Will bank consolidation boost competitiveness in Indonesia?

Consolidation is one of the biggest ongoing issues in Indonesia’s banking sector, representing a challenge for the authorities but also an opportunity for investors. The hundreds of financial sector licensees across the archipelago amount to a huge supervisory obligation for the country’s two regulators: Bank Indonesia, the country’s central bank, and the Financial Services Authority (OJK). The authorities would like to see a shorter roster of licensees, with most institutions bigger in size and capacity.

Benefits

The benefits of a banking sector with fewer but bigger players also include an enhanced ability to gain from economies of scale, financial inclusion, improved liquidity, and lenders that are better able to finance the government’s infrastructure plans. Consolidated banks could also find themselves better positioned to penetrate regional markets through the ASEAN Banking Integration Framework, which will grant improved access to participating markets for lenders that are large enough to meet the agreement’s criteria, and allow them increased flexibility in operations.

Lastly, increased size could mean banks have greater capacity to invest in financial technology (fintech) solutions, which are already driving growth across financial services in Indonesia. “With the development of fintech and banking digitalisation, banks are required to be efficient so they can compete,” Heru Kristiyana, executive head of banking supervision at the OJK, told Bloomberg in July 2019. “You must consolidate if you cannot compete.”

Market-Based Approach

After the 1997-98 Asian financial crisis, the authorities bailed out banks and required many of them to merge. This time, current leaders are leaving consolidation up to market participants but are encouraging it through policy moves. However, the pace of consolidation has been slow so far. To remedy this, the authorities have moved to facilitate consolidation by relaxing some key requirements of foreign investors, such as caps on foreign investment and on the number of separate banks that an investor can own or hold a strategic stake in. As of September 2019 there were 110 commercial banks and 1578 rural banks licensed in the country, which marks a decrease against previous years. In 2015 these totals sat at 118 and 1636, respectively.

As of yet, consolidation efforts have primarily been led by a mix of Japanese, Thai, South Korean and domestic investors. However, future investment could be attracted from a wider range of sources given the Indonesian market’s potential, low penetration rate and profitability. For example, Indonesia’s net interest margins are significantly higher than in other markets across the region. Some investors may prefer opportunities to buy one large bank, but recent developments suggest it is possible to create a top-tier lender through multiple acquisitions of smaller banks. Indeed, in January 2019 Japan’s Sumitomo Mitsui Banking Corporation (SMBC) created the country’s 10th-largest lender in terms of assets by combining its own domestic subsidiary with Bank Tabungan Pensiunan Nasional, previously the 16th-largest bank in the country.

The challenge, however, may be finding smaller banks that are ready to sell to bigger players, particularly given the strong market conditions in recent years. This has lead to a general sense of optimism about the future of the sector. “A few years ago we could not have imagined these big Japanese or Thai banks coming in to buy Indonesian banks,” David Wake, lead adviser of financial services at PwC Indonesia, told OBG. “But from here I think consolidation gets more difficult. If everybody has a growth strategy, then nobody wants to sell.”

There has been some merger and acquisitions activity, however. For example, Bank Central Asia (BCA), which is the largest privately owned lender, acquired two smaller banks in 2019: Bank Royal Indonesia and Rabobank Indonesia. In this case, BCA has not folded the two into its own main operation, but has stated that Rabobank Indonesia could be merged with another BCA subsidiary.

Relaxed Rules

As in other sectors, showcased by the temporary export bans of unprocessed minerals seen in recent years, the authorities have made it clear that restrictions on foreign investment are likely to cycle between strict and lenient, and that they have the ability to apply discretion on a deal-todeal basis. However, a major policy change mooted in 2019 would allow foreign entrants more control over how they invest, as it would partially relax the single presence policy that has been in place since 2006. The existing legislation states that investors making acquisitions cannot own more than one bank at the same time; any owned at the same time must be merged in order to receive approval from the authorities. In August 2019, however, Heru Kristiyana, executive head of banking supervisor of the OJK, said that investors could expect new regulations, which would ease the single presence policy. He said they would allow a bank to own multiple lenders with paid-up capital of less than Rp5trn ($352.5m). As of March 2020 those regulations were in draft form.

Another major restriction that has been relaxed in recent years is the 40% cap on foreign ownership of banks. Foreign investors have increased their presence in the sector as a result. The clearest example of this is Bank Danamon, Indonesia’s sixth-largest lender, which is now 94% owned by Japan’s Mitsubishi UFJ Financial Group (MUFG). MUFG had initially planned an acquisition strategy with the cap in mind, by buying another bank, PT Bank Nusantara Parahyangan, and merging the two. MUFG acquired Danamon in a phased process from Temasek Holdings, the Singaporean state-owned conglomerate. Temasek had acquired a 73.9% share of Danamon before the foreign-ownership cap had been instituted, and had attempted to sell that stake to another foreign investor, Singapore’s DBS Group Holdings. After Indonesian authorities nixed that sale, MUFG stepped in. With the single presence policy now relaxed, however, foreign investors may not need to commit to such strategies in the future.

Big Deals

The latest big deal to reshape the Indonesian banking sector came in December 2019, when a surprise bidder emerged for another major lender, Bank Permata. That bidder was Thailand’s Bangkok Bank, which spent $2.7bn acquiring Permata from Standard Chartered Bank, which is based in London but is most active in Asia. It owned a 90% stake in Permata, as well as maintaining its own bank in Indonesia. After considering a merger in 2016, the lender announced that it no longer considered Permata a core asset, triggering a round of offers. Bidders included domestic players such as Bank Mandiri, and powerful Indonesian businessman Chairul Tanjung’s CT Corporation, as well as foreign investors such as DBS and Oversea-Chinese Banking Corporation, which is also based in Singapore. In November 2019 an OJK official said the two finalists were Japan’s SMBC and an undisclosed Thai investor. Even though the rules for acquisition have been relaxed for foreign banks, certain expectations remain if deals are to be approved. The authorities seek foreign banks that will prioritise lending for infrastructure and small and medium-sized enterprises, and will enable Indonesians to occupy the two top executive roles.

Foreign Investment

For now, Japan and South Korea are the source of much foreign investment in the sector, in what appears to be an effort by banks from those countries to follow the lead of their multinationals in other sectors. Since 2000 Japanese financial sector investors have injected at least $9bn into mergers or acquisitions through nine separate deals. These deals are an example of the authorities’ ability to interpret the rules differently on a deal-by-deal basis. In four instances involving these Japanese investors, a bank was allowed to acquire a stake above 40%, and in three of them, they successfully acquired above 50%.

The list of Korean conglomerates currently integrating multiple Indonesian banks into a single licensee includes Industrial Bank of Korea and Apro Service Group. Industrial Bank of Korea acquired controlling stakes in Bank Mitraniaga and Bank Agris, while Apro is combining Bank Dinar and Bank Oke with its two local subsidiaries. Korean banks also made multiple acquisitions in 2015 and in 2018.

Local Interest

Indonesian banks are increasingly active in the acquisitions market as well. In addition to BCA’s purchase and Bank Mandiri’s run at Permata, lenders are looking beyond bank-to-bank deals and are considering non-bank financial companies. Bank Tabungan Negara, which focused on mortgages, has set aside Rp1trn ($70.5m), with which it reportedly hopes to buy a life insurance company, a venture capital firm and an asset-management company.