Saving Bank BII

Saving Bank BII

The Indonesian Bank Restructuring Agency (IBRA) has opted for
what seems to be the least costly and least risky option to
prevent publicly listed Bank Internasional Indonesia (BII) from
going under, consequently putting out a spark that could have
triggered a new banking crisis.

By guaranteeing Rp 12 trillion (US$1.2 billion) in BII credits
to the Sinar Mas Group, instead of swapping the intragroup loans
for government bonds, the agency in one stroke bolstered the
bank's prospects for sound growth and, at the same time, saved
the government a large amount of additional interest costs.

Not much information was immediately available on the
agreement, as the complete details are still being worked out.
But an earlier plan for IBRA to take over BII's loans and swap
them for government bonds would likely have exacerbated BII's
problems. Such a debt-resolution scheme would have met strong
opposition from the House of Representatives, as the bonds to be
exchanged with the loans would have further increased the
interest on domestic debts, which for the current fiscal year
already reach almost Rp 53.5 trillion.

Even if the plan was eventually approved by the House after
lengthy and heated debates, BII might already have been too sick
to be cured. The fate of the bank has been hanging in the balance
over the past few weeks, and an increasing number of depositors
have closed their accounts at the bank as the debt restructuring
process became a public issue.

But the most damaging effect of the debt-bond swap would
likely have been BII losing the largest source of income. The
latest data shows the Sinar Mas debts account for more than 75
percent of the bank's outstanding loans that are classified by
the central bank as current credits (with interest payments on
schedule). Taking out the loans, which charge more than 18
percent interest a year, and exchanging them for government bonds
that pay an average of 12 percent obviously would have slashed
the bank's income at a time when it badly needs the revenue to
replenish its capital to reach the minimum 8 percent capital
adequacy ratio later this year.

At stake in BII is the government (taxpayers)'s investment of
Rp 6.5 trillion, or the equivalent of 57 percent ownership of the
bank, which was acquired when the bank was recapitalized in May
1999. Should the bank fail, the government not only would lose
that investment but also would have to reimburse, under the
government's blanket guarantee, third-party deposits at the bank,
which recently were estimated at Rp 27 trillion.

However, because the government decided to guarantee the
loans, BII will retain its earning capacity without having to put
up a large sum of provisions, because government-guaranteed loans
carry virtually no risk. While this scheme is not without risk to
the government, the risk is much smaller than that inherent in
the debt-bond swap arrangement. Sinar Mas core business--pulp,
paper and palm oil--, though facing depressed international
market at present, remain the most promising industry in
Indonesia. Hopefully, the market would start to pick up before
the whole debt has to be settled in 2003.

But by guaranteeing the loans, the government automatically
assumes the credit risk, meaning that the government will pay the
debts to BII if the Sinar Mas Group defaults. No wonder the
government is asking for collateral from Sinar Mas worth 150
percent of the loans, including personal guarantees from the
group's founders, the Widjaya family.

The trickiest problem, though, is how the government will
scrutinize through a due-diligence audit any assets pledged by
Sinar Mas to ensure the highest rate of recovery in case of
default.

The Sinar Mas Group has been on the front pages of major
newspapers in Indonesia and overseas almost every day over the
past two weeks. The stories focus on the group's $1.2 billion in
debt to BII and the $10 billion to $12 billion in foreign debts
of Asia Pulp & Paper Co. (APP), the Sinar Mas holding company for
its pulp and paper subsidiaries in Indonesia, India and China.

Though one of its paper-making units, PT Kertas Tjiwi Kimia,
did make an eleventh hour bond-coupon payment of $30 million on
Tuesday, thereby averting a possible default, the complex cross-
guarantee arranged by APP for its debts still requires closer
scrutiny. Analysts have warned that a default of one unit could
trigger a cross-default of APP, bringing down all its
subsidiaries and sister companies.