.Docuient of The World Bank.' FOR OFFICIAL USE ONLY 1,1 32V?. 1 Reprt RNo. 8644-iND STAFF, APPRAISAL REPORT ZNDONESIA - SE,COND BRI IMPEDES S4ALL CREDIT PROJECT July 10, 1990 Industryand Energy Operations Division - CotntryDepartment V Asia Region . is do_etl has a esotd dubufte ad may be usd by recienonly in th pdoa of thek ofticW dute. Its contents may not otherw be disdosed without Word Bak authoizon. Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized
Transcript
.Docuient of
The World Bank.'
FOR OFFICIAL USE ONLY
1,1 32V?. 1
Reprt RNo. 8644-iND
STAFF, APPRAISAL REPORT
ZNDONESIA
- SE,COND BRI IMPEDES S4ALL CREDIT PROJECT
July 10, 1990
Industry and Energy Operations Division -
Cotntry Department VAsia Region
. is do_etl has a esotd dubufte ad may be usd by recienonly in th pdoa ofthek ofticW dute. Its contents may not otherw be disdosed without Word Bak authoizon.
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-=- CURRENCY EQUIVALENT
Currency unit = Indonesian rupiah(as of May 1, 1990)
US$1.00 Rp 1,830Rp 1.0 billion - US$0.546 million
FISCAL YEAR
Government of Indonesia - April 1 - March 31Bank Rakyat Indonesia - January 1 - December 31
PRINCIPAL ABBREVIATIONS AND ACRONYMS USED
BAPINDO - Bank Pembangunan Indonesia (Development Bank of Indonesia)BI - Bank IndonesiaBKK - Badan Kredit Kecamatan (Rural Credit Institutions)BPKP - Agency for Financial and Development SupervisionBRI - -Bank Rakyat IndonesiaCP&F - Credit Processes and ProceduresDMB - Deposit Money BankGDP - Gross Domestic ProductGNP - Gross National ProductGOI - Government of IndonesiaJSE - Jakarta Stock exchangeIMP - International Monetary Fund --
IPTW - Prompt.Repayment Incentive(KIK - Kredit Investasi Kecil (Small Investment Credit Ptogram)MKPm - Kredit Modal Kerja Permanen (Small Permanent Working Capital
Program)IUPEDES - Kredit Umum Fedesan (General Village Ciredit Program)LPPI - Indonesia Bafiking Development InstituteMOP - Ministry of FinanceNES - Nucleus Estate Smallholder ProjectsPDFCI - Private Development Finance Company of IndonesiaPIP - Performance Improvement ProgramPPAR - Project Performance Audit ReportPT ASKRINDO - PT Asuransi Kredit Indonesia (Credit Insurance Company of
4 . Indonesia)SBI - Sertifikat Bank IndonesiaSBPU - Surat Berharga Pasar UangSCB - State-Owned,Commercial BankSEDP Small Enterprise Development ProjectSIMPEDES - Simpanan Pedesan (Village Sayings Program)TABANAS - Tabungan Nasional (Small Saving Program)UBM - Untt Desa Business ManagerUDO - Unit Desa Qfficer
) USAID - United States Agency for International Development X
FOR OFFICIUL USE ONLV
INDONESIA
SECOND BRIIKUPEDES SMALL CREDIT PROJECT
Loan and Project Summary
Borrowers Republic of Indonesia
Beneficiaryt Bank Rakyat Indonesia (BRI)
Amounts $125 million equivalent
Termss Twenty years, including five years of grace, at the Bank'sstandard variable interest rate,
Onlending Terms: The proceeds of the loan would be onlent to BRI for twentyyears, including a grace period of five years, at avariable interest rate pegged to Bank Indonesia's (BI)three-month domestic money market certificate (SertifikatBank Indonesia--SBI). The rate would be adjusted onJanuary 1 and July 1 of each year, based-on the average ofSBI three-month maturity quotations during the precedingsix months, not to exceed the average of end-of-dayquotations of the five state-owned commercial banks' three-month time deposits during the same period. The Governmentwould bear the foreign exchange risk.: On July 1 of eachyear, at the request of either the Borrower or the Bank,the basis for determining the onlending rate would bereviewed. BRI would also pay commitment fees equal- tothose payable by the GOI to the,Bank under the loan. End-users would borrow these funds at rates reflectingprevailing market conditions; effective annual-interestrates currently range from 22.7 to 31.7 percent, based onloan amount.
ProjectDescription: The primary objective of the7project is to promote BRI's-
ongoing efforts to strengthen and expand its Unit Desasystem as a financially viable subbranch network thatmobilizes resources and provides nonsubsidized credit(KUPEDES loans) nationwide to creditworthy small borrowers.The project will also support continued development ofBRI's institutional capability as related to its Unit Desasystem.
The project comprises three componentss (a) a creditcomponent for general-purpose KUPEDES financing; (b) _qcapital expenditure component for the expansion of BRI'sfive regional Unit Desa training centers, includingcomputer equipment; and tc) technical assistance for long-
This documrent has a restricted distribution and may be used by recipients only in the performanceof their official duties. Its contents may *ot otherwise be disclosed without World Bank authorization.
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v---eriM advisory and shortterm counsulting services le-developing and iproving BRI's Unit Desa and rural bankingactivities.
Risks: The project supports a market rate-based scheme designed tomeet the needs of small borrowero and small savers. Underthe project, the Unit Desa system would be expanded andcontinued access to credit by eligible borrowers would beensured. Substantial socioeconomic benefits can beexpected from an expanding KUPEDES program. The majorrisk--portfolio deterioration--is mitigated by BRI'ssatisfactory track record to date. Appropriate staff'training and advisory support services will contributetowards the continued implementation of sound lending andsupervision procedures that are assoclated with themaintenance of high-quality loan portfolio.
I. SECTORAL ASPECTS . .......... ............... I...... 1
A. The Financial Sector ... .. ..... .. *9 * * * * * ........ 1Background .......... ****#**# 1
The Reform Program ........................* * a * *............. 1Future Agenda and Priorities ........................... 3
B. Characteristics of Small and Family Enterprises ........ .... 3C. Financial Services for Small Savers and Borrovers ......... 4D. Bank Objectives, Strategy and Role in the Pinancial
U1. EXPERIENCE UNDER PAST WORLD BANK GROUP FINANCIA SECTORLENDING OPERATIONS ............................... ,.*9* .. 7
III. PRESENT STATUS OF THE BENEFICIARY AND THE KUPEDES PROGRAM .... 8
A. Bank Rakyat Indonesia .. ...................... ... ... 8B. The BRT Unit Desa System and the KUPEDES Program .......... 9
Background ........ ........ 9........*.. 9Project Implementation Under Loan 2800-IND ............. 10Organization ............................... ..*... ....... ... 0...... llScope and Terms of KUPEDES Lending..................... 13IUPEDES Lending Operations ................ ........... 15Characteristics and Impact of KUPEDES Lending .......... 15Unit Desa Administration and Financial Operations ...... 18Funding of the Unit Desas and Resource Mobilization .... 18Financial Position and Performance of the Unit Dsss a... 20
IV. THE PROJECT........ ........................................ 23
A. Project Rationale, Objectives and Content .............. ... 2S3B. The Credit Component - Operational Projections
and Resource Requirements ..............................9 24C. Capital Expenditure and Technical Assistance Components... 26D. Project Cost Estimates and Financing Plan ................. 27
This report is based on the findings of an appraisal mission in March 1990.Mission members were Charles Magnus (AS51E-task manager), Kathlien McCollom(ASTDR) and Victor Agius (AS5RS).
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Pate No.
IV. THE PROJECT (cont'd)
E. Features of the Loan ...................................... 29Lending Arrangements ...................... 29Loan Administration ............................. 30
F. Project Benefits and Risks ................................ 33
V. AGREEMENTS AND UNDDERITAN1)INGS.. . ...... ........................ 33
TABLES IN TEXT
1.1 Financial Institutions Serving Small Borrowers and Saversin Indonesia ... ..... .*.................... . ..... .4
3.1 Total Resources Available to the Unit Desa System, End-1989... 203.2 Indicators of Unit Desas' Financial Performance, 1984-89 ..... 224.1 Actual and Projected Total Resources Available to the Unit
Desa System, End-1989 and End-1992 ............ ..........*.. 254.2 Sensitivity of Projected Total Resources Available to the
Unit Desa System to Changes in Growth Rates, End-1992 ..... 264.3 Total Project Costs. ...... . ............ .. .... .. 28
4.4 Financing Plan ....................................... 29
1. Documents Available in the Project File2. Bank Rakyat Indonesia - Institutional Aspectsi3. World Bank Group/ADB Funds to BRI, 1972-894. Bank Rakyat Indonesia Unit Desa Policy Statement5. Bank Rakyat Indonesia Unit Desa Strategy Statement6. BRI Unit Desa System
Table l Summary of Actual KUPEDES Lending Operations, 1984-89Table 2s Balance Sheets, 1984-89Table 3: Income Statements, 1984-89Table 4: Analysis of RUPEDES Loan Portfolio, 1984-89Table 5: Projected KIPEDES Lending Operations, 1990-92Table 6: Projected Resource Requirements/Funds Utilization
of BRI Unit Desa System, 1990-927. Estimated Cost of Capital Expenditure Component8. Terms of References Long-Term Advisory Positions9. Estimated Disbursement Schedule
CHART
1. BRI Business Unit Desa De,artment
MAP
IBRD 20514R1
INDONESIA
SECOND BRIIKUPEDES SMALL CREDIT PROJECT
l. SECTORAL ASPECTS
A. The Financial Sector
Background
1.1 The financial sector of Indonesia has undergone a major transforma-tion towards a competitive, market-based system since the initiation by theGovernrent of Indonesia (GOI) in 1983 of a comprehensive program of policyreforms. These reforms were introduced in stages, in conjunction with realsector reforms, and within the context of an open capital account and a G0opolicy of refraining from domestic financing of budget deficits. As a result,the reforms contributed to a strong revival of private sector investment, non-oil export growth, improvements in the efficiency of capital use and faster-than-expected economic growth.
1.2 Until the early 19809, the development of the financial sector inIndonesia was constrained by the imposition of interest rate and creditceilings. The Government played a large role in the allocation of resourcesthrough the liquidity credit system, under which low interest loans topriority sectors were automatically eligible for refinancing with BankIndonesia (BI), and often with substantial government guarantee. Thefinancial system compriied mainly the banking sector, which was dominated byBI and the five state-owned commercial banks (SCBs),1/ accounting for about80 percent of the total assets of the deposit money banks. Strict control waskept on the entry of new banks and of the branching of existing institutions.As a result, the growth of financial assets stagnated and the securitiesmarket did not develop.
The Reform Program
1.3 In June 1983, the GO implemented the first in a series of reforms toimprove the efficiency of the financial sector. Interest rates werederegulated and credit ceilings were replaced with a system of reserve moneymanagement. These reforms were followed by the introduction of new moneymarket instruments in 1984 and 1985. Additional financial sector reforms wereundertaken during October-December 1988. The main objectives of these reformswere: (a) to enhance financial sector efficiency by encouraging competitionby eliminating entry barriers; (b) to increase the availability of long-termfinance by promoting the development of capital markets; and (c) to improvethe stability of the financial system by strengthening prudential regulations.
1/ These are Bank Dagang Negara (BDN), Bank Negara Indonesia (BNI), BankRakyat Indonesia (BRI), Bank Ekspor Impor Indonesia (BEII) and BankBumi Daya (BBD). All are participating in the Bank's Second ExportDevelopment Project (Loan 2979-IND) and the Industrial RestructuringProject (Loan 3040-IND). All except BEII are participating in theSmall and Medium Industrial Enterprise Project (Loan 3041-IND).
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Specific reform measures includeds (i) permitting the entry of new banks,including joint ventures with foreign banks; (ii) easing restrictions onestablishing new branches; (i1i) allowing banks and nonbank financialinstitutions (NBFIs) to increase their cap. 1. through share issues;(iv) permitting public enterprises to place p to 50 percent of their depositswith private banks; (v) easing the requirements to become a foreign exchangebank and allowing NBFIs to issue certificate of depositsl and (vi) allowingbanks to have subsidiaries that are multiservice financial companies thatprovide leasing, factoring, consumer finance and venture capital facilities.To spur the development of the domestic short-term money markets, restrictionson interbank borrowing were removed and required reserves reduced to 2 percentof all bank third party liabilities. To encourage mobilization of long-termfunds and risk capital, the reformss (a) moved towards equalizing the netreturns to savers holding different financial assets; (b) allowed the privatesector to operate stock exchanges and established an over-the-counter (OTC)markets and Cc) permitted foreign investors to buy up to 49 percent of theshares in each company listed on the stock exchange. In addition, measureswere adopted to enhance prudential regulations by defining loan concentrationratios and by establishing rules to prohibit insider trading on the stockexchanges. These measures were complemented by a program of institutionalstrengthening of BI to strengthen its supervisory capabilities.
1.4 The reform measures yielded substantial positive results as evidencedbys (i) the increase in the number of new banks and other financialInstitutions; (ii) a quadrupling of the gross assets of the finAncial sector,reflected by an increase in the ha:GNP ratio from 21 percent to 33 percent anda more than doubling of private sector financial savings over 1982-89; and(iii) a fifteen-fold increase, albeit from a smaller base, in the issue valueof listings on the stock market. 'While all banks showed strong growth, theprivate banks by far surpassed the SCBs both in relative and absolute terms.The share of the SCBs' total banking sector deposits declined from 67 percentto 59 percent within one year of the reforms. The level of interest ratesremained high, but both deposit and lending rates declined in 1989. There wasalso a substantial lowering of the very high intermediation margin enjoyed bythe banks in the past. Meanwhile, the share of subsidized directed creditsdeclined from over 50 percent to less than 30 percent between 1982 and 1989.However, the directed credit program continued to distort and segment thefinancial market, leading to the misallocation of resources and weakenedfinaneial discipline.
1.5 The GOI announced another round of policy reforms in January 1990 toeliminate distortions created by the subsidized directed credit programs. Thenumber of programs eligible for refinancing was reduced drastically, and theinterest rate moved closer to the market. Insurance, which was compulsoryprior to the reform, was made voluntary and premiums would be market-based.At the same time, banks were required to allocate 20 percent of their loanportfolio to small enterprises, defined as those having fixed asset (excludingland) of up to Rp 600 million (US$330,000 equivalent). In order to fosterfurther the development of capital market, the GOI also announced itsintention to privatize the Jakarta Stock Exchange. The impact of these reformmeasures is expected to be increasingly felt in the near-term, as theefficiency of financial intermediation improves further and the distortionscaused by the liquidity credits are minimized.
Future ARenda and Priorities
1.6 The Indonesian financial sector is now well integrated with theinternational financial markets. The reform measures have led to a rapidincrease In the proportion of private savings intermediated through thefinancial system. However, the sector remains relatively small in relation tothe size of the economy (H2 represents just over 30 percent of GDP compared to60 percent in Malaysia and Thailand). The sector needs to sustain high butstable growth to enable it to support continued expansion in the real sector.The January 1990 reforms have put in place the last main component for thederegulation of the financial sector. The GOI's priority now is to proceedwith a comprehensive program to strengthen financial institutions. To thisend, the GOI is currently preparing new legislation covering the bankingsector, and insurance and pension plans. The GOI also recognizes that afreer, market-based system requires appropriate supervision. Attention hasthus focused on strengthening the prudential control and supervisory apparatusfor both the banking sector and the capital market. With IMF assistance,efforts are underway to strengthen BI's supervisory functions. Similarly.with the assistance of consultants, the regulatory body for the capitalmarkets is being strengthened, and efforts are underway to deepen the moneymarkets and to develop a credit information system. Beyond this, the mainconcern for the healthy development of the sector is to ensure that the SCBs,which, despite their diminished market share, still account for almost60 percent of the deposit banking sector, develop into efficient andfinancially autonomous institutions. This is likely to require both portfoliorestructuring and equity infusions, as well as follow-up on the institution-building programs that each of these institutions has al-eady initiated on itsown. The Bank is discussing with the GOI the possibility of assisting in theareas mentioned above, particularly in restructuring the SCBs, as part of aproposed Financial Sector Restructuring Operation.
B. Characteristics of Small and Family Enterprises
1.7 Most small-scale economic activities in Indonesia, particularly inrural areas, are carried out by individuals, or within the family, generallywithout the use of hired labor. Families usually have several economlcactivities, and they shift labor and working capital among these to takeadvantage of opportunities available. Rather than continuing to expand oneparticular activity, families often prefer to shift part of their resourcesinto new areas. This reduces the risk of failure. Apart from agriculturalproduction, these activities incluie the processing and marketing ofagricultural products, trade, cottage-level industries, and work in private orpublic construction.
1.8 Ahe most recent data available indicate that the total number ofsmall enterprises, including those engaged in farming, fisheries, forestry andlivestock, exceeds 27 million. Most are small and employ an average of fewerthan three people, often family members. Over a quarter of the labor force isself-employed. Small and family enterprises probably account for about75 percent of total employment in Indonesia, with the majority engaged inagricultural and trading activities (often, of agricultural products). Smallfarms produce the bulk of staple food output and a significant proportion ofexport crops such as rubber, coffee and pepper. In manufacturing, the
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contribution of small entrepreneurs is greatest in domestic resource-basedindustries, such as rice milling, furniture and bakery products. Much of theroad transport services is carried out by individual private operators. Inconstruction, most projects are also undertaken by small entrepreneurs. Smallwholesale and retail traders are essential intermediaries between producersand consumers, financing and holding stocks of raw materials and finishedproducts. A number of surveys also indicate that small traders have been animportant source of informal credit in rural areas to farmers who have limitedaccess to formal credit.
C. Financial Services for Small Savers and Borrowers
1.9 Despite the rapid expansion of the larger financial institutions'branch networks since the start of the GOl's financial sector reform programin 1983, except for BRI, few have had more than a mint-al presence outside thelarger provincial towns. At this level and below, banking services areprovided by a wide range of numerous formal and informal small financialinstitutions. These are presently estimated to exceed 17,000 in number. Mostoperate at the Kecamatan (subdistrict) or desa (village) level, and are ownedby the national, provincial or local governments. Nevertheless, they aregenerally market-oriented and serve relatively large numbers of clients. Onthe lending side, their focus is usually on short-term trade-related workingcapital loans. Table 1.1 below summarizes the formal institutions operatingat the subdistrict and village level,
TW&Ia1.X:; PMWJAL DVJ1fUM SERV8Wl SML 80R11WOR AM) SA IN DONESA
I,atituticn/Progran Omereip Garaphil Foe A1nal Interest ft." Ha-Min Siz ve r Lau- laturt Col later Svngeon eclining balance) t" )ge ir Sd
Privote 8J"WS: Priveta, Main In*ao., 20 - JO 8 million * n.e. Ipte frl yODI01 Provincial cili S ear title to
end Dietrict le, real sees
IlRSfUnit Oee/ ilRSS _ n t b S - u t.000 a te mEO toal yesKotes district l2) IS llti t title to land
a year or ther t Ibble
Sank Peoa, Private Kecamte 40 - USO u to 780,000 up to full limitedatarpom (abdi.tri.t) I .illIon 1 year aI"na
reetor tvl invntrCopeative.
Prowvicial Prewvnctnl Vil te I - 510 , 000 - 60.000 up to r limitdcredit b dana So"raunt v1 1 -100,000 1 yer rm OX") O"d
Cooperatives OWd b Vii, 8SI ve. by - up o minimal limitedCooptiv Cooper,tiva 2 yer
1.10 By far the most important of these operations is BRI's Unit Desasystem which now accounts for over half of the total loans outstanding of therural financial institutions. The next most important is the more than 200Bank Pasars (market banks) which account for about 30 percent of the themarket. Cooperatives and provincial government-owned institutions eachaccount for about 5 percent. The Bank's Rural Credit Sector Review (ReportNo. 6917), dated April 29, 1988, details the structure and characteristics ofthe sector and the various institutions.
1.11 At the lowest level, by loan amount, are the credit activities of theXoperasi Unit Desas (KUDs), or cooperatives. Their credit programs areusually funded from official sources with little savings mobilization efforts.Loans are to KUD members. Most of the credit programs carried out by the KUDsare conceived at the national level and are imposed on the KUDs. Their pasttrack record has been poor, with arrears of 20 percent and more. Only about14 percent of the KUDs are classified as well-run and self-sufficient. Overthe past four years. the Bank Umum Koperasi Pinjaman (BUKOPIN), withassistance from the Dutch Government and the Rabobank Foundation, has embarkedon a pilot program to improve the credit and savings mobilization efforts ofthe KUDs. Initial results have been encouraging.
1.12 At the next level are the provincial-owned banking networks. Thebest known and most developed is the Badan Kredit Kecamatan (BRK) in CentralJava which was started in 1972. Others include the Kredit Usaha Rakyat Kecil(KURR) in East Java, Lembaga Perkreditan Kecamatan (LPK) in West Java and theLumbung Pitih Negari in West Sumatra.21 Most of these institut$ons arelocally administered and financially autonomous. The main characteristics ofBKK-type credit operations ares little paperwork, no collateral and relianceon local social pressure for repayment; a post system, or mobile service(usually by motorcycle) operating at village markets, which compensates forthe limited mobility of most villagers; and the willingness of borrowers topay the high interest rates necessary to cover the costs of such a program.BKK loans are very small and finance mostly market traders. Theseinstitutions have been successful in keeping arrears low (about 5 percent ofoutstanding loans) and enabling them to operate profitably. The BKKs' fundingcomes from the initial capital provided by the provincial authorities,mandatory savings paid in by borrowers as part of their loan agreement, andfrom annual net revenues. Recently, some of these institutions have startedto provide savings facilities on a pilot basis. The BPD (Bank PembangunanDaerah--Regional Developmzw.,Banka) have at times provided technicalsupervision to sawt-ThTe BKKs, particularly in the areas of bookkeeping,reporting ajwtEi and personnel policies.
1.13 There are now over 200 Bank Pasars (Market Banks), of which more thanhalf are privately owned, mostly by commercial banks. The others belong toeither government or cooperatives. Bank Pasars are generally located in aprovince's main city and conduct business in the city and in the marketsnearby. Bank Pasars tend to specialize in short-term loans to small traders,for which they charge about 3.5 percent per month. Borrowers are normallyrequired to hold compensating balances of at least 5 percent in noninterest-bearing deposit accounts (raising the effective annual interest rate to about44 percent). They also require collateral in the form of inventory, fixedassets or durable goods with a value of 150 percent of the amount of the loan.
1.14 The BRI Unit Desa network is the single most important nationwidebanking system throughout Indonesia. It comprises some 2,850 Unit Desas
21 Central Java has about 500 subdistrict level institutions (the BRKS)with about 3,060 village posts. East Java has about 1,600 KURUs andWest Java about 200 LPKs. Best Sumatra has about 150 active LPNs.Bali has abobt 50 similar institutions.
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(subdistrict or village-based subbranches) and 835 posts. This networtkbridges the gap between the provincial-owned banking institutions and thelarge, usually city-based, private banks and SCB branches. The development ofthe Unit Dess system over the past six years has impressively demonstrated thelarge potential for small savings mobilization and for introducing smallsavers to the formal bankin8 system. Prospects for further growth in thisarea, and for developing other banking services, e.g., cash transfers and newsavings instruments, remain significant. On the lending size, the KUPEDESloan program has developed into the main source of financing for smallborrowers at onlending rates which are not subsidized, permit full costrecovery, and yield BRI a profit. As of end-1989, KUPEDES loans outstandingnumbered 1.6 million and amounted to Rp 845.6 billion (about $460 millionequivalent). Loan collection experience has been very good. A recent impactstudy undertaken by BRI (financed by USAID) shows that KUPEDES has had asignificant impact in poverty alleviation and in facilitating the access ofwomen to credit.
D. Bank Obiectives, Strategy sand Role in the Financial Sector
1.15 The Bank fully supports the GOI's objectives and its priotiti%Žs inthe further development and efficient growth of the financial cector. Overthe last several years, the Bank has been involved in policy dialogue with theGOI through sector and economic reports, informal policy notes and discussionon specific issues. The Bank has also supported the 6OT's reform initiativesthrough adjustment loans. In the past, the Bank's involvement in thefinancial sector focused primarily on supporting the development ofinstitutions and the provision of lines of credit to redress market failureseither in the availability of long-term credit or in the access to such creditfor "targeted, groups of borrowers. In light of the mott recent developmentsin Indonesia's financial sector (paras. 1.3-1.5), priority will now beaccorded to: (i) reducing further and/or eliminating the residue 104n marketsegmentations (ii) remedying infrastructural inadequacies for formal finance;(iii) strengthening the SCBs in order for them to compete in the new financialenvironments and (iv) fostering the further development of capital markets.The Bank is currently discussing with the GOI how it may support mosteffectively its strategy for addressing the above issues within the context ofa proposed Financial Sector Restructuring Operation. It is expected that thetargeted approach reflected in the Bank's financial sector lending operationsto date will be phased out as the policy environment for resource allocationimproves and the financial system becomes increasingly competitive andsophisticated. As a transitional measure, however, the Bank would continue tosupport efforts, on the basis of demonstrated financial viability andsustainability, to expand and to improve the efficient delivery of credit togroups of borrowers whose access to nonsubsidized credit has been constrainedin the past. BRI's Unit Desa system represents such an effort that-warrantscontinued Bank support. The proposed Second BRI/UPEDES Small Credit Projectsupports the further development of a nationwide, market-based banking systemthat not only provides financial servi^es to small borrowers and-savers, butalso has achieved substantial socioeconomic benefits (para. 3.19-3.26).
II. EXPERIENCE UNDER PAST WORLD BANK GROUP FINANCIAL SECTORLENDING OPERATIONS
2.1 To date, the Bank Group has approved a total of $1,488.1 million in16 operations for financing investment through financial intermediaries. Thegeneral focus of loans made prior to the onset of the GOI's financial reformprogram in 1983 reflected the Bank's traditional DFC lending focus on singlefinancial intermediaries with emphasis on institution-building. Theseprojects comprised one credit and five loans to BAPINDO ($367.4 million) andtwo to the Private Development Finance Company of Indonesia (PDFCI--$25.Omillion). The Bank Group's participation in the three Small EnterpriseDevelopment Projects (SEDPs--$350.7 million) aimed at supporting thedevelopment of Indonesia's small-scale enterprises through BI. Success inmeeting the project objectives of these operations was mixed.
2.2 The most recent Proiect Performance Audit Report (PPAR) No. 6403,covering the Bank Group's relationship with BAPINDO (Loans 1054-IND, 1437-INDand 1703-IND) over 1979-83, noted that, while BAPINDO had made some progressin terms of institutional development, its achievements fell short of mutualexpectations and BAPINDO continued to face substantial problems. The PPARmade a number of recommendations for improvements. Subsequently, duringimplementation of Loan 2277-IND (BAPINDO V), BAPINDO undertook a comprehensiveportfolio review, carried out a reorganization, and strengthened its capitalbase through an Infusion of equity from the GOI. PPAR No. 3862 on the secondPDFCI project (Loan 1363-IND) found that, although Bank loan proceeds weretransferred to sound industrial projects, performance towards institutionaland policy goals was disappointing, primarily because of the restrictivemacro-policy environment prior to the 1983 reforms.
2.3 The three SEDPe (Credit 785-IND, Loan 2011-IND and Loan 2430-IND)were In support of BIIs XIK/JMKP program.31 This program was funded throughliquidity credits and provided subsidized loans to end-users. As highlightedin the two Prolect Completion Reports on these lending operations, the SEDPsmet their objectives of generating jobs and training bank staff; however, ascredit operations they failed to achieve their policy and Institutionaldevelopment objectives due to several factorss poor borrower selectioncriteria; subsidized interest rates; insufficient spreads to intermediaries;and overly generous credit insurance. This combination resulted in poorcollection rates and high arrears. The major design flaws that wereidentified as having contributed to the failure of the SEDPs were avoided insetting up BRI's small credit (KUPEDES) scheme.
2.4 Following the 1983 reforms and in light of its previous experience,the Bank made two significant shifts in the mid-1980s in its approach tofinancial sector lending operations. One, it moved away from subsidizedlending; and two, it limited significantly single beneficiary lending, thusenabling end-users to have greater access to the Bank's term resources througha larger number of competing financial intermediaries. Recent projects (i.e.,the Export Development Projects--Loans 2702-tID and 2979-IMN for $229.5
31 Iredit Investasi Recil (KIK - small investment credit) and Kredit ModalKerja Permanen (RhIP - small working capital credit).
million, the Industrial Restructuring Project--Loan 3040-IND for $284 million,and the Small and Medium Industrial Enterprise Project--Loan 3041-INM for $100million) have incorporated an increasing number of participating financialinstitutions (from three under Loan 2702-IND to 13 under Loan 3041-IND).While specific subsector/entrepreneurial groups continued to benefit from theBank's lending activities to redress market failures either in theavailability of long-term credit or in the access zo such credit for targetedgroups of borrowers, all loan proceeds are passed on to the financialintermediaries at variable, market-determined interest rates; these funds, inturn, are onlent to qualifying enterprises at competitive and prevailingmarket rates as determined by the individual intermediaries. Increasingemphasis on environmental concern have also been incorporated in recentfinancial intermediation operations. Under Loans 2979-IND, 3040-IND and3041-IND, the assessment of environmental impact and the identification ofappropriate environmental safeguards are included in the subproject reviewprocesses provided under these loans. These projects are ongoing andimplementation has proceeded satisfactorily. The BRI/KUPEDES Small CreditProject (Loan 2800-IND) had the objective of helping promote the developmentof a market-based, financially viable, nationwide rural banking network(paras. 3.6 and 3.7).
2.5 To summarize, both the very substantial reforms of the financialsystem, which will lead increasingly to the allocation of credit according tocompetitive market signals, and the lessons from past operations, which havedemonstrated the ineffectiveness of supporting subsidized, directed creditprograms, will guide the Bank's further inv%i'vement in credit operations.Targeted credit and single beneficiary operations will be phased outappropriately, and replaced by the sectoral and system-wide approach nowevident in the proposed Financial Sector Restructuring Operation underpreparation (paras. 1.6 and 1.15).
III. PRESENT STATUS OF TEE BENEFICIARY AND THE KUPEDES PROGRAM
A. Bank Rakyat Indonesia
3.1 Bank Rakyat Indonesia (BRI) was founded in 1896 as a small savingsbank in central Java. It was later established as a fully state-owned bankunder Law No. 21 of December 18, 1968. The statutory mandate established forBRI under the 1968 law required it to: (a) assist the Government inimplementing national agricultural policies and rural development programs;(b) undertake commercial banking activities, primarily short- and medium-termlending to farmers, fishermen, small-scale industries and traders; and(c) supervise secondary rural banks in accordance with BI directives. Priorto the financial sector reforms of June 1983, BRI functioned largely as anagent of the Government charged with nationwide administration of a number ofliquidity credit programs for the rural and small-scale sectors. For severalof these programs, BRI had little or no say in client selection and verylimited, if any, credit risk as many program loans were insured or otherwiseguaranteed by the Government. Even so, the narrow spreads allowed to BRIunder most of the directed programs did not adequately cover its costs and, incombination with repayment guarantees, provided BRI with little incentive toemphasize loan collections, leading to a portfolio characterized by relativelyhigh arrears. As a result of these policies, BRI developed into a large,
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relatively bureaucratic institution reliant on BI funding, operating at highcosts and realizing little profit.
3.2 Impact of the June 1983 Reforms. The introduction of the June 1983reforms (para. 1.3) coincided with the appointment of a new (and current)President-Director for BRI, who quickly recognized that BRI would no longer beable to survive solely as an administrative agent of the government and wouldneed to develop into a profitable and effective financial intermediary. Thus,BRlI's management put priority on defining a strategy for developing into abroad-based, sound and commercially viable bank. The strategy called for:(a) diversification of income generating activities to ensure BRI's short-termfinancial viability; (b) a comprehensive review of its organization andprocedures to improve internal efficiency and productivity; and (c) a productprofitability analysis to determine which activities to pursue, modify or dropso as to maximize profitability. To achieve the needed transformation, BRIsought outside technical assistance. In consultation with the Bank and withfunding initially provided under Loan 2430-IND and continued under Loan2800-IND, BRI in 1986 engaged a management consulting firm to provide anexperienced banking team to assist it in focusing on the main institutionalissues facing it and in recommending appropriate institutional, operationaland marketing changes (including an action program for implementing theserecommendations). This program was planned and implemented under the directsupervision of BRI's President and Board of Managing Directors.
3.3 BRI's institutional strengthening efforts have been encouraging. Itsmanagement has taken the initiative to proceed with a number of far-reachingactions designed to improve its financial position and performance in anincreasingly competitive financial sector. Annex 2 provides a more detaileddiscussion of these institutional efforts as well as an overview of BRI'sCi) organizational structure, (ii) loan portfolio, and (iii) financialcondition and performance.
3.4 Project Aid to BRI. Since 1972, BRI has participated extensively innumerous projects funded by bilateral and multilateral agencies. As shown inAnnex 3, IDA (five credits) and IBRD (eight loans) credit lines, includingtechnical assistance, totaling $284.3 million equivalent have been madeavailable directly to BRI since 1972. ADB (through nine loans) has extendedanother $122.5 million equivalent of such funding. As of December 31, 1989,the outstanding balances of IDAIIBRD and ADB funds were Rp 304.9 billion andRp 55.4 billion, respectively. BRI was also a participating bank in the SEDPs(KIKIKMKP programs), and is an executing bank for the Bank's Nucleus Estatesand Smallholders and tree-crop projects. BRI's performance as an implementingagency in ongoing Bank projects is satisfactory.
B. The BRI Unit Desa System and the KUPEDES Program
Background
3.5 Following the June 1983 liberalization measures, BRI was encouragedby the GOI to develop its Kredit Umum Pedesan (KUPEDES) scheme. Today, thisprogram makes available to creditworthy small borrowers, primarily in ruralareas, loans for directly productive activities (e.g., agriculture, trading
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and cottage industry) at market-determined interest rates. It operatesexclusively through a subdistrict-based Unit Desa (village subbranch) system,which was established by the GOI in 1970 and originally administered by SRI toprovide credit related to the GOI's rice crop intensification (BIMAS) program.41BIGOI bore up to 75 percent of the credit risk on these BINAS loans andprovided an administrative subsidy to BRI to cover Unit Desa operatingexpenses. In 1983, the 001 recognized thst the BIMAS program had outlived itsusefulness and it was discontinued. BRI then faced the choice of eithers(i) abandoning the Unit Desa system (comprising some 3,500 offices and 14,000employees), since the operations would no longer be subsidized by the GOI5 or(ii) changing its role and functions in an effort to make it profitable.Based on the fact that ongoing Kredit Mini and Kredit Midi operations 5/ hadshown that there was a large loan demand for all kinds of village-basedentrepreneurial activities, and that Unit Desa staff had already learned howto administer smill credit programs, BRI opted for the second alternative. Asa result, BRI organized the Unit Desa system as an autonomous financial entitywithin the bank that would be operated as a separate profit center and wouldno longer participate in administered credit programs. While financialservices outside the large urban centers, especially those for small-sizedborrowers and savers, are provided by a variety of formal and informalfinancial intermediaries (paras. 1.10-1.13), BRI's Unit Desa system has becomethe most important nationwide scheme for both mobilizing savings and servingthe credit needs of the rural population.
Proiect Implementation Under Loan 2800-IND
3.6 In April 1987, the Bank approved a loan of $101.5 million for theBRIIKUPEDES Small Credit Project (Loan 2800-IND). This first KUPEDES Projectallowed the Bank to support an approach, which it had long advocated, thatneither promoted nor extended subsidized funds. Major design flaws that wereidentified as having contributed to the failure of the Bank's SEDPs(para. 2.3) were avoided in setting up the RUPEDES scheme. This project hadthe specific objectives of% (a) supporting BRI's efforts to develop the UnitDesa system into a financially viable network that would be able to providecredit on a nonsubsidized basis to all creditworthy small borrowers, tomobilize savings and to provide other banking services; (b) encouraging BRI toimprove its resource mobilization efforts so that it could eventually fundKUPEDES loans with deposits raised through the Unit Desa system; (c) reducingBRI's reliance on DI liquidity credits, which had been initially provided forthe start-up of the KUPEDES program; and (d) improving the overallinstitutional capability of BRI as well as that of the KUPEDES program. This
4/ The BIMAS program aimed at improving agricultural production andpractices through the provision of physical inputs, technicalassistance and short-term credit through the Unit Desas at a subsidizedinterest rate of 12 percent per annum.
5/ Established in 1973 and 1979, respectively, these programs made creditavailable to small borrowers outside of the BIMAS program, primarilyfor off-farm economic activities. Under Kredit Mini, the loan ceilingwas Rp 200,000; under Rredit Midi, it was Rp 500,000.
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first KUPEDES Project comprised a credit component of $96.7 million and atechnical assistance (TA) component of $4.8 million, which was complementedwith a TA grant of $10.0 million provided by USAID.
3.7 Implementation of the first KUPEDES project has proceeded verysatisfactorily. The project's credit component was fully disbursed within the27-month period estimated at the time of appraisal; Bank loan proceedsaccounted for 9.4 percent of total KUPEDES disbursements and 46 percent of theincremental growth in the KUPEDES portfolio during this period. Of the TAcomponent, $3.5 million has been disbursed and BRI recently submitted to theBank its proposal for utilizing over the next two years the remaining $1.3million for research and training activities as outlined under the project.BRI's efforts and success in achieving project objectives have not onlygenerally met original appraisal expectations, but often exceeded them.Implementation of the USAID project has also proceeded satisfactorily and thegrant is expected to be fully disbursed in early 1991. With the USAID grantproceeds, (i) a team of long-term consultants was recruited to advise BRIsenior management on rural banking policy and training matters, (ii) a team oflong-term consultants developed and implemented a computerized accountingprogram for the Unit Desas, (iii) 600 Unit Desas were equipped with computers,(iv) the first-phase construction of five regional Unit Desa training centerswas undertaken, and (v) approximately $2.0 million of Unit Desa trainingexpenses were funded. A formal evaluation of this coma?onent will be done byUSAID in July 1990.
Organization
3.8 The Read Office. BRI's Board of Managing Directors is the mainauthority for establishing policy regarding Unit Desa activities. Policydirectives (in the form of operational circulars) art communicated from theBoard through the regional offices and branches to their respective UnitDesas. BRI's Unit Desa Policy and Unit Desa Strategy Statements (Annexes 4and 5, respectively) outline the overall goals and operational objectives ofthe Unit Desa system. These statements were reviewed and agreed with the Bankduring appraisal, and the adoption of these statements by BRI's Board ofManaging Directors was a condition of loan negotiations. During loannegotiations, it was agreed that neither statement would be amended in amaterial way without the prior agreement of the Bank. In late 1988, inrecognition of the growing importance of the Unit Desas as a major service andprofit center within BRI, the Village Unit Development Division, originallycreated for overall responsibility of Unit Desa operations within the thenexisting Cooperatives, Farmers and Fishermen Credit Department, wasreorganized and upgraded to a full Department known as Business Unit Desa(Chart 1). BRI senior management is assisted on Unit Desa and rural banking-related matters by a team of advisors who report directly to the PresidentDirector and coordinate on a day-to-day basis with the Business Unit DesaDepartment. Funding for the retention of this advisory team, currentlyfinanced with USAID grant assistance, is provided under the proposed project(para. 4.5).
3.9 Regional and Branch Offices. While the regional offices oversee theoperations of the branches, branches have primary responsibility for the day-to-day supervision of Unit Desa activities. Each branch has at least one Unit
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Desa Business Manager (UBM--one for every four Unit Desas), who routinelyvisits and monitors Unit Desa operations, cash balances and financialcontrols; in those branches where there are more than ten Unit Desas, a UnitDesa Officer (UDO) is assigned to oversee the UBMs. As of December 31, 1989,there were 839 UBMs and 127 UDOs. Although the Unit Desa itself collects dataand compiles standardized monthly reports, Unit Desa operational and financialdata are consolidated and analysis is undertaken at the branch level.Overall, the present information system for Unit Desa operations is adequate.
3.10 The Unit Desa. The standard Unit Desa comprises a manager, a loanofficer, a bookkeeper and a cashier. Standardized workload coefficients(based on number of loans, number of savings accounts and average daily cashtransactions) have been developed that determine the number of additional loanofficers, bookkeepers and cashiers needed in order to operate efficiently aUnit Desa. Once the volume of Unit Desa operations requires 11 staff members,a Unit Desa is split into two. 'Posts", comprising two-person teams, areattached to those Unit Desas where there is significant business activity inoutlying areas but insufficient transactions to justify the creation of afully-staffed Unit Desa. As of end-1989, BRI's Unit Desa system constituted2,843 Unit Desas and 835 Posts;6/ total employees numbered 13,666: 2,805managers. 3,323 loan officers, 4,109 bookkeepers and 3,429 cashiers. Due tothe tremendous growth in operations during 1989, the Unit Desa system iscurrently understaffed, with vacancies estimated at around 900; this situationcould jeopardize both the continued growth and the quality of Unit Desaoperations. To rectify the problem, BRI recently implemented a new systemthat should ensure, in future, that Unit Desa staff vacancies are promptlyfilled by qualified staff. Each region identifies its total annual Unit Desapersonnel requirements on the basis of 'projected* needs (taking intoconsideration lending and savings growth prospects, internal promotions andnatural attrition, as well as establishing a 5 percent reserve at the branchlevel to fill temporary vacancies resulting from regular Unit Desa staff beingsick, on leave or in training), rather than on current vacancies only.Second, for entry-level cashier and bookkeeping positions, psychologicaltesting will no longer be required; this should produce a larger pool ofcandidates available for final placement. (A recent survey of traineecandidates showed that 40 percent of those applicants who passed the oralinterview and the security clearance test then proceeded to fail the finalmajor recruitment hurdle, the psychological test.)
3.11 Training. Recognizing that its existing training facilities werephysically incapable of accommodating the type of training program that wasneeded for its Unit Desa system, BRI decided in 1986 to establish fivetraining centers exclusively for Unit Desa personnel at Bandung, Padang,Yogyakarta, Surabaya and Ujung Padang. With USAID technical assistance, twoof these centers are now operational, another two will become operationalaround mid-1990 and the remaining one is expected to be finished in early1991. To date, 52 trainers have been locally recruited and trained by BRI and
61 As of end-December 1989, approximately 7 percent of BRI's Unit Desasare located in urban centers (defined as those cities, includingJakarta, in which BRI's regional headquarters are located) and accountfor about 9 percent of total Unit Desa savings deposits and 5 percentof the outstanding KUPEDES portfolio.
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its advisory team (another group of 30 trainers will be ready for assignmentin aid-1990). Courses, based on vell-prepared curricula, range from fourweeks for bookkeepers and cashiers, to 12 weeks for the Unit Desa manager.Shorter courses (two weeks) have also been developed for the UDOs and UBMs.Formal training began in 1988, with priority given to the Unit Desa managersand loan officers. Total staff trained in 1988 were slightly less than 3,000;another 5,200 were trained in 1989. BRI plans to train 7,950 staff in 1990,8,750 in 1991 and 11,850 in 1992. This program is ambitious, but attainable.
Scope and Terms of KUPEDES Lending
3.12 Eligibility. The main criterion for loan approval is thecreditworthiness of the borrower. KUPEDES loans are generally intended fordirectly productive activities, although fixed-income earners can also qualify(less than 5 percent of total loan volume is currently extended to thisgroup). Borrowers are required to provide proof of income sources and/or acertification of their business activities. All loan applications require acosigner, who is normally the applicant's spouse.
3.13 Collateral. All borrowers must provide collateral sufficient tocover the value of their loans. While land, buildings or any other propertymay be accepted, most borrowers use land (including house plots). A borroweris classified on the basis of his repayment record, and this establishes theperson's limit for subsequent loans. Since the legal system for realizingcollateral in the case of loan default is time-consuming and complicated, thedocumentation of collateral for each loan is more for the purpose ofestablishing the borrower's ability and serious intent to repay than it is toprovide a basis for legal action or an alternative source of loan repayment.
3.14 Repayment Schedule. Repayment schedules for working capital loansrange from three to 24 months, with or without grace periods of three to ninemonths. Single balloon payments for three- to 12-month maturities are alsoavailable. Repayment schedules for loans for investment purposes range up toa maximum term of 36 months, including grace periods.
3.15 Loan Size. The minimum size KUPEDES loan is Rp 25,000 ($14equivalent). In practice, few loans of less than Rp 100,000 ($55 equivalent)have been made. The maximum KUPEDES loan amount was initially set at Rp 1million. This was raised in April 1986 to Rp 2 million and to Rp 3 million inmid-1988. (On a pilot basis begun in late 1988, it was raised toRp 5 million--$2,730 equivalent.) This upper limit is generally availableonly to repeat customers who have promptly and fully repaid previous loans.
3.16 Interest Rates. Unlike the approach reflected in previous officialcredit programs to support small borrowers, the market-based approach tosetting interest rates for KUPEDES loans focuses on establishing rates thatwill ensure (a) prompt delivery of credit and (b) adequate profitability forthe financial intermediary. The underlying assumption is that for smallborrowers, access to credit is more important than the interest ratesinvolved. The decision to base KUPEDES interest rates on prevailing marketconditions meant that BRI had to: (a) set deposit rates sufficiently high toattract savings; and (b) set lending rates sufficiently high to cover itsfunding and operating costs, including adequate provisions for loan losses,
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and to permit it to earn a reasonable profit. As a result, BR? set onlendingrates of 1.5 percent per month for working capital loans, calculated on theoriginal loan amounts, and 1 percent per month for investment loans, similarlycalculated. [At the time, this differential was considered necessary toencourage investment activity. Recent changes in KUPEDES lending parameters,however, recognized the need to rationalize this aspect of KUPEDES interestrates (para. 3.17).] Since onlending rates are stated in terms of interest onthe original amount borrowed rather than on the declining balance, theeffective annual interest rates were 31.7 percent for working capital loansand 21.5 percent for investment loans.71 While these rates are higher thaneffective market rates for larger loans (which currently range from 17 to22 percent), they compare favorably to rates charged by other lenders tosmaller borrowers (Table 1.1). In addition to the basic interest rate, there4s a sprompt repayment incentive (IPTW)" fee of 0.5 percent per month (alsocalculated on original loan amounts) collected monthly. This is effectivelyan upfront penalty for failure to pay loan installments on time. It isreturned, in full, at the time of final loan payment to borrowers who havepaid all installments on time.
3.17 Revised KUPEDES Londinf Parameters. BBl's experience to dateindicates that there is room for increasing its XUPEDES op)rations byprudently expanlkng the scope of its coverage, specifically, by more activelysoliciting urban borrowers as well as *larger* small borrowers (both rural andurban). During appraisal, the following new loan parameters were agreed withBRI and they became operationally effective on May 1, 1990t
(a) an increase in the maximum loan size to Rp 25 million (approximately$13,700 equivalent);
(b) a revision of the interest rate structures
Ci) on loans of Rp 3 million or less--l.5 percent per month,calculated on a flat rate basis on the original loan principal;and
(ii) on loans of more than Rp 3 millioa--l.5 percent per month,calculated on a flat rate basis on the first Rp 3 million of tneoriginal loan principal and 1.0 percent per month, calculated ona flat rate basis on the amount of the original loan principalexceeding Rp 3 million.
Working capital and investment loans would carry the same rate. Theeffective annual interest rate would be 31.7 percent for loans ofRp 3 million and less; for loans of more than Rp 3 million, theeffective annual interest rate would range from slightly less than31.7 percent to 22.7 percent for a maximum loan of Rp 25 million;
(c) the IPTW (prompt repayment incentive) fee of 0.5 percent per month,still calculated on a flat rate basis on the original loan principal,
71 For loans (shorter as well as longer than one year) with grace periods,the effective interest rate is kept basically the same as for thestandard one-year loan vith no grace period.
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would be refunded to the borrower (on a pro-rata basis) on asemiannual basis if all repayments are made on time as per theoriginal amortization schedule for each respective six-month periodsand
(d) in instances where the borrower decides to repay his loan before itbecomes due, he/she would not be required (as previously) to pay allinterest due on the prepaid amount as computed at the time the loanwas extended.
These changes achieve several objectives. They allow the Unit Desas to seeklarger clients while providing competitive rates (economies of scale result inlower processing costs for larger loans, thus permitting lower onlending ratesto the end-users). They also enable the Unit Desas to provide financialincentives to their good clients [i.e., items (c) and (d)] withoutjeopardizing their lending margins. In addition, the revised interest ratestructure corrects the previous situation in which not only were investmentloans being effectively cross-subsidized, but also Unit Desa staff weredeclining to extend investment loans because they realized that they werelosing income on these loans.
IMPEDES Lending Ooerations
3.18 During its six years of operations, the Unit Desas have disbursedabout Rp 3.4 trillion in KUPEDES loans (almost $1.9 billion equivalent usingthe end-1989 official exchange rate); the total number of loans made duringthis time was 6.4 million (Annex 6, Table 1). Average loan size has increasedalmost threefold since 1984--from Rp 287,000 to Rp 777,000 in 1989. Thenumber of annual loans made during this same period has increased twofold--from 0.64 million to 1.38 million. After stabilizing at around 1.1 millionloans annually over 1986-88, the number of loans in 1989 increased by21 percent. Based on annual disbursement and repayment data, the average loanmaturity remains around 12 months. Sector-wise, trading continues to account(by Rupiah) for about 60 percent of KUPEDES loans (compared to around70 percent in 1987 and earlier years). Agriculture accounts for another26 percent. industrial activities account for only 2 percent andtransportationliervices for another 8 percent. General consumption loans,extended to fixed-income (salaried) borrowers only, account for the remaining4 percent. Geographically, 70 percent of the KUPEDES loan portfolio isconcentrated in Java (a decline from 75 percent in 1986). However, this isnot unusual' considering that more than 60 percent of Indonesia's populationlives on Java and that the level of economic activity there is relativelyhigher than in the other islands.
Characteristics and Impact of KUPEDES Lending
3.19 In mid-1989, BRI undertook a general survey of KUPEDES borrowers tomeasure the socioeconomic benefits derived from the lending program. Whilethe results of KUPEDES lending have been generally assessed as posit1v,i this
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survey demdnstrates quantitatively the dramatic success of a relatively youngprogram. The major survey findings are summarized in paras. 3.20-3.26 below.8/
3.20 Profile of KUPEDES Borrowers. The survey results confirm thatKUPEDES mainly serves nonagricultural sectors of the rural economy. Loans forsmall traders, cottage industries and service occupations accounted for78 percent of total lending in the areas sampled. These activities arecharacterized by a very rapid turnover of working capital (an average of onceevery 23 days). Traders often turn over their entire working capital daily.Every time capital is turned over, a profit ranging from 5 percent to25 percent is earned. For this reason, borrowers who take out working capitalloans for nonagricultural activities are relatively unconcerned about theinterest rate charged. With regard to agricultural lending activities,KUPEDES loans are used mainly for livestock rather than rice growing due tothe existence of the government-sponsored KUT program which supports riceproduction. The working capital turnover on agricultural loans averages 153days, but borrowers often opt for monthly repayments, which are paid fromincome earned on their other economic activities.
3.21 The majority of KUPEDES borrowers come from landless and nearlandless families. About 48 percent of the borrowing families surveyed own norice land at all, while 25 percent own micro plots of 2,000 square meters orless. Although many borrowers own no cropland, they usually do own a smallhouse plot which provides the security for the loan; the percentage of loansguaranteed by house plots is 66 percent. Only 3 percent of borrowers sampledhave ever had a loan from a private bank and less than 9 percent havepreviously had a loan from a private bank or government bank/agency. For themajority of borrowers, the BRI Unit Desa office is their first-ever contactwith a formal sector credit institution.
3.22 The participation rate of women in the RUPEDES program is high.About 25 percent of borrowers are women. The size of loans given to femaleborrowers does not vary significantly from the size of loans given to maleborrowers. Moreover, about 32 percent of loan funds are utilized byenterprises that are owned and operated by women, reflecting the fact thatloans taken out in the husband's name are often shared with the wife.
3.23 Development Impact. It appears that KUPEDES lending has directlycontributed to poverty alleviation at the village level. Survey resultsindicate that RUPEDES lending has both increased employment for hired workersin borrower enterprises and increased the incomes for borrower families whowere below the poverty line. Using Bank guidelines, 15 percent of first-timeRUPEDES borrowers in 1986 fell below the poverty line; this roughlycorresponds to the overall incidence of rural poverty which was established at16 percent of the rural population in 1987. After an average three years ofprogram participation, however, only 4 percent of KUPEDES borrowers were stillbelow the poverty line. on a national scale, this means that an estimated186,000 families have moved out of the seriously poor category.
8/ A more detailed discussion of this survey (Briefing Booklet--KUPEDESDevelopment Impact Survey) is available in the Project File.
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3.24 KUPEDES has had a major impact on profits earned by borrowerenterprises. Prior to taking out their first XUPEDES loan, borrowerenterprises earned an average of Rp 141,098 (about $75) per month. After anaverage three years of program participation, this monthly income had grown toRp 327,595 (about $180); after adjusting for inflation, that is a realincrease of 94 percent. The four major reasons why enterprise incomes haveincreased so substantially aret
(a) borrowers with trade enterprises often double or triple the amount ofgoods bought and sold after getting their KUPEDES loans;
(b) borrowers with small industry enterprises often double or triple theamount of goods produced after getting their KUPEDES loans;
(c) borrowers who previously obtained trade goods or raw materials oncredit from suppliers and paid high interest rates (an average of5.7 percent per month) can now pay cash; and
(d) borrowers who previously experienzed work stoppages du to a lack ofworking capital can now work continuously year-round.
3.25 KUPEDES lending has also contributed to employment growth. Theaverage borrower surveyed has participated in the program for three years andhas had three or more loans. In this time, employment, measured in terms ofnumber of workers per enterprise, has increased an average of 65 percent; ifemployment is measured by annual labor hours per enterprise, the averageincrease is 84 percent. In absolute terms, employment has increased for bothunpaid family workers and hired workers. Proportionally, however, the shareof labor contributed by unpaid family workers has declined by about 7 percent,if measured in terms of number of workers, and by 18 percent, if measured inlabor hours. The most dramatic increase in employment has been for piece-ratevorkers, many of whom are women who work in their own homes. These workersallow borrowers to enlarge their labor force without building new work places.
3.26 The standard of living of many KUPEDES borrowers has subsequentlyimproved. Personal consumption has increased with many borrowers reportingthat they are now able to purchase new clothing, radios, furniture andmotorcycles. Many have made housing repairs, added rooms to their houses oreven built new houses. Borrowers who formerly relied on a traditional medicalspecialist when ill now visit the local health worker or a doctor in town.Women who formerly relied on traditional midwives are now going to maternityclinics. Many families report an increased frequency in the consumption ofprotein foods such as meat and fish. Many families who had no savings threeyears ago now have savings in the form of gold jewelry or savings accounts.The average annual amount spent on school fees and related educationalexpenses by families who have received KUPEDES loans has increased fromRp 171,272 to Rp 338 791 per household, for a real increase of 65 percent.
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Unit Desa Administration and Financial Operations
3.27 In 1984, BRI developed accounting and monitoring systems thatpermitted the Unit Doses to fund their respective operations and to identifytheir respective costs and profits. This entailed: (a) reconstruction ofeach Unit Desa's financial statements; (b) establishment of a mechanism toenable each Unit Desa to fund its loan operations, irrespective of the amountof deposits it could raise; (c) creation of a mechanism to allow the Unit Desato invest (without incurring a loss) deposits it had mobilized in excess ofloan demand; and (d) allocation of overhead costs associated with the branch'ssupervision of the Unit Desa. To ensure that the system's sustainability isnot based on subsidized funds, BRI adopted an internal transfer pricingmechanism so that funds loaned to the Unit Desas are at an interest rate thatis no less than the rate paid by the Unit Desas on three-month time deposits;at the same time, Unit Desas with surplus savings can deposit these funds withtheir branches and receive this same rate (currently 16 percent). Thismechanism promotes savings mobilization (deposits are cheaper than borrowedfunds), while those Unit Desas whose savings exceed loan demand are notpenalized for having successfully mobilized resources. Another distinguishingfeature of the Unit Desa system is its incorporation of an annual "bonus"incentive. The staff of each Unit Desa are paid a bonus of up to one month'ssalary that is based directly on the financial performance of the unit. AUnit Desa Development Fund was also set up under the first KUPEDES Project towhich was allocated at least 50 percent of the margin between the cost of Bankloan proceeds to BRI and the onlending rate to the Unit Desas. These fundsare used for expenditures in support of the Untt Desas.
Funding of the Unit-Desas and Resource Mobilization
3.28 Funds available to the Unit Desas for extending RUPEDES loans comefrom several sources:
(a) Equity. This consists of the proceeds of the Government's grant ofRp 66.7 billion to BRI for the Kredit Mini program which, in 1984,were reallocated for funding KUPEDES loans. BRI distributes thisgrant among the Unit Desas as 'an equity contribution' of Rp 19million each;
(b) Liquidity Credit from DI. This consists ofs (i) the conversion ofRp 43 billion in liquidity credit originally provided by BI for thepurpose of funding the Rredit Midi program; and (ii) an initialRp 100 billion of liquidiiy credit made available to BRI for KNUPEDESlending. Undor the first KUPEDES Project, it was agreed that BRIwould pay a single consolidated rate of 12 percent per annum on theseliquidity funds,9/ and that they would be repaid on a quarterly basis
9/ Originally, the interest rate to BRI on the BI liquidity credit was15 percent, excepting amounts utilized for investment purposes on whichthe rate would be A percent. Since a working capital/investment blendof 75s25 was assun*d at the time, BI charged BRI an interest rate of12 percent for the sake of administrative convenience, with anunderstanding that this rate would be adjusted at a later date.
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over seven years, beginning in the first quarter of 1989. (BRI iscurrent in making the agreed repayments.) This arrangement wasreconfirmed at negotiations:
(c) Official Loans. Under Loan 2800-IND, World Bank funds of Rp 165.7billion have been disbursed (to be repaid semi-annually over 15years, exclusive of a five-year grace period, beginning in January1993). In 1989, BRI received from the Exim Bank of Japan Rp 50.7billion for local cost financing associated with the first KUPEDESProject (to be repaid semi-annually over 15 years beginning inSeptember 1991); and
(d) Savings Mobilization by the Unit Desas. The Unit Desas provide twomajor savings instruments: TABANAS and SIMPEDES. Tabungan Nasional(Small Savings Program--TABANAS) is a national savings schemesponsored by BI and available to depositors in all banks, both stateand private. The interest rate is currently 16 percent on theminimum monthly balance (zero percent on balances of less thanRp 250,000). Under TABANAS, withdrawals are restricted to two permonth. Simpanan Pedesan (Village Savings Program--SIMPEDES) wasintroduced by BRI as a Unit Desa savings instrument in 1985.SIMPEDES interest rates, calculated on the basis of minimum monthlybalances, are zero percent on balances of less than Rp 25,000,9 percent on balances from Rp 25,000 to Rp 200,000, and 13.5 percenton balances above Rp 200,000. The saver is permitted unlimitedwithdrawals; this is considered the key factor behind the success oftbe program. SIMPEDES accounted for 75 percent of total Unit Desadeposits as of end-1989. In addition to the TABANAS and SIMPEDESaccounts,10/ Unit Desas offer time deposits with maturities rangingfrom three months to one year and checking (Giro) accounts, which areheld primarily by local government agencies.11/
As of December 31, 1989, total resources available to the Unit Desa systemamounted to Rp 1.4 trillion (approximately $765 million equivalent) as shownin Table 3.1 below.
10/ At the end-1989, the Unit Desas held 3.5 million TABANAS accounts(averaging Rp 32,700, or about $18 equivalent) and 2.65 millionSIMPEDES accounts (averaging Rp 261,100, or about $143 equivalent).
111 BRI introduced a new savings instrument in December 1989 calledSIHASKOT available at both Unit Desas (initially in urban locationsonly) and branch offices. It is similar to SINPEDES, but provides aninterest rate of 14.5 percent on accounts larger than Rp 5.0 million.
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Table 3.1t TOTAL RESOURCES AVAILABLE TO THE UNIT DESA SYSTEK, END-1989
Resource Rp (billion) Z of total
Kredit Mini (equity) grant 66.7 4.8Converted Kredit Midi }BI liquidity credit } 165.4 11.8IBRD Loan 2800-IND 165.7 11.8Exim Bank of Japan 50.7 3.6TABANAS (Unit Desas only) 113.7 8.1SIMPEDES 694.7 49.6Deposits and Giro 145.1 10.3
Total 1,402.0 100.0
3.29 Auditing and Internal Control. Due to the sheer number of A.*nit Desasand the staffing constraints currently faced by BRI's Internal AuditDepartment (para. 11 of Annex 2), BRI has not audited annually each t1 itsUnit Desas. In 1989, only 542;(or 19 percent) of BR1's 2,850 Unit Dotas wereindividually audited. Inasmuch as Unit Desa operations are reflected in thefinancial position of the branches, however, all Unit Desas are audited,albeit in a very limited fashion. SRI relies primarily on the financialreview and supervision of the Unit Desas as performed by the branches andoverseen by the regional and headquarters offices (para. 3.9). Thii does notmean that this supervision capability is intended or expected to replace theinternal audit function. With the expansion and strengthening of BRI'sInternal Audit Department, it is expected that 700 Unit Desas will be auditedin 1990, with all Unit Desas being audited beginning in 1992. Externalauditing at BRI is performed by the Government's Agency for Financial andDevelopment Supervision (BPXP). BPXP's audit teams visit all BRI,regional andbranch offices, but they only audit Unit Desas on a sample basis.'
Financial Position and Performance of the Unit Desas
3.30 Financial Position. The Unit Desas' financial position since 1984 ispresented in Annex 6, Table 2. During'the past six years, the Unit pesasystem has registered impressive growth. Between end-1984 and end-1989, totalassets increased sevenfold, from Rp 0.18 trillion to Rp 1.29 trillion ($700million equivalent). The outstanding KUPEDES portfolio has increased fromRp 110.7 million' to Rp 845.6 million ($465 million equivalent), althoughannual growth rates have fluctuated greatly, e.g., from 25 percent in 1987 and -~
1988, to 57 percent in 1989, to'78 percent in 1985. During 1984-87, RUPEDESloans accounted for 62 percent to 84 percent of total assets. As of end-1988and end-1989, however, as a result of the Unit Desas''very quccessfut resourcemobilization efforts that produced large net surpluses of loanable funds,these respective ligures declined to 60 percent and 65 percent, respectively.Savings deposits (in particular, SIMPEDES5 have also increased dramatically,from Rp 40.2 billion at end-X984 to Rp 920.6 billion ($509 million equivalent)at end-1989. [At the end-1989, these savings represented 14 percent of BRU's
,- - l .~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~'
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total deposits.] Like the KUPEDES portfolio, annual growth rates havefluctuated widely, varying from about 75 percent in 1985 and 1988, to132 percent :n 1986, to 94 percent in 1989. As of December 31, 1989, thoseUnit Desas with surplus liquidity showed a total cash position of Rp 452.5billion, while those with negative liquidity positions showed net "branchborrowings' amounting to Rp 198.4 billion. In aggregate, adjusting forvarious reserve requirements and working cash margins, the Unit Desas' netliquidity position was Rp 545.5 billion (about $300 million equivalent).
3.31 Financial Performance. After incurring initial start-up losses(wbich were expected) in 1984 and 1985, the Unit Desa system has generatedsteadily increasing annual net profits (before taxes), totaling Rp 9.8 billionin 1986 and increasing to Rp 36.9 billion ($20.3 million equivalent) in 1989(Annex 6, Table 3). As shown in Table 3.2 below, these annual profits reflecta reasonable and fair return on the Unit Desas average total assets. TheGait Desas' profitability performauce also demonstrates the system'sincreasingly important role in contributing to BRI's overall profitability--in1988 and 1989, the Unit Desas accounted for 30 percent of BRI's total netincome (before taxes). The key factors, as reflected in the other financialindicators shown in Table 3.2, that have enabled the Unit Desas to performprofitably includes (i) an adequate lending spread; (ii) the maintenance of ahigh-quality KUPEDES portfolio (para. 3.32); and (iii) firm control ofpersonnel and administrative expenses. It should be noted that, in 1989, twopolicy changes resulted in a significant increase (in absolute Rupiah terms)in personnel and administrative expenses: one, all Unit Desa staff wereupgraded to full BRI employee status (resulting in higher salary and employeebenefits); and two, all training costs for Unit Desa personnel are nowexpensed directly against the Unit Desa system. Despite these changes, theUnit Desas' profitability remained very satisfactory and the upgradingexercise had the additional benefit of improving staff morale.
3.32 Quality of Portfolio. The quality of the KUPEDES loan portfo.iocontinues to be good. As of December 31, 1989, only Rp 45.7 billion (or lessthan 5.5 percent of the outstanding portfolio) were in arrears, with arrearsvery conservatively defined as any payment of principal overdue by one day ormore (Annex 6, Table 4). Total arrears of more than one day beyond finalinstallment due dates totaled Rp 20.7 billion, or 2.5 percent of theoutstanding portfolio. Much of the Unit Desas' succes,' in keeping KUPEDESloan arrears low can be attributed to prudent lending and accountingprocedures, intensive follow-up by Unit Desa staff of their borrowers, andclose supervision and monitoring by the branches (as well as by theheadquarter office). Recent steps taken by BRI to ensure adequate and timelyrecruitment of personnel will help ensure that this quality can be maintainedin future (para. 3.10). The Unit Desas have also proved successful incollecting loans previously written off--about 25 percent of them as of end-December 1989. BkI's comprehensive and ongoing training program for the UnitDesa personnel also plays a positive role (para. 3.11). BRI has clearlydemonstrated its commitment to ensuring that the experience of high arrearagesunder previous credit programs for small borrowers is not repeated. However,as under the first KUPEDES Project, to enable the Bank to provide timelyguidance in case of unforeseen rapid portfolio deterioration, BRI agreed atnegotiations to consult with the Bank and to draw up within three months atime-bound action program, acceptable to the Bank, for dealing with arrearsonce they reached a level of 8 percent over a continuous six-month period. BRI
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Table 3.2: INDICATORS OF UNIT DESAS' FINANCIAL PERFORMANCE, 1984-89
1984 1985 1986 1987 1988 1989
Average Total Assets(Rp billion) 89.4 239.6 364.2 469.9 624.1 1,013.7
Average Borrowings(Rp billion) 62.5 176.2 289.5 382.1 516.1 885.8
As a I of Average Assets(a) Income from lending lb 20.2 20.8 23.6 24.6 23.2 19.3(b) IPTW forfeited n.a. n-a. n.a. 2.0 2.4 1.9(c) Other income 5.1j, 3.7Lc 4.1k 3.0 3.4 4.8(d) Gross income 25.3 24.5 27.7 29.6 29.0 26.0(e) Financial expenses 4.9 8.2 9.6 10.2 9.8 9.5(f) Gross spread (d-e) 20.4 16.3 19.1 19.4 19.2 16.5(g) Salary and personnel
expenses id 34.0 13.8 9.3 8.4 7.0 6.0(h) Administrative and
other expenses 5.0 1.9 2.8 2.6 3.0 4.5Mi) Provision for bad debt 9.4 1.0 3.3 3.6 4.3 2.4(j) Profitiloss le (28.0) (0.4) 2.7 4.8 4.9 3.6
Lendint Margin(k) Income from lending as Z
of average loan portfolio 26.2 25.9 29.0 29.8 29.8 28.3(1) Financial expenses as 2
of average borrowings 7.0 11.2 12.1 12.6 11.9 10.9(m) Spread on lending (k-i) 19.2 19.7 16.9 17.2 17.9 17.4
Provision for Bad Debt as Iof Outstanding Loan Portfolio 6.6 4.3 5.9 4.9 6.3 4.7
Salary and PersonnelExpenses 1d as S of Aver-age Loan Portfolio 44.1 17.3 11.4 10.2 9.0 8.7
/a Before provisions.Ib Income from lending excludes IPTW collected; likewise, IPTW collected (and
which is set aside in a reserve) is excluded as an expense in the expensecomputations below.
/c Includes IPTW forfeited./d Excludes bonuses, which are included in administrative and other expenses.le Before taxes. Unit Desa annual profits (losses) are appropriated by BRI.
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has also retained in its Unit Desa Strategy Statement, the coumultment thatmaintaining sound portfolio quality will receive management's highest priorityand that arrears (of three months or more past final installment due date) of6 percent or more would be considered unsatisfactory performance.121 Shouldthis level of arrears be reached, BRI management would evaluate the overallprogram and organization of the Unit Desas with a view to redesigning it so asto ensure the continued financial viability of the Unit Desa system.
IV. THE PROJECT
A. Project Rationale. Obiectives and Content
4.1 Project Rationale and Objectives. BUI's Unit Des& system representsa program that is totally consistent with the GOt's financial sector policyreforms aimed at efficiently increasing resource mobilization and improvingresource allocation. BRI's RUPEDES program provided the Bank (through itsfirst XUPEDES Project) an excellent opportunity to support a small creditscheme, which had been long advocated by the Bank, that did not rely onsubsidized funds. To date, BRI's small credit and savers scheme has provenefficient ant profitable (paras. 3.30 and 3.31), and has had significantsocioeconomic benefits (paras. 3.19-3.26). It is the only nationwide networkthat serves a large group of small borrowers and savers whose access tocompetitive, nonsubsidized credit and savings facilities, in the absence ofthis program, would be limited. However, with only a six-year operationalrecord, the Unit Desa system is still young. Continued Bank participation(including ongoing supervision assistance) will not only demonstrate theBank's commitment to this type of program, but will also help ensure its long-term sustainability, particularly as the scope of operations is beingexpanded. The primary objective of the proposed project is to promote BRI'songoing efforts to strengthen and expand its Unit Desa system as a financiallyviable subbranch network that mobilizes resources and provides nonsubsidizedcredit nationwide to creditworthy small borrowers. The proposed project wouldalso continue support to develop BRI's institutional capability as related toits Unit Desa system.
4.2 Project Content. The proposed project would comprise threecomponents: (i) a credit component for general-purpose financing in allsectors. This component would finance cottage and small-scale enterprises inall sectors, including manufacturing, agriculture, trade and services, andwould be committed by the Bank on the basis of the formula described in para.4.11; (ii) a capital expenditure component for the expansion of BRI's fiveUnit Desa training centers, including computer equipment [para. 4.5(a)]J and(11i) a technical assistance (TA) component aimed at supporting ongoingefforts to strengthen BRI's institutional capability for improving its UnitDesa and rural banking activities [para. 4.Sb)].
121 Inclusion of this clause in BRI's Unit Desa Strategy Statement wasagreed during negotiations for the first KUPEDES Project.
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B. The Credit Component - Operational Projections and Resource Requirements
4.3 Projected KUPEDES lending operations for 1990-92 (Annex 6, Table 6)are based on the Unit Desas' past experience and reflect BRI's strategy toreach a larger number of borrowers as well as make larger loans (para. 3.17).During this three-year period, annual disbursements are projected to increaseat an average annual rate of about 35 percent (Rp 500 billion per year); theportfolio outstanding would grow at a corresponding rate, from Rp 845.6billion (at end-1989) to Rp 1.94 trillion. This rate of growth, comparablewith that achieved during 1986-89, appears reasonable and sustainable.Emphasis will also continue to be placed on resource mobilization, but thedramatic increases achieved during the last two years are unlikely to besustained (deposits almost doubled each year--from Rp 288 billion at end-1987to Rp 493 billion at end-1988 to Rp 953 billion at end-1989). A majoruncertainty is the extent to which competition for small savers from otherfinancial intermediaries will materialize. Therefore, a more modest20 percent average annual growth rate is projected. with total deposits at theUnit Desas increasing from Rp 954 billion at end-1989 to Rp 1.64 trillion atend-1992*
4.4 Based on the above scenario. the KUPEDES portfolio, by end-1992,would exceed total deposits mobilized by the Unit Desas by Rp 300 billion.However, taking into consideration other resources available to the Unit Desasyt-em (para. 3.28) and adjusting for the system's various reserve and workingcash requirements, the projected overall resource position of the Unit Desasystem shows a net liquidity position (excluding Bank funds under the proposedproject) declining from Rp 545 billion at end-1989 to only Rp 45 billion atend-1992. With the inflow of Bank loan funds as projected under the proposedproject, the Unit Desas' net liquidity position would amount to Rp 264billion. Under the proposed project, total Bank funds (including Ln.2800-IND) as a percentage of total resources available to the Unit Desa systemwould increase from 11.8 percent at end-1989 to 17.4 percent at end-1992 (seeTable 4.1 below). At the same time, total long-term resources, which providea measure of overall stability to the Unit Desas' resource base, would declinefrom 32 percent to 26.2 percent of total funds available for KUPEDES lending(due to repayments of Rp 86.2 billion made during this period on outstandingBI liquidity credits and the Exim Bank of Japan loan). Without the proposedBank loan, long-term funds would comprise only 18.1 percent of-the Unit Desas'resource base.
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Table 4.1s ACTUAL AND PROJECTED TOTAL RESOURCES AVAILABLE TO THEUNIT DESA SYSTEM, END-1989 AND END-1992
Actual end-1989 Proiected end-1992Rp z Rp z
Resource (billion) of total (billion) of total
Kredit Mini (equity) grant 66.7 4.8 66.7 3.0Converted Kredit Midi }BI liquidity credit 1165.4 11.8 89.4 4.0IBRD Loan 2800-IND 165.7 11.8 165.7 7.5Exim Bank of Japan 50.7 3.6 40.5 1.8TABANAS (Unit De8as only) 113.7 8.1 151.3 6.8SIMPEDES 694.7 49.6 1.247.5 56.1Deposits and Ciro 145.1 10.3 242.2 10.9Proposed IBUD loan - - 219.6 9.9
Total 1,402.0 100.0 2,222.9 100.0
KUPEDES loans 845.6 1,937.2
Net system liquidity (withoutproposed IBRD loan) 545.5 44.9
Net system liquidity (withproposed IBRD loan) 545.5 264.5
However, as summarized in Table 4.2 below, the Unit Desas' resource positionas of December 31, 1992, is very sensitive to even modest changes in loan andsavings growth assumptions. Either a decrease in the annual savings growthrate of only 5 percent or a 5 percent increase in the annual growth rate ofthe KUPEDES portfolio would result in significant pet liquidity deficits (ofRp 134.6 billion and Rp 183.6 billion, respectively) without the proposed Bankloan.
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Table 4.2: SENSITIVITY OF PROJECTED TOTAL RESOURCES AVAILABLETO THE UNIT DESA SYSTEM TO CHANGES IN GROWTH RATES, END-1992
Growth inGrowth in annual KUPEDES
annual savings SZ portfolio 52less than expected more than expectedRp S Rp 2
Resource (billion) of total (billion) of total
Kredit Mini (equity) grant 66.7 3.3 66.7 3.0Converted Kredit Midi }BI liquidity credit 89.4 4.4 89.4 4.0ThBD Loan 2800-IND 165.7 8.2 165.7 7.5Exim Bank of Japan 40.5 2.0 40.5 1.8TABARAS (Unit Deass only) 151.3 7.4 151.3 6.8SINPEDES 1,056.6 52.0 1,247.5 56.1Deposits and Giro 242.2 11.9 242.2 10.9Proposed IBRD loan 219.6 10.8 219.6 9.9
Total 2,032.0 100.0 2,222.9 100.0
KuPEDES loans 1,937.2 2,174.0
Net system liquidity (withoutproposed IBRD loan) (134.6) (183.6)
Net system liquidity (withproposed IBRD loan) 85.0 36.0
C. Capital Expenditure and Technical Assistance Components
4.5 The proposed capital expenditure and TA components would provideongoing support to efforts initiated under the first KUPEDES Project tostrengthen the Unit Desa system.
(a) Expasion of Unit Desa Training Facilities. The proposed ezpansionwill permit BRI to complete the second phase of construction and toconsolidate each of its five regional training operations at a singlelocation, thereby eliminating the need ti'. rent outside facilities.Long-term training projections show that these expanded facilitieswill be fully utilized over the next seven years, while adequatelyaccommodating total Unit Desa training needs. The proposed expansion(Annex 7) provides for an additional nine full classrooms (includingthe associated dormitory, discussion room and teacher housingfacilities for 3S5 students per classroom) and five computer rooms(including computers for training). This expansion will complementthe 14 classrooms and ancillary facilities already cbnstructedlunderconstruction. Estimated total cost of this component is $5.2
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milion. Except for Ujung Pandang, no additional land acquisition isrequired for these expansions. Designs are already completed. Localcompetitive bidding procedures would be used for awarding therespective construction contractst this is expected to be done duringthe latter part of 1990/early 1991, with construction completed atall five sites by end-l991. Construction costs are based onspecifications used in the first-phase construction and Ministry ofPublic Works February 1990 unit cost estimates.
(b) Technical Assistance. Financing for the long-term advisory team forUnit Desa operation currently provided by USAID will end in early1991 (para. 3.7). BRI has requested that advisory services continueto be provided, given the limited track record of the program andplans for its expansion. Funds out of the TA component of theproposed project would provide for three full-time (i.e., 36 staff-months each) positions% (i) a Senior Policy Advisory; (ii) aTraiuing Coordinator; and (i.l) an Information and Survey Assistant.These advisors, preferably to be engaged as a team, would continue toreport to the President-Director of BRI and coordinate on a day-to-day basis with the Business Unit Desa Department. The terms ofreference for these positions (Annex 8) were agreed at negotiations.Funds would also be provided out of this component for 48 person-months of short-term specialists to be engaged, as needed through1993, for undertaking special activities aimed at improving BRI'sUnit Desa and rural banking activities, in particular, for fieldstudies, training development and evaluation, supervisionimprovement, portfolio management, marketing research, and serviceand product development.
D. Proiect Cost Estimates and Financing Plan
4.6 KUPEDES borrowers and the nature of their credit needs precludedefining total investment costs (including foreign exchange requirements) andpreparing a firm financing plan. The size of the proposed project's creditcomponent is based on BRI's projection of total disbursements for BUPEDESloans, assuming no resource constraints, through 1992 (para. 4.3). Totalproject costs, including contingencies,13/ are estimated at $2,617.6 millionand are summarized in Table 4.3 below. The estimated total project cost isexclusive of direct duties and taxes, which are negligible. The foreign
131 Cost estimates are based on February 1990 prices. Physicalcontingencies of 20 percent have been provided for the expansion of thetraining centers. Price contingencies, on the capital expenditure andTA components only, have been calculated on the basis of estimatedannual Increases in both local and foreign prices of 6 percent during1990-93; following the usual practice, the credit component does notinclude any contingencies.
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exchange' component is estimated at $788.0 million.l4/ Of the project's total-cost, $2,099.6 million would be financed by loan repayments generated byKUPEDES borrowers; the remaining project cost associated with the credit lineunder the proposed project isiestimated atl$5l0.5 million and represents theincremental growth in the KUPEDES outstanding portfolio. This incrementalKUPEDES loan portfolio, and the proposed capital expenditure ($5.2 million)and TA ($2.3 million) components represent that part of estimated totalproject costs to be financed with the proposed loan.
la Exclusive of duties and taxes which are insignificant.lb For th1 period July 1, 1990-September 30, 1992.
4.7 The financing plan for the proposed project is summarized in Table4.4 below. The credit line under the proposed Bank loan would finance no morethan 30 percent of the incremental growth in KUPEDES loans outstanding.7-andwould represent slightly less than 5 percent of total KUPEDES loans disbursed
141 Based on previous Bank projects that comprised credit lines, the directand indirect foreign exchange component of investmeuits financed underthese credit lines has been estimated in the range of 50 to 60 percentof total projeci cost. In these projects, a significant part ofproject costs involved imported equipment anu machinery. Under the -proposed credit line, little if any expenditures are expected toinvolve direct imports (para. 4.11). Based on indirect foreignexchange demand, the imputed foreign exchange content of KUPEDESinvestments is estimated at 30 percent.
I~~~~~~~~~~~~~~~~~~~~~1
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during July 1, 1990-September 30, 1992 (comparable figures under the firstKUPEDES Project were 46 percent and 9 percent, respectively). The Bank loanwould finance 100 percent of the direct foreign exchange costs of $2.3 millionrequired for TA and 52 percent of the estimated foreign exchange costs of $2.7million for capital expenditure.
Table 4.4t FINANCING PLAN($ million)
Local Foreign Total
Cumulative KUPEDES Credit Component 1,827.1 783.0 2,610.1IBRD (for incremental portfolio) - 120.0 120.0Incremental Unit Desa savings mobi-
lization (for incremental portfolio) 263.1 33.2 296.3Other BRI/Unit Desa system resources(for incremental portfolio) 94.2 - 94.2
Repayments of previous KUPEDES loans 1,469.8 629.8 2,099.6
4.8 The proposed Bank loan of $125 million would be lent to the Republicof Indonesia for 20 years, including a grace period of five years, at theBank's standard variable interest rate. These funds would be onlent to BRI(in Rupiah) for the same repayment and grace periods. As a result of recentdiscussions between the Bank and the GOI regarding the onlending rate in two-step loans, a more transparent mechanism than used in past loans would beadopted under the proposed project for ensuring that the onlending rate forBank funds reflects the market rate for domestic term funds in Indonesia. Theonlending rate to BRI will be at a variable interest rate pegged to Bl'sthree-month SBI (until the introduction of a six-month certificate in June1990, this was BI's SBI of longest tenor). This rate would be adjusted onJanuary 1 and July 1 of each year, based on the average of SBI three-monthmaturity quotations during the preceding six months. While the Governmentwould bear the foreign exchange risk, this formula for establishing the costof funds from the GOI to BRI includes an implicit premium reflecting marketexpectations regarding exchange rate changes, since deposit rates in Indonesiaare market-determined and capital'-flows are generally unrestriCted. Based on
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1990 data, this arrangement would result in an onlending rate to BRI of about14.3 percent per annum for the period July 1 - December 31, 1990,15/ which ispositive in real terms. To protect BRI from possibly excessive volatility inthe reference rate, the onlending rate vould not exceed the average of end-of-day quotations of the five SCBs' three-month time deposits during the samepreceding six-month period. An understanding was reached at negotiations thaton July 1 of each year, comuencing July 1, 1991, at the request of either theBorrower or the Bank, the basis for determining the onlending rate from the00I to BRI would be reviewed with the objective of either ensuring that the
three-month SBI rate appropriately reflects the cost of domestic term funds oragreeing on an alternative that does reflect this cost. The GOI would alsocharge BRI a commitment fee on the undisbursed balance of the loan equal tothe commitment fee payable by the GOI to the Bank. The signing of asubsidiary loan agreement, satisfactory to the Bank, between BRI and the GOIis a condition of effectiveness of the proposed loan.
4.9 End-user Terms. The effective annual interest rate to IUPEDESborrowecs would be about 31.7 percent per annum on loans of Rp 3 million andless; for loans between Rp 3 million and Rp 25 million, the effectiveannualized interest rate would gradually decline from 31.7 percent per annumto 22.7 percent per annum. Implementation of this revised interest ratestructure (which, based on current market conditions, it appropriate--para. 3.17) was a condition of loan negotiations. These rates enable BRI'sUnit Desas to cover their costs of operation, including an adequate provisionfor loan losses, and provide them a reasonable profit. The appropriateness ofKUPEDES interest rates (as well as of the interest rates offered on varioussavings investments) is reviewed by BRI on an ongoing basis in light of boththe Unit Desas' operating and financial performance, and in view of changes inmarket conditions. Modification of the KUPEDES interest rate structure wouldbe done only with the prior agreement of the Bank. It was confirmed duringnegotiations, that, as under the first KUPEDES project, at least 50 percent ofthe margin between the cost to BRI of the Bank loan proceeds and the onlendingrate to the Unit Desas would be credited to the Unit Desa Development Fund.
Loan Administration
4.10 Procurement. Under the RUPEDES program, subloans are very small;competitive bidding procedures would be impractical. Goods and servicesprocured with subloan proceeds would be acquired through normal commercialchannels available to the borrowers. Because of the relatively small size anddispersed nature of civil works and goods involved, construction of thetraining center expansions and acquisition of computer equipment will beprocured through local competitive bidding (LCB) procedures in accordance withGovernment guidelines, acceptable to the Bank. (Foreign suppliers of computerequipment will be allowed to participate if they wish.) Bidding packages over$1.0 million will be subject to the Bank's prior review of procurementdocumentation. Consultants to be financed under the proposed loan would be
15/ The current rate being paid by BRI under the first KUPEDES Project is12.21 percent; this rate is adjusted every six months, equal to theaverage cost of BEI's customer deposits (excluding noninterest-bearingdeposits from the GOI or GO0-owned entities).
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selected In accordance with the Bank's "Guidelines for the Use of Consultantsby World Bank Borrowers and by the World Bank as Executing Agency". Terms ofreference and the appoint;nett of all consultants financed by the Bank underthe. project would be subject to prior Bank approval. The procurementarrangements are summarized in Table 4.5 below.
Total - 5.2 2, 612.4 _ 2,617.6(2.7) (122.3) (125.0)
la Goods and services procured with subloan proceeds would be acquiredthrough normal channels available to the KaPEDES borrowers.
lb Following Bank guidelines for the use of consultants.
Notes Figures in parentheses indicate amounts to be financed by the Bank.
4.11 Disbursement. Even with the increase in the maximum subloan size toRp 25 million, it is expected that the vast majority of loans made underKUPEDES during the next few years will continue to be relatively small. There,is likely to be little, if any, direct foreign exchange expenditures under theproposed credit line. Therefore, the proposed disbursement formula takes intoconsideration imputed foreign exchange content and the need to maintainappropriate incentives for BRI and the Unit Desas to sustain their resourcemobilization efforts. For the credit component, t#e Bank loan disbursementswould be on the basis of 5 percent of new KUPEDES loan approvals (i.e.,disbursements) during a quarter, provided that the Unit DesasIBRI finance withtheir own resources at least 70 percent of the incremental growth in the
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XUPEDES .oan portfolio.161 This arrangement is designed so as to encouragethe Unit Desas' resource mobilization efforts; at the same time, it does notpenalize them if they are successful and exceed this 70 percent criterion.BRI would submit quarterly requests for reimbursement with Statements ofExpenditure (SOEs) consisting of supporting documentation on KUPEDES loandisbursements and repayments during the quarter plus the beginning and endingoutstanding balances of the KUPEDE3 loan portfolio. For the capitalexpenditure component, the proposed Bank loan would be disbursed againstapproved contracts, and would cover: for civil works, 50 pe-cent of totalexpenditures; and for equipment, 100 percent of foreign expenditures, 100percent of local expenditures (ex-factory cost) and 60 percent of other localexpenditures. Disbursements under the TA component would be 100 percent ofconsultant costs against standard documentation, except for contracts valuedat less than $100,000 which would oe claimed under SOEs. Based on projectedKUPEDES lending operations (paras. 4.3-4.4), the credit component is expectedto be disbursed in 27 months. The capital expenditure component is expectedto be disbursed over a one year period beginning mid-1991; the TA component,by June 30, 1994. Based on the experience of the first TDPEDES Project(para. 3.7), this implementation schedule is realistic and achievable.Therefore, a disbursement period of four years, as assumed for the proposedproject is more appropriate than the five-and-a-half years provided by thestandard disbursement profile for IDF projects in the Asia Region (Annex 9).The closing date for the loan would thus be June 30, 1994.
4.12 Environmental Impact. There is no evidence that any significantenvironmental damage is attributed to current KUPEDES-financed activities.However, with the increase in the KUPEDES' loan ceiling, largerentrepreneurial activities, with greater potential for pollution, can beanticipated. BRI has incorporated in its Unit Desa Policy Statement (Annex 4)its commitment to comply with Government environmental standards andregulations. Future impact studies and surveys of Unit Desa operations wouldidentify changes in the composition of subsector lending as well as anygrowing proportion of potentially polluting subsectors. Should a shifttowards such subsectors be observed, appropriate follow-up measures would thenbe pursued during the course of project supervision. BRI also intends toproduce a series of booklets on appropriate investment technologies fordistribution to both Unit Desa staff and KUPEDES borrowers. Initially, fourinvestment activities would be covered: (a) small-scale food processing;(b) small-scale livestock; (c) small-scale clay products; and (d) small-scaletextile and yarn. One focus of these booklets would be on production methodsthat could minimize pollution-contributing outputs.
4.13 Auditing and Reporting. BRI's accounts and SOB documentation wouldbe audited by the Government's Agency for Financial and DevelopmentSupervision (BPKP), which is acceptable to the Bank. The report of the
16/ Under the first KUPEDES project, disbursements were based on the higherof eithert (a) 10 percent of disbursements of new KUPEDES loanapprovals during a quarter, with a ceiling of 65 percent of the totalincrement in the RUPEDES loan portfolio outstanding during the firstyear of the project and 60 percent thereafter; or (b) 50 percent of theincrement in the total KUPEDES loan portfolio outstanding.
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external auditor, in English, would be submitted to the Bank annually and nolater than nine months after the end of BRI's fiscal year. Audit submissionsunder the first KUPEDES Project have been satisfactory, although BRI's auditedaccounts have been two-to-three months late. To help address this problem,BRI would provide to the Bank, copies of itp unaudited accounts (in English)at the same time they are submitted to BPXP, but no later than six monthsafter the close of its fiscal year. The auditing requirements would encompassthree areas: BRIT's annual accounts; the SOEs periodically prepared by BRI forreimbursement under the proposed loan, including the quarter-by-quarterdisbursements, repayments, and beginning and ending balances of theoutstanding KUPEDES loan portfolio during the period of project implemen-tation; and confirmation that reimbursements claimed by BRI are in respect ofUnit Desa operations and are consistent with the terms of agreements includedin the Loan Agreement with the Bank. These audit arrangements were confirmedat negotiations. BRI would also be required to submit quarterly progressreports, acceptable to the Bank, covering Unit Desa operations, as well as aProject Completion Report within six months following the loan closing date.
F. Proiect Benefits 4nd Risks
4.14 Benefits. BRI's Unit Desa experience to date clearly demonstratesthat a nonsubsidized, small credit program, with a strong emphasis on borrovetaccessibility and savings mobilization, can be efficiently and profitablyimplemented. At the same time, BRI has also demonstrated convincingly itsintention to compete efficiently and profitably in an increasingly deregulatedfinancial sector. Under the proposed project, Unit Desa operations would beexpanded and continued access to credit by eligible borrowers would beensured. In addition, as has also been demonstrated to date (paras.3.19-3.26), substantial socioeconomic benefits are expected to be derived fromthis growing program.
4.15 Risks. The major risk is that of deterioration in the KUPEDES loanportfolio. This is mitigated by BRI's satisfactory, albeit relatively short,track record to date, and its demonstrated commitment to making the Unit Desasystem a profitable and efficient profit center within BRI. Moreover,sustained emphasis on staff training and strong supervision, complemented withappropriate advisory and consulting services, will contribute towards thecontinued implementation of sound lending and supervision procedures that areassociated with the maintenance of a high-quality loan portfolio.
V. AGREEMENTS AND UNDERSTANDINGS
5.1 During negotiations, the following agreements and understandings werereached with BRIs
(a) BRI's updated Unit Desa Policy Statement and Unit Desa StrategyStatement, as adopted by BRI's Board of Managing Directors, would notbe amended vithout prior agreement of the Bank (para. 3.8);
(b) the agreement between BI and BRI concerning the repayment by BRI ofliquidity credits outstanding as of March 1, 1987, as agreed under
_ 34 -
the first XUPEDES project, would not be changed without the Bank'Oagreement (para. 3.28);
(c) in the event that arrears of one day or more should exceed 8 percentof the portfolio over a six-month period, BRI would furnish the Bank,within three months, information relating to actions taken and itsaction plan to reduce such arrears (para. 3.32);
(d) modification of the interest rate structure for i:'PEDES loans tofinal borrowers would be done only with the prior agreement of theBank (para. 4.9);
(e) SRI would continue to allocate to the Unit Desa Development Fund atleast 50 percent of the margin between the cost to Itself of the Baskloan pro*-eeds and the onlending rate to the Unit Desas (para* 4.9);and
(f) the formula for disbursement of Bank proceeds for KIPEDES loans(para. 4.11).
5.2 During negotiations, agreement and understanding were reached withthe Government on the lending terms to BRI (para. 4.8).
5.3 The condition of loan effectiveness is the signing of a subsidiaryloan agreement, satisfactory to the Bank, between the GOI and BRI (para. 4.8).
5.4 Recommendation. Subject to the above agreements, the project wouldbe saitable for a loan of $125.0 million to the Republic of Indonesia for 20years, including a grace period of five years, at the Bank's standard 'variableInterest rate.
35 -ANNE 1
INDONESIA
SECOND BRIIKUPEDES SMALL CREDIT PROJECT
Documents Available in the Proiect File
A. Bank Rakyat Indonesia (BRI)
A.1 BRI Corporate Plan (1989-93), dated June 26, 1989A.2 Review of BRI's Recently Implemented CP&P Manual, dated November
16, 1989A.3 BRI Annual Report 1988 (draft English version)
B. The BRI Unit Desa System and KUPEDES
B.1 Briefing Booklet - KUPEDES Development Impact Study (December 1989)B.2 Briefing Booklet - KUPEDES Development ImPact Study (final -
March 1990)B.3 Unit Desa Projections, 1990-92 (Various scenarios), including
sensitivityB.4 Plan for Recruitment of Unit Desa Staff - 1990 (dated May 9, 1990)B.5 Overall Training Position - December 31, 1989B.6 Unit Desa Staffing Position, by Region, as of December 31, 1989B.7 KUPEDES Loans Outstanding, mid-1987 through end-1988 (by sector and
type of loan)B.8 RUPEDES Loans Outstanding, by no., amount and region, December 31,
1878 and February 28, 19903.9 Unit Desa Deposits Outstanding, by type, no., amount and region,
December 31, 1990, and February 28, 1990B.10 Reporting Formats (from the Unit Desas to the Branch)B.l1 Reporting Formats (from the Branch to the Region)o.12 Draft circular outlining revised KUPEDES parameters (effective
May 1, 1990)3-13 BRI Internal Memo res Failure Rates of Trainee Candidates -
Bandung 1989B.14 Effective Interest Rate Schedule for KUPEDES Loans.B.15 Collection of all BRI Circulars (in Bahasa) issued in 1989, related
to the Unit Desa SystemB.16 Collection of all SRI Circulars (in Bahasa) issued in 1990, related
to the Unit Desa System
C. The Proiect's Capital Expenditure and TA Components
C.1 Booklet on Padang Unit Desa Training CenterC.2 Training Projections (1980-97): by regional center, staff and
classroomC.3 Actual Cost Figures for Padumg and Bandung CentersC.4 Summarized Specifications for Expanding Five Training Centers and
Estimated CostsC.5 Computer and Printer Specifications
D. Other
D.1 BI's SBI rates: January - March 1990, by type and date ofquotation.
-36- ANNEX 2
Page 1
INDONESIA
SECOND BRIIKUPEDES SMALL CREDIT PROJECT
Bank Rakyat Indonesia - Institutional Aspects
1. This Annex provides a brief summary of the Performance ImprovementProgram (PIP) that was initiated by Bank Rakyat Indonesia (BRI) with technicalassistance provided under Loans 2430-IND and 2800-IND. In addition, itprovides an overview of BRI's (i) organizational structure, (ii) loanportfolio, and (iii) financial condition and performance since 1984.
BRI's Performance Improvement Program
2. In July 1986, the consulting firm initiated the PerformanceImprovement Program (PIP) with BRI. A two-phased approach was formulated toachieve the objective of developing BRI into a more cost effective andprofitable organization. Phase I (July-November 1986) was a diagnostic reviewdesigned to identify all major potential areas for BRI performanceimprovement, define and set priorities for improvement, and develop anImplementation plan. Phase II (December 1986-April 1989) was devoted to thecreation and implementation of specific performance improvements. The secondphase was conducted on a best effort basis, with both parties understandingthat actual progress achieved would depend to a large extent on BRI's abilityto absorb change and its staff's skill and preparation levels.
3. At the end of Phase I, five areas were identified in whichsubstantial improvements were both needed and feasible in a relatively short(one to two year) time period. These were:
(a) Organizations Develop an effective senior management structure withclear assignment of accountability for head office divisions and amodel regional office;
(c) Operations: Improve branch efficiency and effectiveness bydeveloping and implementing a new structure, including bookkeepingand teller systems, in a model branch and preparing a roll-out planto extend the model across the bank;
(d) Manpowers Upgrade staff skills and attitude by developing four corepersonnel systems, strengthening the training infrastructure,implementing these for credit staff, and launching a bank-wideculture change program; and
(e) Credit: Improve overall credit management by building a new creditmanagement organizational structure (branch, regional, head office),improving selected credit procedures, and piloting these cmanges in asegment of the organization.
-37 - ANNEX 2Page 2
Although consultant input was originally scheduled to be completed within twoyears, a further year and a half of support was necessary to cover the actualintroduction of the new organizational structure, systems and procedures intoBRI. The results of the PIP are discussed in the paragraphs below. Fullimplementation of the PIP, of course, continues, as institutional reform is along-term and ongoing undertaking.
BRI's 1989 Corporate Plan
4. BRI's PIP has helped prepare the institution for increasedcompetition and, in 1989, led to the adoption of a new Corporate Plan. ThePlan sets BRI's strategic direLtion for the next five years by defining itsposition in the new market place based upon its expected competitiveadvantages. The Corporate Plan builds on BRI's position as a premier retailbank in Indonesia by emphasizing the provision of financial and relatedservines primarily to consumers, small businesses and agricultural segments ofthe domestic market. It also acknowledges that BRI's proven capability tomobilize private domestic funds from this market will provide resources forlending and commercial banking services to a select corporate clientele.
5. BRI's Plan encompasses five business areas and builds on currentinstitutional reforms underway. The Plan identifies BRI's extensive branchand subbranch network as its key asset and incorporates activities andprocedures designed to maximize use of this asset. With regard to businessopportunities, BRi plans to pursue aggressive growth in its Unit Desa andconsumer/small business activities and more selective, focused development ofcommercial, corporate and agricultural activities. The percentage breakdownof BRI's 1988 average assets by business activity (including treasuryoperations), and the redistribution of assets expected by 1993 if BRIsuccessfully implements its Plan, are summarized in Table 1 below.
Table 1: PERCENTAGE CHANGE IN DISTRIBUTION OF BRI'S ASSETS
Z Distribution of Expected X Distribution of1988 Average Assets Average Assets by 1993
Unit Desa 5.4 8.2Consumer/Small
Business 33.4 44.5Commercial 23.8 22.2Agricultural 15.4 14.0Corporate 7.5 4.7Treasury
Operations 14.5 6.4
TOTAL 100.0 100.0
6. The significant expansion for Unit Desa and consumer/small businessactivities implied in the Plan reflects the strong competitive position of BRiin these areas. Based on analysis included in the Corporate Plan, preliminary
-38- ANNEX 2Page 3
data for 1988 indicate that BRI has captured 55 percent of the village-levelmarket for credit (the remainder being provided by pawnshops, paddy banks andvillage banks) and 99 percent of the market for deposits. BRI is also aforerunner in consumerlsmall business credit with a market share of40 percent. By comparison, BRI is a very small participant in the commercialand corporate markets with 1988 market shares of 10 percent and 4 percent,respectively. The profitability of these operations has also been minimal.Recognizing these factors, BRI expects that its exposure in comuercial lendingwill not significantly change over the next five years and that it willprobably lose some corporate customers to stronger competitors in the market.Due to its previously mandated exposure to agricultural sector lending, BRI'smarket share of agricultural credit is commanding (42 percent); theperformance of this portfolio, however, in general has been poor due to thevery large number of relatively small loans at low net interest margins. Inparticular, 'channeling' loans (those loans for which BRI acts asadministrator for government-funded but noninterest-bearing credit programs),which account for only 14 percent of BRI's total agricultural credits,contribute to 54 percent of overhead expenses for the agricultural portfolioand have a negative return on assets of nearly 25 percent; the remainder ofthe agricultural portfolio has a return on assets of 1.6 percent. As a resultof this performance record, BRI intends to emphasize a consolidation of itsexisting agricultural portfolio and will place future lending efforts ondeveloping its agribusiness portfolio.
Management, Or anization and Staffing
7. ManaRement. BRI's five member Board of Managing Directors isresponsible for implementing the regulatory policies set by the Ministry ofFinance (MOF) and BI; each director, with the exception of the President-Director, also has a distinct supervisory function for certain activities ofthe bank. The organization chart for BRI's Head Office is presented inAttachment 1. Each board member is appointed by the President of Indonesiafor a five-year renewable term. The three members of the Board of Supervisorsare also appointed by the Government for a three-year term; this Board isresponsible for ensuring BRI compliance with established banking policies andregulations. As the government role in funding priority programs andallocating credit has diminished with the liberalization of the financialsector, the autonomy of BRI's management in establishing credit policies andprocedures has increased. A significant outcome of BRT's PIP was theadoption by BRI's Board in 1988 of a new Credit Policy and new CreditProcesses and Procedures (CP&P). The CP&P explicitly recognize the role ofBRI's Board of Directors in establishing appropriate policy guidelines ratherthan focusing on individual lending decisions. The new policy establishes theCredit Policy Committee, which includes the Board of Directors, the fourmanagers of the various business departments, the managers of the CreditAdministration and Planning and Research Departments, as well as BRI's ChiefAuditor, Treasurer and Legal Counselor. The Committee meets as necessary todiscuss changes in credit policy to be proposed to the Board, but regularmeetings of the Committee are anticipated in the future.
8. Organization. BRI's current organization comprises its Head Office,15 regional offices, 315 branches and about 2,850 Unit Desas. A key featureof BRI's PIP was the reorganization of head office and regional activities.It was recognized that BRI's former organization largely reflected its
ANNEX 2Page 4
functions as an agent of the government. The organization of BRI's operationswas chiefly according to available credit lines and staff initiative waslimited to directing applicants to the appropriate lending mechanism;accountability for lending decisions was diffuse. Important outcomes of theorganizational recommendations of the PIP were tot (i) give BRI'sorganization a "business' focus; (ii) establish greater control over regionaloperations; and (iii) strengthen the internal audit function.
9. In o-der to strengthen BRI's commercial orientation, it wasrecognized that staff attitudes needed to change from reactive transactionmanagement according to existing credit lines to proactive customerrelationship management. As a first step towards making this significantchange, BRI in 1988 reorganized its head office and regional staff along thefive business activities discussed in para. 5 above: Unit Desa, smallbusiness, commercial, corporate and agriculture. The Unit Desa and smallbusiness departments have been placed under the authority of one managingdirector, while each of the other three managing directors has responsibilityfor one of the remaining business departments. Moreover, the newly adoptedCP&P (para. 3.8) include a number of measures to help staff make betterlending decisions (the most important of which is basing lending on cash flowanalysis rather than collateral coverage) and to hold staff accountable fortheir decisions.
10. Prior to the 1988 reorganization, the 15 regional managers reporteddirectly to the President Director. Now, three regional groups have beenestablished under the supervision of the managing directors and new linemanagement positions of Regional Business Managers have been created in theRead Office to help monitor regional operations. The organization of regionaloperations mirrors that of the Head Office.
11. In the context of the 1988 reorganization, the internal auditfunction was also strengthened considerably. A separate department, bothwithin the Head Office and the regional offices, was created, headed by thenewly appointed Chief Auditor who reports directly to the President-Director.Within the department, a Professional Practices Group focuses on thedevelopment of a new Technical Audit Manual to guide the work of all auditors.It must be recognized, however, that auditing standards within the country arestill weak and the number of well-qualified auditors is very limitednationwide. The Bank is currently implementing, under Loan 2940-IND, a long-term project with the Government aimed at strengthening the accounting andauditing capacities within Indonesia. BRI accepts the need to better trainits own audit staff and has developed three new basic audit training coursesthat have been delivered already to about 350 staff.
12. Staffing. As of year-end 1989, BRI's staff numbered about 33,000;about 30,000 are permanent personnel and the remainder are monthly/daily wageearners. About 40 percent of BRI's staff is assigned to the Unit Desas. Thevast majority of BRI's staff comprises high school graduates. About 1,100staff members have college degrees and only 14 have masters degrees, althoughBRI is currently sponsoring another 20 people in their masters degreeprograms. While BRI accepts that the overall number of staff is sufficient,pockets of over-staffing do exist, particularly at clerical levels, and thequality of current staff may not yet be equal to implementing the significantprocedural changes implicit with the retent reorganization and PIP. In
-40- ANNEX 2
Page 5
addition, a number of departments are understaffed at the professional level.To deal with these issues, BRI management is considering offering incentivesfor early retirement for those staff not likely to meet its new institutionalrequirements (roughly estimated at 1,500). In addition, a significanttraining program (largely in-house) is underway to upgrade the capabilities ofexisting staff (para. 14 below). BRI is also actively recruiting staffdirectly from universities with the objective of bringing on board about 300new graduates per year for the next ten years.
13. Historically, staff turnover in BRI has been low (in 1987, only 279employees out of 31,290 left BRI for reasons other than retirement) duelargely to strong institutional loyalty and a salary and benefit packagecompetitive with those of the other SCBs. It is unclear, as yet, howincreasing competition within the banking sector will effect future turnover,particularly for staff with college and graduate degrees who may be able tocoimand better compensation from the private sector.
14. Trainina. Training represents a considerable undertaking for such alarge and diverse staff. A substantial in-house training program isadministered by BRI's Training Department. As the Department is small (21authorized positions of which only ten are now filled), it focuses ondeveloping course materials with the support of relevant operational staff andtraining trainers from within the ranks of BRI staff. Apart from Unit Desaoperations (para. 3.11 of the SAR text), training in 1988 was targeted toabout 5,600 account and credit officers to help implement the new CP&P; a fewcrash programs in new operating procedures for auditors, bookkeepers andtellers were also offered. In addition to in-house training, BRI recentlyconcluded a program with Citibank for staff training in retail bankingoperations and maintains an ongoing relationship with LPPI, the traininginstitution supported by the banking sector in Indonesia, for training relatedto branch operations and foreign exchange operations. In 1989, about 250staff benefited from external training courses. BRI's 1989 training budgetamounted to about ap 15 billion (about $8.3 million) and will increase toabout Rp 25 billion (about $13.9 million) in 1990.
Quality of Portfolio
15. As indicated in para. 3.1 of the SAR text, a substantial portion ofBRlI's loan portfolio has been extended under the direction and with thefinancial backing of the Government. For 1989, BRI carried the direct creditrisk on only about 40 percent of its loan portfolio; the remainder of theportfolio is 75-100 percent guaranteed by the Government or one of itsagencies. Experience to date indicates that the Government has honored itsguarantee commitments to BRI. In keeping with banking practice in Indonesia,BRI (as well as the other SCBs) classifies loans with 100 percent guaranteesas fully collectible, regardless of current repayment status. For delinquentloans, only those portions of loans not covered by guarantees and those loansfor which BRI carries the direct credit risk are adversely classified. As aresult, BRI's audit for 1983 shows that 92 percent of its total portfolio iscollectible, 4 percent has slight problems, 3 percent represent doubtfulaccounts, and 1 percent is bad debt. However, for the portion of theportfolio for which BRI bears the credit risk (loans made without guarantees
- 41- ANNEX 2Page 6
plus the unguaranteed portion of directed creditsl/), about 85 percent isclassified as collectible. Provisions for possible losses amounted to3.5 percent of the 1988 loan portfolio. In 1986, BRI experienced a windfallof Rp 118 billion as a result of the September devaluation which was used tocharge off doubtful loans and restore the provision for possible loan losses.Collections against previously written-off amounts were healthy in 1987 and1988 (Rp 19 billion and Rp 14 billion, respectively), and consequently thepressure to write off debt over the last few years has been reduced.
16. Despite the rather encouraging picture that emerges regarding thequality of BRI's portfolio according to local audit criteria, BRI managementhas recognized the need for a more rigorous portfolio evaluation to help guidefuture lending activities and launch effective (and financially feasible)collection programs. As a result of the PIP and implementation of new creditprocedures, a monthly monitoring system of BRI's total loan portfolio becameoperational in April 1990. This system is based on account-by-accountrecording of performance by the responsible account officer starting at thebranch level and aggregating through the regional and institution-wide levels.The accuracy of recording is periodically monitored by credit administrationand internal audit officers. Accounts are presented according to BRI's fivebusiness activities and subdivided by funding source (various liquiditycredits, World BanklADB loans, BRI's own resources, etc.). Moreover,objective classification criteria (similar to those employed in the UnitedStates) are utilized. Accounts are classified as current or receive one offour adverse classifications:
(a) Accounts Requiring Special Mention: There is evidence of weakness inthe borrower's financial condition or creditworthiness, althoughpayments of principal and interest are timely. The borrower issubject to an unrealistic repayment program or has inadequate sourcesof funds. There is lack of adequate collateral, credit information,or documentation to support the loan. If sufficiently severe oradvanced, these or other conditions will warrant a worseclassification, and therefore early attention, including substantivediscussions with borrowers, is required to correct deficiencies.
(b) Substandards Normal repayment of principal and interest may be. orhas been, jeopardized by severely adverse trends or developments of afinancial, managerial, economic or political nature. No loss isforeseen but a protracted work-out is a possibility. Promptcorrective action is therefore required to strengthen BRI's positionas a lender, andlor to reduce its exposure, and to assure thatadequate remedial measures are taken ',y the borrower.
(c) Doubtful: On the basis of information available, full collection ofprincipal appears questionable, and therefore a degree of eventualloss is possible, although the amount or timing of loss is not yetdeterminable. Full repayment through normal sources appearsquestionable and positive and vigorous action by BRI officers isrequired to avert or minimize the loss.
1/ For the purpose of this calculation, the 60 percent of the outstandingportfolio which carries 75-100 percent guarantees has beenconservatively estimated to be guaranteed at only 75 percent.
-42- AN 2! ~~~~~Page 7
(d) Loss (Write-Off)s Outstandings are regarded as uncollectible. Anyamount so classified by management, auditors or other regulatoryauthorities should be promptly written off. Responsible units areexpected to continue a vigorous collection effort usually for twoyears (shorter if it Is established that no further repayment orrecovery is possible).
Accounts which are classified as current are reviewed quarterly, while thoseadversely classified must be reviewed and updated each month. Given thatBRI's portfolio monitoring system has only recently been introduced, systemrefinements are to be expected ane modifications will be introduced, asnecessary, in light of operating experience. As an outcome of the portfoliomonitoring system, BRI intends to establish a unit to be responsible forproblem projects.
Financial Condition and Performance
17. Financial Condition. BRI's audited financial position for 1984-88and provisional data for 1989 are summarized in Attachment 2. During 1984-89,BRI's assets grew at an average annual rate of a'out 23 percent, reachingRp 14.7 trillion by year-end 1989. A significart portion of BRI's increase inassets, particularly over 1987-89, is attribute le to its successful resourcemobilization efforts. Demand, time and savinr deposits have all steadilyincreased over 1984-89, from Rp 1.6 trillion to Rp 6.9 trillion. The increasein deposits has resulted in excess liquidity for BRI which has largely beenreflected in increased SBI holdings. With the recently announced retrenchmentof BI liquidity credits, however, it is expected that BRI will increasinglyfund its lending operations from its deposit base. Adjusting for BI liquidityfunding and Government loans, BRI's loan-to-deposit ratio in 1989 was85 percent. As of year-end 1989, 78 percent of BRI's assets and 80 percent ofits liabilities were short-term, for an asset and liabilitylequity structurewhich is reasonably well matched, albeit increasingly short-ternm as BRIevolves into a more commercially oriented banking institution.
18. As shown in Table 2 below, loans account for about 75 percent ofBRI's 1989 total assets. Like the other SCBs, BRI's capitalization level isvery low with paid-in capital of only Rp 300 million (authorized in the Law ofEstablishment of BRI); as of year-end 1989, paid-in capital and reservesamounted to Rp 167.9 billion and retained earnings were Rp 121.3 billion(excluding loan loss provisions of Rp 414.5 billion). BRI has been unable tobuild up its capital base through profit accumulation as the Governmentappropriates 45 percent of annual net after tax profits. Given its status asa fully government-owned bank, this low level of capitalization has not been acause for great concern. However, with the increasing deregulation of thefinancial sectoF and BRI's attempts at greater commercialization, steps willneed to be considered to establish BRI's financial independence so that it cancompete on equal terms with other banks. Reforms relating to capital adequacyof the state banking sector as a whole, including policies on the write-downof substandard assets and establishing dividends, are currently underdiscussion with the GOl (para. 1.6 of the SAR text).
-43- ANNEX 2Page 8
Table 2: SUMM OP I LENDING AND oBR ONG OPERATIONS, 1984-89(Rp billion)
Government loans 106.1 104.8 188.9 16.6 812.6 544.6
/a Net of provision for bad debts.
19. Financial Performance. BRI's income statements for the period1984-89 are summarized in Attachment 3. An overview of BRI's financialperformance is presented in Table 3 below. Net profit as a percentage ofaverage total assets has not surpassed the 0.8 percent achieved in 1984, buthas steadily improved from 0.5 percent in 1985/86 to 0.7 percent in 1989. TheUnit Desas havy significantly increased their contribution to BRI's income,accounting for about one-third of earnings before taxes in 1988 and 1989(para. 3.31 of the SAR text). BRI's spread on lending has also steadilyincreased from 5.9 percent in 1984 to 8.2 percent in 1989.
-44 ANNEX 2Page 9
Tnbl8 as ZDICATORS OF 9R1'S FIANCIAL PERFORMANCE, 1984-89
of Average Loan Portfolio 12.6 12.8 18.6 16.2 16.9 17.1(1) Financial expenses as X
of Average Dorrowing 8 6 6.9 7.2 8.0 9.2 9.0(m) Spread on Lending (h-§) 5.9 7.0 6.6 7.8 7.7 8.2
ProVIl1on for Dad Debts asXOf Dutnetndine Loan Portfollo 2.7 2.8 8.2 8.1 8.5 8.8
-IDONESUAS#COND BRI/KUPEDES SMALL CREDIT PROJECT
Or,aniational Struoturo of BIW Headquarters (As of December 31, 1989)
*- I
HH H s F r H ~~~~~~~~~~~~- EUH
s1 E s E E a -E.
F F~~~~~~~~~~~~~~~~I
-46- _
INDOISSIA
M5300W allzmKUNDBS SMALL CUDST PROJECT
Bank Rekvat Indonesia
Audited Balance Sheets 1984-89 and Provilioga'.. 1909
As of December 31 1984 1985 1986 1987 1988 1989
ASSETSCurrent AssetsCash on hand 97.9 155.1 194.4 217.7 213.9 251.6Due from Bank Indonesia 399.6 442.5 321.2 665.5 1,047.8 974.5Due from other banks 83.4 43.6 352.0 152.6 179.7 299.1Notes 29.0 53.4 170.8 42.2 45.2 83.8
Short-term loans 3,062.3 3,304.2 3,688.6 4,569.1 5,207.7 7.834.5Less. Reserves for bad debts 77.7 87.9 107.2 141.4 199.3 325.8
Net Short-Term Loans 2.984.6 3.216.3 3.581.4 4A427.7 5.008.4 7.508.7
Assets in foreign currency 292.2 362.9 652.4 388.4 849.8 1.735.7Other current assets 259.4 318.4 340.1 180.8 471.5 669.2
Total Current Assets 4.146.1 4,592.2 3,613.1 6,074.9 2.816.) 11.522.6
Long-Term AssetsLong-term loans 1,002.0 1,041.1 1.088.3 1,464.6 2,560.3 3,144.4Lesst Reserve for bad debts 33.7 34.4 43.9 48.5 69.2 88.7
Net Long-Term Loans 968.3 1,006.7 10944.4 1,41U6.1 2,491.1 3.055.7
Equity participation 3.0 3.2 3.4 3.7 4.0 4.0
Total Long-Term Portfolio 971.3 1.009.9 1.047.8 1.419.8 2.4195.1 3.059.'
Net fixed assets 64.7 74.0 81.9 85.8 108.0 144.7
Total Long-Term Assets l.036.0 1,083.9 a.129.7 l.505.6 2,603.1 3.204.4
TOTAL ASSETS 5.182.1 5,676.1 6.742;8 7,580.S 10.419.4 14.727.0
Total Long-Term Liabilities 1.101.1 1.155.0 1.306.3 1,32S.1 2.041.5 2.543.9
Paid-up and reserves 54.7 72.0 76.7 105.5 134.0 167.9Retained earnings la 30.6 27.3 58.5 43.6 62.5 121.3
Total Esuity 85.3 99.3 135.2 149.1 196.5 289.2
TOTAL L!A8ILITIES AND 30gJTY 5,182.1 5,676.1 6.742.8 7,580.5 10.419.4 14.727.1
!a Each year. net profits are appropriated to various reserves and the Government;i.e., retained earnings are not accumulated.
. -47 ~ AN=EX 2Attacbment 3
INDONESI
SECOND BRIIKUPEDES 8& CREDIT PROJECT
Bank Rakyat Indonesia
Audited Income Statements, 1984-88 and Provisional 1989
(R.p billion)
1984 1985 1986 1987 1988 1989
Income
Interest 381.7 507.0 600.0 780.1 1,109.2 1,528.1Comissions and fees 20.7 32.6 27.9 42.2 S5.5 76.'Foreign exchange transactions 21.0 37.8 38.4 26.4 26.5 63.5Other operating income 28.0 27.4 25.8 58.4 56.1 71.'Profits from operations outside the above
Subtotal operating income 451.4 604.8 809.9 907.1 1,247.3 1.740.:
Nonoperating income 0.5 2.0 0.5 5.6 16.8 23.4
Total Income 451.9 606.8 810.4 912.7 1,264.1 1.764.t
Exgenses
interest charges on borrowings 212.5 299.2 39b.0 509.5 730.6 947.1Salaries and other personnel expenses 112.0 143.2 149.1 161.2 !189.6 234.1other operating and miscellaneous expenses 44.0 69.5 61.4 71.0 106.1 2144Depreciation 5.4 6.0 11.3 12.9 17.6 22.tProvision for bad debts 29.2 43.1 145.1 87.4 119.1 222.;Nonoperating expenses 0.6 1.3 0.1 0.5 0.9 0.O
Total Expenses 403.7 562.3 760.0 842.5 1.163.9 1.642.
Net income Before Taxes 48.2 44.5 50.4 70.2 100.2 121.!
Less: Provision for taxes 17.6 17.2 19.1 24.1 38.8 ha
Net Income 30.6 27.3 31.3 46.1 61.4 na
-48-
-um=.~ ~ ~~~~~~gJ * IMJIO M9mn C Id 1AI
Wortd Dank Ocul*AsLian |Develoummt Dnk Fwd to 33 1972-36
Lcon/Credit No./ Year Amont of Outstando a ofProj*ect Ttl- Appro1sad Lean/grant Purpose O ecombe * SS8
C(USS mlillion) (Rp billion)
The World Dank Gr-ou
IDA (International DovoloomentAssociation
Cr.855-Rmp, Bee Cettl- Dvelipmst 1 8.10 To introduce moden raning tUchnol- 1,1increase, beed/pattle Produc-
Cr.400-Z1D, Snnliholdor end Prtva t 1675 7.60 To robhbi I ltth and develop trn 2,817Estae TSa Project iadutry In West Jave
Cr.480-NDO, Fisheries Credit Project S14 6.60 To accelerate 8orre,rO progts to 2,241lcreas productlon fro te fttshr-lee resources for both domesticon--umtion end export to provideIncreasd employme portuniticoand lneome
cr.827-MN, Rural Credit Projet 197 8 0.00 To epend end lmproe suply of Ion 45,24term credit to emllbolders In , 6-Culture, livestock, fishri related eubsectors
Cr.9JS4-D, Smailhelder Rubbwr 10 16.O0 (a) To r,le In... of eaioldor 7,049Development Projet fatliso
(b) To lner_ee tIdomnase tofoln_exthow _ rninb tne rubber
(o) To build l teonl fraeorkand date bte for the naiSOlrubber pror
Subtotal IDA BAN;
1330 tlnternatlonel Bank forsoo>n tuloa n h l_
Ln.1858-IER, *h. Urban Development S.76 "a. To provid, basic servicoe aimed at 10,7Project Improving the bealth and eavirooms
e I condition of los-lncom neigh-borhoods
Ln.1S9#-IND, Smellbolder Coconut 1260 10.25 To provide cendit to wsellboldere for lO,II?Dev"lopment Project nonferm coconut develoPMI
Ln.2702-SKD, toP I Ms6 17.20 To provide credit for fIaenoine 19,0sexpert-orlSeted Investments
Ln.2778-DO, FtPP 1Y7 3.27 To provide credit for PT DalI for 1,48CI buildng suppoting station (coldstorage) In busmere
Ln.2800-DND, Kupedr Smell Crdtit 101.30 (a) To support BR efforts to 171,develop tUh Unit Dea" t(ub-branch) systMe
(b) To aenurag 33l to lmprov Itsresorces obilisation efforts
(c) To reduce RI'o rellance on Iliquidity credits for theKUPEIlES progra
Cd) To lmprov the overall Indtltu-tierFl capablittis of IRI
-49-
Loan/Credit No./ Year Amount Of Dutetetdii as ofProject Tltle Apprnle Loon/ rnt Purpose _eamber n, 198S
(USt million) (Rp bilioln)
Ln.2979-VND, EPt 11998 80.00 To provide credit for fin nlaing 17,501export-oriented investments
Ln.08 DI, IVP 1939 26.00 To provide credit for finna:ci oIndust rial rosrueUtrirg IoatnvfIn the textl l, engineering, pulp andpaper aectore
Ln.8041-M, SNIEP 199 20.00 To provide credit for financing small 0and medium Industrlal Inveetente
Subtotl I238 221 E4SUSubtotal World Bank Group 284.26 $04
aDS (Asoin Deloamet Prolect)
Ln.444-IND South Kalimantan 1979 15.00 To lncrease Oh numbr of cattl-/ 12,981Livestock 6 elomept Project goea In Soth Kalimantan Province;
to supply breding and draft animalsto transaigranta and emeiholdere
Ln.474-IND, Sumartr Fiherlo 1#O8 4.50 To assist the rural poor, In particu- 2,064Development Project lar the arteanol fishermen nd fleh
farmere
Ln.57-10,, Sumatra Livestock 1981 2.80 (a) To Improve the income end nutri- 1,626Deelomesnut Project tional level of the poorer
people in the projeKct area(b) To prowmot herd expansion and
improve_nt
i.m6a6-IND Second Irian J.ya 1982 0."7 To devwlop coae tl fishermen 0Fisheries 6 _lopnt Project
Ln.577-DID Second Agricultural 1S82 20.55 (a) To str ntrhen and expand the 36Credit Project operation of KW* to serve
farmer(b) To promote participatlon of
rural poople In the alnstremof development, Increeing theirincome
(c) To dletribute bneits ot' deel-opment to a wider se_ment of therural population
Ln.B9S-ND, Brackiewater Aquniulture 1982 2.30 (a) To Increas productbon of shrimp 0enveopment Project and *itkflih from brackieuemter
aquaculture(b) To Improve eooocot_mitc condi-
tion ef ema l-scal fatrmre bylnocer ing their lcome"
(c) To enerate foreign exchange-arningp from shrimp e"port
Ln.697-10 Ebnt Java Agricultural 1988 2.70 To achieve two objectives, via. 17Credit Project increasing ice and eubeidlery food
Ln.742-ND, FiUP 1988 16.25 To provid, credit for ftishrles In 23,296Indonesia
Subtotal AD3 - 122.47
Total World Bank OroumIADS 406.73
-50 ANN- 4
INDONESIA
SECOND 8RIIKUPEDES SMALL CREDIT PROJECT
Bank Rakyat Indonesia Unit Desa Policy Statement(Adopted by BRI's Board of Managing Directors on June 8, 1990)
BRI regards the provision of a broad range of banking services asessential to promote economic development. BRI's basic objective for the UnitDesas is that they become true financial intermediaries that are able to meetthe needs of both rural and urban people for a wide variety of bankingservices--not only credit, but also savings and other financial services--while remaining financially viable, able to operate without government or anyother subsidy. BRI's management of the Unit Desas will be guided by thefollowing principles:
(a) Credit should be available to any creditworthy person or enterprisethroughout the country. This credit should not be targeted toparticular activities chosen by someone other than the loanapplicants. The final decision on loan applications should be madeby the bank based on sound banking considerations. Loans made byUnit Desas for purposes other than directly productive activitieswould not exceed 10 percent of the total KUPEDES portfolio.
(b) Interest rates on credit must be sufficient to cover all costs,including the cost of unsubsidized funds operating costs and loanlosses, and also provide a profit margin in order that the BRI UnitDesas will remain financially sound and be able to develop theiractivities.
(c) To encourage savings mabilization, the BRI Unit Desas should offer abroad range of savings instruments on which they pay positive realrates of interest structured according to the ease of withdrawalunder each instrument.
(d) The BR! Unit Desas should introduce other banking services as theseare needed by their customers, but should calculate carefully whethertheir costs in providing these services can be covered.
(e) BRI should provide Unit Desa services as close to the bank clients asis financially feasible. This reduces the transaction costs toborrowers and savers and thereby provides them with genuine access tobanking services.
(f) The BRI Unit Desas will abide by all relevant regulations of theGovernment concerning environmental impact. In assessing thecreditworthiness of a borrower, the Unit Desa staff should considerthe environmental impact of his enterprise. Loans should not begiven to support enterprises which are destructive of theenvironment, particularly those which release dangerous chemicals orother polluting waste products to streams and rivers, or those whichmigh* cause destruction of protected forests.
-51- AN 5Page 1
INDONESIA
SECOND BRI/KUPEDES SMALL CREDIT PROJECT
Bank Rakyat Indonesia Uhit Desa Strategy Statement(Adopted by BRI's Board of Managing Directors on June 8, 1990)
1. The strategy of BRI In the operation of the Unit Desas focuses on theprovision of access to credit, savings, and other banking services at con-venient locations in the villages, towns and cities throughout the country.This access is valuable to the people only if it is long-term, not dependenton uncertain budget allocations for loanable fundq or subsidies. The basicrequirement for expanding long term access is that the Unit Desa system as awhole must remain financially viable. Each of the elements of expansion andImprovement of access with financial viability is discussed below.
Credit
2. At present the Unit Desas have a single credit instrument, XUPEDE8(General Rural Credit), which is available for any creditworthy individual orenterprise. RUPEDES is demand driven rather than targeted. The loan appli-cant decides the use for which he needs credit, whether this is for investmentor for working capital. Very little effort has been made to urge people toborrow, or even to advertise widely the availability of KUPEDES.
3. BRI Unit Desas will continue to expand credlt as long as there is ademand for credit from applicants who are considered creditworthy, loan repay-ment remains satisfactory, and adequate staff to evaluate and supervise thecredit are recruited and trained. In the future, there will be somewhat moreemphasis on informing potential borrowers of the availability of KUPEDES andthe terms and conditions for borrowing.
4. Special effort will be made to contact two types of entrepreneurs whoappear to have high potential as borrowerss
village-based suppliers and agents of entrepreneurs who are long-term, reliable BRI Cabang (branch) customers; and
owners of small industries located in "industrial center, villageswhere the Ministry of Industry has concentrated technical assistance,who need investment credit to upgrade productivity and productquality.
Punds Mobilization
5. BRI Unit Desas now offer five types of savings instrumentst GIRO(demand deposits), DEPOSITO BERJANZA (time deposits), TABANAS (passbook sav-ings) SIMPEDES (Village Savings Program), and SIMASXOT (Urban SavingsProgram). The bulk of savings at the Unit Desas are in SIMPEDES which pro-vides positive interest rates, unlimited withdrawals, and a semi-annual
- 52 - > ANNEX 5Page 2,
lottery. SIMASKOT is a never savings instrument similar to SIMPEDES which isbeing offered in Unit Desas and Cabangs in cities and towns.
6. At present, the Unit Desa system as a whole, though not all indivi-dual Units Desas, has mobilized moze savings than is required for lending inKUPEDES. Savings in excess of lending requirements in a particular Unit Desaare kept with the supervising Cabang. In the rural Cabangs as a whole, sav-ings are less than credit.
7. For BRI, a large number of relatively small savings accounts providesa stable source of loanable capital. BRI Units will continue to offer liquidsavings instruments at convenient locations throughout the country for mobi-lizing savings from households and small businesses.
Location
8. The location of Unit Desas and Pos Pelayana Desas (PPDs--cash officesoperating under a Unit Desa and staffed by a two-person team for one to sixdays a week) is under constant review by the PINCAs (heads of branches). Theyhave authority to open new PPDs or Unit Desas, to close a PPD, or to downgradea Unit Desa to a PPD. If a PINCA is convinced that it is financially feasibleto open a new PPD or Unit, he either reassigns staff or asks the Wilayah(regional office) to recruit additional staff.
9. Because of the origin of the Unit Desas as facilities for handlingBI3AS agricultural production credit, areas with large areas of irrigated ricehad fairly dense coverage with Unit Desas, whil, areas with very little irri-gated rice were not covered at all. This distribution of facilities did notfit well with the concept of Unit Desas which make KUPEDES loans for all typesof productive activity. During the period 1984 through 1986/87, staff andfacilities were reallocated to locations closer to the present clientele andUnit Desas with low potential were closed or downgraded to PPD status. Thistype of reallocation has essentially been completed.
10. Prom 1987 to the present, BRI has been expanding Unit Desa and PPDfacilities. This expansion follows two different paths, depending on theprevious density of coverage of the area:
(a) In the rice growing areas where there was previously reasonably densecoverage, a new PPD under an existing Unit Desa is established at alocation more convenient to a significant number of existingborrowers and savers or in a location at which the PINCA believesthat there are a sufficient number of potential new borrowfrs orsavers. If the business activities of the PPD increase rapidly andapproach the size necessary to support a four-person Unit Desa staff,the PPD is upgraded to a Unit Desa. As existing Unit Desas reach anupper limit of 11 employees, including staff for PPDs, they are nor-mally split into two Units to move closer to borrowers and savers, aswell as to speed up service by increasing the number of decision-taking managers; and
-53- ANNEX SPage 3
(b) In areas where there were previously no Unit Desas, such as tree cropareas or in towns and cities, PINCAs can establish new Unit Debasdirectly vith the agreement of the PINWIL (head of the regionaloffice).
Thus the extension of Unit Desas in terms of total number of locations is anongoing process based on local conditions, analyzed by the PINCA and hisstaff. The key problem in expansion is recruitment of adequate staff.
Recruitment
11. From 1984 through 1986, as the Unit Desas retrenched, very few newstaff were recruited. By the end of 1986, the financial viability of the UnitDesas was clear and the Unit Desa system began to expand. However, it hasproved difficult for the recruitment system to meet staff requirements forthis expansion. By the end of 1989, there were more vacancies in existingUnit Desas than at the beginning of the year. No staff has been recruited forthe authorized 5 percent reserve at Cabang to fill temporary vacancies whileUnit Desa staff are sick, on leave, or in training.
12. There are two parts to the problem. First, recruitment in the pasthas started only after a position has become vacant. This would possiblyproduce a replacement in about one year. Second, the eligibility require-ments, which were set when there was a surplus rather than a shortage of UnitDesa staff, reject too high a percentage of applicants.
13. For 1990, all PINCAs have estimated requirement of additional staffbased on the present number of vacancies, including those for the 5 percentreserve, the estimated increase in business in present Unit Desas, plans fornew Unit Desas and PPDs, and an assumed rate of attrition. These estimateswill serve as the target for recruitment of Unit Desa staff by the Wilayahduring 1990. This system of estimation will be repeated at the beginning ofeach year, and the budgets of the Cabangs and Unit Desas will be based on theassumption that the recruitment targets will be reached.
14. Some of the eligibility requirements have been revised so that alarger percentage of the applicants will ultimately be recruited. Forinstance, psychological tests will not be required for entry level jobs ofcashier and bookkeeper, but will be retained for promotion to management posi-tions of Mantri (loan officer) and Kaudes (Unit Desa manager).
Training
15. Five training centers for Unit Desa staff are in operation, with 780people in training at any one time. Most of the classes and housing accommo-dation is currently in rented space. The first phase of construction at eachof the centers will be completed during 1990 and will provide 14 classroomswith corresponding dormitory and other facilities. A second phase of con-structiQn, to provide an additioital 9 classrooms, 5 computer laboratories anddormitory and other facilities, is planned for 1991.
- 54- ANNEX SPage 4
16. Over the next three years, all staff will have had an initial train-ing course of four to seven weeks. Thereafter, new entrants and thosepromoted to new jobs within the Unit Desa system will take the initial coursefor their new job, and all staff will have refresher courses at least everytwo years.
Incentives
17. The success of the Unit Desas is dependent of the quality of judge-ment of the staff and the diligence with which they perform their duties. Toencourage good performance, the level of salary and other compensation of UnitDesa staff was equalized with that of the Cabang staff in June 1989. In addi-tion, a special incentive system based on profits has been provided since thefirst year of KUPEDES lending; 10 percent of a Unit Desa's profits are avail-able to be paid as staff incentives (proportional to the basic employeesalary). Also, special contests are announced from time to time promoting themobilization of savings and other operational activities which the seniormanagement of BRI wishes to emphasize. Special awards are given to Unit Desasthat win these contests.
18. As a general incentive to the Unit Desas to mobilize savings, BRI hasset the internal transfer price, the interest rate charge by the Cabangs forliquidity provided to the Unit Desas, at a level higher than the rate paid forsavings. This practice will continue in the future.
Monitoring
19. Monitoring and evaluation of Unit Desa performance is extremelyimportant in order to ensure smooth operation and achievement of objectives.This monitoring and evaluation includest
(a) A management information system designed to provide contise, criticalinformation on lending, savings, arrears, profitability, numbers ofborrowers and savers, and other critical measures affecting theoperations of the BRI Unit Desas;
(b) A first line of monitoring authority at the branch which is specifi-cally charged in supervising the Unit Desas and correcting any pro-blems found in their operations. In addition, the Cabangs haveofficers who analyze the reports received from the Unit Desas, checkall records at the Unit Desas and spot check records and procedureswith clients;
(c) A second line of monitoring authority at the regional office whichhas the basic task of ensuring that the Cabangs have understood andare carrying out their monitoring and supervision responsibilitiescorrectly; and
(d) The highest level of monitoring authority at the Head Office, wherethere is a special Urusan (department) charged with responsibilityfor consolidating and analyzing reports on Unit Desa activities andkeeping the Board of Directors informed of the current situation.This Urusan arranges special surveys when reports indicate problems
- 55 ANNEX 5
Page 5
may have arisen which require further field study in order to be moreclearly understood and subsequently corrected.
Improvement in Efficiency
20. BRI has tested changes in operating systems at the Unit Desas tointroduce a teller system and achieve a better balance of workload between theteller and the deskman/bookkeeper, while strengthening the internal cross-checking and security. These changes will be applied in all Unit Desas bySeptember 1990, and will be monitored carefully to see if a change in thestandards of cash transaction per employee is warranted.
21. BRI is also paying attention to improving systems of handling receiptof property tax, electricity, and telephone payments and of paying salariesfor military, teachers, and owners. A pilot project on tax payments with theDirectorate of Property Taxation has resulted in major changes in the taxcollection procedures. Similar changes in procedures are under negotiationwith the electricity company.
22. BRI now uses a system of internal fees for each office which collectsor makes payments from outside agencies. Under this system, the Unit Desaswill continue to receive a fee from BRI adequate to cover the cost of provid-ing the service.
23. As investment funds become available, BRI will continue to purchaseand install micro-computers at the Unit Desas. The computers are useful bothin improving service to customers, improving accuracy, and speeding up thework of bookkeeping. So far it is not clear whether use of the computers willallow a change in the ratio of staff to average transactions and thus cutoperating costs.
Auditing and Supervision
24. BRI will continue to improve the supervision and auditing of the UnitDesas. The most important improvement in supervision will come with furthertraining of Cabang staff. First priority is training in analysis of thereports which come from the Unit Desa and the actions which are indicated tosolve problems found in the analysis.
25. At present, the audit of the Unit Desas by staff from the Inspector-ate, outside the Cabang, occurs at longer intervals than is desirable. Thestaff of the Inspectorate will be increased gradually over the next threeyears as they can be recruited and trained.
Portfolio Standards
26. BRI's management would implement such policies and procedures as areconducive to the Unit Desas' maintaining a sound quality portfolio. However,when arrears of three months or more past final installment due date reach 6percent of the total loan portfolio, this would be considered unsatisfactoryperformance and BRI's management would then evaluate the overall program andorganization of the Unit Desas with a view to redesigning ongoing programs,organization, and procedures to ensure the continued financial viability ofthe Unit Desa system on an autonomous basis.
-56- ANNEX 6Table 1
INDONESIA
SECOND BRI/KUPEDES SMALL CREDIT PROJECT
BR1 Unit Desa System
Sunmary of Actual KUPEDES Lending Operations, 1984-89
1984 1985 1986 1987 1988 1989
By Amount (in RD billion)
Outstanding at begin-ning of period - 111.0 229.3 334.2 429.2 538.7
Total Liabililtl*es MII TAI* .2L0 M"A5 ! MASS LIsO.Off
A".iigrat 7,75 86,601 48.04o 489,414 2,685 57,877Cotribtiose for fis s 7,m 7,084 7,611 7,242 7,229 7,114Retland earnings f (25,01n (090) 0,646 22,470 80,640 8s,s17
T Slt Ey 53 'LE9 4fLo1e 7a.us 90.7211 EI.M
TOTAL U TI=ES AO 660 11? #n7 800.471 427.200 ilj8i2 !E.M 1.M.2341
,' neld eanl ro pproprIated by 061 at the end eah r.n I1Sivie 1 eval ael...... li prvlesin during 107 mec.t Critsoff of ro1 estelylbp 7,000 aIItoon for Erdits MItditll portfoi to.
-58 Tool
SFCOMD BRIiWES SWAIL aMEDT PRQOACr
BRI Unit 0em Swaelnee. S t. 1984-89
Ibp UIII1003
Per the year ending December 81 1984 10S 108 1987 108 1t8
deposlted In Cebnn - 7,089 8,840 11,675 18,316 41,445
RUPDDES - Inveateet 1,973 8,034 4,004 5,184) 2KUIPEES - Working capital 59,458 108,411 150,439 108,048)Kredit Vidi 22,045 7t8 2S9 92 - -Kredit Mini 841 162 seOther 1,102 98 sO - -
Subtotal other oeprating xpnrea 1.691 1.26 6.457 LEI .12.S90 811.0e
Nnoneprting *xpena 82 10 19 85 4 2S7
Total _I 5.601 78.501 117.986 155.804 iSo,S. 208.5ns
MrNE T t256.121 (n8 9.846 n2.479 0. 36.917
La Ueglnang In 1980, *al unit D training expene. are diretly axpe_ again th Unit be"syat. tn previous yeres, It wa covered under BRI'* genral inatitutionl training.
IMMMIA~~~~~~~~~~~~~~~~~~~~
- _ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ M-
S-cDm IRItKlQWES SQALL aEIT PRWECT
- ' o unit Sbe
Anaheim of KPDSLoan Portfolio. 1984489z _ ~~~~~~~~~~~~~~~(p bl |lion)
Total ExPansion Expenditures 1,880.1 1,875.6 1,740.1 2,175.5 1,251.2 8,922.5
Computers/Printers Id 114.6 114.6 114.6 114.6 114.6 573.0
Estimated Total Cost 1,994.7 1,990.2 1,854.7 2,290.1 1,365.8 9,495.5
La Land preparation based on BRI actual expenses; remaining expenditures based on training facility
specifications as per the first phase construction (draings for the first phase construction also
provided for an expansion of training facilities as being proposed) while per unit cost estimates for
the various expenditures are as per Ministry of Public Works February 1990 data.
lb eing negotiated.- Construction will be done in 1991.
dj Each center will have 30 PCs, 7 mibnual ledger card printers and 7 office printers.
-63- ANNEX 8Page 1
INDONESIA
SECOND BRIIRUPEDES SMALL CREDIT PROJECT
Terms of Reference for Long-Term Advisory Positions
1. Technical assistance will be undertaken by a combination of advisoryservices totaling 108 person months for three resident advisory posts. It ispreferred that this technical assistance be provided on a coordinated teambasis.
2. Terms of reference for these advisory positions are as follows:
A. Senior Policy Advisor
Academic Qualifications: Minimuni of a master's degree in economics or otherrelevant field.
Experiences A minimum of ten years experience in rural credit, banking, anddevelopment of financial systems. Indoiesian experience and working levelproficiency in Bahasa Indonesia is required.
Responsibilities: The Senior Policy Advisor will have primary responsibilityfor policy analysis and recommendations regarding Unit Desa and related ruralbanking operations. The advisor will report to the President-Director of BRI,providing general direction for the project and maintaining appropriate rela-tions in the policy area with BRI staff and, as appropriate, with Indonesiangovernment entities, including Sank Indonesia and the Ministry of Finance.
3. The specific activities of the senior advisor will be developedmutually by him/her and BRI management, in a manner that is responsive topolicy and program requirements that develop during the assignment. Illustra-tive activities could include the followingt
- Develop new services and instruments for use in the Unit Desasand related rural banking activities.
- Review the pricing and marketing of credit and savings instru-ments and other financial services.
- Review and advise on organizational issues, including therelationships between all levels of BRI - Headquarters, Regioa,Branch, Uhit Desa, and Payment Point.
- Advise and-gssist in the revision and development of appropriatefinancial and accounting policies and practices for improvingthe viibility of the Unit Desas and related rural bankingactivities, including those related to bad debt reserves,
-64- ANNEX 8Page 2
chargeoffs, surveillance of loan quality, treatment ofsubstandard loans, and capital and funding adequacy.
- Review and revise personnel policies and practices, including:procedures for ensuring adequate recruitment to fill Unit Desasand related rural banking requirements; personnel salaries andbenefits; and incentive structures and appropriate promotionpaths.
B. Training Coordinator
Experiencet Minimum of five years experience in the development and operationof training programs in financial inst1tutions, including responsibility fororganization, content and administration. Also, a minimum of five yearsexperience in rural banking and credit systems. Fluency in Bahasa Indonesiaand Indonesian experience are required.
Responsibilitiess Under the direction of the Senior Policy Advisor, thisperson will develop and coordinate training for the Unit Desa and relatedrural banking activities. He/she will work closely with BRI's Education andTraining Division. Specific activities would include, but not be limited to:
- Review and revise training materials, manuals, curricula andtests.
- Assist in the design of new training courses to meet emergingneeds.
- Monitor activities of the five regional training centers andwork closely with the training center staff on program develop-ment snd administration.
- Advise and assist in the development of training budgets andadministrative procedures for coordinating and reviewingtraining activities.
- Report to BRI management on the progress of Unit Desa andrelated rural banking training programs.
C. Information and Survey Assistant
Qualifications: Minimum equivalent of a master's degree in economics or otherrelevant discipline with a strong background in quantitative analytical tech-niques and computer skills-
Experiences No specific work experience requirements. Working levelproficiency in Bahasa Indonesia or commitment to achieve such proficiencywithin six months is required.
-65 - - ANNEX 8Page 3
Rosgonsibilitiess This person will report to th'e Senior Policy Advisor andvill be responsible for the development and productlon of regular and specialreports for BRI management. HRilher responsibilities will include assistancein the following areass
- Develop and improve the management information system coveringBRI's rural banking activities.
- Help develop and refine BRI's data bases, and gather and analyzedata on ongoing lending, savings and other service programs.
- Participate in the design and execution of surveys and researchactivities related to Unit Desa and rural banking activities.
- Work closely with the information and research sections vithinthe Division responsible for Unit Desa activities.
-66- ANNEX9
INONESIA
SECOND BRIIKUPEDES SMALL CREDIT PROJECT
Estimated Disbursement Schedule(US$ million)
Disbursement Standard profileBank Capital for Asia RegionPY Semester Credit Expenditure TA Cumulative Percent for IDF projects
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