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10/03/2020

Omnibus Bill’s Likely Impact on Foreign Direct Investment Open to Interpretation

 

This is the second in our series of ABNR Legal Updates on the Bill on Job Creation (dubbed the “Omnibus Bill” / the “Bill”),[1] submitted by the Government to the National Legislative Assembly (DPR) on 12 February 2020. Today, we focus on the changes proposed by the Bill to Indonesia’s foreign direct investment regime.

 

A. Introduction

 

Indonesia’s quite restrictive foreign direct investment (FDI) regime, alongside its highly regulated manpower sector, has proved one of the most difficult areas of the economy to reform.

 

Both FDI and domestic investment are governed by the 2007 Investment Law (“Investment Law”).[2] However, as few major changes are proposed by the Bill to the domestic investment regime, we focus our attention in this update on FDI.

 

It is important to note at the outset that the rules contained in the Investment Law do not apply to equity investments in publicly listed companies as they are expressly exempted from foreign ownership restrictions.

 

Before discussing the changes proposed by the Bill, it may be useful to briefly describe a key feature of the current FDI regime (and the one that will likely be the most affected should the Bill be passed by the DPR), namely, the Negative Investment List.

 

B. Negative Investment List: Background

 

The Negative Investment List (Daftar Negatif Investasi / “DNI”), which is mandated by Article 12 Investment Law, constitutes a fundamental aspect of Indonesia’s investment regime (both domestic and FDI). From the FDI perspective, the DNI sets out a long list of business lines that are either 100% closed to FDI or open to FDI subject to conditions (most significantly, foreign ownership caps in particular business lines).

 

The current iteration of the DNI is incorporated in Presidential Regulation No. 44 of 2016,[3] which entered into effect on 18 May 2016.

 

It should be noted that there was a flurry of media reports in mid-February 2020 to the effect that the Government was in the process of revising the prevailing DNI and would release a new list (to be renamed the “Positive Investment List” / daftar positif investasi) sometime in March 2020. However, the reports were rather muddled and provided little in the way of concrete information on likely changes. As there have been no follow-up reports on the issue since mid-February, we will confine our discussion in this ABNR Legal Update to the changes to the FDI regime that are proposed by the Bill.

 

C. Omnibus Bill’s Proposed Changes to 2007 Investment Law

 

(1) DNI Restrictions on FDI: Foreign Ownership Caps

 

While the Bill envisages relatively few changes to the Investment Law overall, the proposed changes to its provisions on the DNI could be significant.

 

In particular, the Bill envisages what could be an important change to the Investment Law’s Article 12(1), which currently reads as follows:

 

All lines or types of business are open to direct investment, save for those that are designated as closed to investment or open subject to conditions.

 

By contrast, the (amended) Article 12(1) will read:

 

All business lines are open to direct investment, save for those that are designated as closed to investment or which constitute activities that are reserved to the central government.

 

Thus, the (amended) Article 12(1) will no longer incorporate the phrase “open subject to conditions.”

 

Building on this envisaged change to Article 12(1), the Bill then proposes the amendment of Article 12(2) (and the Elucidation thereon) so as to incorporate a list of the business lines that will be closed to investment,[4] and a list of the activities that will be reserved to central government,[5] as envisaged by the amended Article 12(1).

 

Further, Article 12(3) will be amended so as to allow further requirements for the implementation of (the amended) Article 12(1) and (2) to be provided for by Presidential Regulation.

 

Based on the proposed amendments described above, two conflicting interpretations of their likely implications are possible:

 

  1. The first (admittedly rather optimistic) interpretation focuses on the text of the proposed amendment of Article 12(1), particularly the deletion of the crucial phrase “open subject to conditions.” As it is this phrase that affords the Government the authority to impose conditions on FDI ventures (such as ownership caps), the proposed amendment of Article 12(1) could be interpreted as meaning that FDI ventures would no longer be subject to foreign ownership caps should the Bill be passed. If this interpretation is correct, FDI restrictions would be confined to the prohibition of FDI in those business lines / activities that are expressly listed as closed or as reserved to central government in the (amended) Article 12(2).

 

Should this be the case, all investments and activities, other than those specifically designated as closed to investment or reserved to central government, would be 100% open to foreign ownership. If this is indeed so, it will mark a dramatic liberalization of Indonesia’s FDI regime.

 

  1. The second possible interpretation is more conservative, and perhaps more realistic, as it takes into consideration Indonesia’s history of tightly regulating investment, as well the powerful vested interests that will be lined up against any wholesale liberalization of the FDI rules. According to this interpretation, while the Government will most likely relax FDI ownership restrictions, it will avail of the freedom afforded by (the amended) Article 12(3) Investment Law to continue to impose foreign ownership restrictions on FDI ventures by way of Presidential Regulation in order to protect local business interests and micro, small and medium enterprises and cooperatives (“MSME&C”).

 

As to which of the above possible interpretations is actually correct, the answer will ultimately depend on the contents of the Presidential Regulation mandated by (the amended) Article 12(3) Investment Law.

 

(2) DNI Restrictions on FDI: Role of Micro, Small, & Medium Enterprises and Cooperatives

 

Article 13(1) Investment Law requires the Government to reserve particular business lines for MSME&Cs, and to designate other business lines where investment by large enterprises may only be made in collaboration with MSME&Cs. At present, these requirements are frequently reflected in the conditions stipulated in the DNI for investments in particular business lines. However, neither of them is included in the Bill’s proposed amendments to the Investment Law. Instead, they are replaced by a rather wooly commitment on the part of central government to “provide facilities, empowerment and protection to [MSME&Cs] in the direct investment context.” This commitment includes promoting partnerships, training, innovation and market expansion, and greater access to financing and information.

 

As with the question of foreign ownership caps (as discussed in Section (1) above), the likely impact of the proposed changes to Article 13 are open to interpretation. On the one hand, the elimination of the requirements imposed by Article 13(1) Investment Law could be taken as a signal of the Government’s intention to completely remove MSME&C rules from the DNI. On the other hand, however, the Government could possibly continue to impose such requirements by way of Presidential Regulation under (the amended) Article 12(3) Investment Law. So, once again, the situation will only become clear after such Presidential Regulation has been issued.

 

D. Investment Licensing

 

The Bill envisages the amendment of Article 25 Investment Law so as to place all relevant licensing authority in the direct-investment arena in the hands of central government. Further, the Bill proposes the amendment of Article 251 of the 2015 Regional Government Law[6] so as to accord the President the power to overturn regional regulations that conflict with national legislation (including as regards investment licensing).

 

These changes are clearly designed to eliminate long-standing problems caused by overlapping and conflicting central- and regional-government regulations on investment licensing. Further, the Bill envisages that much of the power that will be reclaimed from regional governments will be vested in the central government and President, rather than individual line ministries. This is no doubt intended to ensure greater focus and harmonization, and address the long-standing problems of siloism and particular ministers pursuing their own agendas to the detriment of the economy as a whole.

 

From the investor’s perspective, suffice it to say that anything that would help reduce the current level of legal uncertainty is to be welcomed.

 

However, it should be noted that the clawback of authority from the regions could have implications as regards Articles 18 and 18A of the 1945 Constitution. While these articles expressly state that the division of authority as between central and regional government is to be determined by national law (i.e., legislation passed by the DPR), Article 18A(2) also provides that the division of authority in the field of public services must be “just and appropriate.” This would appear to afford a potential ground for a constitutional challenge to the proposed diminutions in regional-government licensing authority.

 

ABNR Commentary

 

The Investment Law’s restrictions on FDI contribute to a variety of structural problems in Indonesia’s economy. Rather than promoting fair competition, transfer of technology, and the dissemination of modern management techniques and new ways of doing things, the caps on foreign ownership and the other statutory restrictions actually serve to hamper the achievement of these laudable objectives in many incidences.

 

Then there is the character of much of the FDI into Indonesia to date. As the Government readily admits, a significant portion of inward investment over the years has been focused on the primary resources/commodities sector or has been motivated solely by a desire to exploit the country’s enormous market of some 270 million people. As a consequence, Indonesia continues to be relatively isolated from international supply chains, unlike Thailand, Malaysia and Vietnam, for example. Given that FDI has had far from the desired effect on the country’s overall economic development, reform of the FDI regime is now seen as essential by the Government.

 

The big question now is the extent of the reform that is envisaged by the Government? Will they opt for a big-bang approach by eliminating all restrictions on FDI, as the text of (the amended) Article 12(1) Investment Law could be interpreted as suggesting, or will they adopt a more conservative approach by continuing to impose at least some restrictions on FDI? Only time will tell, as they say.

 

By Giffy Pardede (gpardede@abnrlaw.com) and Gustaaf Reerink (greerink@abnrlaw.com)

 

[1] Rancangan Undang-undang Tentang Cipta Kerja

[2] Law No 25 of 2007 on Investment (Undang-undang No. 25 Tahun 2007 tentang Penanaman Modal)

[3] Presidential Regulation No. 44 of 2016 on Business Sectors that are Closed or Conditionally Open to Investment (Peraturan Presiden No. 44 Tahun 2016 Tentang Daftar Bidang Usaha Yang Tertutup dan Bidang Usaha Yang Terbuk Dengan Persyaratan di Bidang Penanaman Modal)

[4] Cultivation or production of class I narcotic substances, gambling/casinos, the capture of prohibited species of fish (as listed in the Convention on International Trade in Endangered Species of Wild Fauna and Flora (CITES), the removal or use of natural coral, chemical weapons; and chemicals and materials that damage the ozone lawyer

[5] Provision of (government) services; defense and security, including armaments (currently 100% open to domestic private-sector investment), government museums, management of historic sites, air navigation, and telecommunications / auxiliary services related to vessel navigation.

[6] Law No. 9 of 2015 on the Second Amendment of Law No. 23 of 2014 on Regional Government (Undang-Undang Nomor 9 Tahun 2015 tentang Perubahan Kedua atas Undang-Undang Nomor 23 Tahun 2014 tentang Pemerintahan Daerah).

 

This ABNR News and its contents are intended solely to provide a general overview, for informational purposes, of selected recent developments in Indonesian law. They do not constitute legal advice and should not be relied upon as such. Accordingly, ABNR accepts no liability of any kind in respect of any statement, opinion, view, error, or omission that may be contained in this legal update. In all circumstances, you are strongly advised to consult a licensed Indonesian legal practitioner before taking any action that could adversely affect your rights and obligations under Indonesian law.