

3.      Banks should apply international standards of capital adequacy and the regulator should assure strict compliance with these standards;

4.      Banks should follow international financial accounting, reporting and disclosure standards adopted by a local standards-setting body.

5.      widening of the authority of the BoC, beyond performing only a supervisory function;

6.      new rules to manage the BoC;

7.      a policy on the meetings of BoC and BoD;

8.      a fit and proper test system, testing the experience and professionalism of members of the Board of Directors (BoD);

9.      rules for the BoD, among others to review the function and responsibility of the Compliance Director (check for disagreement in dependent/independent, possibly independent specifically for banks)

10. policies with regard to nomination and compensation of BoC and BoD;

11. Code of Conduct with regard to issues of conflict of interest;

12. Committees required to the bank, which could support the operation of the bank such as the ACCO, Credit Committee, Management Committees etc.

4.4 Market Competition and the Market for Corporate Control

To promote governance through product market competition, governments should review their development policies to eliminate biases towards subsidies, entry and exit barriers and various other forms of protection. Corporate Laws should be reviewed, particularly on acquisitions of companies by outside investors and limits on acquisitions of shares by stockholders.

4.5 Capital Market Development and Corporate Financing

The Indonesian and other Asian capital markets are characterized by a ‘missing middle’ of institutional shareholders. Development of an institutional investor community is vital to the promotion of the role of outside shareholders in the monitoring of controlling firms. (rephrase). These institutions must maintain higher standards of transparency and disclosure and be a force to improve standards of corporate governance. In addition, it is recommended that the government through its Stock Exchange Commission/BAPEPAM review public listing, trading rules and supervision systems in order to ensure that markets are operating efficiently. Of special importance are those rules and supervision systems related to disclosure, insider training, public listing and de-listing rules.

Under 5 (Securities Regulation) in the Draft Matrix of Corporate Governance Framework and Areas of Reform, it needs to be clarified what the purpose of a special ‘Financial Supervisory Agency’ should be. It should be questioned whether it would not be fulfilling a function that is already being performed by Bapepam or BI. It is recommended that the existing Supervisory body enforce the regulations that are already in place. Should there be any need to add or change another regulation, the FCGI would urge the body to simplify and be consistent in its enforcement first.

Funds raised through the capital market need to be monitored by Bapepam and it needs to be ensured that the purpose that was disclosed in raising the funds is actually put to use accordingly.