Indonesia’s Bankruptcy Law in Urgent Need of Reform

In summary

There are two processes for a court-driven restructuring under Indonesia’s 2004 Bankruptcy Law: suspension of debt repayment and bankruptcy. This chapter outlines these two processes and discusses proposed amendments to the Bankruptcy Law.

Discussion points

• Overview of Indonesia’s Bankruptcy Law
• Criticism of the Law primarily concerning the lack of transparency and inconsistency in its application, often to the detriment of foreign lenders
• Proposed amendments to make the Law more debtor-friendly
• Constitutional Court decision requiring the debtor and creditor to agree that a default has occurred prior to enforcing the security

Referenced in this article

• Law No. 37 of 2004 regarding Bankruptcy and Suspension of Debt Payment Obligations
• Decree No. 3/KMA/SK/I/2020 regarding Guidelines on Bankruptcy and Suspension of Debt Payment Obligation Proceedings, dated 14 January 2020
• Decree No. 109/KMA/SK/IV/2020, dated 29 April 2020
• Constitutional Court Decision No. 18/PUU-XVII/2019, issued on 6 January 2020
• Fiducia Law, Law No. 42 of 1999, dated 30 September 1999

After its enactment in 2004, Indonesia’s Bankruptcy Law^[1] quickly became a promising means for foreign lenders to enforce their security rights by levelling the playing field with Indonesian debtors. However, it is no secret that what is written in the law does not always translate well into practice. Consequently, the bankruptcy and debt moratorium process has been questioned, predominantly by these same lenders.

Common criticism of the application of the Bankruptcy Law concerns three issues: transparency of the process; inconsistent application; and lack of detail in the Law itself. This has led to a variety of interpretations.

For a common law lawyer, the latter two issues can be both problematic and challenging as Indonesian law does not recognise binding precedents, meaning that each court is able to make decisions independently.

Key features of the Bankruptcy Law

The Bankruptcy Law introduced a choice of two processes for a court-driven restructuring: bankruptcy and suspension of debt repayment (PKPU).^[2] Each process has its own key features, which are set out in the accompanying table to this article.

On the face of it, the Bankruptcy Law seems to offer a straightforward set of requirements for filing a bankruptcy or PKPU petition. A creditor (or debtor) may file a petition simply by evidencing:

• the existence of at least two creditors; and
• either one due and payable debt (for a bankruptcy petition) or if the creditor or debtor can predict that the debtor cannot pay the debt (for a PKPU petition).

The satisfaction of these two conditions is technically sufficient for the court to grant a bankruptcy or PKPU decision. Comparing the amount of time involved in a bankruptcy and PKPU process with the challenging landscape of Indonesian commercial litigation and enforcement, it is easy to understand why, at face value, bankruptcy and PKPU are favoured by most industry practitioners.

Bankruptcy

Following a bankruptcy decision, the company’s assets – technically also including any assets located overseas – are placed under general attachment for the benefit of all creditors. The company also comes under the management of the bankruptcy receiver, who will work closely with the company management in its day-to-day business.

During bankruptcy, a debtor is still permitted to propose a restructuring plan to its creditors since the debtor’s assets are not yet declared insolvent. If the restructuring plan is approved by a majority of unsecured creditors, the bankruptcy status will be revoked, and the company’s management will return to business as usual.

The bankruptcy estate will be declared insolvent if any of the following occurs:

• the debtor company does not propose a restructuring plan;
• the debtor company proposes a restructuring plan but this is not approved by a majority of unsecured creditors; or
• the restructuring plan is approved by a majority of unsecured creditors but is not ratified by the court.

A moratorium is applied from the date of the bankruptcy decision, with creditors required to submit their claims through the bankruptcy verification process managed by the receiver. For 90 days after the bankruptcy decision, secured creditors are prohibited from undertaking any enforcement action against the assets. Specific leave can, however, be granted by the receiver to allow a secured creditor to initiate early enforcement. If specific leave is granted, then the secured creditor must initiate enforcement no later than two months after the stay period ends, failing which the receiver may undertake enforcement on behalf of the secured creditor.

PKPU

A PKPU decision protects the debtor from any enforcement action by secured creditors for the entire PKPU period, which can last up to 270 days. During the PKPU process, the business will operate as usual, except for a prohibition on acquiring new debts or granting security over the debtor’s assets.

Similar to the bankruptcy receiver, a PKPU administrator has the authority to accept or reject claims made by creditors. In principle, a claim not submitted to the PKPU administrator during the prescribed PKPU process still exists; however, unsecured creditors whose claims are not submitted during the bankruptcy and PKPU process are bound by the terms of the restructuring plan.

Challenges

Two of the most frequent criticisms of the bankruptcy and PKPU process are lack of transparency and inconsistency in the application of the Bankruptcy Law.

Concerns have been raised over the potential for spurious claims to be made by bogus creditors in an effort to reduce the voting leverage of unsecured creditors. Responsibility for ensuring the credibility and legality of claims rests with the appointed receiver or administrator, and concerns tend to grow if there is doubt over their impartiality.

Creditors (especially foreign creditors) often feel they have no option but to follow the restructuring plan being proposed, and it is no different for secured creditors. Under the Bankruptcy Law, a secured creditor that opposes a restructuring plan is entitled to compensation. The amount of compensation will be the lower of the value of the security or the value of the loan secured.

However, the Bankruptcy Law contains no guidance on how or when this compensation should be paid to dissenting secured creditors. The likelihood of a dissenting secured creditor succeeding in obtaining compensation from a debtor is not known as it is usually settled or litigated privately and not generally made public.

It is common for creditors to believe they are unable to abandon the PKPU process once they have registered their claims. Most foreign secured lenders believe that they must use their voting rights to vote either for or against the restructuring plan. However, a possible third option is to not attend the voting meeting and instead seek to enforce the security once the PKPU process has concluded. This third option is almost never considered, primarily through fear of the unknown.

Inconsistent application of the Bankruptcy Law can also be problematic. For instance, a common understanding among practitioners is that, based on the Bankruptcy Law, a voluntary PKPU filing would take precedence over an involuntary PKPU filing. This view is based on comparing how long it takes for a court to issue a PKPU decision when a debtor files (three days) compared with when a creditor files (20 days). In the past, that was also how the provision was implemented. Yet in a ruling in recent years, the court rejected a debtor’s filing because another filing had already been made by the creditors.

The inconsistent behaviour by the court arises from a lack of binding precedents under Indonesian law. In practice, a lower court may make a ruling that differs from a higher court’s ruling, and it may even differ from the same court’s rulings in past cases.

The lack of clarity and inconsistency applies not only to court findings but also to how the bankruptcy and PKPU process is carried out in practice. While there is no express restriction preventing a company from entering a second PKPU, the Bankruptcy Law expressly states that if a debtor breaches the approved restructuring agreement, the creditor may then petition the court to annul the restructuring agreement and declare the debtor bankrupt. In one case, the court granted a second PKPU petition immediately following the first PKPU of the debtor, rather than ordering annulment of the restructuring agreement and declaring the company bankrupt. While the legal arguments in that court decision were unclear, it is not uncommon for a decision to have only minimal legal considerations.

Proposed changes

Over the past few years, there have been several discussions on amending the Bankruptcy Law. The idea of amending the present Bankruptcy Law was initiated by parties that consider the Bankruptcy Law to be overly friendly to creditors – potentially subjecting solvent debtors to an unnecessary bankruptcy or PKPU process. However, parties that have been subject to Indonesian court-driven restructurings may well hold the opposite view.

The discussion on the key provisions of the proposed law concerns the right of secured creditors to file for bankruptcy or petition for PKPU. One proposal was to restrict the right to file a bankruptcy petition to unsecured creditors, allowing only the debtor to petition for PKPU.

A Decree issued by the chair of the Supreme Court on 14 January 2020, Decree No. 3/KMA/SK/I/2020 regarding Guidelines on Bankruptcy and Suspension of Debt Payment Obligation Proceedings (Decree 3/2020), was intended to provide clear and detailed guidelines and procedures for bankruptcy and PKPU proceedings, from registration of the petition through to the process after the Commercial Court’s decision. However, Decree 3/2020 introduced a new restriction preventing secured creditors from filing a PKPU petition to the Commercial Court, stating that only unsecured creditors may file a PKPU petition, but without providing any legal reasoning. Not long after, the Supreme Court revisited Decree 3/2020 and decided to replace it by issuing Decree No. 109/KMA/SK/IV/2020, dated 29 April 2020, removing this controversial restriction.

Another proposal is to introduce an insolvency test prior to submitting the petition to court. While it is still not decided whether the insolvency test would be based on the book value or cash flow of the company, there is growing concern about whether it is possible in practice to obtain the financial statements of a private company when the debtor and creditor are in conflict.

With the changes being proposed, the only practical option for secured creditors is to enforce the security. Enforcement in Indonesia has its own challenges and is difficult to resolve because of various issues. The proposed amendment of the Bankruptcy Law to make it more debtor-friendly has understandably increased the concerns of foreign lenders. It would be unattractive for foreign lenders to have only one option in a foreign jurisdiction (ie, to enforce the security).

On 6 January 2020, the Constitutional Court issued Decision No. 18/PUU-XVII/2019 (Decision 18/2019), which effectively changed the interpretation of article 15(2) and (3) of the Indonesian Fiducia Law (Law No. 42 of 1999), striking the core principles of the Law. Decision 18/2019, which is final, binding and not subject to appeal, states the following:

• a default must be agreed by the debtor and creditor;
• if there is no agreement on the default, the default must be confirmed through a final and binding court decision; and
• upon agreement on the default (or a final and binding court decision confirming the default), fiducia security can only be enforced through the regular enforcement process of a court decision.

Decision 18/2019 requires a fresh agreement between the debtor and creditor in the event of default to confirm that a default has indeed taken place. This is seen by investors as paving the way for a more borrower-friendly jurisdiction.

The potential impact on Indonesia’s foreign investment climate is not yet known. Although Indonesia remains an attractive jurisdiction economically, such a change to the Bankruptcy Law is bound to be considered carefully by foreign investors and lenders, particularly in light of the economic impact of the global covid-19 pandemic.

We hope that the Indonesian government will consider amending the Bankruptcy Law to provide more balanced protection for both foreign lenders and domestic debtors.

Notes