Who is watching?
Who is watching? (Vol86)
Introduction.
When I arrived in Indonesia in the mid 70’s, the country was largely rural, where the key local retirement strategy was to have a large family. At least one child may do well enough to support the aging parents, along with various forms of village social cooperation. However, today Indonesia is mainly urban, with smaller families relying on education to deliver success for children, and thereby support their aging parents. Many of this educated and good earning generation are also looking for investments to support themselves into their own retirement. For many Indonesians, property is the key investment vehicle, but this sector has been down for the past few years, and there is no sign when it might recover. The stock market is a second choice for many, and may need less start-up capital. The Jakarta Post (24 Nov 17) ran an interesting article on financial planning based on an international survey from Schrodes Investment Management Ltd. Indonesian investors are looking for 17% return per year, but may only get up to 10-12%. However, that is not considered sufficient to support their retirement plans. Global capital markets averaged 7.2% return over the past 30 years. The survey also found that investors are keen on funds that focus on corporate governance.
The Indonesian Stock Exchange (IDX) has listed companies across a wide range of businesses. Mining has a tradition of being a higher risk industry, with opportunity for much larger gains, or catastrophic losses. So how to attract genuine investors to this mining sector?
Background.
Some years back the Jakarta Stock Exchange (IDX) listed PT. SMRU Tbk as a manganese mining project located in Timor. The company complied in providing a prospectus available to the public through the IDX web site. After reading the included geological report I contacted the IDX call centre to enquire why such a geological report was not based on the then preferred JORC reporting code. The IDX promptly replied that the professional bases of such technical reports was not their responsibility, and that I could approach the under-writers on such matters. This I did, whereupon one under writer informed me that most of the shares were underwritten by the preferred off taker of the manganese ore, and thus the under writer had passed on a major element of their short-term project risk. Of course, this left the other / minor private investors with a “buyer beware” risk. Unfortunately, this particular project failed dismally, with no profits and collapsed share price. Everyone knows that some companies do well, and others don’t. In many other countries, their stock exchanges have systems in place to support credible reporting of a mining company’s resources and reserves. So what systems are in place to help the Indonesian investor decide which mining companies have a credible reserve bases to underpin their business profile?
CRIRSCO, KCMI & JORC.
Many mining industry players in Indonesia are familiar with the Australasian Joint Ore Reserves Reporting Code (JORC) reporting code. This is a guide for recognized professionals (mostly geologists, miners and others) to follow in preparing credible reports on resources and reserves. Those preparing the reports need to meet certain professional standards – typically including at least 5 years of relevant work experience. The reports are to be presented in a transparent manner – implying significant detail on data collection and the steps undertaken to derive resources and reserves. The professionals preparing such reports are personally responsible for their content, and are subject to discipline by their professional association for breaches in the reporting code.
The aspect of public reporting includes a statement specifying the name and signature of those preparing the report, to ensure that the report is not altered in any way, and is genuine. This is to guard against other people, perhaps within the company, or press reports, who may not fully understand the nature of the report, and who may prepare a summary, or extract selected highlights, for publication. Herein it is the responsibility of the competent person who prepared and signed the original report to ensure that the subsequent summary published reports meets all of the KCMI / JORC code reporting requirements. In Australia there can be boardroom debates between the directors and the geologists or miners about the contents of the final report. Indonesian business culture generally does not recognize that the director MUST take direction from the geologist or miner in the publishing of any and all reports containing resources and reserves. A further issue for the Indonesian competent person is that the IDX presently only recognizes the company director as the key person responsible for the exploration or mining report.
Indonesia has developed its own professional reporting code. Like other codes, this KCMI code is also based upon the principals of transparency, materiality and competence. The KCMI’s competency and responsibilities state; – A Public Report concerning a company’s Exploration Results, Mineral Resources or Ore Reserves is the responsibility of the company acting through its Board of Directors. Any such report must be based on, and fairly reflect the information and supporting documentation prepared by a Competent Person or Persons. A company issuing a Public Report shall disclose the name(s) of the Competent Person(s) Indonesia, state whether the Competent Person is a full-time employee of the company, and, if not, name the Competent Person’s employer. The report shall be issued with the written consent of the Competent Person or Persons as to the form and context in which it appears. Note this is not limited to just IPO’s, but applies to all public reports.
The KCMI 2011 code is being updated to KCMI 2017, and in November 2017 was accepted into the international CRIRSCO group of internationally recognized reporting codes for resources and reserves. There are about 240 recognized Indonesian Competent Persons under the joint IAGI (Indonesian geological association) and PERHAPI (Indonesian mining association) professional associations that are recognized as suitable to prepare KCMI reports. IAGI, PERHAPI and the KCMI committee are very active in socializing this reporting code to the industry, mines department, provinces, stock exchange and ministry of finance etc. A MOU’s has been signed whereupon the Indonesian mines departments (Central and provincial) recognizes, and will only accept reports that comply with the KCMI code. Another MOU has been signed with the IDX to recognize and accept KCMI reports. However, implementation is only partial, whereupon the IDX will apply such KCMI compliance only to the IPO’s prospectus, but not to annual or other reports. This compliance for IPO’s is already working, whereupon the IDX refer such resource and reserve reports to the joint KCMI committee for independent review of compliance requirements. Note that the joint KCMI committee is made up of a few experienced volunteers.
So, who is watching the IDX or these KCMI committee volunteers? Well anyone can review the various geological reports posted on the IDX web site, or from companies own public web sites, and write into the IAGI, PERHAPI or KCMI and raise concerns over reporting compliance. As with most professions around the world, and in Indonesia, industry credibility is reliant upon a self monitoring system.
Testing the System.
Larger investors can afford to hire independent consultants to review mining company public reports, and further assess the projects risk profile. However smaller investors may not have such resources, and are more reliant upon the “system” to ensure resource and reserve reports are credible. So how well is the system working?
As a trial exercise I made a number of enquiries on a practical example of resource and reserve reporting on the IDX. The purpose of such enquiries was not to seek redress from the company, but as an exercise to look at the system of institutional responsibilities. The trial company selected was the PT. Timah (Presero) Tbk 2016 annual report, that includes a small table and brief non-descript comment on their tin resources and reserves. It is questionable if this report is fully compliant with KCMI reporting standards. This exercise prompted two lines of enquiries.
First – the KCMI committee was notified [ sekretariat@iagi.or.id , sekretariatmgei@gmail.com sektetariat.perhapi@gmail.com ], whereupon they held an internal meeting to confer if this is report is in breach of the KCMI reporting code. The follow up is not so simple, as the KCMI committee first has to identify the unnamed author, determine if they are a Competent Person and a IAGI / PERHAPI member under their professional jurisdiction, and so conduct reviews etc. If the KCMI committee find a Competent Person is in breach of the code, then discipline is determined on a case by case bases. Perhaps the Competent Person is required to refrain from writing further reports until they have completed a refresher course, or could have their Competent Person status withdrawn all together. The KCMI largely relies upon good will of the company to rectify past or adjust further reporting, as the KCMI committee has no teeth to discipline the company.
Second – the IDX was notified [ callcenter@idx.com.id ] of the apparent non-professional compliant reporting. The IDX responded in writing within about 2 weeks stating “that the Exchange does not specifically regulate the contents in the company’s annual report”. The IDX takes its lead from the Ministry of Finance (Otoritas Jasa Keungan = OJK) under regulation No. 29/POJK.04/2016. A review of this regulation includes some interesting aspects under the Explanation section 1. A Google translation states “In addition, yearly reports is also one of the sources of information for regulators in conducting supervision in an effort to protect the interests of investors or shareholders. Considering the importance of the Annual Report for investors or stock holders and regulators, the quality of the Annual Report needs to be improved either of the quality of the information contained in the Annual Report or in terms of presentation of the Annual Report. In order to improve the quality of information, there may need to be refinement of substance and the accuracy of the information contained in the Annual Report”.
The OJK is a large organization spread over a number of buildings. Eventually I found a section willing to take my further enquiries, [ konsumer@ojk.go.id ] After a while, they stated they had checked with Timah and were satisfied the report was prepared by a Competent Person and complies with the KCMI 2011 code. Unfortunately, the OJK letter did not provide the contact person within Timah on this matter, nor the name of the Competent Person. Note that the OJK letter did not provide the Competent Person’s name or relationship to Timah. So I have lingering doubts over the performance of OJK’s review in this matter.
IPO for Bonds.
In September 2017 PT. Timah (Presero) Tbk embarked upon a Rp 2.1 trillion bond issuance program, under the supervision of the OJK. The first part of this bond program was accompanied with an IPO outlining the company activities, management and included a section on resources and reserves. There was a marginal improvement upon the 2016 annual report, whereupon the resource and reserve tables were accompanied by a simple statement that “the resources and reserves had been prepared by the Timah internal team, and reviewed by a Competent Person”. Unfortunately, this statement did not mention the Competent Person’s name or affiliation. The outcome of the “review” was mentioned – perhaps it could be A) approved, B) partially approved or C) not approved? The IPO report on bonds is yet to be reviewed by the KCMI committee (at the time of writing) for its level of compliance with the KCMI reporting code.
It is extra importance for State-Owned Enterprises (SOE), such as Timah, to present their reserves and resources in a transparent manner, and are fully compliant with the KCMI reporting code. There is often government administrative pressure for other State Enterprises (banks, insurance firms etc) to support such bond issues, placing further emphases on any due diligence process to be sound and transparent. SOE mining companies have a recent history of poor feasibility studies that have led to project failures. For example, the recent Antam – Krakatoa steel joint venture to build an iron ore smelter in South Kalimantan is a $150 + million-dollar failure.
The KCMI report code requires its professionals to undertake all public reporting, including for bonds, in compliance with the KCMI code. Similarly, it is of great importance that the OJK further develops systems, and controls on its own supervising activities associated with such bond issuances.
OJK Position.
Discussions with a senior OJK official indicated that the OJK approach to supervising the IDX and other fund-raising instruments is not based on law or rules like in Australia and similar countries. The supervising bodies of the IDX and OJK are based on the “substantial principal bases” whereupon the fund seeking company engages appraisers to undertake financial valuations, and auditors to review accounts etc. The IDX and OJK rely upon the good will of these appraisers and auditors to do their work properly. There is no OJK, IDX in-house expertise, nor special legislation to direct the OJK to seek an independent geology / mining expert to review resources and reserves. Essentially the OJK leaves all risk to the investor.
The OJK is following a general goal to improve credibility within the finance sector. The MOU to implement KCMI report standards for IDX IPO’s is a first step. One interpretation of the regulation No. 29/POJK.04/2016 statement on good annual reporting (as above) is that annual reports should be of the same KCMI / JORC standard as the IPO report – implying annual reports should not be less than KCMI standard. The OJK is looking at preparing new regulations to encompass less mainstream fund raising, such as Mid Term Notes etc, whereupon there is the opportunity to further consider applying reporting code standards across all of the OJK sectors of interest.
Mining Law and Regulations on professional reporting.
The Mining Law 4/2009 includes within its general elucidation the importance of updating the law to include considerations for improvements in “information developments” and for “improved private and public participation”. There are various articles, like Article 111, that require mining companies to submit written reports on their activities. Regulation 34/2017 Article 26 (g) states that IUP and IUPK holders shall; – “Submit the final report of exploration activities, resource estimation reports, and estimates of mineral or coal reserves in accordance with the provisions of laws and regulations;” There are several implementing regulations that require exploration reports for submission to the Mines Department to be prepared by a Competent Person. In particular regulation 569/2015 on the “Implementation of Indonesia National Standard and Code of Mineral Resources Committee of Indonesia in reporting result of exploration activity, resource estimate, and mineral and coal reserve estimation”. This regulation’s specifically mentions the KCMI code and competent persons. Article 7 states that an Indonesian IPO needs to first meet with the Director General and provide a report on exploration activities and mineral resources. There are other regulations that require mining service providers (IUPJ) to comply with ESDM exploration and mining reporting requirements.
Mining Valuations.
The derivation of valuations for IPO mining companies are largely done behind closed doors. Some years back two coal companies were sold into the Bakri coal group. Some shareholders complained the price was unreasonable, and worked through the IDX to review of the valuations. One of the two coal companies were found to have an unreasonable inflated valuation, and adjustments were made. In this case it was the shareholders and public that prompted the review, not the IDX system.
One set of Indonesian regulations state that MAPPI should provide the valuation, however in many cases valuations are a result of negotiations between the IPO party and the under-writers, along with optional consultation from business specialists. The Mines Department has recently entered this area with a set of valuation requirements that are very different to MAPPI or other international valuation codes. The Indonesian IAGI and PERHAPI professional organizations are working on a similar code to the Australian VALMIN code, wherein registered Competent Persons (formining valuations) will be required to sign off on valuation of exploration and mining company reports.
Conclusion.
It is clear the Mines Department (ESDM) has developed an intricate web of regulations to enable it to receive credible reports on resources and reserves. This is great for national strategic planning, estimating future revenues, possible future One Map information, and data packages for bidding on new concessions. However, the Indonesian public generally do not directly benefit.
The IDX provides a platform for companies to “Go Public” to raise capital and share the potential wealth amongst the investing public. The IPO ‘system” is suppose to provide some element of credibility for the statement of resources and reserves. This system of credibility for the IDX listed companies, is clearly struggling to be properly applied. For example, the recent IPO of PT. Alfa Energi Investama of June 2017 includes a few pages on their resources and reserves. This IPO report makes reference to a KCMI 2011 code in the original technical report of March 2017, but excludes the necessary information on who was the competent person, their relationship to the IPO company, and potentially other issues that may be queried.
The IDX does not require ongoing progress and annual reports to include resource and reserve data to comply with KCMI code or other reporting requirements. So once the IPO phase has passed, there is little significant protection for the investor. It would seem the OJK is also weak in supervising companies that rely upon resource and reserve reports for minerals and coal. It would seem the most proactive body to watch for the reliability of resource and reserve public reporting is that of the KCMI committee. However, this body is made up of volunteer professionals, with limited human and financial resources, and their findings are not made public. There is a significant time lag between a company issuing a progress resource & reserve statement and any reaction to seek clarification or justification through public “whistle blowing” to the KCMI, or OJK.
Small and individual investors are at a greater exposure to risk as the public safety nett offered by the IDX or OJK is extremely weak. The current status of “buyer beware” is not ideal. Informally the IDX and OJK indicate plan to take a few years to tighten up their controls over company reporting, citing slow positive response by the major players, or cultural reasons. Perhaps this downturn in the housing market is just the right time for the IDX to quickly tighten up its supervision, and so attract investors into the stock market.