Diversifying sources: Attracting investors to a wider range of industries is a priority

While foreign direct investment (FDI) has sustained 22% average annual growth over the past six years, according to statistics from HSBC, the composition of investment has broadened beyond the traditionally dominant extractive industries. As part of a regional rebalancing of FDI, the focus of investment into Indonesia is shifting from purely resource extraction to services and manufacturing, in both low-end, labour-intensive industries and end-stage production of automotives and electronics. Both Asian and traditional Western investors are expanding their regional production chains to include Indonesia, to supply the quickly growing domestic market, but also to build out exports. With Japan leading the way, overtaking Singapore as the largest investor in Indonesia in 2013, foreign investors are leading the process of regional integration of production networks. Ranked fourth globally as a prospective investment destination in the eyes of multinationals after China, the US and India, according to the UN Conference on Trade and Development’s (UNCTAD) “2013 World Investment Report”, Indonesia is attracting a broader set of investors to a growing array of industries. Key to maintaining Indonesia’s macro-economic balance will be steering investment toward production of intermediate goods to substitute for surging investment-linked imports.

Primary Sector

Despite the broader focus of FDI, the primary sector remains a key driver of investment, rising 60.5% to $4.88bn in 2011 and another 21.5% to $5.93bn in 2012, driven primarily by investment in mining as well as food crops and plantations, according to the Indonesia Investment Coordinating Board (BKPM). Investment in mining and quarrying, which includes oil and gas, nearly doubled from $2.2bn in 2010 to $4.1bn in 2012, and reached $3.37bn in the first quarter of 2013, 19.1% of all FDI and the largest single target sector. While mining’s share of FDI has declined from the 23.2% it commanded pre-2008, according to the American Chamber of Commerce in Indonesia, a number of large projects have been unveiled in recent years. Although the oil and gas industry still faces regulatory challenges, players like the US’s Chevron are expanding their investments, particularly in natural gas. The Ministry of Energy and Mineral Resources forecast $26.2bn in total investment in hydrocarbons in 2013, led by France’s Total, Britain’s BP and Chevron, but also regional players like Thailand’s PTT (see Energy chapter).

Despite new export taxes on mineral exports and requirements for phased divestments to domestic investors over six to 10 years introduced over the past two years, investment in mining and associated processing facilities sustained a 23.8% year-on-year rise in the first half of 2013. This includes a number of cross-border acquisitions, such as PTT’s purchase of a 55% stake in Sakari Resources for $1.15bn in August 2012, South Korean LG’s purchase of 60% of Ganda Alam Makmur for $224m in July 2012 and Australia’s Killara Resources buying 80% of Borneo Emas Hitam in East Kalimantan for $26m in May 2013, all coal producers. Indian investors have also made significant acquisitions in Indonesia, particularly since 2009, when the FDI cap on mining investment was raised to 100%. Tata Power’s 2007 acquisition of Kaltim Prima Coal for $1.3bn was followed by purchases by Adani Group, Essar and GMR.

Surging Downstream

With the government’s planned deadline for ending all unprocessed mineral exports in 2014 approaching, investments in downstream processing have also accelerated. The top three investors in downstream mining are South Korea, Australia and the UK, according to BKPM. Chinese companies are backing at least seven nickel smelter projects, including ones by China Hanking Holding, Tsingshan Group, Central Omega Resources and China Nickel Resources. Other newcomers include France’s Eramet, which has committed to investing $5.5bn with its joint-venture partner Mitsubishi in a nickel smelter in North Maluku from mid-2013. Meanwhile, China’s Shandong Nanshan Aluminium Company began developing a $5bn bauxite smelter in Bintan during the third quarter of 2013. However, while mining remains the key driver of primary-sector investments, agriculture and plantations are also key draws for FDI.

Indonesia’s agricultural land covers approximately 30% of the nation’s total landmass, but there is significant scope for expanding output. The Ministry of Agriculture reported some $12.4bn in cumulative agricultural investment between 2010 and March 2013, accounting for 13.1% of all investment during the period, driven by investors from Singapore, Taiwan and Japan. With some 6m ha of land cultivated for crude palm oil (CPO) and a further 4m planned by 2015, palm oil is the largest draw for investment, but depressed international prices have delayed some plans. Singapore’s Mewah International put on hold plans to invest $355m in a CPO refinery in East Java, saying it would revisit the plans in late 2014. The Merauke Integrated Food and Energy Estate project on 2.5m ha has attracted investments from global commodities firms Wilmar and Noble.

The US’s Cargill is investing $100m in a new cocoa-processing plant in East Java, while China’s New Hope Group announced investments of $155m in early 2013 to develop two feed mills and poultry breeding.

Secondary Industries

Indonesia has a well-established low-end, labour-intensive manufacturing base, focused on textiles and footwear, but investments are now increasing and broadening to more consumer-related industries. FDI into the secondary sector rose 102% to $6.79bn in 2011 and 73.4% to $11.77bn in 2012, driven primarily by investment in food processing, textiles, chemicals and pharmaceuticals, automotives and electronics, according to BKPM.

The $7.18bn invested in manufacturing in the first three quarters of 2013 accounted for 40.7% of all FDI, second only to investment in services. According to Deloitte’s 2013 Global Manufacturing Competitiveness Index, Indonesia ranks 17th, and is expected to improve in coming years, on the back of a “gradual shift in low-technology or labour-intensive jobs from China to Bangladesh, Vietnam and Indonesia”. More traditional industries like textiles still attract significant investment, particularly from Chinese firms that have been outsourcing business components from their mainland bases. In 2012 the China Hi-Tech Group announced its plans to invest $6bn in a textiles complex and associated port located at Wonogiri, Central Java, in partnership with the local firm, Sritex.

While significant investment is flowing into consumer-related sectors like packaging and food processing, the single largest investment in the past two years was in cosmetics, by French firm L’Oreal, which opened its largest production facility in Cikarang, West Java, in late 2012 at a cost of Rp1.2trn ($120m), with 70% of output set to be exported.

Automotive

Buoyed by booming domestic demand for automotives, more capital-intensive manufacturers like vehicle assemblers are expanding their presence in Indonesia. Japan has long led the way, with major producers like Toyota, Nissan, Honda and Suzuki increasing their investments. Toyota announced plans in November 2012 to invest $2.7bn over the long term, starting with $1.3bn over five years by expanding its existing Karawang facility by a fifth, developing two greenfield plants (including one for subsidiary Dentsu) and its first local engine factory. Meanwhile, Nissan is investing $400m in a new factory, to be commercialised in 2014; Suzuki is spending $611m on a fuel-efficient mini-car plant and $384m on an engine factory; and Honda is investing Rp3.3trn ($330m) in a fourth Karawang motorcycle plant and $340m in a second car assembly unit. Other Asian producers like Hyundai are expected to unveil plans in 2014, and Western producers are following suit, with General Motors investing $150m to reopen its Bekasi plant, Volkswagen spending $266m on a fuel-efficient car factory to be built by 2015, and Caterpillar developing a $150m mine-truck assembly plant in Batam.

The latest investment announcement came in October 2013 when India’s Mahindra & Mahindra and its South Korean subsidiary, SsangYong Motor, announced a $900m investment in a factory producing three models and six engines, over the next five years. Key automotive suppliers are gradually following assemblers. While Indonesia has an extensive rubber industry and ranks as the world’s third-largest exporter, international investment in domestic tyre manufacturing has accelerated in recent years. Following Michelin’s acquisition of 10% of South-east Asia’s largest tyre manufacturer, Gajah Tunggal, in 2004, the largest investment was announced in 2012 when South Korea’s Hankook unveiled $1.1bn investment plans, including $353m in a rubber-processing factory and the balance in its seventh tyre plant worldwide in Cikarang. Commercialised in September 2013, the tyre factory will boost output from an initial 4.3m tyres a year to 6m in 2014 – 70% of which for export. Meanwhile, a consortium of four companies, including Taiwan’s Cheng Shin Rubber Industry, which produces Maxxis tyres; Apollo Tires; JK Tyre; and Shandong Group, is investing some $1.28bn in a tyre manufacturing facility in South Kalimantan. Electronics producers are also taking note. Japan’s Sharp is investing Rp1.2trn ($120m) in a factory producing 140,000 washing machines and 220,000 refrigerators per month, with first production set for end-2013. While South Korea’s Samsung is still studying local mobile-phone assembly plans, Taiwan’s Foxconn, a key Apple supplier, announced plans to invest as much as $10bn to build up Indonesia as its production base in Southeast Asia. Investment is also flowing toward intermediate industries from petrochemicals and steel to cement. The single largest investment comes from the world’s second-largest steelmaker, South Korea’s Pohang Iron and Steel Company (POSCO), which since 2009 has partnered with Krakatau Steel to develop a $6bn, 6m-tonne-per-year mill in Banten, with the first 3m tonnes of capacity set to be operational in 2014. While Krakatau’s 2012 agreement with Nippon Steel and Sumitomo Metal to invest $378m in a second new steel factory to supply domestic automotive producers has elicited complaints from POSCO, the South Korean firm plans for an additional $5bn in investment by 2017 in cold steel, nickel smelters and energy projects, including a 600-MW coal-fired power plant in South Sumatra. Also in heavy industry, Honam Petrochemical Corp, a subsidiary of Lotte Group, plans to invest $5bn in a naphtha cracker, having acquired Titan Chemical Corp in 2010. South Korea’s LG unveiled plans in March 2012 to develop a $3bn petrochemicals complex adjacent to BP’s Tangguh in partnership with local oil and gas firm Duta Firza. The complex includes two 3500-tonne-per-day urea plants, two 2000-tonne-per-day ammonia plants and a methanol factory, due for commercialisation in 2017. Chinese firms are targeting the cement industry for significant investments: the State Development and Investment Corp’s $200m cement plant and associated seaport in West Papua is due to break ground in 2013, while Anhui Conch Company has started construction on a $500m cement plant in South Kalimantan.

Services

Despite declining FDI in the tertiary sector, which dropped 20.5% to $7.8bn in 2011 and 12% to $6.86bn in 2012, according to BKPM, Indonesia’s services sector continues to draw investment, particularly in transport and communications as well as in financial services and retail. Although its share of total FDI declined from 60.7% in 2010 to around 35.3% in the first quarter of 2013, the sector has witnessed a number of cross-border mergers and acquisitions and greenfield investments in the past two years. US investors have targeted property and insurance plays, with Jones Lang LaSalle acquiring Procon Indah to form the largest property consultancy in Indonesia in 2011 and ACE Insurance buying leading general insurer Jaya Proteksi for $130m in 2012. Cash-rich Japanese conglomerates have also flooded into Indonesia, with Sumitomo Mitsui Banking Corp acquiring a 40% stake in Bank Tabungan Pensiunan Nasional (BTPN) from TPG Capital in May 2013 for roughly $1.5bn. Insurers have also made significant purchases, with MSIG, Tokio Marine, Meiji Yasuda and Dai-ichi Life acquiring stakes in life insurers since 2011. South Korean investors are particularly active in banking and insurance, with the presence of major banks like Hana Bank, Korea Exchange Bank and Woori Bank as well as insurers like Samsung Fire & Marine. In retail, Ikea’s $100m investment in its first store in Banten in a joint venture with the Hero Group in 2013 is symptomatic of growing interest in distribution, following in the steps of major retailers like Carrefour and Tesco. In addition, Indian investors are studying opportunities in IT and business process outsourcing.

Buoyed by opportunities in the Masterplan for Acceleration and Expansion of Indonesia’s Economic Development, investors are also participating in major infrastructure projects, mainly in power and transport. Chinese firms have invested $7bn in infrastructure over the past decade, according to UNCTAD, with major upcoming projects including a joint project by China Power Investment Corp and Anhui Conch Cement for a $17bn, 7000-MW hydroelectric complex in Central Kalimantan announced in May 2013 and China Huadian Corp’s $630m power plant in Bali. Japanese builders Sumitomo Mitsui Construction, Obayashi and Shimizu are participating in the partly JICA-funded mass rapid transit railway in Jakarta, while Itochu and Electric Power Development are investing in the $4bn, 2000-MW independent power plant in Java.

While Asian investors have led growing investment in Indonesia, with Japan overtaking Singapore in 2013 as the largest foreign investor, FDI is coming from increasingly diversified sources and targeting a broader array of sectors. Much of FDI in manufacturing is aimed at end-use production destined for the domestic market, although investment in intermediate industries is gradually rising. The challenge for authorities will be to steer greater investment toward intermediate and import-substitution industries to plug the country’s current account deficit, just as investors are drawn to the growing pool of domestic consumers.

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