Indonesia has become an increasingly vital investment hub for Japanese companies in Southeast Asia, with Japanese foreign direct investment (FDI) representing 16.4% of the market share in early 2014.

 

In 2013, Indonesia overtook Thailand to become the second highest recipient, just behind China, of Japanese FDI in the Association of Southeast Asian Nations (Asean). In terms of mergers and acquisitions ((M&A), Indonesia remains a favourable market in the Southeast Asia region and last year achieved a new record for deal value, reaching a high of just over US$2 billion. Yet, factors still remain that negatively impact on the business environment and any decision to enter the market.

 

Kroll and Mergermarket released the ninth issue in Kroll’s Spotlight Asia series, to understand the challenges and potential in the Indonesian FDI and M&A markets. An in-depth interview with Kroll’s Asia head, senior managing director Tadashi Kageyama presents an inside view of the most pressing risks in investing in Indonesia and how to go about tackling them.

 

This year so far has been turbulent for Indonesia. First, there were the legislative changes that were implemented prior to the presidential election, the Trade Law and the Negative Investment List, both giving the central government additional powers over strategically important industries. Investors need to be acutely aware of how to mitigate the risks related to the new Trade Law and the impact the Negative List has on their future investment prospects.

 

Secondly, there has been the election of Joko “Jokowi’ Widodo which signals important changes in the landscape for FDI and M&A. Analysts believe that understanding how his pro-business approach impacts on opportunities is central to seeing positive returns on any investment in the country.

 

While Jokowi and his administration grapple with both the social and economic imperatives, increasing attention should be paid to the present risks that impact on any decision to invest. “Corruption and fraud remain key risks at several stages of the deal process,” says Kageyama, “while anti-bribery legislation has sought to combat corruption in all forms, it still remains a challenging aspect of doing business in the country”.

 

Issues of fraud and corruption can be commonplace when investing in areas such as infrastructure, where various layers of the government red tape and lack of transparency can have a huge impact on the cost of a project. Yet, it is important that investors tackle these problems head on, “some investors have a tendency to push such problems under the rug. Instead they should confront matters of corruption and fraud directly, lest they grow out of control,” Kageyama warns.

 

Even in areas that appear to have statutory regulations in line with international standards, investors need to be careful. “While the financial services sector is regulated in Indonesia, investors face compliance challenges, money laundering issues and the possibility of embezzlement,” he adds, “in the manufacturing sector, supply chain fraud and kickback bribery are the most common challenges”.

 

The key to ensuring that an investment does not spiral out of control and that confidence is retained during all stages of the process is to conduct thorough due diligence. As Kageyama points out, “before investing, get to know your partners in any venture and what their role is within a company. Investors making decisions based on limited information inevitably find themselves with a loss of investment.”

 

As part of the drive to improve the business environment for FDI and M&A in Indonesia, the new administration has promised to stamp out illegal trade practices and tackle corruption head-on at all levels. However, even with significant improvements in this area, investors will need to remain one step ahead when it comes to taking a legal approach that they may be more comfortable using in other places, “it’s ill advised to take on local entity in the courts,” says Kageyama, “investors must also make sure they aren’t entering into agreements or partnerships with businesspeople that have a record of bringing litigation against foreign partners.”