BANK FINANCE AND REGULATION Multi-Jurisdictional Survey ENFORCEMENT OF SECURITY INTERESTS IN BANKING TRANSACTIONS IN INDONESIA

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1 BANK FINANCE AND REGULATION Multi-Jurisdictional Survey ENFORCEMENT OF SECURITY INTERESTS IN BANKING TRANSACTIONS IN INDONESIA DARRELL R. JOHNSON MOHAMAD KADRI ASTRID A. SIHOMIBING 1

2 PART I - TYPES OF SECURITY 1. What are the most common types of security in banking transactions in your jurisdiction (e.g. standard security package)? Please provide a brief characteristic of each type of security. Standard security packages in banking transactions in Indonesia depend on the type of financing (e.g., acquisition financing, project financing, real estate financing, long-term and working capital financing for corporations, and consumer financing for individuals), the industrial sector of the borrower and the requirements of Indonesia s central bank ( Bank Indonesia or BI ). Acquisition financing typically requires the acquirer (not the target company) to secure repayment with the assets of the acquirer. The collateral provided depends on the industrial sector in which the acquirer is engaged. If the acquirer is engaged in a multi-finance business, the collateral assets provided are mainly receivables. If the acquirer is a manufacturing company, it would be normally required to provide its plant as the main collateral, possibly supported by other assets i.e., inventory, receivables and a pledge of shares of the acquirer. With respect to a pledge of shares, Bank Indonesia 1 allows banks to accept listed shares as additional collateral but not as the only collateral. Further, shares can only be taken as collateral for the purpose of financing a business expansion or acquisition and not for speculative share trading. With project financing, the project sponsors are required to provide the collateral to secure repayment of the loan. This collateral is the project itself, i.e., land, plant, inventory and receivables, together with a share pledge. A real estate financing is secured by the object financed, i.e., the land and buildings mortgaged under a specific form of Indonesian land security right. The security for the loan to a corporation is also based on the type of facility, i.e., a long term loan or a working capital loan. A long term facility typically requires the land and buildings by which the borrower operates its business to be given as collateral, while a one-year revolving working capital facility is normally secured by inventory and receivables. Furthermore, in the case of consumer financing to an individual borrower, the object financed (e.g., a house or a motorcycle) is normally provided as collateral. The requirement for a borrower to provide collateral is driven by the necessity of the bank to reduce its loss allowance by taking collateral to secure the loan pursuant to Bank Indonesia regulations 2. Bank Indonesia requires commercial banks to classify the productive assets of their portfolios in one of five categories. These classifications are used to determine the minimum levels of loss allowances the banks are required to maintain. Performing assets are described as pass and special mention. Non-performing assets are divided into three categories, having different specific allowances: sub-standard, doubtful and loss. Banks are required to establish sufficient allowances for possible losses (reserves) for each classification mentioned above. The reserve for possible losses must be a minimum of one percent of loans that are classified as pass, at least five percent for special mention, 15 percent for sub-standard, 50 percent for doubtful, and 100 percent for loss. In such case, the percentage is calculated after deduction of the value of allowable collateral. The higher the allowance, the more impact it has on the bank s capital. 1 Decision of the Board of Directors of BI No. 26/68/Kep/DIR Regarding Shares as Additional Collateral (September 7, 1993). 2 BI Regulation No. 7/2/PBI/2005 Regarding Assets Quality Ratings for Commercial Banks (January 20, 2005), as it has been amended several times and last was amended by BI Regulation No. 11/PBI/2009 Regarding the Third Amendment to BI Regulation No. 7/2/PBI/2005 Regarding Assets Quality Ratings for Commercial Banks (January 20, 2005). 2

3 As noted, Bank Indonesia permits certain types of collateral to reduce the loss allowance. The collateral value to be taken into account as a deduction from allowances includes pledged negotiable securities and shares actively traded on a bourse or having an investment grade rating, properties and machinery attached to land which is encumbered by a mortgage (a land security right), aircraft or vessels with a size of more than 20 cubic meters encumbered by a mortgage, vehicles and inventory pledged by a fiduciary transfer and a warehouse receipt encumbered by security right to warehouse receipt. A loan secured entirely by cash collateral (e.g., deposits) is deemed as having been classified as pass. Corporate guarantees, pledged non-listed shares and assigned receivables (even if the relevant assets may be properly encumbered) are not classified as allowable collateral and their value cannot be deducted from loss allowances. Hence, a bank is not likely to give much importance to those types of security when it loans money to a borrower. The most common types of security and their basic characteristics in Indonesia, are the following: A. Pledges: Under Indonesian Law, a pledge is a security device pursuant to which the owner of movable and intangible property grants the pledgee a security interest over such property. The Indonesian Civil Code defines a pledge as a right of a creditor (pledgee) to movable property or intangible assets (e.g., gold, time deposits, shares and certain marketable securities) that are physically delivered into the possession of the pledgee by a debtor. The pledge gives the pledgee a preferential right to the proceeds from the sale of the goods vis-a-vis other creditors. Shares of a company may be pledged or secured by a fiduciary security, unless a company s Articles of Association ( AOA ) provide otherwise 3. In practice, an Indonesian company s AOA do not restrict a security interest over shares. Law No. 40 of 2007 Regarding Limited Liability Companies (August 16, 2007) (the Company Law ) and a company s AOA will require that a pledge of or fiduciary security over shares must be recorded in the share register of the company to ensure that the company or other interested parties are aware of the pledge of shares or the fiduciary security 4. A pledge is generally perfected by taking physical possession of the pledged property. Article 1152 of the Indonesian Civil Code states in relevant part: A pledge right over movable assets and over bearer receivables (piutang-piutang bawa) shall be established by placing the pledged assets in the possession of the creditor or a third party who has been mutually agreed by the parties. A pledge right shall become void, if the pledged assets are no longer controlled by the pledgee. In the case of intangible property involving a registered instrument, such as shares, perfection occurs pursuant to Article 1153 of the Indonesian Civil Code, when the party against whom the pledged right shall be exercised (in the case of shares, the company that issued those shares) has been notified of the pledge. Article 1153 provides as follows: A pledge right over intangible movable assets, with an exception for 3 The Company Law, Article 60 (2). The concept of a fiduciary security over shares has been added by the new Company Law. However, given the fact that the new Company Law has recently been issued, implementing regulations governing fiduciary securities over shares have not yet been issued. 4 The Company Law, Article 60 (3). 3

4 those assets evidenced on bearer paper, shall be placed through notification of the pledge to the party against whom the pledged right must be exercised. Such party may request written proof of the notification and consent from the pledgor. B. Land Security Rights ( Hak Tanggungan ): Under Law No. 4 of 1996 Regarding Security Rights Over Land and Goods Attached to Land (April 9, 1996) (the Security Rights Law ), security interests may be granted over certain types of titles to land. This security right can only be imposed on hak milik title (similar to a fee simple title in common law jurisdictions), hak guna bangunan title (a right of development ) and hak pakai title (a right of use ). The security right also applies to only goods attached to such land, in order to secure the repayment of a loan. A Hak Tanggungan is perfected when registered with the local land office where the property is located. A registered Hak Tanggungan grants its holder a preferential right for settlement of a debt prior to other creditors. A Hak Tanggungan does not grant its holder ownership of the secured land, but does give the right to sell the land, either informally or by public auction, to settle unpaid debts. Multiple security rights can be imposed over a single plot of land by several creditors. However, typically the first priority security right holder will not permit, or will condition, the rights of any inferior security right holder. C. Fiduciary Security: Under Law No. 42 of 1999 Regarding Fiduciary Security (September 30, 1999) (the Fiduciary Security Law ), a fiducia is a security interest on movable assets, whether tangible or intangible, and on immovable goods that are not subject to a (i) Hak Tanggungan under the Security Rights Law, (ii) hypothecs on ships with gross tonnage of 20 M3 or more, (iii) hypothecs on aircraft or (iv) pledges. With a fiduciary security, the owner transfers title to its asset in a fiduciary capacity, or in trust, to the fiduciary grantee for the purpose of granting a security interest over that asset. The fiduciary provider retains possession of the asset with the provision that title to the asset will be transferred back to the fiduciary provider upon full payment of the secured debt. Fiduciary security may be granted in respect of one or more security objects, whether existing at the time of granting or subsequently acquired. Fiduciary security is created by the execution of a deed of fiduciary security by and between the fiduciary provider and the fiduciary recipient before a notary. The fiduciary security is perfected by its registration at the fiduciary registration office where the fiduciary provider is domiciled. Only one fiduciary security may be registered over a particular item at any time. The registered fiduciary security grants the fiduciary recipient priority over other creditors in case the fiduciary provider defaults under the terms of the underlying agreement. D. Collateral Right to Warehouse Receipt: Law No. 9 of 2006 Regarding the Warehouse Receipts System (July 14, 2006) stipulates warehouse receipts as an alternative method of trade financing and creates a new security right. Warehouse receipts are title documents issued by a licensed warehouse manager for commodities stored in the warehouse. Warehouse receipts may be issued for commodities that can be stored for a certain time period (i.e. up to three months). Banks and certain financial institutions may issue derivative instruments based on these warehouse receipts. Warehouse receipts may be in the form of (a) non-negotiable warehouse receipts, which states the name of the party entitled to receive delivery of the stored commodities, or (b) negotiable warehouse receipts, which states an order/instruction for a party to receive the stored commodities. Both types of receipts must contain certain information, including a 4

5 description of the goods, the location of the goods, and the expiry date of the receipt. Upon the expiry of a warehouse receipt, the warehouse manager is required to deliver the goods to the current owner of the warehouse receipt, which may not be the original owner. In addition to constituting evidence of the delivery of stored goods to a warehouse, warehouse receipts are negotiable and may be used as collateral. A warehouse receipt may only be encumbered once. Security rights created in respect of warehouse receipts grant the beneficiary a first priority right over the relevant goods with respect to any other creditors. At present, only certain commodities can be the subject of warehouse receipts, namely: rice, grain, corn, coffee, cocoa, pepper, rubber and seaweed. However, it is expected that in the future other warehouse-receipt suitable products will be included in the list of eligible commodities. In addition to the above securities, there are other devices recognized under the Indonesian Civil Code that give lenders further assurance that loans will be repaid. These are personal guarantees (borgtocht) and corporate guarantees. These are undertakings based on contract and none confer upon the creditor any priority right over the debtor s assets. The Indonesian Civil Code also recognizes the concept of a statutory assignment of accounts receivable, known as a cessie. A cessie is an outright assignment or transfer of legal title of account proceeds to an assignee, which is achieved upon notice to and acknowledgement by the account debtor. As such, this device is not a security interest, whereby the title to the asset remains with the debtor and a preferred lien is created on the asset in favor of the creditor. Prior to the Fiduciary Security Law, the Indonesian courts allowed parties to create a cessie as a contractual fiduciary transfer of accounts receivable to be created, based on Dutch precedent. With the adoption of the Fiduciary Security Law, we do not believe it is possible to create a fiduciary transfer over accounts receivable by contract, except in compliance with the Fiduciary Security Law. Accordingly, we have not included such an assignment of accounts receivable as one of the types of security rights that are available in our jurisdiction. Further, we note that a hypothec may be imposed over certain type of assets i.e., aircraft and vessels. These security instruments are rare and are not discussed further. 2. In relation to the following types of assets, please provide the types of security that can be created or granted in your jurisdiction and give details of any registrations required: (a) Real Estate; (i) Hak Tanggungan: Land and buildings attached to land are normally encumbered by a security rights, known as a Hak Tanggungan. A Hak Tanggungan over land (and any buildings or movable property attached to such land) is perfected by way of registration with the relevant land office. Such registration must be made within seven working days after signing of the Deed of Grant of Hak Tanggungan (in Indonesian, an Akta Pemberian Hak Tanggungan, or APHT ) before a land deed official. The land deed official must file and register the executed APHT and other necessary documents, such as the original land certificate and a copy of the underlying loan agreement. The document required for the registration is a power of attorney from the grantor and the grantee of a Hak Tanggungan, giving the land deed official the authority to conduct the APHT registration. Land deed officials are typically Indonesian notaries licensed by the state. The power must be drawn up in a notarial deed form. If the documents are in order the process should take about six weeks. The fees to draw up the APHT are approximately one percent of the total amount specified in the Hak Tanggungan and the registration cost is 0.25% thereof. We note these fees are not prescribed by statute and are negotiable. (ii) Fiduciary: Security involving plant and machinery that are not attached to the 5

6 land must be encumbered by way of a fiduciary security. If the plant and machinery are attached to the land, they will be secured by a Hak Tanggungan. It is not clear which security interest prevails between a security right and a fiduciary security in a situation where a fiduciary security is given over plant and machinery that are not initially attached to land but is attached subsequently, and a security right is given over the same land, plant and equipment. The fiduciary security must be registered at the Fiduciary Registration Office (the FRO ) located within the province in which the fiduciary provider is domiciled. All registered information relating to the collateral will be open to the public. Once registered, the fiduciary recipient has a pre-emptive position over other creditors should the fiduciary provider default under the terms of the underlying agreement. The fees to draw up a deed of fiduciary security range between Rp.50,000 to Rp.7,500,000 depending on the value of the collateral. These fees are prescribed by statute. The procedure for registration of a fiduciary security is as follows: (a) (b) (c) (d) (e) Registration is effected by the grantee of the fiduciary security or by its attorney-in-fact or other representative. Registration is made by way of submitting a registration statement of fiduciary, containing: (i) the identities of the parties to the deed of fiduciary security (the grantor and grantee of fiduciary security); (ii) the date, the number of the deed of fiduciary, the name and domicile of the notary preparing the deed of fiduciary; (iii) the name of the principal agreement which is secured by the fiduciary security; (iv) the objects of the fiduciary security; (v) the security value; and (vi) the value of the objects of the fiduciary security. The FRO will record the fiduciary security in the registration book of fiduciary security on the same day as the registration statement is submitted. After the above recording, the FRO will issue a fiduciary certificate on the same day as the registration. The fiduciary certificate, when properly executed, has a direct executory right, in the sense that the fiduciary certificate has the same effect as a final and binding court decision. The fiduciary security is established on the date of its registration in the registration book of fiduciary. (b) Charging assets (inventory, stocks etc.): Fiduciary: Inventory and stocks are tangible movable assets, which under Indonesian Security Law will be encumbered by fiduciary security. Please see comments on fiduciary security as mentioned above. (c) Movables: Fiduciary: Please see comments on fiduciary security as mentioned above. (d) Shares: (i) Pledge: Under Indonesian law a security interest over shares can be taken by way of a pledge of shares or the imposition of a fiduciary security over such shares, a pledge of shares in an Indonesian company is established by way of an agreement between the pledgor and the pledgee and notification to the company whose shares are being 6

7 pledged. A pledge of shares may be created over shares in a private company ( Non-Listed Shares ) or a publicly listed company on Indonesia s stock exchange ( Listed Shares ) in the form of scrip ( Listed Scrip Shares ) or scripless ( Listed Scripless Shares ) or a combination thereof, each with specific features as described below. In the case of non-listed or private companies (Non-Listed Shares), and listed companies that issue shares in scrip form (Listed Scrip Shares), the property to be pledged is represented by a title document, i.e., the share certificate, and thus there are elements of both tangible movable property and intangible movable property involved in the pledge of such shares. In those cases, the pledgor and pledgee must take possession of the tangible evidence indicating title ownership of the shares (i.e., the share certificate) in addition to providing notice of the pledge to the company that issued the shares, or other entity (such as a share registrar) that has control over the shares, as the entity against whom the pledge will be exercised. Finally, the pledgee should ensure that the pledgor also complies with the relevant laws and regulations, and the issuing company s AOA, concerning creation of the pledge. For example, if the pledgor is an Indonesian company, the pledgor should obtain approval from its Board of Directors ( BOD ), the Board of Commissioners ( BOC ) and the shareholders at their general meeting of shareholders or by unanimous written consent in lieu of a shareholders meeting, if permitted by the pledgor s AOA, whichever is relevant under the pledgor s AOA, approving the grant of a security interest over the shares in the company. In addition, if a corporate pledgor s shares in the company concerned constitutes 50 percent or more of a corporate pledgor s total net assets, it will be necessary to obtain approval of 75 percent of the pledgor s shareholders voting at a shareholders meeting attended by 75 percent of the issued share capital of the company. As a general rule, no other approval or consent (whether governmental or otherwise) and no registration, filing or notification, apart from those mentioned above, is required or necessary for the pledge to be created and perfected in favor of the pledgee. We note, however, that certain types of companies may require specific government approvals not specified above. For example, regional-owned companies may need approval from their regional houses of representatives to pledge their assets. Furthermore, there may be cases where creditors have approval rights over the grant of security interests to third parties. Final determination of required approvals, therefore, can only be done on a case-by-case basis. a. Perfection of Pledge of Non-Listed Shares and Listed Scrip Shares: Below is a summary of the specific steps that the pledgee is required to take to create and perfect a pledge over a pledgor s Non-Listed Shares and Listed Scrip Shares: (i) (ii) (iii) execution of the credit agreement; execution of the pledge agreement; delivery of the share certificates or the collective share certificate to the pledgee after the pledge agreement is signed. It is not the practice in Indonesia nor is it legally required that the share certificates be endorsed in blank, as is common in many other jurisdictions. However, it is recommended that this be done. The irrevocable power of attorney that will be given by the pledgor to the pledgee will allow the pledgee to date and deliver the share certificates to a buyer should there be a default and the pledgee thereby becomes entitled to enforce the pledge. The pledgor s AOA will indicate who should endorse on behalf of the pledgor. Typically, this is duly endorsed in blank by the President Director of the company, (if the pledgor is a company), but the President Commissioner may also be required by the AOA to do so; 7

8 (iv) next, the pledgor (either alone but typically with the pledgee) must issue a notice of pledge to the BOD of the company whose issued shares have been pledged, informing it that the pledgor s shares have been pledged to the pledgee and instructing the issuing company to register the pledge in the share register of the company and to block the pledged shares from any transfer or further pledge, redemption and conversion to scripless form in respect of Non-Listed Scrip Shares, without the prior written consent of the pledgee. The form of notice of pledge should be scheduled to the pledge agreement. The notice of pledge should state clearly that the pledge is made in favor of the pledgee. In respect of Listed Scrip Shares, the notice of pledge must also be delivered to the share registrar 5 appointed by the company, in addition to the foregoing notice to the BOD of the issuing company. The pledgee should also obtain an undated consent to transfer executed by the pledgor, as this document must be presented to the selling broker if the pledge is enforced and the shares are sold through the stock exchange; (v) (vi) (vii) the BOD of the company (and the share registrar in respect of Listed Scrip Shares) should then issue a letter of acknowledgement to the pledgor and the pledgee stating that the pledge of the pledgor s shares has been duly registered in the share register maintained by the BOD (and the share registrar, in respect of Listed Scrip Shares) and that the respective parties agree not to register, and to block, any further pledge, transfer, redemption, conversion or otherwise deal with respect to the pledged shares by the pledgor, without the prior written consent of the pledgee; concurrently with step (vi) above, the BOD of the company (and the share registrar in respect of Listed Scrip Shares) should provide to the pledgee a copy of the share register, indicating the recordation of the pledge in favor of the pledgee and confirmation of the blocking arrangement; and the pledgor would also grant an irrevocable power of attorney to the pledgee that allows the pledgee to perfect the pledge and enforce the pledgee s rights with respect to the shares, in the name of the pledgor. The irrevocable power of attorney should grant the pledgee at least the following powers to: perfect its security over the pledged shares (or any future additional shares) and otherwise to give proper effect to the pledge; receive dividends or any other distributions (if it has been agreed in the pledge agreement to include the same); attend any general meeting of shareholders and vote and sign any resolutions on behalf of the pledgor, if the borrower fails to pay when due any part of the outstanding indebtedness under the loan agreement or the borrower or the pledgor otherwise respectively defaults under the loan agreement or the pledge agreement, until the enforcement of the pledge has been completed and the pledged shares have been sold; and 5 A share registrar is a securities administration bureau licensed by the Capital Market and Financial Institution Supervisory Board ( Bapepam-LK ) to act as a share registrar pursuant to a contract that provides that the share registrar shall provide services in the administration, transfer of ownership and recordation of transactions relating to the company s scrip listed share. 8

9 sell, transfer, conclude a private sale, auction or sale as instructed by the district court to enforce the pledgee s security rights in the pledged shares, including the right to date and submit the executed consent to transfer to a broker to effect the sale of the pledged shares through the stock exchange and to date and complete any endorsement of share certificates previously made by the pledgor. b. Perfection of the Pledge of Listed Scripless Shares: The Indonesian Capital Markets Law 6 and the Indonesian Central Securities Custodian (in Indonesian, PT. Kustodian Sentral Efek Indonesia, or KSEI ) Regulation set out the perfection mechanism to record a pledge of shares and to block any transfer or subsequent pledge of Listed Scripless Shares. A publicly-listed company (itself, or acting through its share registrar) must refuse to record in its records any transfer, a subsequent pledge over or any other dealing with respect to any pledged shares. Further, the KSEI will refuse to permit the conversion of Listed Scripless Shares to Listed Scrip Shares and the transfer of any pledged shares from a securities account. In general, the KSEI s role in respect of pledged securities is as follows: (i) (ii) (iii) the KSEI can block the securities sub-account at the request of relevant parties; the blocked securities and funds in the securities sub-account must be recorded in the securities sub-account on behalf of the account holder and its customer, which is specifically used to record the blocking of the shares; and as long as such securities sub-account has been blocked, such pledged shares, and any funds in the securities sub-account, cannot be withdrawn or transferred by the account holder until revocation of the block has been authorized by the pledgee to KSEI and KSEI has issued the revocation. The role of the KSEI and the account holder in respect of the administration of a pledge of shares is as follows: (i) (ii) (iii) (iv) the account holder on behalf of its customer can pledge the securities in its securities sub-account, by submitting to the KSEI an application for the pledge of securities. Each application must include, among other matters, information on the type of securities, the pledgee and other requirements for a pledge; the pledge must be recorded in the securities sub-account on behalf of the pledgor (as the customer of the account holder) specifically established for the recording of the pledge. The pledged securities cannot be withdrawn or transferred to settle any securities transaction as long as the pledge is recorded; the KSEI must issue a confirmation to the account holder who has submitted the application for recording of the pledge and to the pledgee to evidence the recordation of the pledge; in relation to the pledged securities, the KSEI is only obligated to administer custody of the pledged securities for the interest of the pledgee in accordance with the instructions of the account holder. The KSEI does not take any 6 Law No. 8 of 1985 Regarding Capital Markets (November 10, 1995). 9

10 responsibility as to the parties rights and obligations under the pledge agreement; (v) (vi) (vii) (viii) (ix) (x) the rights attaching to the pledged securities, including the right to receive cash and stock dividends, bonus shares and other rights, do not become part of the pledge and are retained by the pledgor, unless otherwise set forth in the instructions made by the account holder; the application for a revocation of the pledge of the shares must be submitted in writing by the account holder, which will not be accepted by KSEI unless the pledgee has consented to the revocation; KSEI must record the pledge of the shares of the account holder s customer, including the issuance of the confirmation letter as evidence of the recording of such pledge to the account holder of the pledgor, for the benefit of the pledgee (as mentioned in point (ii) above); the account holder is responsible for the implementation of the recording of the pledge of its customer s shares and the issuance of the confirmation letter confirming the recordation of the pledge of such shares in favour of the pledgee, including the request to block the securities sub-account of the account holder maintained with the KSEI; for the purpose of recording the pledge of the customer s shares by the account holder in the C-BEST 7, the account holder must submit a request to KSEI to block the securities sub-account in which the pledged shares are maintained, together with the copy of the request for recording such pledge from its customer and the pledgee; and KSEI must submit a notice to the public company whose shares are registered with KSEI in respect of the suspension of the securities sub-account for the recordation of pledged securities owned by the account holder or its customer. Below is a summary of the specific steps that pledgee must take to create and perfect a pledge over a pledgor s Listed Scripless Shares: (i) (ii) (iii) execution of a credit agreement; execution of a pledge agreement; after the pledge agreement is signed, the pledgor (either alone or with the pledgee) must issue a notice of pledge (x) to the account holder to record the pledge of shares with the KSEI and block the shares in the C-BEST and (y) to the share registrar informing it that the pledgor s shares have been pledged to the pledgee and instructing it to block the pledged shares from any further pledge, transfer, redemption, and conversion to scrip form or other dealing with respect thereto, without the prior written consent of the pledgee, and to register the pledge in the share register of the company created for this purpose, pursuant to Article 1153 of the Indonesian Civil Code. The pledgee should also obtain an undated consent to transfer executed by the pledgor, as this document must be presented to the selling broker if the pledge is enforced and the shares are sold through the stock exchange; 7 C-Best means the Book Entry Settlement System used by KSEI to settle securities transactions. 10

11 (iv) (v) (vi) (vii) (viii) (ix) upon receipt of the notice referred to in paragraph (iii) above, the share registrar would then issue a letter of acknowledgement to the pledgor and the pledgee, with a copy to the issuing company, stating that the pledge of the pledgor s shares has been duly registered in the share register maintained by the share registrar and that the share registrar agrees not to register and to block any further pledge by the pledgor over the pledged shares as well as any transfer, redemption, conversion or other dealing with respect thereto, without the prior written consent of the pledgee; the account holder must then issue an application letter to the KSEI requesting the KSEI to record the pledge of shares and to block the pledged shares in the C-BEST; the KSEI will then issue a letter of confirmation to the account holder that the pledge of shares has been recorded and blocked in the securities sub-account on behalf of the pledgor and in the C-BEST; as evidence of the recordation of the pledge, the account holder would then issue a confirmation to the pledgor and to pledgee that the pledge of shares has been recorded; the share registrar would also provide to the pledgee a copy of the recordation of such pledge in favor of the pledgee after receiving confirmation from the KSEI through the company; and the pledgor would also grant an irrevocable power of attorney to the pledgee to allow the pledgee to take any further steps to perfect the pledge and enforce the pledgee s rights with respect to the pledged shares in the name of the pledgor. The irrevocable power of attorney would grant the pledgee at least the following powers: to perfect its security over the pledged shares (or any future additional shares) and otherwise to give proper effect to the pledge; to receive dividends or any other distributions (if it has been agreed to include the same in the pledge agreement); to attend any general meeting of shareholders and vote and sign on behalf of the pledgor any resolutions, should the borrower fail to pay when due any part of the outstanding indebtedness or should the borrower or the pledgor respectively otherwise default under the loan agreement or the pledge agreement, until the pledged shares have been sold and the enforcement of the pledge has been completed; and to sell, transfer, conclude a private sale or public sale to enforce the pledgee s security rights in the pledged shares, including the right to date and submit the executed consent to transfer to a broker to effect the sale to transfer of the shares through the stock exchange. (e) Rights under Contracts (receivables): Please see our comments on fiduciary security above. (f) Bank Accounts: Bank accounts in the form of bank time deposit can be pledged. The first step in obtaining a pledge over bank deposit is to execute a pledge agreement, 11

12 which may, but need not, be in the form of a notarial deed. The execution of a pledge agreement in notarial deed form has certain evidentiary advantages in the event of a dispute. For example, the pledgor cannot later assert defenses of fraud or duress against the pledgee. However, in practice it would be difficult to successfully assert such defenses against the pledgee in the event of foreclosure of the pledge over a bank deposit, either as a legal or practical matter, and for this reason a banker often use only private deed pledge agreement to create an effective and enforceable pledge. The pledge agreement must be governed by Indonesian law, given that the object of the pledge is a bank deposit issued by an Indonesian bank and is therefore an intangible right created by and under Indonesian law. We note that if the assets pledged are delivered to the pledgor, the pledge will cease to have effect. It is important, therefore, that the pledged assets are continuously in the possession of the pledgee. Under Indonesian law, a security interest is accessory in nature, which means that its creation and continued existence is dependent on the existence of the loan. If the loan is fully paid, the pledge will then automatically terminate. If the pledgor is an individual and is married, the loan agreement and the pledge agreement should be approved by the pledgor s spouse in a written spousal consent or by the spouse s countersigning the two agreements. If the pledgor is an Indonesian company, the pledgor may be required to obtain approval from its BOD, BOC and/or shareholders at its general meeting, depending on the specific requirements contained in the pledgor s AOA. The following steps are required to be taken to create and perfect a pledge over a pledgor s bank deposit: (i) (ii) (iii) (iv) (v) execution of a credit agreement; execution of a pledge agreement; once the pledge agreement is signed, the bank deposit certificate, confirmation slip or other evidence of ownership must be delivered to the pledgee; the pledgor and the pledgee must issue a notice of pledge to the issuing bank of the bank deposit, informing the issuing bank that the pledgor s bank deposit has been pledged to the pledgee and instructing the issuing bank to block the pledged bank deposit from any further pledge, liquidation, assignment, transfer, disposal or other encumbrance without the prior written consent of the pledgee and to record the pledge in the issuing bank s records, if any, created for this purpose. We note that each bank determines whether and how it will record pledges in its records in favor of another. There is no system that is mandated or otherwise required by law. The notice of pledge should be scheduled to the pledge agreement. The notice of pledge should state clearly that the pledge is made in favor of the pledgee pursuant to Article 1153 of Indonesian Civil Code. If the term of the loan exceeds the time period of the bank deposit, the pledgee may require the bank deposit to be extended automatically until the loan has been repaid. The pledge agreement and the irrevocable power of attorney, 12

13 described in point (vi) below, should give the pledgee such rights. If the pledgor and the pledgee have agreed to include any interest earned on the pledged bank deposit as part of the pledge, the pledge agreement should require that any interest derived from the pledged bank deposit be automatically placed in a new bank deposit. This agreement should be set forth in the pledge agreement and in the notice of pledge described in point (iv) above. The pledgee should also be given the foregoing right in the irrevocable power of attorney from the pledgor, discussed further below. (vi) (vii) The bank holding the bank deposit would then be requested to issue a letter of acknowledgement stating that the pledge of the pledgor s bank deposit has been duly recorded in the issuing bank s records and that the issuing bank agrees not to record any further pledge by the pledgor over the pledged bank deposit as well as to block the bank deposit from any further pledge, liquidation, assignment, transfer, disposal or other encumbrance over the pledged bank deposit without the prior written consent of the pledgee. The pledgor would also grant an irrevocable power of attorney to the pledgee to perfect the pledge and to enforce the pledgee s rights with respect to the collateral in the name of the pledgor. The power of attorney would grant the pledgee the following powers, among others: to perfect its security over the pledged bank deposit (and any future or additional bank deposit) and otherwise to give proper effect to the pledge, including the right to extend the term of the deposit if the deposit is not automatically extended; to receive interest or any other investment return assigned to the pledgee, if the pledge agreement so requires; and to liquidate, assign, transfer the pledged bank deposit, to enforce the pledgee s security right in the pledged bank deposit and to sell, transfer and conclude a private sale, public auction or court ordered sale, to enforce the pledgee s security rights in the pledged bank deposit. Bank accounts are intangible movable property under Indonesian law and may in theory be encumbered by a fiduciary security. However, the FRO in practice will not accept the registration of a fiduciary security over a bank account. Consequently the bank usually uses its setoff rights under Indonesian Civil Code to protect its interest over this type of collateral. An instruction to block and a power of attorney from the borrower to the bank to liquidate the fund is required despite the fact that the setoff is designed to automatically offset the borrower s debt with the borrower s account. (g) Financial Instruments (e.g. securities): Certain types of securities such as Government Bonds Bank Indonesia Certificates (Sertifikat Bank Indonesia or SBIs ), mutual funds and corporate bonds can be pledged. The pledge processes for those securities are similar, but may require the involvement of different institutions. For example, a pledge of a mutual funds participation unit would involve the investment manager and custodian, a pledge of Government Bonds and SBIs would involve BI as the central custodian, and a pledge of corporate bonds would involve KSEI as the central custodian. As an illustration, the specific steps that need to be taken to create and perfect a pledge over a borrower s interest in mutual fund by way of pledge are as follows: 13

14 (i) (ii) (iii) (iv) (v) (vi) execution of the credit agreement; execution of the pledge agreement; delivery by the pledgor to the pledgee of the written confirmations of ownership of the pledged mutual fund participation units; issuance by the pledgor and the pledgee, of a notice of the pledge of the pledgor s mutual fund participation units, to the investment manager, the custodian and the selling agent, informing them that the pledgor s mutual fund participation units have been pledged; The issuance of a letter of acknowledgement to the pledgee by the investment manager, the custodian and the selling agent, of the pledge of the pledgor s mutual fund participation units, confirming that the custodian, the investment manager and the selling agent agree not to permit any redemption of the mutual fund participation units without the pledgee s consent; the grant of an irrevocable power of attorney by the pledgor to the pledgee to enforce the pledgee s rights with respect to the collateral in the name of the pledgor. The power of attorney would grant the pledgee at least the following powers: to perfect its security over the pledged mutual fund and otherwise to give proper effect to the pledge; to receive dividends or any other profit distributions assigned to the pledgee (if it has been so agreed in the pledge agreement); and to sign on behalf of the pledgor any redemption of the pledgorr s interest in the mutual fund to enforce the pledgee s security rights therein. (h) Intellectual Property: Security interests over intellectual property rights are not commonly used in Indonesia. In theory, the fiduciary security system would be applicable. Please see comments above on fiduciary security. (i) Plant and Machinery: Please see comments above on Hak Tanggungan and fiduciary security. (j) Other Assets: Not Applicable. 3. Can a trustee or security agent be used in your jurisdiction, or must security be granted in favour of all lenders? Is the parallel debt clause concept recognized in your jurisdiction? Yes, a security agent can be used in our jurisdiction based on a contractual arrangement. The role and duties of a security agent would be governed by a security agent agreement and the relationship between the lender and the security agent would be based on contract rather than law. We do not recognize the concept of parallel debt under a trust arrangement. In normal banking practice in Indonesia, a lender will appoint a facility or security agent to represent the lenders interests and to hold and administer security on behalf of each lender, pursuant to 14

15 contract. 4. Please explain the latest amendments to the law governing secured transactions in your jurisdiction. Are there any amendments which will be introduced in the near future (within 1-2 years) which might have an impact on the legal framework of secured transactions? Please also explain recent practical developments regarding secured transactions in your jurisdiction. On July 24, 2008, the Chairman of the Commodity Futures Trading Regulatory Agency (Badan Pengawas Perdagangan Berjangka Komoditi) issued Regulation No. 09/BAPPEBTI/PER-SRG/7/2008, which provides the technical guidelines on using warehouse receipts as collateral. This regulation encourages the use of warehouse receipts as an alternative form of collateral. PART II ENFORCEMENT OF SECURITY 1. Please explain briefly the general rules of enforcement of security indicated in answer to the Question 1 in Part I above (excluding rules in a bankruptcy or insolvency proceedings see Question 3 below). In your answer please explain whether specific security may be enforced only through judicial proceedings or whether extra-judicial methods are also available. Furthermore, please provide an estimate of costs (if they create significant obstacles in enforcement, including applicable taxes and any other duties/ costs) and timing for enforcing such security. Please also explain the degree of difficulty (e.g. burdensome formalities, whether enforcement requires actions of a state body) in enforcing security. Also please explain whether taking security by an entity from another jurisdiction influences the possibility of establishing security and its enforcement. In general, a security interest created by a security agreement (whether it is a pledge, mortgage, Hak Tanggungan, fiduciary security or collateral right to warehouse receipt) can be immediately enforceable, without judicial enforcement proceedings, if the borrower fails to pay when due any part of the amount outstanding under the loan agreement or following a declaration of default. No prior demand for payment is required by law, although this is a common contractual condition. In theory, a grantee of security may exercise all the powers and rights of a security conferred by statute or otherwise and may sell or otherwise dispose of all the title to and interest in the secured objects through a public auction or a private sale or by court order, as the grantee of security may, in its sole and absolute discretion, think fit. In practice, however, auction houses often request a court order to implement the auction process, despite the fact that the law and the security agreement do not require such a court order. This is also done because the buyers of collateral would prefer to have an execution order issued by a court, on the assumption that such an order would reduce the success of a later attempt by the debtor to recover its property from the buyer. It is not possible to estimate the costs of enforcement of security interest without first identifying the nature and value of the assets that are subject to the security interest. In general, enforcement of security in Indonesia is time consuming, difficult and costly, especially if it involves judicial enforcement. We note that all security interests are accessory in nature. This means that once the secured indebtedness has been paid, the security interest is no longer effective. Further, if excess proceeds are realized from the sale of collateral, such access must be returned to the 15

16 debtor-borrower. If the proceeds realized from the sale of security are insufficient to repay the debt, the borrower remains obligated to pay the balance of the debt. We note there are several limitations and uncertainties with regard to the private (i.e., nonjudicial) enforcement of a security interest. (i) (ii) (iii) The debtor (owner of the secured property, if different than the lender) may challenge a bank s foreclosure of collateral. Typically, this is done by bringing a lawsuit to challenge the secured party s determination of the amount of the debt and the foreclosure process, which the debtor alleges will not realize the true value of the collateral. This latter argument does not apply in the case of a foreclosure of participation units in a mutual fund or the liquidation of a bank deposit where the value of the collateral is liquid and readily determinable in the market. Another method of attack by a debtor is to challenge a bank s sale of the collateral on the ground that it may not be made without a court order. A debtor may argue that the security agreement does not permit a sale since it does not have the executorial force that a court order would have. We note the foregoing claims have been accepted by the Indonesian courts in some cases. In the case of pledge, this is not a valid legal argument since a private sale is allowed by Article 1155 of the Indonesian Civil Code, if agreed in the pledge agreement. Although the power of attorney will by its terms be stated to be irrevocable, there is a risk that it can nonetheless be revoked by the grantor and that it may be deemed terminated as a matter of law upon the death of an individual grantor and by the bankruptcy of a corporate grantor. Article 1813 of the Indonesian Civil Code provides as follows: Article A power of attorney shall terminate due to revocation of the power granted to the grantee; due to notification on termination of the power by the grantee; due to the death, the guardianship, the bankruptcy or apparent insolvency, either of the grantor or the grantee; due to the marriage of the woman who has granted or accepted the power. The power of attorney will include a waiver of this Article but there remain uncertainties whether a court would enforce such a waiver and whether it can be waived in the case of the grantor s death, guardianship, bankruptcy or apparent insolvency. Furthermore, the grant of an irrevocable authorization may not prevent the grantor from exercising such powers, although a waiver by the grantor should be enforceable. (iv) The exercise and enforcement of the lender's right of a private power of sale under the security agreement may be challenged. As noted earlier, in the case of pledge, this right is allowed by Article 1155 of the Indonesian Civil Code if the pledgor and the pledgee have so agreed, and this provision should eliminate the risk of such challenge. The loan agreement and the pledge agreement will typically provide for this right. Article 1154 of the Indonesian Civil Code prohibits the pledgee to own the pledged interest in the pledged assets upon an event of default. This means that a pledgee cannot simply appropriate or take all of the collateral in 16