Leveraging Private Infrastructure Investment Project

(RRP INO 50297)

SECTOR ASSESSMENT (SUMMARY): INFRASTRUCTURE FINANCING

A. Sector Road Map

1. Sector Performance, Problems, and Opportunities

1. Years of underinvestment have left Indonesia with a large infrastructure deficit. Recent
estimates show that Indonesia’s public capital stock in per capita terms is about one-third the
average of other developing countries, and about one-eighth of the corresponding average for
advanced economies.1 Moreover, public capital investments have not kept pace with economic
growth over the past decade. The results of this large and expanding deficit are self-evident:
congested roads, ports, and airports; power shortages; high transport costs; long commute times;
and inadequate access to water and sanitation facilities. Collectively, these problems have
constrained growth and well-being in the country.

2. Indonesia’s finance sector is small by regional standards, with a financial services sector-
to-gross domestic product (GDP) ratio roughly half that of the Philippines, one-third of Thailand’s,
and one-quarter of Malaysia’s. Combined with the relatively short-term nature of available
financial instruments, this limits the opportunity for raising rupiah-denominated long-term
financing for infrastructure. In 2017, however, credit rating agencies upgraded Indonesia’s
sovereign credit rating to investment grade. Although a positive development, it has not yet
translated into a reduction in the cost of borrowing.

Figure 1: Ratios of Financial Services to GDP in Southeast Asian Countries

800% Outstanding
Corporate Debt
32% Securities to
700%
GDP
25%
Outstanding
600%
Government
256% Debt Securities
500% to GDP
44%
Equity Market
400% 55%
46% Capitalization to
19% GDP
300% 149%
6% 33%
49% 105% 23% Insurance
200% 359% Assets to GDP
2% 113% 23%
100% 12% 208%
50% 8%
8% 142%
88% Banking Assets
54%
0% to GDP
Indonesia Philippines Thailand Malaysia Singapore

Source: Indonesia Financial Services Master Plan 2015–2019, OJK (2016).

1 World Bank estimates Indonesia’s per capita public capital stock in 2015 at $3,811, compared with a 21 middle-
income country (using IMF World Economic Outlook classification) per capita average of $9,629, and a 14 advanced
economy per capita average of $28,181 (all in constant 2010 US dollars).
2

3. Banking sector. The banking sector is substantially segmented, which limits the liquidity
available for infrastructure lending. State-owned banks (Mandiri, Bank Rakyat Indonesia (BRI),
and Bank Negara Indonesia (BNI)) focus on supporting state-owned enterprises (SOEs) and
strong corporate names. 2 Less well-established private sector sponsors are unlikely to get
funding from state-owned banks, and larger private local banks (particularly Bank Central Asia
(BCA)) and foreign banks are highly selective. Much of the debt financing to infrastructure projects
is done through corporate lending, based on the strength of borrowers’ balance sheets and often
on a relationship basis.

4. Indonesia’s banking sector is, likewise, small by regional standards, and its growth has
slowed. Despite low inflation rates, lending rates have remained high and this has dampened
lending growth. Annual growth in the banks’ total assets has declined for the sector since 2012,
from about 16% in 2012 to 8%–10% in 2015–2017. Meanwhile, the average capital adequacy
ratio has continued to rise above 20% since 2015, and stood at 23% in 2017—well above the
required minimum of 8%. Uncertain economic conditions have clearly made Indonesia’s banks
more cautious. Net interest margins, the spread that banks charge between borrowing and
lending money, are currently over 5%, one of the highest within emerging markets. 3 With
increases in the nonperforming loan ratio (from under 2% in 2013 to 3% in 2017), banks are
maintaining higher reserves and higher margins to stabilize profits.

5. While overall asset growth has slowed to single digits, lending for infrastructure during
2012–2017 has outperformed non-infrastructure lending, with an average annual growth of over
16%. Construction lending has been particularly strong, increasing from Rp96 trillion ($7.1 billion)
in 2012 to Rp259 trillion ($19.2 billion) in 2017, driven largely by lending to SOEs. Strong lending
growth for infrastructure is expected to continue. Project (i.e., nonrecourse or limited recourse)
financing or more innovative structured solutions, however, remain nascent within the domestic
banking sector. Strong profitability, driven by high net interest margins, works to reduce the
incentives for the large banks to innovate and try new financing products, requiring different credit
assessment tools. Bank lending has focused on the borrower’s balance sheet, and this tends to
favor SOEs over others. Infrastructure lending requires taking on long-term liabilities, which is
mismatched against short-term assets (mainly time deposits) that fund Indonesian banks.4 This
results in a gap between loan tenors and infrastructure project life cycles. Loan tenors are
generally reported to be in the 5–10 year range at most, if not shorter.

6. Bonds. After the finance sector, the infrastructure, utilities, and transport sector represent
the second largest source of corporate bond issuance. However, infrastructure-related issuances
have been largely limited to recourse financing for well-known corporations with large balance
sheets. These are essentially ordinary corporate bonds where payment is linked directly to
corporate performance. Rupiah-denominated project bonds would carry considerable advantages
for Indonesian investors, particularly the insurance and pension funds, as they remove currency

2 About 64% (Rp65.5 trillion or $4.9 billion) of total lending to the State Electricity Company (Perusahaan Listrik Negara
(PLN)) comes from local banks. Loans from Mandiri, BRI, and BNI together make up 49% (Rp51 trillion or $3.8 billion)
on both fast-track and non-fast-track projects, while BCA contributes 8% and smaller local banks a further 6%.
3 According to PricewaterhouseCoopers’ (PwC) recently released 2018 Indonesia Banking Survey, net interest
margins (NIMs) are expected to remain stable or slightly increase in 2018 but would follow a downward trend in the
medium term because of increased competition, internal efficiencies, and improvements in broader macroeconomic
settings, among others.
4 Some infrastructure sectors have their revenues largely denominated in US dollars, such as the power sector. The
local banking market can lend in US dollars, but the cost of funds is 100–200 basis points higher than nearby financial
centers such as Singapore and this puts off borrowers. Banks in Singapore are also likely to (i) have stricter due
diligence requirements, (ii) be less interested in smaller projects such as those in the $1 million–$30 million range,
and (iii) be generally less familiar with Indonesia and so more risk-averse in lending.
 3

risks and provide fixed interest rates with long maturity periods. Project bonds in Indonesia have
been used only to refinance ongoing projects in Indonesia, with investors and/or issuers having
little appetite for greenfield projects. Development of project bonds would require changes to the
tax and regulatory regime, credit enhancements and/or guarantee programs. Moreover, project
bonds would require quality project preparation and documentation. Municipal bonds are another
large, yet unexploited source of funding for infrastructure. Subnational governments have pursued
this avenue of infrastructure financing but have been prevented from issuing bonds by risk
management and procedural issues. To facilitate municipal bond issuances, the central
government issued three new regulations in late 2017, simplifying the application, prospectus,
and audit process.

7. Insurance and pension funds. Given their interest in long-term, stable, rupiah-
denominated investments, insurance and pension funds are well suited to infrastructure projects.
Traditionally, these institutional investors are reluctant to take on project-specific (particularly
greenfield) risks and prefer to pool their funds to diversify risks. However, Taspen (a pension fund
for public servants) has taken a large equity position with PT Sarana Multi Infrastruktur in a PT
Waskita Karya subsidiary. Moreover, a number of these funds have expressed interest in the toll
road concessions to be divested by Waskita Karya. This could be partly explained by an important
regulatory clarification last year by the Financial Services Authority’s Regulation No.
56/POJK.05/2017, which makes it easier for funds to allocate investments for infrastructure.
Pension and life insurance funds are required to keep at least 30% (20% for general insurance)
of their portfolios for government bonds to help provide stability to the debt market. In the revised
regulation, this category has been broadened to include instruments issued by SOEs and their
subsidiaries, used to finance infrastructure, including bonds, sukuk, asset-backed securities, and
Reksadana Penyertaan Terbatas (RDPT), among others. To expand options for innovative
infrastructure financing that would address infrastructure gaps at the subnational level in the future,
technical assistance for municipal bond issuance is being provided by ADB.5

8. Other financing instruments. Much of Indonesia’s cash-generating infrastructure capital

stock is held by the state sector, with considerable interest in securitizing future cash flows from
brownfield assets, particularly in toll roads where cash flows are relatively stable and predictable.
Indonesia’s first such securitization was PT Jasa Marga’s issuance of Rp2 trillion ($150 million)
securities in 2017, backed by the future revenue of its Jagorawi toll road. It took over a year to
finalize this transaction because of tax and other “first-mover” regulatory issues. Following this,
the toll road operator has announced plans to pursue the long-term securitization of 13 mature
toll roads, potentially generating up to Rp50 trillion ($3.7 billion) in funds. RDPT is a limited
participation mutual fund for private equity placements. Jasa Marga and Waskita Karya are
reportedly considering using RDPT to divest shares in up to six toll road segments held by their
subsidiaries.6

9. Indonesia Infrastructure Fund. The role of IIF assumes added importance in the context
of the relatively small size of the Indonesian banking sector.7 Banking assets are thus growing
too slowly to effectively support and supply credit for Indonesia’s infrastructure needs.8 Local
lending is also highly concentrated with four banks (Mandiri, BRI, BNI, and BCA) accounting for

5 ADB. 2018. Sustainable Infrastructure Assistance Program Phase I: Subproject 16: Municipal Bond Issuance and
Infrastructure Finance. Manila.
6 Divestasi Saham Tol Trans-Java: WSKT & JSMR Tawarkan RDPT. Bisnis Indonesia. 26 March 2018.
7 Indonesia’s banking assets account for 0.50% of GDP, compared with Malaysia (1.14%) and India (1.75%).
8 While attaining a banking system of a broadly comparable size (see footnote 2) by 2019–2020 would require banking
assets to grow by 20%–25% annually, they grew only by about 6% in 2015–2016 and 9% in 2014–2015.
4

half of total banking assets and dominating the supply of rupiah financing to the infrastructure
sector. An important aspect of the value addition that IIF brings to the market is its role in financing
projects that are partly owned by the Multi-Asset Investment Fund, which is an equity mutual fund
promoted by Mandiri Investasi in the form of a collective investment contract. 9 Under this
arrangement, which has strong support from the government to attract private investment, the
fund attracts provident and pension fund investments to invest in project companies. The
infrastructure project companies are usually special purpose vehicles that are often majority
owned by SOEs (e.g., PT Jasa Marga and PT Waskita Karya). The role of the fund is to provide
minority equity investments in the SOEs at the greenfield stage. In certain cases, the funds may
also buy out a portion of the equity in the brownfield stage. The investments made by the fund
gives PT Jasa Marga and PT Waskita Karya the flexibility to make other investments. In this
context, IIF’s role in facilitating financial close of projects through its suite of financing instruments
catalyzes both senior debt at the project level and equity investments through the fund.
Achievements of IIF to date include participation as an investor in the issuance of Indonesia’s first
corporate green bond, global bond, and Komodo bond. It has supported the financing of close to
300kms of toll roads, nation fiber optic networks, and terminal 3 of Soekarno-Hatta airport, while
also increasing the capacity of port terminal operators, bulk water supply, and the power sector.10

2. Government’s Sector Strategy

10. Addressing Indonesia’s infrastructure deficit has been a key policy focus of the
government. The 5-year medium-term development plan for 2015–2019 provides an aspirational
set of targets for each infrastructure sector,11 against which progress has been mixed by early
2018. The ambitious program to roll out 1,000 kilometers of roads, 24 seaports, 33 dams, and 35
gigawatts in power capacity, among others, has necessitated a pragmatic state-led response,
given the political imperative to deliver as much infrastructure as quickly as possible. This has
translated into policy measures such as expanding line ministry budgets and accelerating
disbursements, scaling up infrastructure transfers to the regions, and providing large equity
injections to state-owned firms to finance “assigned” projects. The budget allocation for
infrastructure has increased from Rp154.7 trillion ($11.5 billion) in 2014 to Rp410.4 trillion ($30.4
billion) in 2018.12 This expansion is part of a broader program of fiscal reform to boost capital
spending from 2.2% of GDP to 5.3% of GDP by 2019, through shifting budget allocations away
from subsidies (primarily energy) toward more productive spending, such as infrastructure. 13
Capital expenditures have increased from just under Rp150 trillion ($11.1 billion) in 2014 to an
estimated Rp230 trillion ($17 billion) in the 2018 fiscal year. Fiscal space has been made available
by reducing energy subsidies from 3.35% of total spending in 2014 to 0.64% in 2018, and non-
energy subsidies from 0.49% in 2014 to 0.42% in 2018.

9 To support infrastructure development and maximize the role of capital market as a source of long-term financing,
the Financial Services Authority (Otoritas Jasa Keuangan or ‘OJK’) regulated OJK Regulation No. 4/POJK.04/2017
(‘POJK 4/2017’) regarding Multi-Asset Investment Fund in the form of Collective Investment Contract. The regulation
focuses on the collection of funds from specific Financiers to be invested in investment portfolios other than securities
by investment managers.
10 IIF. 2018. Annual Report. Jakarta.
11 The Masterplan for Acceleration and Expansion of Indonesia’s Economic Development (MP3EI) launched in 2011

informs Indonesia’s long-term and medium-term development plans.

12 This has been accompanied by measures to accelerate disbursements, such as allowing for pre-bidding of projects

in the final 3 months of the previous fiscal year. The Ministry of Public Works and Housing initiated this new approach
in October 2015 to allow more time for procurement and delivery, given the need to complete most projects within
the (single) fiscal year.
13 Capital expenditures have increased from just under Rp150 trillion ($11.1 billion) in 2014, to an estimated

Rp230 trillion ($17 billion) in the 2018 fiscal year. Fiscal space has been made available by reducing energy and
non-energy subsidies respectively from 3.35% and 0.49% of total spending in 2014, to 0.64% and 0.42% in 2018.
Note all rupiah figures in this report have been converted to US dollars ($1 = Rp13,500).
 5

11. The government has also scaled up subnational infrastructure spending through
substantial increases in the Special Allocation Fund (DAK) and in the village funds. Actual DAK
transfers, which include a significant infrastructure component, have increased sharply from a
Rp111 trillion (19.3% of transfers) in 2014, to Rp173.4 trillion (24.9% of transfers) in 2018. The
infrastructure DAK, which focuses purely on infrastructure (primarily roads), has increased from
Rp.31.9 trillion in 2014 to 58.1 in 2018. Village fund transfers that were first introduced in 2015
have more than doubled, increasing from Rp20.8 trillion to Rp59.9 trillion in 2018.

B. Major Development Partners: Strategic Foci and Key Activities

12. The project builds on development support provided by the Asian Development Bank
(ADB) and partners (including the World Bank Group and German development cooperation
through KfW) that established the Indonesia Infrastructure Finance (IIF) with the Government of
Indonesia in 2010. The project also supports the ongoing work of ADB in Indonesia through
complementing programs implemented under pillar I on improved infrastructure services and pillar
II on better economic governance of its country partnership strategy, 2016–2019, including the
Fiscal and Public Expenditure Management Program, the Financial Market Development and
Inclusion Program, Stepping up Investments for Growth Acceleration Program, and the
Sustainable and Inclusive Energy Program. These programs have supported government reforms
that have maintained critical spending in infrastructure, deepened financial markets, including for
infrastructure financing, and enabled private sector participation in infrastructure investment.

13. The project has reviewed assistance provided by multinational and bilateral development
partners to increase synergies for the highest possible project effectiveness. In 2017, the World
Bank provided additional financing of $200 million to IIF, while JICA provided $70 million to IIF in
the same year. Bank Mandiri, a state-owned lender, also disbursed a $113 million loan to IIF in
2017. IIF issued medium-term notes worth about $14 million in 2018. Australia has provided
technical assistance for strengthening economic governance and private participation in
infrastructure financing. The following table summarizes recent programs of development
partners in areas related to the project.

Major Development Partners

Development Amount
Partner Project Name Duration ($ million)
ADB Indonesian Infrastructure Financing Facility 2009 100.00
Equity Investments in Indonesia Infrastructure Financing Facility 2009 40.00
Company Project (PSOD)
Sustainable Infrastructure Assistance Program 2013–2019 23.27
Accelerating Infrastructure Delivery through Better Engineering 2016–2020 148.20
Services (TA loan)
Financial Market Development and Inclusion Subproject 2 (PBL) 2017 400.00
Sustainable and Inclusive Energy Subprogram 2 (PBL) 2017 400.00
Sustainable Energy Access in Eastern Indonesia, Electricity Grid 2017–2022 600.00
Development Program (RBL)
Stepping up Investments for Growth Acceleration Program, 2018 500.00
Subprogram 3 (PBL)
Sustainable Infrastructure Assistance Program II 2019–2025 30.00
Financial Market Development and Inclusion Subproject 3 (PBL) 2019 500.00
Australia Australia–Indonesia Partnership for Economic Governance 2008–2017 71.00
Indonesia Infrastructure Initiative Facility 2008–2015 17.00
Multilateral Development Bank Infrastructure Assistance Program 2013–2019 60.50
Indonesia Australia Infrastructure Partnership (KIAT) 2016–2026 300.00
Australia-Indonesia Partnership for Economic Development 2018–2023 145.00
(PROSPERA)
6

Development Amount
Partner Project Name Duration ($ million)
Japan (JICA) Java-Sumatra Interconnection Transmission Line Project (II) 2015 600.00
Construction of Jakarta Mass Rapid Transit Project (II) 2015 720.00
Renewable Energy and Infrastructure Acceleration Facilities 2017 70.00
World Bank Indonesia Infrastructure Finance Facility 2009 100.00
Infrastructure Development Policy Loan (4th) 2010 200.00
Connectivity Development Policy Loan (3rd) 2013 300.00
Indonesia's Infrastructure Finance Development 2016 8.28
Regional Infrastructure Development Fund 2017 100.00
Indonesia Infrastructure Finance Facility - Additional Financing 2017 200.00
IFC IIF A&B Loan 2014 250.00
IIF A&B Loan 2 2015 150.00
IIF USD Loan 2017 150.00
ADB = Asian Development Bank, IFC = International Finance Corporation, IIF = Indonesia Infrastructure Financing,
JICA = Japan International Cooperation Agency, PBL = policy-based lending, PSOD = Private Sector Operations
Department, RBL = results-based lending, TA = Technical Assistance.
Sources: Asian Development Bank and development partners.

C. Institutional Arrangements and Processes for Development Coordination

14. ADB, jointly with bilateral and other multilateral development financing institutions, played
a critical role in establishment and operation of IIF as an innovative financing mechanism to
support infrastructure development. ADB coordinates with the World Bank and the International
Finance Corporation to maximize complementarity and synergy in the support provided to IIF. In
addition, ADB missions regularly include dialogue with development partners to exchange
information. Development partner coordination meetings are regularly held in the areas of
infrastructure development and public–private partnerships. Pursuing a One ADB approach, the
Leveraging Private Infrastructure Investment project will coordinate with ADB’s Private Sector
Operations Department in managing ADB’s equity participation in IIF. During implementation, the
project will refer to the Indonesia National Development Planning Agency (BAPPENAS) chaired
quarterly project progress review. This review meeting includes stakeholders such as the Ministry
of Finance, PT SMI, PT IIF, ADB, and the World Bank Group.

D. ADB Experience and Assistance Program

15. Coordination with development partners took place at the country programming level as
well as during project preparation through individual and collective meetings with development
partners as the World Bank, the International Finance Corporation, and the Government of
Australia’s Department of Foreign Affairs. Coordination with development partners has facilitated
a common understanding and support for the project’s rationale and design features. The project
builds on the success of earlier projects from ADB and development partners, and the synergies
and complementarities created by their harmonized approach. The financial intermediation loan
modality adopted by the project is based on continued productive dialogue with the government
and development partners that supports efforts to develop and implement priority projects to close
the country’s infrastructure financing gap.
 7

Problem Tree for Infrastructure Finance