State-owned Enterprises: Borrowing to fail?

585
observer-image
Independent Observer

IO, Jakarta – With the Government’s aggressive appointment of State-owned Enterprises (Badan Usaha Milik Negara – “BUMN”) to carry out infrastructure construction, BUMN debt is now skyrocketing, to an extent that it endangers State finances: the huge volume of funds necessary to complete designated projects result in State-owned companies desperately seeking out loans, aggressively taking on fiscal risk and heavily burdening the State budget.

A report from the Organisation for Economic Co-operation and Development (OECD) specifically refers to this issue, pointing out how ominous fiscal risks will naturally arise from financial burdens borne by BUMNs funding Government infrastructure projects. The Government has now turned BUMN into a significant tool for its infrastructure and development strategies over the past few years.

As of end-2017, BUMN debt totaled Rp 4,825 trillion, a stunning 38% higher than the 2014 figure of Rp 3,488 trillion. According to Ministry of BUMN records, total 2018 BUMN debt is expected to surge to Rp 5,253 trillion, increasing 8.87% in the past year alone. This assumption was based on the 2016 plan to accelerate 245 National Strategic Projects (Projects Strategis Nasional – “PSN”), whereby a full 30% are contingent on funding from BUMN.

Standard & Poor’s recorded debts of four major State-owned construction companies as having jumped 57% over that of the past year, to Rp 156.2 trillion. This reputable global debt-ranking agency also pointed out how the debt ratio of 20 construction BUMNs increased five-fold against gross income, much more severely than back in 2011. The point is that construction BUMN debts worsened considerably once those companies were assigned various Government infrastructure projects.

The trend of BUMN debts increasing to exceed national economic growth is a cause for concern. BUMN debt load rises, Government debt ditto. State Budget deficits remain high, because income is consistently low and never manages to achieve targets. Yet the Government remains carefree and calm, leading us to suspect that our Government is mismanaging our economy.

Time Bomb
Debt is a natural element in the course of business. There is no problem with BUMN going into debt, as long as such obligations are taken on prudently and based on proper business studies. As Said Didu, BUMN observer, pointed out, the problem is when these funded projects are not based on proper business studies. “I notice that the increase of BUMN debts is not based on any objective business study. Thus many projects become a burden once they are completed. Initially, it is difficult to find funding for their construction and operation. Examples of these include the Jakarta-Bandung rapid train and the Integrated Cross Railways (Lintas Rel Terpadu – ‘LRT’),” Said Didu explained. This is also a warning sign, when alert investors are reluctant to pour money into apparently politically-motivated projects with a dodgy business potential. Monuments do not turn a profit.

According to Said Didu, indications that a given BUMN project may not be based on good business study include difficulty in finding fair and affordable funding sources, at reasonable interest. Second, these projects frequently run into unforeseen problems and are delayed. Third, many road / non-road projects are built or abandoned because of political factors. For example, the Masela block in Maluku. Maluku residents urge authorities to complete the structures on land, but the project is stalled.

Many people are puzzled about such financial recklessness. Basically, it is because the Government sets itself too-ambitious targets for infrastructure monuments. For example, they target the national economic growth rate at an over-optimistic 7% to lure in private investors – such assumptions fail to materialize. When economic growth begins to sag and stall, income drops and tax targets are not met. Private investors are naturally wary of such “showcase projects”. They want to turn a profit on their investment.

In the Medium-term Development Plan (Rencana Pembangunan Jangka Menengah – “RPJM”) previously announced by the Government, infrastructure projects rely on 3 funding sources: first, private investment; second, BUMN’s own funds; third, the State Budget. In actual fact, private investment and State Budget target funding is not achieved. Therefore, in a desperate effort to achieve the RPJM target, funding responsibilities are dumped onto the hapless BUMN. Impractical projects that smelled bad to private investors – who refused to be drawn in – are thus loaded onto BUMN, who must follow Government instructions are stuck with them.

The previous mechanism was a solid one: when a project was clearly impractical, the BUMN was tempted with a State Investment (Penyertaan Modal Negara – “PMN”) as an incentive. In fact, such a scheme only lasts one year, which means other funding sources must be resorted to, paying acute commercial interest rates. This would clearly be a time bomb in the future, because in order to pay commercial interest rates, the entire infrastructure would have to apply commercial tariffs upon operation. This would be a political dilemma for any subsequent Government, because to evade politically unpopular high tariffs, the only choices available would be a Government subsidy or BUMN bankruptcy. Meanwhile the reckless administration that initially took on the debt is long gone.

“For example, consider the investment for the LRT – frequently criticized as being too expensive – the most expensive in the world, in fact. An economically feasible tariff for LRT I would be around Rp 40,000.00 per passenger journey. Commuters would resist this, which is why the Jakarta Regional Government has been presented with a severe headache: it will have to bear the subsidy, even though the project is not theirs. If they decline to provide the subsidy, the relevant BUMN will go bankrupt. Other examples include the currently-running airport ‘ghost train’, the fancy LRT in Palembang and toll roads connecting cities on Java. Most of these roads are accessed by private vehicles for personal travel, as big commercial vehicles like trucks refuse to use them because the toll fees are too steep. They resort to taking public roads, even if it delays them 2-3 hours. The result is insufficient revenue for the BUMN who ‘won’ the bid for such an infeasible toll road project, and now they are overdrawn. There are plans to sell off these roads, but practically nobody is interested, except at a fire sale price – which would result in a tremendous loss considering the initial investment. In desperation, one Government minister proposed selling off productive infrastructure, such as Soekarno-Hatta International Airport. I believe this idea would be quite unpopular, and the people would definitely vote against it,” Said Didu explained.

There are 3 types of infrastructure: basic infrastructure, public infrastructure, and economic infrastructure. Basic infrastructure includes village roads, irrigation, community health centers (pusat kesehatan masyarakat – “puskesmas”), and schools that must be funded by the State Budget. Public infrastructure includes transportation facilities for distributing goods and services. They are generally funded by a combination of Government incentives and modest funding. Purely economic infrastructure is opened to economic mechanisms and thus funded by commercial operational fees.

LRT infrastructure, for example, is a goods and service distribution infrastructure, not an economic one. The main issue is that there is a general mismatch: public infrastructure has access to commercial funding sources, such as banking and bond issuance, which carry high interest rates. Any public infrastructure funded by commercial funds will run into trouble sooner or later.

This phenomenon occurs in relation to all BUMN infrastructure, including the BUMN Indonesia Railways (Kereta Api Indonesia – “KAI”). Funding sources and the utilization plan for the infrastructure facility are a mismatch. Ironically, people tend to state that infrastructure projects will always turn a profit. This year, however, they are already quite deep in maturing debt which must be paid off next year. Are we so sanguine about the balance sheet? Debt must be paid, and there may not be any extra income available for this. Even if there were, it would probably be attached to impractical conditions.

“When the LRT was recently inaugurated, the President grandly announced that the fee would be just Rp 9,000.00. The question is, who will subsidize this massive gap? The National Electric Company (Perusahaan Listrik Negara – ‘PLN’) also suffers a mismatch because it has had to resort to commercial funding sources, while PLN is a basic infrastructure that provides a basic utility – such as electrical power to villages. Funding for village electricity as basic infrastructure used to derive from the State Budget, but now PLN is burdened with it. It is thus no wonder that PLN loses more and more money every day, only turning a profit in 3 provinces out of 34: DKI Jakarta, Banten, and Bali. All other power generators operate at a loss,” Said Didu complained.

Our Government’s current policy for electricity and fuel prices violates Article 66 of BUMN Law, which states that if the Government appoints a BUMN to perform an economically impractical task, the Government itself must make up all costs, adding a feasible margin according to law. For example, if the Government keeps electricity fees at an abnormally low level, they themselves must make up the difference. In fact, the Government shoves the burden onto PLN.

Pertamina, which used to have a stable profit of Rp 33 trillion, can now only turn under Rp 10 trillion in profit, at most: they are prohibited from raising petroleum fuel prices, or as the political slogan goes, there is a “single-price petroleum fuel”. This is ridiculous, as petroleum fuel prices have always remained the same, at every fuel station across Indonesia. Furthermore, the Government has always appointed Pertamina to construct and operate fuel stations. These policies make sense, but only as long as the Government reimburses Pertamina for all costs incurred.

Said Didu states that the transfer of Government burden to BUMN is clearly prohibited by law, especially since BUMN debt mostly derives from infrastructure and wage expenditures, not productive purposes. We see many infrastructure facilities, such as the airport train, LRT in Palembang, Kertajati Airport and others which from the outset fail to operate well or turn even a small profit. BUMNs are forced to execute economically impractical programs that exceed their financial capabilities, while feasible projects yang such as Pertamina petroleum refineries are ignored.

On the other hand, according to Harryadin Mahardika, an Economic Observer from the University of Indonesia, the biggest problems in our Government are planning and coordination. Many credible, practical plans are not executed because they must give way to populist policies. An obvious example is in the electricity sector: PLN’s planning is a total mess. The General Electricity Supply Plan (Rencana Umum Penyediaan Tenaga Listrik – “RUPTL”), which serves as the main reference document for all electricity stakeholders (including investors) was crafted using a political approach, one which does not reflect actual electricity demand in the least. The result is that PLN is forced to revise its plans several times over. This is a tremendous loss of time and expense to stakeholders – especially investors – resulting in PLN losing the trust of financial institutions. Furthermore, PLN must also bear heavier financial burdens in the future, due to impractical generator projects that it is already committed to complete.

Harryadin further said that the total value of BUMN assets is estimated at Rp 7,500 trillion. Tempted by this huge value, our Government seeks to perform “creative financing” by putting up these assets as security, in order to be able to fund its huge and politically spectacular infrastructure projects. Even though the Government claims this is a safe bet, there are clearly risks involved. Even though the scheme is not directly exposed to the State Budget and there is no Government Underwriting, indirect fiscal risks are incurred, as the Government is the owner (or at least majority shareholder) of BUMNs.

We need to remember that global markets have an entrenched perception that BUMNs are quasi-sovereign enterprises, and therefore any corporate actions they take are related to Government appointments. No matter what happens to BUMNs, the market expects the Government to take responsibility. In other words, while putting up assets as collateral it may not directly involve the Government; it may not impose any monitoring mechanism: if the BUMN fails to satisfy its obligations the Government will clearly come into play.

Harryadin admits that BUMN debts can become a time bomb, as indicated by a certain PLN case. We still strongly recall the Letters from the Minister of Finance to the Minister of ESDM and State Minister of BUMN about the potential fiscal risks PLN relating to its obligations to third parties. Government directives to PLN to construct specific electricity infrastructure forces the company to seek funding from various financial institutions, simply in order to gain loan access at a lower interest rate. True, the Government provides Underwriting facilities, but one of the loans given to PLN has a strict Debt Service Coverage Ratio (DSCR) requirement at 1.5 times the amount loaned.

Monitoring results show that the DSCR covenant is in great danger of being breached, which would result in a cross-default. This in turn would affect all Government Guarantees for all PLN debt that it underwrites. If such schemes are continuously practiced across all BUMNs, the accumulated defaults would load up the Government with extremely large burdens. While the Government claims that BUMN debt ratios are currently safe, the danger is that the debt ratio growth rate against income before interest, tax, depreciation, and amortization growth rate is extremely rapid: 5 times within a mere 6 years.

Harryadin further criticizes the fact that the financial balance of construction BUMNs deteriorated after they were ordered to take part in infrastructure projects, revealing continuously worsening cash flow issues. This is obvious from the fact that their share value has sunk some 50% since early 2018. Furthermore, most BUMN debt carries short-term maturity periods, making it difficult to cover with profit. This would further increase risk, especially since the Rupiah exchange rate continues to spiral downwards. Domestic funding is not that easy to locate either. What is lacking is correct planning, so that BUMNs would only commit to projects with proven high feasibility.

Said Didu stated that there are 5 things that we need to check when we want to go into debt. First, is the debt to result in a profitable enterprise or not? Second, where is the funding coming from and what is the rate of interest. Third, repayment terms, period and conditions – if a default should occur, how would it affect the assets put up as collateral? Also, in relation to asset ratio, we need to confirm whether the asset is credible or not. For example, PLN has many “assets” that are unsaleable, such as high-voltage electric poles. Fourth, what are the stages of debt utilization? Fifth, terms of repayment.

As of this writing, the top 3 debtor BUMNs are PLN, construction BUMN, and Pertamina. Potential of default always exists as long as there are no policy changes, as these are clearly impractical projects. An incoming Government will bear a heavy burden they never asked for.

All BUMNs facing losses actually require 5 type of authority never granted by the Minister of Finance to the Minister of BUMN: to perform liquidations, mergers, privatizations, acquisitions and to establish holding BUMNs. In such cases, the loss of BUMNs should not be resolved by the Minister of BUMN, but is the responsibility of Minister of Finance. The resolution of BUMN losses is always slow because the Minister of Finance always takes such a long time to come to a decision.

Mismanagement
Kusfiardi, an economics-politics analyst, stated that the main concern stems from the fact that we customarily view a BUMN the same as an ordinary corporation. In other words, it must turn a profit and must be managed according to the good governance principles applied to companies. This disregards the fact that BUMNs have special obligations and privileges as stipulated in the Constitution of 1945 to control land, water, and the natural resources contained within, as well as all production factors important to the State and the livelihood of the masses, to work toward the utmost prosperity of the people themselves.

If these production factors are managed according to ordinary business principles, BUMN must achieve income targets. Its tax loads and costs must be similar to those of ordinary companies. BUMNs are actually governmental agencies, but they are so heavily mismanaged that even assessment of their financial performance or management is problematic. The short cut is then to seek loans from other sources, while BUMNs should have been able to collaborate with each other, for example Pertamina, may cooperate with banking BUMNs and other State-owned financial institutions.

“I see that the Government has misunderstood the management of BUMN, whether in terms of their function, role, or authority, which are configured in such a way because they are considered to have to work the same as ordinary companies. In the end, our BUMNs are treated as ordinary corporations. This is not a problem if BUMNs were privately-owned companies, but they are in fact State-owned enterprises. The implication is that when BUMNs get into debt, especially for dollar (i.e. foreign currency) instruments, the price it sets for its services would naturally be affected. This would in turn force them to choose between raising prices or begging for Government money, in this case subsidies.

If this goes on, our BUMNs risk being privatized through a common IPO path. When a BUMN undertakes an IPO, it actually becomes partially-privatized and is no longer fully under State control. It is now bound by rules and laws relating to corporations and capital markets.

“This is the wrong way to view BUMNs. Under this perception, BUMNs are viewed as companies that must turn a profit no matter what, and that debt is thus the accepted way of getting the capital required for them to produce goods and services. Yet BUMN debt affects both their services and their ability to repay. In the end, when it comes time to pay off creditors and they encounter difficulties, their debt might potentially be swapped or converted into investment – which is another way of privatizing them. In fact we strongly suspect that there is a sneaky conspiracy to privatize our BUMNs indirectly, through their debt. Direct privatization would be too dangerous, as it would be seen as a direct attack on national welfare,” Kusfiardi explained.

BUMNs with a great potential of defaulting generally need foreign currency to buy materials. For example, PLN needs imported fuel to run its generators, while Pertamina also imports more petroleum fuel than crude oil it processes. BUMNs such as Pertamina and PLN are paid in Rupiah while their expenditures and obligations are mostly in dollars. This makes them highly vulnerable to debt and default scenarios. Furthermore, the Government does not strictly oversee how our BUMNs spend the proceeds they receive from their loans.

PLN and Pertamina both suffer a double whammy: while steeper global oil prices crank up their expenditures, poorer exchange rates bleed them financially. Construction BUMNs suffer the same effect but even more acutely, because their work is long-term and they only receive income from operation of the facilities they construct several years later (if at all). There is a long delay, while they must somehow find ways to continue operations.

The State should take better care of our public utilities and public services, precisely because they are important for people’s lives. Handing them over to private parties results in domination by a few major companies, creating a cartel. To avoid this, public utilities and public services must be managed and controlled by the Government.

However, this is not the perspective embraced by our current Government. For example, toll roads are valued on a per kilometer tariff base, how much it costs to construct lanes etc., just like an ordinary business. Instead, they should be valued according to our infrastructure needs: how much will this infrastructure construction leverage our economy? Such a calculation may include the number of jobs generated, the value of new economic activities created, the amount of additional taxable income. All Government services must factor in increased people’s welfare, along with the State’s. This is viewed from the amount of income generated for both, as the more income people gain from Government projects, the bigger the potential of tax income earned from its citizens.

At present this is not the case. Our potential tax income remains stagnant, with the biggest concentration being the very few extremely wealthy people in Indonesia. This is another reason why we are so straitened. “The Government uses common trade logic and fund BUMNs accordingly, while they are not ordinary corporations; this does not correlate. The Government should correct its course soon, or serious consequences will occur,” Kusfiardi said.

Kusfiardi further noted that our country has fallen into a debt trap, i.e., we take on new debt just to pay down old debt. If BUMNs are left alone like that, State finances will certainly continue to worsen. BUMNs should be performing part of the State’s duty by providing the people with facilities that raise their welfare. After all, the purpose of Government corporations, according to the Constitution of UUD 1945, is to “ensure that land, water, and natural resources are controlled by the State for the utmost prosperity and welfare of the people” by utilizing these natural production factors properly.

There is another point of view about BUMN losses. Yes, a lot of them are operating at a loss. What we do not distinguish is whether the loss is caused by mismanagement, or because they have been functioning properly but their financial performance is being measured with the wrong instrument. “I suspect that the Government does not manage BUMNs properly because it does not feel that ‘This is our company.’ They do not place BUMN within the framework of national interest, but rather use them for the temporary needs of power. Today, national giant economic circles collaborate with global giant economic circles. This is why we have such a great gap in our society: our gini ratio has remained within the 4% range for years. This shows that our economy actually does not conform to our people’s welfare at all,” Kusfiardi said.

Enny Sri Hartati, the Institute for Development of Economics and Finance (INDEF)’s Executive Director, stated that mismanagement and inefficiency also contribute to BUMN losses. The only way to remedy this is to reformulate policies relating to BUMNs, in an accountable and structured manner. BUMN governance must also be improved, because there have been so many deviations within them. Furthermore, BUMNs with special appointments must be treated specially. When they become mired in debt, we can track why they lack productivity. Any debt that can stimulate productivity resulting in income generated being bigger than a debt obligation is a positive debt; there is no problem with that. However, when debts are used for consumption, the impact will be negative for sure.

When BUMNs are assigned Government projects, they are generally not given incentives proportional to the burdens that they must carry, because they must bear all costs. Being awarded a project should generally mean that performance improves because productivity increases, but the appointed projects tend not to be profitable, or even economically feasible. Logically, if you appoint somebody to do something for you, you should provide the funds so that they can complete their assignment without any worries. In other words, the Government is the one who should be seeking funding sources so that BUMNs can perform their tasks satisfactorily, without any undue worries, such as getting long-term soft loan schemes that would not injure economic considerations. If the BUMN must deal with getting funding for the appointed work themselves, their performance would be compromised.

We must get our perceptions straight: BUMNs should only concentrate on managing resources for priority sectors according to the mandate of Article 33 of the Constitution of 1945. In other words, commercial activities should be left in the hands of private corporations. BUMNs should be appointed to construct infrastructure that many not be economically attractive, but strategic for the running of the country. Such appointments must also be consistent. For example, Pertamina must not be forced to follow any market mechanism if they are forced to sell fuel at below-market prices.

Our BUMNs must have better governance. Holding BUMNs remain ambiguous until now. This is unfortunate, because holding BUMNs are meant to provide a clear framework that would enable more efficient BUMN governance. The purpose is to integrate and coordinate subsidiary BUMNs, so that they strengthen one another and not interfere with each other. However, this is not the case with construction BUMNs in our country. Due to inconsistent appointments, they frequently have to fight for the same projects and cannibalize each other. There should be specialization for these BUMNs, so that they can be better coordinated, and thus more efficient.

BUMNs are a part of the Government. Even though they are formally corporations, they have a widespread multiplier effect. This means that in case of mismanagement, unhealthy governance or inconsistent appointments, in the end the Government must bear all consequences anyway. If a BUMN cannot satisfy its obligations, there is concern that it will be sold off by the Government and be privatized. This means that private parties only concerned with profit will manage strategic businesses that affect the daily welfare of the people. This is extremely dangerous, as frequently BUMNs are proven unhealthy because of mismanagement and malpractice. “For example, Indosat, a national cellphone service provider, used to be so badly mismanaged and suffered severe losses, so it had to be privatized,” Enny Sri Hartati pointed out.

All infrastructure projects relate resources, production, and distribution as interlinked factors. According to economist Ichsanuddin Noorsy, any appointment made to construction BUMNs for infrastructure building must satisfy the “4 A” criteria: available, affordable, accessible, and acceptable. Infrastructure must be efficient, fast, safe, and reliable. Expenditures for construction must be logical, reasonable, accountable, and auditable. Failure to satisfy these 12 requirements would mean that the project will be difficult to measure as well as running over budget.

BUMN debt-to-asset ratio is quite high. This means that there are 4 risks BUMNs face: first, market risk will continue to haunt BUMNs because they borrow in US dollars. Second, BUMN is stricken with management risk. Third, market risks relate to the people’s buying power. Fourth, there are onerous and frequently irrational regulation risks. “President Jokowi decrees a policy of making the Suramadu Bridge toll-free, as it is severely under-used. That’s a regulation risk. BUMNs face all 4 risks all the time, and the high debt-to-asset ratio makes such risks rise even higher,” Ichsanuddin Noorsy said.

There are many projects that suck in the people’s money simply to cover or repay funding provided by creditors or banks. For example, the steep Cawang-Cikampek toll fees put pressure on the people. e-toll schemes effectively mean the people provide loans to banks for cheap money. “Imagine how many trillions of rupiah banks such as BNI, BCA, and Mandiri enjoy from e-toll income. The Indonesian economy is not fair in terms of the relation between the monetary and real sector. This is also applicable to energy and electricity sectors, and even food. There are many manipulative forces and justifications for exploitative policies,” he said.

Problem Solving
According to Ichsanuddin Noorsy, BUMN problems arise from three sources: planning, execution and evaluation-monitoring. If planning is incompetent, the other two will suffer. The problem is structural, and is caused by the fact that our Government has incompetent leadership. Furthermore, most current BUMN officials – their directors and commissioners – are politicians. They will not in fact be too concerned with accountability, transparency, or responsibility, but only with their personal fiefdoms and authority.

BUMNs should be categorized and managed properly. Some should be dedicated to public service or livelihood, while others deal with commercial goods, and yet others act halfway between public good and commercial gain. Indonesia remains poorly-organized in this matter, which means that anyone with sufficient capital power can infiltrate and exploit our economy with impunity.

In order to ensure the survival of shaky BUMNs, Harryadin suggests that we ensure that BUMN returns from their various debt-financed projects meet feasibility requirements. Management capacity for projects must be raised. Furthermore, the Government must reduce the burden of appointments to BUMN, especially to those with currently worsened performance and debt profiles. This must be done in order to ensure that BUMNs perform properly once more.

Said Didu stated flat out that BUMNs must raise their fees in order to be able to repay outstanding debts. However, he doubts the Government will be brave enough to do so, as it has an image to protect.

Kusfiardi calls on the Government to seriously evaluate the financial and operational condition of all BUMNs. Government must furthermore re-define their role and function in the national economy, according to the mandate of the Constitution of 1945. The Government must also perfect BUMN management and regulation through the BUMN Law, in order to allow these national entities to operate efficiently in the national economy. We can no longer afford to operate with ad hoc, inept efforts, especially using emergency financial engineering. We can no longer simply issue government bonds, get loans, or do rights issues as this will sacrifice the greater purpose of the Republic.

(Dessy Aipipidely, Ekawati)