Sat, 29 Apr 2000

Transparency and corporate governance in RI

This is the second of two articles by Mark Baird, the World Bank's country director, based on a presentation on April 25 at the conference on freedom of economic information, held here among others by the LP3ES research group in cooperation with the Washington-based Center for International Private Enterprise.

JAKARTA: The underlying condition of the Indonesian corporate and financial sectors at the onset of the crisis is well-known: banks were exposed to excessive levels of unhedged foreign debt; credit allocation by banks to companies showed little regard for future debt servicing; companies were highly leveraged, with substantial unhedged short-term foreign debt; and profitability was low.

External discipline through competition was muted by entry barriers and legal monopolies, and the threat of hostile takeovers of under-performing companies was minimal in the face of strongly entrenched insiders.

Poor corporate governance was a major contributor to this state of affairs and in Indonesia has had the following characteristics:

* Corporate governance has been seen primarily as a compliance issue rather than a means of enhancing corporate performance.

* In common with many other parts of Asia, Indonesian corporates are predominantly family-owned, even when publicly listed.

* Fraud and insider transactions have been common, disclosure has been weak and the disclosure and disciplinary mechanisms of the capital market have been ineffective.

* Minority shareholders and other stakeholders have had few means of protecting themselves against majority shareholder abuses. Although mechanisms for addressing abuses do exist in Indonesian Law they are little used and the weak judiciary has limited their effectiveness.

* Managers and directors have been largely immune from stakeholder accountability.

* Banks have been ineffective monitors of corporate managers.

* A weak bankruptcy and judicial system has left creditors with little leverage over their debtors.

* State enterprises have been subject to significant intervention by government in business decisions, and SOE performance monitoring has been almost non-existent.

* The role of the regulators, the Capital Market Supervisory Agency (BAPEPAM) and the JSX has not been strong enough to compensate for the weak judiciary .

There have been recent positive steps to begin dealing with these weaknesses:

* A number of private business organizations and non- government organizations such as the Indonesia Netherlands Association and Transparency International have begun initiatives to support improved transparency and corporate governance.

* A broadly based National Committee on Corporate Governance (NCCG) was created in late 1999. This committee comprises some 20 members from the public and private sectors representing the legal and accounting professions, the banks, state owned enterprises, private corporates, the Stock Exchange and important Government agencies such as BAPEPAM and the Ministry of Law and Legislation.

* The NCCG has produced a draft of a Code of Good Corporate Governance that addresses issues such as shareholders rights and responsibilities, the functions and composition of the Boards of Commissioners and the Boards of Directors, internal and external audit, the role of the corporate secretary, stakeholder rights and stakeholder participation and monitoring of management decisions, timely detailed and accurate disclosure of management and financial information.

It also addresses confidentiality of information that can affect share prices if it is leaked before it is officially made public, and restrictions on the use of inside information for personal gain.

Corporate governance reform in Indonesia is still in its infancy and much remains to be done. It will be years before the necessary reforms are fully effective but there are some quick wins to be made and a need now for immediate action to get the ball rolling so that it can gain momentum.

Firstly urgent measures are needed to improve the business environment in general, not only for large corporates but also for small and medium enterprises that have the potential to be a major productive force in the economy as well as major sources of employment and income. These measures include:

* Promote better competition and create the new competition agency provided for in the 1999 Law on Competition.

* Start taking steps to reduce the burden of excessive government regulation, with its associated burden of corruption, on the business sector.

* Strengthen the rule of law and the judicial system, in particular the commercial court as it affects the insolvency and bankruptcy mechanisms, property rights and contract enforcement.

* Accelerate banking and corporate restructuring, especially by means of debt equity conversions. An important effect of this will be to dilute the concentration of corporate ownership and bring fresh management into the banking and corporate sectors.

Some specific measures needed to improve corporate governance include:

* Improve the requirements and the frequency of disclosure and publication of financial information to bring them into line with best international practice, especially from listed companies, banks and other companies raising money from the public.

* Improve disclosure of related party transactions and improve rules and enforcement against the use of inside information.

* Improve standards of accounting and audit in line with international norms and provide more training for accountants and auditors.

* Strengthen rules governing the responsibilities and accountabilities of supervisory boards, boards of directors and internal and external auditors.

* Improve the quality of supervisory boards and boards of directors by increasing the required minimum number of outsiders on these boards, set criteria for the selection of commissioners and directors, and provide them with training as needed.

* Strengthen all aspects of BAPEPAM but especially its capacity to monitor and enforce compliance with rules on public disclosure.

* Fully implement the company registry, train its administrators, publicize its availability and provide training in its use.

* Strengthen minority shareholder rights by improving rules on listing and securities transfer.

Next steps would include:

* Explore the potential for the use of the public/private National Committee on Corporate Governance (NCCG) as a forum for all major stakeholders to discuss and plan corporate governance reforms.

* A first step by the NCCG should be to work to develop a real consensus among its members around its recently drafted Code on Good Corporate Governance.

* Government should move rapidly to implement the measures within its own control, such as improving existing regulations, implementing new regulations, and strengthening public institutions such as BAPEPAM, responsible for encouraging and enforcing good corporate governance.

* Private initiatives and self regulation should also be encouraged. A good example is the recently announced corporate governance agreement between the Indonesia Netherlands Association and a number of Indonesian professional associations and self-regulatory organizations. KADIN has also announced a campaign to promote improved corporate governance among its members.

* There is a need for broad programs using the media as well as public meetings, conferences and seminars to develop public awareness of the need for transparency and improvement in the governance structures and mechanisms of the banking and corporate sectors. The message is that better corporate governance and transparency can bring benefits to all; the general population, customers, suppliers, employees, investors, shareholders and management alike.

* Shareholder activism should be encouraged as a means of enforcing good governance on public corporations. Such activism has been a major driving force for change in the United States and elsewhere.

* Non-government organizations and other "watchdogs" should be encouraged to act as pressure groups for reform.