nesiaodInFor inquiries, contact ASEAN-Japan Centre(ASEAN Promotion Centre on Trade, Investment and Tourism)
1F, Shin Onarimon Bldg., 6-17-19, Shimbashi,
Minato-ku, Tokyo 105-0004 Japan
Phone/Fax: +81-3-5402-8002/8003 (Office of the Secretary General)+81-3-5402-8004/8005 (Research and Policy Analysis (RPA) Cluster)+81-3-5402-8116/8005 (Capacity Building (CB) Cluster)+81-3-5402-8006/8007 (Trade and Investment (TI) Cluster)+81-3-5402-8008/8009 (Tourism and Exchange (TE) Cluster)+81-3-5402-8118/8003 (PR)e-mail address: info_rpa@asean.or.jp
https://www.asean.or.jp

Copyright © ASEAN Promotion Centre on Trade, Investment and Tourism.
All Rights Reserved.
Paper 3 / March 2021 / Non-Equity Modes of Trade in ASEAN: Indonesia
Promoting new forms of trade between Japan and ASEAN

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NOTESThe terms “country” and “economy” as used in this study also refer, as appropriate, to territories orareas. The designations employed and the presentation of the material do not express any opinion
whatsoever on the part of the ASEAN-Japan Centre concerning the legal status of any country,
territory, city or area, or of the authorities or delimitations of frontiers or boundaries.

The tables use the following symbols:• Two dots (..) indicate that data are not available or are not separately reported.
• A dash (-) indicates that the item equals zero or its value is negligible.
• Use of an en dash (–) between dates representing years, e.g., 2015–2016, signifies the full period
involved, including the beginning and end years.
• Reference to “dollars” ($) means United States dollars, unless otherwise indicated.

This series comprises 10 papers in total. Six (Cambodia, Lao People’s Democratic Republic,
Myanmar, the Philippines, Thailand and Viet Nam) have been published. The other papers will
be produced subsequently.
Paper 1. Brunei Darussalam
Paper 2. Cambodia (published in August 2019)
Paper 3. Indonesia
Paper 4. Lao People’s Democratic Republic (published in March 2020)
Paper 5. Malaysia
Paper 6. Myanmar (published in March 2020)
Paper 7. Philippines (published in March 2018)
Paper 8. Singapore
Paper 9. Thailand (published in April 2020)
Paper 10. Viet Nam (published in December 2018)

Prepared by Fithra Faisal Hastiadi (Universitas Indonesia) under the direction of Masataka
Fujita (ASEAN-Japan Centre). The author wishes to thank Askar Muhammad, Jordan
Brahmansyah and Fitri Nurjanah for their research assistance. The manuscript was editedby Tora Estep and typeset by Laurence Duchemin. Errors and omissions are solely those of
the authors and should not be attributed to their organizations.

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iii

CONTENTS
Key messages . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . v
1. Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
2. Characteristics of non-equity modes in Indonesia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
2.1 Scale and scope. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8(1) Agriculture: Contract Farming. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8(2) Manufacture: Subcontracting. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8(3) Retail, Hotels, etc.: Franchising or Management Contracts . . . . . . . . . . . . . . 9
2.2 NEM Case Studies. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  11[1] Contract Farming: Natural Rubber . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  11[2] Subcontracting: Footwear. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  14[3] Management Contracts and Franchising: Hotel. . . . . . . . . . . . . . . . . . . . . . . . . .  19[4] Franchise: Convenience Store . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
2.3 Preferred Mode of Foreign Investment Based on AHP. . . . . . . . . . . . . . . . . . . . . . 25
3. Opportunities and challenges. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
3.1 The Pursuit of Industrialization in Indonesia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
3.2 Ownership. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
3.3 Control. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34

3.4 Localization Strategies. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35
3.5 Relationships between NEM Modalities and Industries. . . . . . . . . . . . . . . . . . . . . 35
3.6 Opportunities and Challenges for Local Firms through NEMs. . . . . . . . . . . . . 36
4. Policy implications. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
4.1 Enhancing the Capability of Local Firms . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38

4.2 Improving Investment Regulations. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39

4.3 Promoting and Upgrading Skills and Expertise . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39
4.4 Promoting Connectivity and Coordination. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40
4.5 Promoting Integration into Global Markets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40
References. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43
Appendix . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45

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KEY MESSAGES• Investment provides a sizeable contribution to the economy. Investment contributed as muchas 34 per cent of Indonesia’s gross domestic product in 2019. The size of this contribution has
prompted the government to pass the Job Creation Law, which aims to facilitate investment entry
into Indonesia.
• The services sector largely supports the Indonesian economy (approximately 45 per cent), and thisfigure has not changed significantly in the last 3 years despite the COVID-19 pandemic hit in 2020.
• Indonesia is facing the problem of premature de-industrialization. The entry of foreign investment,
including non-equity modes (NEMs), is expected to encourage the industrial sector to progress
more rapidly.
• NEMs in Indonesia appears to be growing quite rapidly. In the primary sector is natural rubber, inthe secondary sector is footwear and in the tertiary sector we see the growth of restaurants, retailand hotels.
• Contract farming is common in the natural rubber industry to meet demand from the internationaltire industry. Because the international price fluctuates, the government needs to develop
agreement guidance to stabilize the price of rubber in NEM agreements.
• Indonesia has an important global presence in all types of footwear and is especially prominent
in athletic footwear. In Indonesian global footwear production, outsourcing has given rise to
subcontracting NEMs.
• International hotels operate in Indonesia either through management contracts or franchise
agreements, or on long-term leased land on which hotels are built with equity investments. Dueto the restrictiveness of foreign direct investment (FDI) inward regulation in Indonesia, NEMs canbe an attractive choice for international brand owners considering their flexibility in entering theIndonesian market.
• According to analytical hierarchy process analysis, FDI is still considered a better investmentmode than NEMs because FDI is superior in terms of driving business growth and sustainability;
expanding market access and acquiring technology, skills and knowledge.
• As transnational corporations (TNCs) can easily terminate contracts, a long-term relationship is
not guaranteed, particularly when the quality of services or goods does not meet TNCs’ standards
and local firms in other countries are more competitive.
• NEMs may play a role in alleviating the potential risks of the externally dependent economic
characteristics of Indonesia and are critical for inclusive economic development.
• The government should consider implementing and strengthening the regulatory working
environment to maximize the capacity of NEMs in expanding employment, upgrading technology
and contributing in global value chains.

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1

1. INTRODUCTION
Economic relations among countries are a consequence of comparative and competitive advantage
and specialization. Close economic cooperation can help to overcome scarcity of a resource at alower cost. Such economic cooperation can take various forms, such as trade and investment. Whenthe economic cooperation is strengthened by investment, it is generally a foreign direct investment(FDI) made by a foreign transnational corporation (TNC) into a particular country. As FDIs develop,
the investment relations between and among countries do not always have to take the form of equity.
Contractual relationships or other similar forms of relationship—non-equity modes (NEMs)—canalso present an option in developing economic cooperation between and among countries. Aside fromdeveloping economic cooperation between and among countries, trade and investment—including
NEMs—can also play a part in building global value chains (GVCs). Unfortunately, studies on NEMs
remain exceptionally scarce. Moreover, the existing official statistics only provide general and vague
data without showing specifically the form of ownership or the mode of investment relationship.
NEMs of economic cooperation are also practiced in ASEAN, including in Indonesia. NEMs foundin Indonesia include the contract farming scheme in the agricultural sector; franchising in retailsector education, fast-food and convenience stores and licensing and contract management in the
hotel sector. This study examines the case of Indonesia within the overall framework of the ASEANJapan Centre (AJC) NEM project (box 1), with a particular focus on selected industries.
Box 1. The NEM project of the ASEAN-Japan Centre: The case of Indonesia
Equity-holding is not the only means of exerting control over the international value chain.
Companies also enter into contractual relationships with other independent firms. This formof trade is gaining importance as global production and value chains become more integrated.
However, a lacuna exists in the knowledge of and research undertaken on this form of trade in
ASEAN. Also required is the formulation of an overall analytical framework to assess development
impacts to propose generic policies for dealing with this kind of transaction. The fundamental
difference between equity and non-equity forms of operation concerns who holds the equity: for
NEMs, local parties, especially private interests, completely share it. Typically, the role of the statein this partnership is limited to setting up the framework conditions within which local parties
can freely negotiate the terms of their operations and cooperation with buyers and suppliers. By
understanding this phenomenon better, including the scale and scope of NEM operations, andfilling in a policy analysis gap, AJC seeks to provide ASEAN country governments with the advisory
support needed to benefit fully from these new forms of trade and related investments.
To explain the scale and scope of non-equity involvement in major industrial sectors, this study uses
a case study methodology. The reasons for taking this approach are twofold: (1) balance of payments
and supplementary statistics do not provide the details necessary to measure cross-border NEMsof participation accurately and (2) the relevant microdata are fragmented and disconnected.
Nevertheless, as much as possible, each case study builds on existing research and statistics.
Furthermore, as a special case for this issue (the case of Indonesia), AJC presents a new approach
using the analytical hierarchy process (AHP) to uncover the main benefits the host country
experiences from NEMs. AHP is a structured technique for organizing and analyzing complex
decisions. Individual expert experience is used to estimate the relative magnitude of factors
through pairwise comparisons. Each respondent must compare the relative importance of thetwo items in the pair through a specially designed questionnaire with a scale of 1–9. Section 2 will
present a more detailed explanation of the AHP method used in this study.
…/

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Box 1. The NEM project of the ASEAN-Japan Centre: The case of Indonesia (Concluded)
New opportunities are opening up for ASEAN countries owing to changes in the conduct of TNCs
and to international innovation networks. While attracting FDI inflows and encouraging foreign
TNCs to establish affiliates (including branch offices, subsidiaries and joint ventures) remain
important options for ASEAN countries, governments need to review their current regulatory
regimes in the context of new corporate strategies. A key objective of this study is to offer policy
recommendations (investment and industrial policies) that the governments can consider tobenefit fully from these emerging opportunities.

Figure 1. Gross domestic product by expenditures, 2020 (Per cent)3.3
8.2

Aggregate Consumption
Aggregate Investment

32.7

55.7

Government Expenditure
Net Export

Source: Statistics Indonesia.

Indonesia is the world’s seventh largest economy and the largest in ASEAN. Figure 1 shows that,
although consumption supports the largest part of the economy, investment contributes at least one
third of the economy.1 This makes investment the second largest contributor to the economy after
domestic consumption. Aside from contributing to gross domestic product (GDP), investment has
played an important role in creating jobs.
Considering such a large economic contribution from foreign investment, the Government ofIndonesia in 2020 passed Law number 11 of 2020 on Job Creation, an omnibus law that aims to
improve ease of doing business and boost investment. This ambitious law covers 11 clusters, from
employment, ease of doing business, to micro-, small- and medium-sized enterprises (MSMEs). Thislaw addresses one of the main obstacles to investing in Indonesia, namely bureaucratic inefficiency
relating to ease of doing business, overlapping laws, lack of coordination between central andlocal governments, etc. The law is expected to cut the bureaucratic red tape that has long deterredinvestment. Efforts to attract investment, both FDI and NEMs, can take several forms. Box 2 further
details such efforts. Many of the determinants for TNCs to undertake FDI or NEMs, or both, arecommon, but some work more for FDI, while others work more for NEMs (table 1). Understanding
how these determinants work by mode is important for formulating policies for NEMs that maximize
benefits and minimize costs associated with promoting NEMs.

1

Represented by gross fixed capital formation and inventory changes, both foreign and domestic.

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Box 2. Factors that make countries attractive NEM locations
When examining the factors that make national, regional and global locations attractive andconducive to NEMs, identifying overlapping factors that also stimulate FDI inflows is important.
As with FDI, determinants of location choice for NEMs include, among others, political and social
stability, a literate labour force, good infrastructure, sufficiently efficient and competitive policies,
financial incentives, smooth trade procedures and conducive macroeconomic policies.
In addition to policy-related determinants that stimulate FDI, many factors can also support NEM
development in host countries. First, NEMs also depend on forms of contract-based TNC linkages
in host economies, such as stable and enforceable commercial contract laws and business andindustry-related laws and regulations.
Second, as with FDI, facilitation measures for promoting businesses are critical for attracting
NEMs. For example, promotion activities and financial incentives must be applied over a wide
variety of NEMs (e.g., franchising, licensing, contract-manufacturing, outsourcing, etc.), such as
when investment promotion institutions facilitate partnership between foreign NEM providers(e.g., franchisers) and local companies. Moreover, access to capital procurement is an importantfactor for regional enterprises with strong potential for promoting NEM expansion.
TNCs may establish footholds through equity investment from where they can support the growthand expansion of NEM businesses. These footholds can be a minimal commercial presence, suchas purchasing and quality management organizations that enable outsourced manufacturing
or logistics support operations that provide materials to franchise locations, as in the case ofretail and quick service restaurant franchises. Foreign companies may also directly control NEM
recipients through contractual arrangements without establishing footholds (e.g., management
contracts in the hotel business).
The existence of reliable and capable regional enterprises, and the ability to network with them, arean essential component of promoting NEM operations. Most NEMs require local partners that are
powerful, efficient and capable of taking on risks in complementary but dissimilar operations onbehalf of TNCs. For example, if TNCs do not find it economical to produce their own machinery andequipment in integrated circuit assembly operations, their operations in particular locations become
more deeply rooted when NEMs emerge to provide such services (Rasiah, 1994). Furthermore, when
TNCs do not enter contracts directly with individual farms, agricultural cooperatives can act asintermediaries to reduce business risk and provide reliability (Barrett, 2010).
Third, the degree of economic development and its association with social capital within a country
are important in promoting NEMs. For example, consumer market scale and growth and accessto regional markets are as important to such NEMs as franchises and out-licensing as they are
to FDI. Basic infrastructure provision and transport and energy and communication costs are all
major areas of interest for local and foreign companies.
Fourth, technological capabilities and the capacity to improve the quality and productivity of
local enterprises are critical to both TNC and NEM operations. Government policies targeted at
improving such capabilities in national firms, and regulations to stimulate strong corporate social
responsibility practices and minimum labour conditions, are also important to stimulate upgradingin TNCs and NEMs. Furthermore, such initiatives help expand the pool of NEMs available to
network with TNCs. For example, the Government of Malaysia has introduced a law specificallyconcerning franchises and has implemented other measures to promote TNC participation in
local economies. For service outsourcing, the Government of the Philippines has contributed topromoting the information technology and business process outsourcing industry.
Factors such as these have contributed to increasing the attractiveness of ASEAN countries as sites
for various types of NEMs. Table 1 summarizes the major locational determinants of each mode.

3

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Table 1. Locational determinants for FDI and NEMs
Relevant for FDI and NEMs

More relevant for FDI

More relevant for NEMs

Policy framework• Economic, political and social
stability• Competition policy• Trade policy• Tax policy• Rules regarding entry andoperations• Standards of treatment offoreign affiliates• International investment
agreements• Privatization policy• Stable general commercial andcontract law• Specific laws governing
NEM contractual forms (e.g.,recognizing licensing, franchising
contracts)• Intellectual property protection

Business facilitation• Reduction of hassle costs(e.g. cost of doing business)• Investment promotion• Investment incentives• Provision of after-care• Provision of social amenities(e.g. quality of life)• Facilitation efforts aimed at- Upgrading of technologicalquality, productivity standards of
local firms- Enterprise development,
increasing local entrepreneurial
drive, business facilitation- Subsidies, fiscal incentives forstart-ups- Information provision,awareness-building on NEM
opportunities with local groups- Support for minimum standardsof working conditions andcorporate social responsibility inlocal firms

Economic determinants• Infrastructure• Market size and per capita
income• Market growth• Access to regional and global
markets• Country-specific consumer
preferences• Access to raw materials• Access to low-cost labour• Access to skilled labour• Relative cost and productivity ofresources and assets• Other input costs (e.g.,transportation, communication,energy)Source: AJC.

• Access to strategic assets• Created assets (e.g., technology,
intellectual property)• Strategic infrastructure• Presence of credible local
entrepreneurs and business
partners• Access to local capital

17.6
9.0
8.2

7.4

6.6
6.0
5.5
4.5
4.4

64.3

155.9

Animal or vegetable fats and oils andtheir cleavage productsElectrical machinery and equipment andparts thereof

Vehicles other than railway/tramway
rolling stock and parts and accessories
thereofIron and steel

Natural and cultured pearls, precious/
semi-precious stones, precious metal
and articles thereof and imitation jewelry

Rubber and articles thereof

Nuclear reactors, boilers, machinery andmechanical appliances

Articles of apparel and clothing
accessories, not knitted or crocheted

Footwear, gaiters and the like

Others

Total

Source: Ministry of Trade of the Republic of Indonesia.

22.3

Mineral fuels, mineral oils and productsof their distillation

Commodity

Value(million USD)

100

41.2

2.8

2.9

3.6

3.9

4.2

4.7

5.3

5.8

11.3

14.3

Share of non-oil
and gas exports (%)

Major Indonesian commodity exports, 2019

Table 2. Major Indonesian commodity exports and imports, 2019

Total

Others

149.4

57.9

2.6

2.9

Optical, photographic, cinematographic,
measuring, checking, precision, medicalor surgical instruments and apparatus
Residues and waste from food industries

3.2

3.7

Cereals

Articles of iron and steel

5.8

7.2

Vehicles other than railway/tramway
rolling stock and parts and accessories
thereof
Organic chemicals

8.8

Plastics and articles thereof

10.4

20.1

Electrical machinery and equipment andparts thereof
Iron and steel

26.8

Value
(million USD)

Nuclear reactors, boilers, machinery andmechanical appliances

Commodity

100

38.8

1.8

1.9

2.2

2.4

3.9

4.8

5.9

7.0

13.4

18.0

Share of non-oil
and gas imports (%)

Major Indonesian commodity imports, 2019

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Box 3. COVID-19 and the Indonesian economy
The COVID-19 pandemic swept across the world, hitting the entire world economy hard, including
the Indonesian economy. In two consecutive quarters, the GDP of Indonesia recorded negative
year-on-year growth. This officially characterizes the country’s 2020 economy as a recession. In
the same consecutive periods, investment fell. Unlike consumption and GDP in general, which
improved from the second quarter to the third quarter of 2020, investment has slumped in thesecond quarter and further in the third quarter.
Some of the main sectors with which NEMs are closely linked, such as accommodation,
restaurants and retail and trade have been among the hardest hit. Even though these sectors
started to recover in the third quarter, their growth in the second quarter was among the worst. In
the second quarter, the trade sector suffered negative year-on-year growth of -7.6 per cent, therestaurant sector fell -16.8 per cent, while the accommodation supply sector plunged -44.2 per
cent. This situation certainly complicates NEM development in Indonesia.
According to our projection for 2021, Indonesia could face three possible growth scenarios, ranging
from 3.8 per cent (pessimistic) to 4.4 per cent (moderate) and 6.2 per cent (optimistic). Theseseemingly high estimates are very much in line with those given by several international bodies
such as the International Monetary Fund (4.8 to 6 per cent), World Bank (4.4 per cent) and Fitch
Rating (6.6 per cent). These scenarios clearly work only in the case of mass vaccination, because
the economy in 2020 lost steam due to COVID-19. That said, the future course of the economy
remains uncertain depending on possibly prolonged COVID-19.

Despite the 2020 recession caused by the pandemic, figure 2 indicates no significant changes inthe structure of the economy. In general, the service sector provides the largest contribution to
the Indonesian economy. NEMs in these sectors, such as restaurants, retail and accommodation,
have mushroomed in Indonesia and contributed significantly to the economy, but the pandemic has
affected them the most (box 3).
In the industrial sector, exports of electrical machinery and equipment and parts make up 6 per cent,the third largest of the leading export commodities in Indonesia (table 2). The agricultural sector, in
this case, exports of animal or vegetable fats and oils and their cleavage products, constituted 11 percent of all Indonesian exports in 2019 or the second largest.
In terms of the structure of the economy, no significant changes have occurred in the last three
years; however, over a longer span of almost four decades, the structure of the economy haschanged significantly. Figure 3 exhibits that Indonesia has long been experiencing premature deindustrialization.2 It is important to see the impact of NEMs on industrial development in Indonesia.
FDI and NEMs can expand the business market in the host country; the hope is that the manufacturingindustry can develop better. However, in the past, FDI has not helped industrialization much, nor has
it increased value added in the industrial sector of Indonesia (figure 3).
Section 2 describes the characteristics and scope of NEMs by types and introduces certain types
of Indonesian NEMs with distinguishing characteristics. Section 3 provides an overview of the2Premature de-industrialization occurs when a country transforms into a service-based economy before achieving
an established industrialized economy. Such a country has lower income than developed countries when thedeveloped countries are in the industrialization process.

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7

opportunities and challenges in the selected industry and analyzes the implications of NEMs for the
economy. Finally, section 4 discusses policy recommendations and implications for NEM industries
in Indonesia.

Figure 2. GDP by sector (Per cent)

100
80
60
40
20
0

Q1

Q2

Q3

Q4

Q1

Q2

Q3

Q4

Q1

Q2

2019

2018
Agriculture

Q3

2020

Industry

Services

Source: Statistics Indonesia.

Figure 3. Manufacturing sector value added (Per cent of GDP)
35
30
25
20
15
10
5

19

17

20

15

20

13

20

11

20

09

20

07

20

05

20

03

20

01

20

99

20

97

19

95

19

93

Source: Statistics Indonesia and World Bank.

19

91

19

89

19

87

19

85

19

19

19

83

0

Q4

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2. CHARACTERISTICS OF NON-EQUITY MODESIN INDONESIA
The characteristics and scope of the different modalities vary. Hence, discussing them is importantso that efforts to promote them recognize the unique elements associated with each. Because mostNEMs have already emerged in Indonesia, this section provides a systematic discussion.

2.1 Scale and Scope
In 2010, the United Nations Conference on Trade and Development (UNCTAD) estimated global NEM
production at more than $2 trillion of sales (UNCTAD, 2011). However, it noted that the analysis
of NEMs was complex as “the web of directly owned, partially owned, contract-based and arm’slength forms of international operation of TNCs is tangled, and some of the distinctions between the
different modes are blurred” (p. 130). Thus, the analysis is limited to industries in which NEMs are
particularly important. The characteristics and scope of the different NEM modalities vary. Hence,
discussing each modality separately is important to ensure that promotion efforts recognize theunique elements associated with each. As most NEM modalities have already emerged in Indonesia(table 2), the following provides a systematic discussion.

[1] Agriculture: Contract Farming
Contract farming implementation has become widespread internationally. TNCs use this NEM in
more than 110 developing countries, and it involves a diverse range of agricultural products (UNCTAD,
2011). It is a tool for efficient procurement of agricultural commodities because it enables TNCs tosecure the required quantity and quality. Additionally, farmers can secure stable sales and income
levels. TNCs expect high-quality products from farmers as farmers attempt to fulfill TNC demands
because they can sell their products at higher prices than market prices. In return, contract farming
offers farmers the opportunity to acquire new knowledge, technology and sanitation procedures,
which can raise the quality of their farm products.
Contract farming contributes broadly to employment because it is primarily performed by large
numbers of small-scale farmers. Eventually, employment secures income and thus has a positive
impact on decreasing poverty. Although the total number of contract farms is difficult to identify, atypical individual project has several tens of thousands of participating farms.

[2] Manufacture: Subcontracting
Since the 1980s, subcontracting has developed significantly in the electronics, machine tool andautomotive sector in the Asian region. Competition has pushed firms to search for cheaper options
and take advantage of opportunities arising from NEMs in rapidly industrializing countries, such as
China, Indonesia, Malaysia, the Philippines, Thailand and Viet Nam. Major automotive and electronics
companies have committed to research and development, product design and brand management
using electronics manufacturing services and cellular manufacturing to outsource manufacturing ofcertain components. According to the Fortune Global 500 ranking in 2020, of the top 10 electronics
manufacturing companies in the world, eight are from East Asia and five companies locate their
manufacturing in Indonesia (table 3).

PA P E R 3 I N D O N E S I A

9Table 3. Top electronics manufacturers in the World
Company

Headquarters

Revenues(million $)Manufacturing locatedin Indonesia

Apple

USA

260,174-

Samsung Electronics

Republic of Korea

197,705

Honhai Precision Industry (Foxconn)

Taiwan Province of China

172,869

Amer International Group

China

89,347-

HitachiJapan80,863



Sony

Japan

75,972-

Panasonic

Japan

68,897

LG Electronics

Republic of Korea

53,464

Mitsubishi ElectricJapan

41,045-Honeywell International

USA

36,709-Source: Fortune Global 500 in 2020.

Subcontracting also broadens into other labour-intensive industries, such as garment, footwear andtoy industries. Clothing value chains have expanded to include not only simple cut, make and trim
manufacturing processes, but also the intermediary process that manages much of the value chain,such as manufacturing and logistics throughout Africa, Asia and Latin America. In Indonesia, thischain extends into the footwear industry where NEMs play a role.

[3] Retail, Hotels, etc.: Franchising or Management Contracts
Franchising is a popular business mode in which franchise holders contract out their brand, including
the technology, for a fee. In addition, they manage the marketing of the brand. In return, franchisees
match the conditions imposed by the franchiser. Using this modality, franchisers not only expand
operations tremendously and efficiently, but they also procure capital. This contract mode is commonlyused in the retail industry, such as apparel stores, restaurants, hotels and convenience stores.
The need to penetrate markets motivates the use of franchising. In franchise contracts, franchisers
typically provide franchisees with various types of services related to business operations, which
consist of initial and ongoing support, training, management guidance, marketing, administration andhuman resources management advice. Franchisees pay royalties to franchisers to use these services.
Hotels frequently operate as franchises, with the franchisee taking on the style and brand reputationof a leading chain under license. The ownership and operation of a hotel can take many forms. The
structure chosen depends on the scale of investment by the investor or hotel owner; land ownershipis also an important factor.
If the hotel owner prefers to minimize the obligations and responsibilities that are associated withland ownership, then a management contract is another choice. International hotel chains such
as Marriott and Ibis are doing business in Indonesia through management contracts with local
companies. Normally, management contracts last 10 to 20 years. In return for operating duties
specified in the contract, the operator charges a management fee, which is calculated from apercentage of the hotel’s gross operating income and revenue and an incentive management fee
related to operating profit.

N O N-E Q U I T Y M O D E S O F T R A D E I N A S E A N – M A R C H 2 0 21
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10According to the World Travel & Tourism Council Report 2020, the total contribution (direct andindirect) of travel and tourism to global GDP in 2019 was $8.9 trillion or 10.3 per cent of global GDP
and 1 per cent of total employment or 330 million jobs in 2019. Meanwhile, travel and tourism inIndonesia contributed $63.6 billion to the economy or 5.7 per cent of Indonesian GDP and 9.7 percent of total employment or 12.5 million jobs in 2019. The travel industry includes international hotel
chains through the contract management mode. Table 4 summarizes NEM operations in Indonesia
in the three aforementioned sectors.

Table 4. NEM operations in three sectors, 2020
SectorPrimary

Secondary

Tertiary

Industry(representative
example)Pineapple

RubberFootwearConvenience store

Hotel

Product orservices

Fresh or canned
fruit

Semi-finishednatural rubber
product

Athletic shoes,
formal shoes andsandals

Small retailgroceries, snack
foods, confectionery,
soft drinks andtobaccoRoomstay; restaurant
and meeting,incentive, conference
and event

Number ofcompanies(NEM-related
estimation)356

75 companies(60 companies)(2020)

39 companies(27 companies) (2020)

34,023 stores(624 stores) (2019)18,829 hotels(13,180 hotels) (2016)

Major companies(TNC partners)

PT. Nusantara
Tropical Fruit,
PT. Alamanda Sejati
Utama andPT. Great Giant
Pineapple

PT. Kirana
Megatara, Tbk;
PT. Bakrie Sumatera
Plantations, Tbk and
PT. PP London
Sumatera Indonesia,
Tbk

Adis Dimension
Footwear,
Panarub Industry and
KMK Global Sports

Lawson (Japan),
Family Mart (Japan)
andCircle K (USA)Marriott International(USA),
Accor Hotel (France)
andHyatt Hotels Corp
(USA)

Estimated
export volume(estimatedexports by NEM)

$700 million (2019)$2.9 billion($2.3 billion) (2017)$4.4 billion($3 billion) (2019)$12 billion($165.5 million)(2019)*$4.5 billion($3.1 billion) (2019)

NEM mode

Contract farming

Contract farming

Subcontracting

Franchising

Management
contract

Estimated
employment

30.7 million

2.5 million

643,000

31,900610,000

Annual averageexport growth

3.1% (2015–2019)4% (2009–2019)11% (2010–2019)12% for convenience
stores from 2017–2019*

9.9% (2010–2019)Market export
destination

Viet Nam (27%)
China (21.,2%)
Malaysia (16.9%)
Hong Kong, China(10.8%)
India (8.68%)(As of January 2019
for annual fruit andvegetable)

China (40%);
India (8%);
USA (7%);
Japan (5%);(2019)

Western Europe(32%);
North America (29%);
East Asia (22%);(2016)

Lawson (0.12%)
Family Mart (0.43%)
Circle K (0.82%)
Local (Alfamart andIndomart) (84.26%)(2019)

Westin (MarriottInternational Inc)
(1.2%)
Mercure (AccorHotels
Group) (1.0%)
Grand Hyatt (Hyatt
Hotel Corp) (0.6%)(2020)

Product orservices scope

Further
improvement offruit and vegetableproduction to meetincreasing global
demand during the
pandemic

2nd largest natural
rubber producer inthe world

3rd largest footwear
exporter in Asia

More convenient
stores open

Asian country
with thousands ofnatural landscapedestinations andcultural heritage

Source: AJC based on Euromonitor, Statistics Indonesia and Bank Indonesia.
*Using retail value retail selling price estimation (exclude sales tax).

PA P E R 3 I N D O N E S I A

11

2.1 NEM Case Studies
Many foreign firms and TNCs do business with local partners through NEMs in various industries.
Their type of involvement in NEMs and their contribution to the Indonesian economy vary by modality
and industry. In this section, modalities such as contract farming, subcontracting, management
contract and franchise are examined by highlighting specific industries that rely on them.

[1] Contract Farming: Natural Rubber
As a predominantly agricultural economy, Indonesia is the second largest natural rubber producer
in the world (box 4), contributing 32 per cent of global production (figure 4). In 2019, total natural
rubber production in Indonesia was an estimated 3.4 million tons with a total plantation area of
3.2 million hectares (ha).
Natural rubber is the second largest agricultural commodity export by value after palm oil.
Approximately 80 per cent of total natural rubber production in Indonesia is spent in the export
market, which generated $2.9 billion in revenue in 2020. The top four export destinations forIndonesian natural rubber are China, India, the United States and Japan, which are by far the world’s
largest natural rubber consumers.

Figure 4. Top global producers of natural rubber, 2019 (Million tons)

1.0 (10.3%)
0.7 (7.2%)

Thailand0.7 (7.2%)
0.8 (8.2%)

Indonesia
3.8 (39.2%)

Viet Nam
3.2 (33.0%)

Source: UN Comtrade Database.

Ivory Coast
Laos
OthersN O N-E Q U I T Y M O D E S O F T R A D E I N A S E A N – M A R C H 2 0 21
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12Box 4. Types of rubber and product stages in the natural rubber industry
Rubber can be divided into two categories: natural rubber and synthetic rubber. Natural rubber isa renewable natural resource and mostly produced by small farmers in the developing countries
of Asia. Synthetic rubber is an artificial polymer made from petrochemical feedstock. The
characteristics of natural rubber, which is more robust (durable), are required to manufacturetires for medium/heavy commercial vehicles and for high-quality tires, making natural rubber
irreplaceable by synthetic rubber.
Natural rubber is used widely in many applications and products, either alone or with anothermaterial. It can be used for more than 50,000 different products, including gloves, mattresses,
condoms, shoe soles and tires. Generally, the three stages of products are raw product, semifinished product and finished product. Box figure 4.1 summarizes the stages of products in thenatural rubber industry.

Box figure 4.1. Product stages in the natural rubber industry

Rubber tree

Naturalcoagulation

Fresh latex

Stabilized byadding ammonia

Controlled
coagulation
Farmers:
Raw rubber
products

Cup lumps

Latex(stabilized)

Unsmoked sheets
Crushing(crumb rubber)Localfactories:
Semifinishedproduc

Brown
crepe

Standard
block rubber(TSR Grades
10 – 50)

Globalindustry:
Finishedproduct

Added tovehicle tires,
automotive
parts andshoe soles

Vehicle tires
andrubber parts

Air-dried sheetsand ribbed smoked
sheets (RSS)RSS 5 (highcontaminationlevel): Tires,
automotive
parts andshoe soles

RSS 1 (lowcontaminationlevel): Medical
products andfood industry

High-quality
technicallyspecified
block/pale
crepe rubber

Latex
concentrate

Premium
vehicle tires
and foodindustry

Latex-dipped
products,
condoms,etc.

Source: AJC based on Haustermann and Knoke (2019), Chanchaichujit and Saavendra-Rosas (2018) and Röthemeyer
and Sommer (2013).

PA P E R 3 I N D O N E S I A

13Indonesian areas for rubber plantation can be classified into three types of ownership. Smallholder
farmers own around 85 per cent, private companies own about 9 per cent and state-owned companies
own about 6 per cent. More than 2.25 million farmers and 255,000 farm workers are involved in therubber sector. Sumatra and Kalimantan are the dominant production areas, accounting for 96 percent of Indonesian plantation areas and total rubber production (Grow Asia, 2020).
The supply chain starts with the producer, which is the owner of the rubber land. These small-scalerubber producers share similar characteristics: they mostly cultivate rubber as a monoculture cropwith an average plantation area of 1 ha, tree density of 600 trees/ha and tree age of 10–20 years.
Farmers sell their products to three types of buyers: local suppliers, UPPBs (unit pengolahan dan
pemasaran bokar, collective rubber processing and marketing units) and cooperatives (koperasi)(figure 5). UPPBs are institutions established by each district’s agriculture office following guidelines
from the Ministry of Agriculture to increase farmers’ rubber quality and selling price.
Most smallholder plantations are in remote and dispersed locations, typically a one to two hour
motorcycle ride from a main road and a two to three hour ride from the nearest processing factory.
Farmers who live in remote areas prefer selling, mostly once a week, to small suppliers who comeand collect their produce. Consequently, selling to small local suppliers becomes the predominantmarket channel as few farmers are organized into farmer groups, cooperatives or UPPBs. Box 5
explains the natural rubber supply chain case with its NEM application in an Indonesian company.

Figure 5. The Indonesian natural rubber supply chain

99%

Rubberfarmers<1%

Small
suppliers

Cooperative

<1%
UPPBs

Source: AJC based on Grow Asia (2018).

InternationalbuyersLarge
suppliers

Processing
factories

Domestic
buyersN O N-E Q U I T Y M O D E S O F T R A D E I N A S E A N – M A R C H 2 0 21
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14

Box 5. NEM case study: Kirana Megatara Group’s rubber export to the tire industry
Kirana Megatara Group (KMG) is the largest producer of crumb rubber in Indonesia, capturing morethan 18 per cent of the Indonesian market share. The holding company was established under thename PT Kirana Megatara in 1991, and the group now has 16 subsidiary processing companies. KMG
was listed as a public company on the Indonesia Stock Exchange on 19 June 2017.
From the total sales volume of KMG standing at 467.05 thousand tons in 2019, 96 per cent was
distributed for export and the remaining 4 per cent was distributed for local market consumption.
KMG’s top three largest export destinations are the United States, Japan and the European region.
Around 60 per cent of KMG rubber production is absorbed by the global tire industry, including
Bridgestone, Michelin, GoodYear, Pirelli, Continental, Sumitomo, Toyo Tires, Yokohama, Hankook,
Kumho, Nexen, Cooper and Apollo.
Based on the natural rubber supply chain, KMG simultaneously positions itself as a large supplierand as a processing factory. KMG collects raw products from small suppliers that are thenprocessed into semi-finished products. With a total annual capacity of 720,000 metric tons, KMG
produces technically determined rubber of the SIR-10, SIR-20 and SIR-20 CV types.3 The global
tire industry imports these products for processing into tires as end products. Box figure 5.1 shows
the supply chain of KMG’s natural rubber in the tire industry.

Box figure 5.1. KMG’s natural rubber supply chain in the tire industry:
Kalimantan case

Rubberfarmers

Kirana Megatara
Group

Rubberfarmers

International buyer(global tire
producers)

Small
suppliers

Rubberplantation:
PT. Kirana
Triputra Persada

Large suppliers
and processing
factories:
PT. Kirana Prima

UPPBs/
cooperative

Source: Grow Asia (2018) and KMG website.

…/
3

3

SIR stands for Standard Indonesian Rubber. It is a codification for natural rubber that meets the quality requirementsof the Indonesian National Standard. CV stands for constant viscosity.

PA P E R 3 I N D O N E S I A

15

Box 5. NEM case study: Kirana Megatara Group’s rubber export to the tire industry (Concluded)
In the context of NEMs, KMG plays a role as integrator, starting from cultivating rubber plantations
to gathering crumb rubber to producing semi-finished products. While the former sources of natural
rubber come completely from smallholder farmers, the latter sources are from KMG’s own rubber
plantations. In Bangka, there are two processing factories, PT Karini Utama (monthly capacity 1,000tons), owned by PT Kirana Megatara Tbk, and PT Fajar Berseri, owned by local entrepreneurs.

Box figure 5.2. KMG’s long-term contract schemeNew
contract
6 months

Month 115

Monthlypurchase
order
Price = Avg
of month 1Month 230

Shipping
instruction period

End ofcontract

Month 330

Month 4Month 5Month 615

Delivery
periodSource: Kirana Megatara (2019).

In general, such a large supplier as KMG has annual contract farming with monthly supply
obligations that operate at the provincial level, with a supply capacity exceeding a thousand tons
per month. Large suppliers have long-term partnerships with small suppliers and rubber farmers
in the same location. They provide advance payments and in-kind loans (foodstuffs such as rice,sugar and salt) to secure farmer loyalty.
The international natural rubber market trade commonly consists of two types of transactions:
1. Spot sales are the volume and market price negotiations between buyers and sellers at the timeof transaction. Spot sales still dominate trading transactions of the international natural rubber
market.
2. Long-term contract sales is a contract system ranging from 6 to 12 months wherein bothparties agree on the SIR volume to be supplied by the seller to the buyer on a monthly basis witha selling price based on a certain formula during the contract period.
More than 95 per cent of KMG’s sales are made through a long-term contract mechanism that uses
the previous month’s average natural rubber Singapore Commodity Exchange prices as the selling
price (box figure 5.2). This contract does not involve TNCs. KMG as aggregator directly manages
and controls the standard farming procedure. Because of the involvement of farmers and KMG,
which sell the products to global tire producers including those in Japan, this mode is categorized
as NEM contract farming. Box figure 5.2 illustrates KMG’s long-term contract scheme.

16

N O N-E Q U I T Y M O D E S O F T R A D E I N A S E A N – M A R C H 2 0 21
P R O M O T I N G N E W F O R M S O F T R A D E B E T W E E N J A PA N A N D A S E A N[2] Subcontracting: Footwear
Subcontracting is a method of production and processing in which an outside company or provider
is hired to perform specific processes of a business contract or project. Historically, Japanesecompanies have subcontracted to companies in China, which is nearby and has low labour costs.
However, as labour costs rise in China, subcontracting is shifting to the countries of Southeast Asia.
Indonesia is one of the Southeast Asian countries that receives a great deal of attention because,
aside from its low labour costs, it has also developed its infrastructure, which makes carrying out
production on consignment in several types of industries easier. Among subcontracted industries inIndonesia, the footwear industry is a significant player.

Figure 6. Destination of Indonesian footwear exports, 2019 ($ billion)

USA
China
1.2 (28.2%)

Germany

1.4 (32.7%)

Netherlands

0.1 (3%)

Belgium

0.2 (3.5%)Japan
0.5 (12%)0.3 (6.7%)
0.3 (6.9%)

0.3 (7%)

United Kingdom
Other

Source: UN Comtrade Database.

The Indonesian footwear industry started growing in the 1980s with the government’s support
for attracting foreign investment. This growth became stronger with the establishment of theIndonesian Footwear Association (APRISINDO) in 1988 (APRISINDO 2019). The industry continued
to grow and has led Indonesia to become the third largest footwear exporter in Asia after China
and Viet Nam.
Indonesian footwear products have remarkable global reach and are imported by 142 countries
around the world. The five largest import countries account for more than half of total footwear
exports. The most frequent destination for Indonesian footwear is the United States, followed by
China, Germany, Belgium and Japan (figure 6).
Indonesian footwear exports have increased by 11 per cent annually since 2006. The value ofIndonesian footwear exports was $4.4 billion in 2019. Footwear is technically classified as a productwith the World Customs Organization’s Harmonized System (HS) code 64. The largest global market
share for a footwear product in Indonesia is footwear with uppers made from textile products(HS 6404) (figure 7). This product’s share trails only behind China and Viet Nam in terms of global
exports. Although walking shoes belong to this commodity group, athletic shoes mostly have uppers
made from textiles.

PA P E R 3 I N D O N E S I A

17Figure 7. Indonesian footwear’s global market share by type, 2019 (Per cent)With uppers made of textiles (HS 6404)
With uppers made of leather (HS 6403)
Total (HS 64)
With uppers made of rubber of plastic (HS 6402)
Waterproof (HS 6401)
Other (HS 6405)
0

1

2

3

4

5

6

7

8

9

Source: UN Comtrade Database.

Box 6. Outsourcing practices in the footwear industry
Fashion brands that subcontract footwear products generally apply one of three modes of export:
assembly, original equipment manufacturing (OEM) and original brand name manufacturing (OBM).
1. Assembly is a form of industrial subcontracting in which sewing plants are provided with
imported inputs for assembly, most commonly in export-processing zones.
2. OEM is a form of commercial subcontracting. The supplying firm makes a product according toa design specified by the buyer. The product is sold under the buyer’s brand name. The supplierand buyer are separate firms. The supplier lacks control over distribution.
3. OBM is the upgrading by manufacturers from the production expertise of OEM to first the design
and then the sale of their own brand products.
Source: Goni and Kadarusman (2015)

Indonesian footwear factories are mainly located on the islands of Java and Sumatra, specificallyin West Java, East Java and the North Sumatra Provinces. Each region specializes in a certain typeof footwear. For instance, formal and casual shoe-manufacturing segments are mostly specializedin Yogyakarta, North Sumatra and East Java, while sandal manufacturers are mainly situated in
Banten, West Java and East Java.
Indonesia has an important global presence in all types of footwear under different modes of export(box 6) and is especially prominent in athletic footwear. The presence of international athletic footwear
firms in Indonesia has had a major impact on the sector’s development. For example, Indonesia
was the location of 25 per cent of Nike’s footwear production in 2015. Many other top international
footwear brands also have a presence in Indonesia, including Adidas, Puma and other international
brands (box 7). The major domestic athletic footwear manufacturers are Adis Dimension Footwear,
KMK Global Sports and Panarub Industry. Non-athletic industry leaders include Sepatu Mas Idaman,
Mangul Java and Teguh Murni.

18

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Box 7. NEM case study: Adidas and PT Panarub Industry
PT Panarub Industry is an Indonesian company established in 1968 by Lukas Sasmito that produces
rubber sponge and “Lily“ plastic sandals. Panarub is located in Tangerang with a factory area around20 ha and has 25 high-tech production lines with around 9,000 employees. The company has had an
historical collaboration with Adidas since 1988. In 1998, Panarub was chosen to be Adidas’s footballspecialty center and began producing the Predator model for the World Cup in 2000. Panarub Industry
expanded the business from one factory to two additional factories: Panarub Dwi Karya (Benoa) andPanarub Dwi Karya (Cikupa). The company expanded the business to set up a raw material company
to support Panarub with technology called SL rubber—a special rubber used in Adidas professional
football shoes since 2012. Panarub produced 1.25–1.4 million pairs of shoes per month.
When Adidas first began ordering from PT Panarub Industry in Indonesia in 1988, the factory only
produced shoes as per Adidas design. The research and development, design and marketing ofproducts came from Adidas, while Panarub Industry only produced based on Adidas requirements.
Adidas as the lead firm was involved in most aspects, including supplier decisions for the raw
material used in production.
In recent years, PT Panarub Industry has worked closely with Adidas in the stages of productdevelopment to completion of product prototype by supplying the customer with designs andthe engineers with feedback on product designs. Together, the two companies developed certain
proprietary technologies for manufacture, components and the processing technique. Adidas
developed its primary supplier by involving Panarub in the development stages (box figure 7.1).
In the beginning, design and development came from the brand owner (Adidas), and the factory(Panarub) only produced the shoes. Because Panarub was chosen as an Adidas football specialist,
Panarub continued to become a strategic partner for Adidas. In 2012, Panarub set up a division,
Adidas Innovation Technology, that is responsible for developing a model for Adidas football shoes.
Adidas allocates its employees to work together with the factory to develop new products. The
factory sends the prototype product to Adidas marketing in Germany, then Adidas reviews it byoffering shoes to the market (athlete, buyer and lab test) all over the world. Initially, salesmen
sample approximately 5,000 pairs, then if buyers agree and commit to buy a certain volume, Adidas
will ask the factory to produce.

Box figure 7.1. Positioning of Panarub Industry in the value chain of Adidas

Adidas A. G.
Research &development

PT Panarub Industry

Original Brand Name
Manufacturing (OBM)
Only Football Shoes

DesignOutsourcing

Distribution

Source: Goni and Kadarusman (2015).

Original Equipment
Manufacturing (OEM)
Adidas Shoes ProductPA P E R 3 I N D O N E S I A

19[3] Management Contracts and Franchising: Hotel
Spectacular natural landscapes and rich diversity in cultural heritage make Indonesia a remarkable
destination country that attracted 16.1 million international tourists in 2019. This opportunity has
attracted the attention of international hotel chains to enter the Indonesian hotel industry. Indonesia
is one of the ASEAN member countries that attracts tourists from all over the world. Market demandfor hotels has been growing continuously in the past years (table 5).

Table 5. Indonesia tourism indicators
Year
Description

2014

2015

2016

2017

2018

2019

No. of foreign tourists (million)

9.4

10.2

11.5

14.0

15.8

16.1

Revenue ($ billion)

3.6

3.8

4.0

4.2

4.4

4.5

Occupancy rate (%)
Number of star-rated hotel rooms

51.8

53.9

54.3

56.7

58.9

54.8

195,886

217,474

233,007

254,167

314,051

363,749

Source: Statistics Indonesia/Badan Pusat Statistik.

In 2019, there were around 3,516 star-rated hotels with roughly 195,886 rooms in Indonesia.
These hotels are mostly located in Bali (507 hotels), West Java (495 hotels) and Jakarta (397 hotels).
Table 6 lists major hotel chains in Indonesia.

Table 6. Major international hotel chains in Indonesia
Hotel chain

Hotel brand nameAccor Hotel (15)All Season, Ibis, Formule 1, Grand Mercure, Pullman, MGallery by Sofitel,
Novotel, Fairmont, Raffles, Swissôtel Hotels, Banyan Tree, The Phoenix
Hotel, Royal Surakarta Heritage, Ramada Bali, Days Hotel & Suites

Archipelago International (12)Grand Aton, Alana, Royal Alana, Royal Kamuela, Aston, Aston City, Aston
Inn, Quest Hotels, Neo Hotels, Fave Hotel, Harper, 100 Sunset Boutique

Marriott International (29)

St. Regis Hotels & Resorts, The Ritz-Carlton, JW Marriott, Edition, The
Luxury Hotel Collection, W Hotels, BVLGARI Hotel & Resorts, AutographCollection Hotels, Le Méridien, Tribute Portfolio, Westin Hotels &Resorts, Renaissance Hotels, Gaylord Hotels, Marriott, Delta Hotels,
Sheraton, Marriott Executive Hotels, Courtyard, Four Points by Sheraton,
Springhill Suites by Marriott, Residence Inn by Marriott, AC Hotels,
Aloft Hotels, Element by Westin, Moxy Hotels, Protea Hotels, Fairfield,
TownePlace Suites

Grand Hyatt (3)Grand Hyatt, Hyatt Regency, Hyatt

Swiss-Belhotel (7)Grand Swiss Hotel, Swiss-Belhotel, Swiss-Belinn, Zest, Hotel Ciputra,
Arion, Swiss HotelInterContinental Hotels Group (IHG) (4)InterContinental, Crowne, Holiday Inn, Indigo

Discovery Hotels & Resorts (7)Borobudur, Discovery, Home@36 Bali, Palaca Hotel Cipanas, Hotel Ebony,
Kendari Beach Hotel, Discovery Express

Louvre Hotel Group (LHG)–Jin Jang
Holdings International (4)Royal Tulip, Golden Tulip, Kyriad, X2 Resort

Hilton (4)Conrad, Hilton, Hilton Garden Inn, Double TreeBest Western Group (2)World Hotels Collection, Best Western Hotels & Resorts

Source: Rangkuti (2017) and hotel group’s website

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20International hotels operate in Indonesia (box 8) under different types of contracts and different
types of entry modes (table 7). One of the most critical factors affecting TNCs’ decision to choose
NEMs over FDI is local regulations. According to Ease of Doing Business Rankings data in 2020,4
Indonesia ranks 6th out of ASEAN countries and 73rd globally. Due to such restrictive local regulations,
Indonesia was largely bypassed when 33 Chinese-listed companies were looking for other locationsin 2019 (Patunru and Surianta, 2020). Prior to that, in 2017, Indonesia only managed to attract 10
out of 137 Japanese companies moving into Southeast Asia (World Bank, 2019). Considering thebureaucratic difficulties involved in Indonesian inward FDI, foreign investors who own international
hotel brands have to adopt a more flexible mode of entry such as contract management or franchise
agreements.
In the global hotel industry, high degrees of control and lucrative revenues can be derived fromestablishing contractual agreements with local business rather than investing in real estate, (Queret al., 2007). The internalization theory conceptually suggests that contract agreements allow
firms more flexibility in modifying their decisions in response to unforeseen change in host country
conditions. For example, high transaction costs could arise due to cultural differences in hostcountries particularly in the case of equity investment (Anderson and Gatignon, 1986).

Table 7. Hotel operations by type of entry mode
FDI

Management contract

Franchise agreement

Ownership of the land
and hotel

Owns hotel

Without ownership interest

Without ownership interest

Management control

Direct control

Direct leadershipby expatriates fromheadquarters

Management training
through manuals

Contract fees

Not applicable

Tend to be higher (10% ormore of profit)

Lower (less than 10%)

Scale and speed of
the hotel chain

Slow, smaller scale

Faster, medium scale

Very fast, larger scale

Hotel categories

First stage of hotel chain,
5-star hotel, independent
hotel

Mostly 4-star class

Mostly 3-star class

Source: Adapted from Shinomiya (2016).

The hotel industry is connected to many other industries, including booking services, restaurant
services, food and beverage services, furniture and decoration industries, transportation services
and transport services. These linkages contribute to employment creation and the development ofrelated industries in the country. Thanks to the development of the tourism sector, the hotel industry
has a significant impact on job creation in Indonesia.

4Ease of Doing Business Rankings is a World Bank database that can be accessed at https://www.doingbusiness.
org/en/rankings.

PA P E R 3 I N D O N E S I A

21Box 8. NEM case study: Accor Hotels
Accor Hotels is a global hotel operator that manages 2,359 hotels under direct management
contract and an additional 2,572 hotels under franchise contract in more than 110 countries (as ofJune 2020). Its headquarters are in Issy-les-Moulineaux, France. Accor Hotels has approximately
748,000 rooms under 39 international hotels brands (see box table 8.1).

Box Table 8.1. Chain categories and names of Accor Hotel brands
Category

Brand

LuxuryRaffles, Fairmont, Sofitel, Orient Express, The House of Originals, Delano, SLS, SO/,
Banyan Tree, Rixos, Sofitel Legend

Premium

Pullman, Swissôtel, Movenpick, Grand Mercure, Mantis, M gallery, 21c, Mondrian,
25 Hours, Hyde, Angsana, Peppers, The Sebel, Art Series

MidscaleNovotel, Mercure, Mama Shelter, Tribe, Mantra

EconomyIbis, Ibis Styles, Ibis Budget, Jo&Joe, Adagio, Greet, Breakfree, Hotel F1, Onefinestay

Source: Accor Global Development Summary June 2020.

In November 2019, Accor Hotels signed a hotel management agreement with PT Wijaya Karya
Realty (Wika Realty) to open an Ibis Styles brand hotel in Makassar. Founded in 2000, Wika Realty
was previously a business unit of PT Wijaya Karya (Persero) Tbk, a state-owned construction
company in Indonesia. Wika Realty conducts its business through residence development andproperty management. The properties that are currently managed include residences in the formof tower apartments and landed houses (under the umbrella brand Tamansari), club houses,
industrial estates and office buildings. Of its properties, seven have been developed into hotel
investment properties that spread across several major cities in Indonesia (see box table 8.2).

Box Table 8.2. Wika Realty’s hotel investment properties
Hotel

City

International Partner

Ibis Styles Makassar Airport*

Makassar

Accor Hotels Group

Kyriad Airport Hotel

Tangerang

Louvre Hotels GroupBest Western Premier The Hive Hotel

Jakarta

Best Western Hotel GroupBest Western Premier La Grande Hotel

Bandung

Best Western Hotel GroupBest Western Papilio Hotel

Surabaya

Best Western Hotel GroupBest Western The Lagoon Hotel

ManadoBest Western Hotel Group

Golden Tulip Jineng

Bali

Louvre Hotels Group

Wyndham Tamansari Jivva Resort

Bali

Wyndham Hotel Group

Source: Wikarealty.co.id.
Note: *currently being developed…/

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Box 8. NEM case study: Accor Hotels (Concluded)
Accor Hotels generally operates its hotel chain under one of two business models: franchising andmanagement agreements (see box table 8.3). Hotel projects can start either as newly built projects
or as hotel conversion projects (from existing property).

Box Table 8.3. Accor Hotels business models
Franchising

Management agreement

Revenue

Initial franchise fee, revenue-based basic
franchise, distribution and marketing,loyalty, information technology andproperty management system

Pre-opening, basic management (on revenue),
distribution and marketing, incentive (on grossoperating profit), loyalty, information technology
and property management system

Features

2,572 franchised hotels, most are in theeconomy segment (65%) (as of June 2020)

2,359 company-operated hotels, most are in theeconomy segment (40%) (as of June 2020)

Source: Accor Master Your Development 2017, Accor Hotel Portfolio June 2020.
As a local host company, Wika Realty aligned with Accor Hotels to rebrand 170 rooms in one of
its apartment properties, Tamansari Skylounge Makassar, as a hotel under the name Ibis Styles
Makassar Airport. This hotel will start operating in 2021. Ibis Styles Makassar Airport will operate
under a combination of the franchise and management agreement models (see box figure 8.1).

Box figure 8.1. Ibis Styles Makassar Airport Hotel project
Operator and franchisor

Owner of property and franchisee

Accor Hotels GroupPT. Wijaya Karya Realty
Property Conversion Project
From

Tamansari Skylounge Makassar
Into

Ibis Styles Makassar Airport

Source: Wikarealty.co.id.

PA P E R 3 I N D O N E S I A

23[4] Franchise: Convenience StoreThe dynamics of the retail industry in Indonesia are developing in line with growth in the middle
market segment. The retail industry plays an important role in driving economic growth in termsof trade and consumption. Quoting data from Statistics Indonesia (BPS), in the second quarter of
2020, the trade sector made up 13 per cent of total GDP, while household consumption contributed
58 per cent of total GDP (BPS, 2020). This contribution is said to be quite large even though growthhas decreased compared with the corresponding quarter in 2019 due to COVID-19. This is represented
in figure 8, where the 2019 total retail sales index has increased compared with that of 2017 and 2018
and then decreased in 2020 due to the pandemic.

Figure 8. Indonesia total retail sales index, 2017–2020
270
250
230
210
190
170
150

Jan

Feb

Mar
2017

Apr
2018

May

Jun
2019

Jul

Aug

Sep

2020

Source: Bank Indonesia.
Note: Base year is 2010.

One dynamic of the Indonesian retail industry is the rapid development of information technology,
which requires retailers to adapt and provide online shopping services for an increasingly
sophisticated population. Figure 9 shows that information and communication equipment dominate
the 2020 retail sales index due to shifting most activities online or long distance. Even so, the food,beverages and tobacco sector remains in second place.
Amid these dynamics, the modern store segment, particularly convenience stores, is projected
to be quite promising. Convenience stores have moved from providing impulse products, such as
snacks, beverages and tobacco, to competing with fast-food restaurants by expanding their range ofready-to-eat and impulse items and adding many other services and products to attract consumers.
Euromonitor 2020 data indicate that the number of convenience store outlets in Indonesia reached
34,780 in 2019, an increase of 7 per cent compared with 2013, and sales of $12 billion. This has
triggered TNCs to see a great potential in expanding to Indonesia using NEMs, such as franchising.
Today, large companies operate 65 per cent of​​ Indonesian minimarkets/convenience stores. For
instance, Sumber Alfaria Trijaya owns Alfamart, while the Salim Group owns Indomaret. Other
parties own the remaining 35 per cent through franchise agreements, including Lawson, Inc., fromJapan (box 9), which initially granted the franchise rights to PT Midi Utama Indonesia (Alfamidi).
Between 2011 and the present, Lawson Indonesia has already established 73 outlets. Under afranchise concept, PT Lancar Wiguna Sejahtera (a subsidiary of PT Midi Utama Indonesia), which
oversees Lawson Indonesia, must pay a royalty fee to Lawson, Inc. (box figure 9.1).

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Figure 9. Indonesia total retail sales index by sector, 2020
350
300
250
200
150
100
50
0

Jan

Feb

Mar

Apr

May

Information & Communication Equipment
Food, Beverages, and Tobacco
Total
Other Household Equipment

Jun

Jul

Aug

Sep

2020

Motor Vehicles Part and Accessories
Other Goods
Cultural and Recreation Goods
Automotive Fuels

Source: Bank Indonesia.
Note: Base year is 2010.

Box 9. NEM case study: Lawson, Inc. and PT Lancar Wiguna Sejahtera

Box figure 9.1. Franchise framework of Lawson (Japan) in Indonesia

Home country:
Japan

Indonesia

Lawson Unit FranchiseFranchiseagreement

Lawson Unit Franchise
Lawson Inc.

PT LWS

Lawson Unit Franchise
Lawson Unit FranchiseFranchise fee
Lawson Unit FranchiseFranchise rightFranchise fee

Source: Lawson (2019).

…/

PA P E R 3 I N D O N E S I A

25

Box 9. NEM case study: Lawson, Inc. and PT Lancar Wiguna Sejahtera (Concluded)
The Lawson franchise was first developed in 2011 with PT Midi Utama Indonesia Tbk holding
exclusive rights as a Lawson franchisee. On 6 June 2018, PT Lancar Wiguna Sejahtera (LWS), a
subsidiary of PT Midi Utama Indonesia Tbk, signed a Master License Agreement with Lawson,
Inc. of Japan. The agreement gave LWS exclusive rights to use and act as a franchisee of theLawson trademark and knowhow in Indonesian territory for a period of 18 years, which could be
extended based on agreement between the parties. Lawson, Inc.’s 99 per cent ownership of LWS
will hopefully focus Lawson convenience store development so that its performance will become
more optimal and will increase LWS’s profitability. In return, LWS must pay a royalty fee to Lawson,
Inc. of a certain percentage of the net income of Lawson stores, with expenses such as gondola
rental, floor display rental and promotional participation deducted.
Lawson outlets that provide ready-to-eat food and drinks (convenience stores) sell various Japanese
specialties and other foods such as onigiri, bento, fried rice, pasta and beverage products such as
coffee, ice cream and others. As of May 2020, 73 Lawson outlets are operating in Indonesia.

2.3 Preferred Mode of Foreign Investment Based on AHP
To determine the best foreign investment mode for Indonesia, this study uses AHP (box 10) tounderstand better the choice of FDI or NEMs based on in-depth interviews with experts and businesspractitioners.5

Box 10. Analytical hierarchy process
AHP is a structured technique for organizing and analyzing complex decisions (box figure 10.1).
Individual experts’ experience is used to estimate the relative magnitude of factors through pairwise
comparisons. Each respondent must compare the relative importance of the two items in each pairthrough a specially designed questionnaire on a scale of 1–9. Fundamentally, AHP divides a complex
and unstructured problem into groups, arranges the groups into a hierarchy, assigns numericalvalues as a substitute for human perception in making relative comparisons and finally determines
which elements have the highest priority. The AHP principle is to weight each factor, variable andindicator by comparing factors, variables and indicators with one another. A greater weight of an
indicator signifies an indicator’s greater importance in determining the preferred mode of foreign
investment in Indonesia. The appendix presents a more technical explanation of the method.
To analyze the variables that determine the best mode of foreign investment in Indonesia, UNCTAD(2011) reports that NEMs, like FDI, have various types of development implications, including
employment creation, increase in local value added, export generation, technology and skills
acquisition, social and environmental impacts and long-term capacity building. Furthermore,
Combs et al. (2004) argue that franchising—one of many NEMs—enhances growth and survival of…/5

Two experts and one business practitioner participated. The former have expertise in international economics witha concentration in agriculture and tourism, and the latter is a businessman and a representative from GAPKINDO(Indonesian Rubber Association). The COVID-19 pandemic prevented interviews with more experts, weakening thestatistical significance. Nevertheless, with this caution kept in mind, this section provides some important insights.

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Box 10. Analytical hierarchy process (Concluded)
the franchisee’s business. Besides franchising, contract farming led to higher household income(Bellemare, 2012). Furthermore, contract farmers earn higher yields due to technical assistanceand specialized inputs (Miyata et al., 2009). Finally, Kim (2008) shows that hotels that participatedin contract management had higher financial performance in terms of profitability, stability andoperating indicators. These variables from the literature form the hierarchy of the AHP model of
16 variables and indicators seen in box figure 10.1. From this hierarchy model, the experts will
select the preferred mode of foreign investment for Indonesia. NEMs and FDI will be evaluatedusing the predetermined criteria and sub-criteria as written in the hierarchy.

Box figure 10.1. AHP model to determine FDI or NEMs
Preferred Mode of Foreign Investment for Indonesia as Host Country1.
Growth and Survival
of Businesses

2.
Socio-Economic
and Developmental
Impact3.
Expansion ofMarket Access

5.
Financial
Perfomance

7.
Creation of
Employment

9.
Domestic
Market6.
Increase of
Local Value-Added

8.
Increase ofHousehold Income

10.
International
Market11.
Export12.
Import13.
Others (branch
expansion,internationalcustomer, etc.)

NEM
Source: AJC.

FDI

4.
Acquisition ofTechnology,
Knowledge & Skills

14.
Intellectual
property(patents,
blueprints,
manuals)

15.
Capitalmachinery andequipment

16.
Knowledge andorganizational
skills andproduction
activities(quality
standards,
business models,company culture
and values)PA P E R 3 I N D O N E S I A

27In-depth interviews indicate that, in general, FDI still has a bigger impact on Indonesia thanNEMs (figure 10). Thus, compared with NEMs, FDI is preferred under the defined set of variables
and indicators in box 10. The expert in agriculture and the expert in tourism generally concur withthis finding.

Figure 10. Preferred foreign investment mode based on AHP results by expert (Weight)

0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
Expert on Agricultural
EconomyExpert on Tourism
and Services Economy

NEM

Experts - Combined

FDI

Source: AJC.
Note: The sum of weights is calculated to be 1.

While the experts’ expertise likely influences the results, the agriculture expert and the tourism
expert both agree that FDI has a greater positive impact on Indonesia. Both experts consider the
preferred investment mode to be the one that yields the greatest positive impact for Indonesia.
Generally, both experts heavily weight the ability of a foreign investment mode to ensure the growthand sustainability of a business and expand market access for a business (figure 11). Moreover, theagriculture expert emphasized the ability of an investment mode to provide access for businesses
to acquire technology, skills and knowledge. In contrast, the tourism expert emphasized expanding
market access.
Figure 12 describes the advantages of each investment mode based on the criteria in more detail.
Overall, FDI excels in three criteria: business growth and sustainability (1 in box figure 10.1),
expansion of market access (3 in box figure 10.1) and acquisition of technology, skills and knowledge(4 in box figure 10.1). NEM only excels in terms of socioeconomic and development impacts (2 inbox figure 10.1). Nevertheless, although NEMs provide a greater socioeconomic and development
impact than FDI, the weight of socioeconomic and development impacts is only 0.115 of the total
existing weights.

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28

Figure 11. Criteria for the preferred foreign investment mode basedon AHP results by expert (Weight)

0.7
0.6
0.5
0.4
0.3
0.2
0.1
0

Expert on Agricultural
EconomyExpert on Tourism
and Services Economy

Experts - Combined

Growth and Survival of Businesses

Socio-Economic and Developmental Impact

Expansion of Market AccessAcquisition of Technology, Knowledge and Skills

Source: AJC.
Note: The sum of weights is calculated to be 1.

Figure 12. Preferred foreign investment mode per criterion basedon AHP results by expert (Weight)
0.9
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0

NEM

FDI

Growth andSurvivalof Businesses

NEM

FDI

Socio-Economic
and Developmental
ImpactExpert on Agricultural Economy
Expert on Tourism and Services Economy

Source: AJC.
Note: The sum of weights is calculated to be 1.

NEM

FDI

Expansion ofMarket Access

NEM

FDI

Acquisition ofTechnology,
Knowledge and Skills

Experts - Combined

PA P E R 3 I N D O N E S I A

29For NEMs to become the preferred choice, TNCs wishing to implement NEMs in Indonesia,
particularly in agriculture and tourism, must at least be able to promise business growth andsustainability and expand market access for Indonesian companies. In agriculture, opportunities toacquire technology, knowledge and skills are of paramount importance, and in the tourism sector,
expanding market access is vital.
To encourage business growth and sustainability, the aspect that must be promised is increased
sales and value added (5 and 6 in box figure 10.1) (figure 13). This is what Indonesian companies aremost concerned about in driving the growth and sustainability of their businesses. To encourage
the acquisition of technology, knowledge and skills, the acquisition of organizational knowledge andskills and production activities should be accentuated (16 in box figure 10.1) (figure 14).
Thus, to expand market access, the international market becomes the most attractive aspect(10 in box figure 10.1) (figure 15). An investment mode that can expand a company’s market accessto international markets is a better investment mode than other investment modes. In particular,
to encourage market expansion in international markets, aspects other than exports and imports
have a higher weight (13 in box figure 10.1) (figure 16). This indicates that an investment mode thatcan promise companies access to international customers, new international partners and evenbranch expansion abroad would be preferred.

Figure 13. The most important aspects to drive business growth and sustainability
based on AHP results (Weight)

0.9
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
Expert on Agricultural
EconomyExpert on Tourism
and Services Economy

Financial Performance

Source: AJC.
Note: The sum of weights is calculated to be 1.

Experts - Combined

Increase in Local Value-Added

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Figure 14. The most important aspects to encourage acquisition of technology,
knowledge and skills based on AHP results (Weight)

0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
Expert on Agricultural
EconomyExpert on Tourism
and Services Economy

Intellectual property(patents, blueprints, manuals)
Capital machinery and equipment

Experts - Combined

Knowledge and organizational
skills and production activities(quality standards, business models,company culture and values)

Source: AJC.
Note: The sum of weights is calculated to be 1.

Figure 15. The most important aspects to expand market access basedon AHP results by expert (Weight)

1
0.9
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
Expert on Agricultural
EconomyExpert on Tourism
and Services Economy

Domestic Market

Source: AJC.
Note: The sum of weights is calculated to be 1.

Experts - Combined

International Market

PA P E R 3 I N D O N E S I A

31Figure 16. The most important aspects to expand international market accessbased on AHP results by expert (Weight)

0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
Expert on Agricultural
EconomyExpert on Tourism
and Services Economy

ExportOthers (branch expansion, international customers, etc.)

ImportExperts - Combined

Source: AJC.
Note: The sum of weights is calculated to be 1.

Box 11. Results of the analytical hierarchy process in the rubber sector
Due to sectoral differences, the representative from the rubber sector received more specificquestions regarding NEMs in that sector. Specifically, the businessman representing this sector
was not asked to compare modes of foreign investment. Instead, he was only asked about thebenefits that domestic rubber companies that had NEM relations with TNCs would receive. The
informant in the rubber sector represents GAPKINDO (Indonesian Rubber Association).
In-depth interviews and AHP data processing yielded results that were quite consistent with theresults from the sector experts. Overall, GAPKINDO sees receiving a boost in business growth andsustainability (1 in box figure 10.1) as the biggest benefits of domestic rubber companies’ NEM
relationships (box figure 11.1). Aside from these aspects, NEM can encourage market expansion.
For GAPKINDO, in terms of encouraging business growth, NEMs can increase local added value
and sales (box figure 11.2). NEMs are also beneficial for the expansion of a company’s market
because, for GAPKINDO, NEMs can expand rubber companies’ market access to international
markets, especially for exports (box figure 11.3).

…/

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Box 11. Results of the analytical hierarchy process in the rubber sector (Concluded)

Box figure 11.1. The biggest benefit of NEMs according to GAPKINDO based on AHP
results by factor (Weight)
0.6
0.5
0.4
0.3
0.2
0.1
0
Growth and Survival
of Businesses

Socio-Economic
and Developmental
ImpactExpansion ofMarket AccessAcquisition ofTechnology,
Knowledge and Skills

Box figure 11.2. The biggest benefit of NEMs according to GAPKINDO in the businessgrowth and sustainability aspect based on AHP results (Weight)
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
Financial Performance

Increase in Local Value-Added

Box figure 11.3. The biggest benefit of NEMs according to GAPKINDO in theinternational market expansion aspect based on AHP results (Weight)
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0

ExportSource: AJC.
Note: The sum of weights is calculated to be 1.

ImportOthers (branch expansion,international customers, etc.)

PA P E R 3 I N D O N E S I A

33

3. OPPORTUNITIES AND CHALLENGES
This section analyses opportunities and challenges facing Indonesia in promoting and utilizing NEMs
(figure 17). By establishing NEM agreements with TNCs, each industry will benefit from several
opportunities. However, NEMs also present challenges to local firms, particularly because of thecharacteristics of NEMs.

Figure 17. Opportunities and challenges for NEMs in Indonesia (Major industries only)

Local firms/
local employees

Agreement between
TNCs and local firms

TNCs

Opportunity

Challenges
Contract farming
Natural rubber

Management know-how
transfer, access toforeign markets

Fluctuating international price,
standards and requirementsfrom international demand

Non-Equity Modes in Indonesia

Subcontracting
FootwearManagement know-how
transfer, access toforeign markets

Standards and requirementsfrom international demand

Management contract
HotelManagement know-how
transfer, training by TNC,
job creation

Substantial investment
is required from locals

Franchising
Convenience store
Management know-how
transfer, job creation

Source: AJC.

Training by TNC,
localization

34

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3.1 The Pursuit of Industrialization in Indonesia
Indonesia is ambitious to get out of the middle-income country group. Rodrik (2013) states that an
important prerequisite to achieving this is the manufacturing sector’s development. At the sametime, Hardiana and Hastiadi (2019) find that Indonesia needs at least 6 to 7 per cent growth in percapita income per year.
Therefore, Indonesia must have inclusive, stable and sustainable economic growth and a welldeveloped manufacturing sector. The decline in the performance of the manufacturing sector, as
evidenced by the phenomenon of premature de-industrialization, complicates matters. The decline in
manufactured exports further exacerbates the situation. So far, Indonesian economic growth in termsof trade relies heavily on commodity exports, which, in fact, are very vulnerable to global commodity
prices (Wihardja, 2016). Indonesia must therefore switch to exports of manufactured products.
At least two things can help develop the manufacturing sector: encouraging manufacturing exports
and supporting technology transfer. Although manufacturing exports have declined due to the
manufacturing sector’s declining performance, advancing manufactured exports will also boost theperformance of the manufacturing sector. As the case study in box 11 described, NEM cooperation
with TNCs increases demand for domestic products from abroad, in turn increasing manufacturingexports. The results of the AHP by GAPKINDO also show that NEMs can encourage increased local andexport value added, two components that are critical in paving the way for Indonesia to industrialization.
Technology transfer is another important component in advancing the manufacturing sector (Hastiadi
and Santoso, 2021). Krugman (1979) argues that obtaining technological transfer from developed
countries through FDI or NEMs could strengthen future comparative advantages. Although expertssuggest that FDI provides greater technology transfer, NEMs’ contribution to technology transfer
cannot be denied. Thus, NEMs can help Indonesia achieve industrialization through expanding
market access, adding local added value and transferring technology.

3.2 OwnershipIf a TNC does not yet have business activities in Indonesia, entering the market through NEMs will
be easier. If a TNC can find a local company that can offer services rather than its own affiliate, it
can contract with the local company instead. This is one of the advantages of having NEMs for the
TNC in the host country.
Therefore, a potential opportunity exists for local companies in the rubber, footwear, hotel, retail andother industries to enter into contractual agreements with TNCs. However, while local companies
may see such opportunities as attractive, they need to have a minimal level of management skills,
including autonomy and initiative, technological skills and capacity, because TNC support is limited.
In addition, contractual agreements with TNCs are unstable because such agreements are notguaranteed for a long term and can be terminated at any time. For example, if the TNC’s demand
shifts to a new position and the local company does not have the capacity to meet the new demand,
the TNC can easily terminate its contract and move to another country.

3.3 Control
One of the features of NEMs is that foreign firms or TNCs do not directly own the business activities
of local firms but control them indirectly, that is, TNCs’ shares of equity do not control local firms.

PA P E R 3 I N D O N E S I A

35Local firms face several challenges, as the contracts between local firms and TNCs are easily
jeopardized. For example, in the natural rubber industry, when local firms do not provide thequality of natural rubber TNCs, such as international tire companies, require, TNCs can easily
terminate their contract. In the footwear industry, if the demand of the TNC shifts to a new typeof shoes, and local firms do not have the capacity to produce them, then local firms would lose
the contract.

3.4 Localization Strategies
Governments often launch localization strategies when foreign TNCs engage in manufacturing
for the domestic market. This is how Indonesia, Malaysia and Thailand initially promoted local
suppliers in the automotive industry (Rasiah, 2010). Yet, these opportunities have been largely
lost since deregulation began in the region (following the launch of the ASEAN Free Trade Area
in 1992 and then the ASEAN Economic Community in 2015) and around the world by the World
Trade Organization in 1995. Nonetheless, the government still enjoys the space to promote
relations with national NEM companies without violating the World Trade Organization TradeRelated Investment Measures instrument, which prohibits differential trade treatment based onownership (Rasiah, 2005).
TNCs operate globally, and the operations or activities of local companies are part of their global value
chain (GVC), whether done with FDI or NEMs. If a local company needs to implement a localization
strategy to meet the TNC’s demand, the local company will have the initiative for the operation,
which in turn will create more opportunities. In an industry with franchise agreements, operations
or activities—for example, in the retail industry, especially convenience stores—require a localization
strategy, which the hotel industry does not require. In the retail industry, the host country provides
customers and demand. In the case of Indonesia, local companies such as Sumber Alfaria Trijaya(Alfamart) and Salim Group (Indomart) own most convenience stores. Indonesia has many Muslims
leading some players to see an opportunity to create a business with a sharia concept. Several
community-based (Muslim) companies have also started to emerge. For instance, 212 Mart hasestablished itself as a modern sharia-based minimarket that offers halal products. Consequently,
the TNC needs a localization strategy to meet the demands of local customers.

3.5 Relationships between NEM Modalities and Industries
Certain modalities relate to specific industries in Indonesia. For example, the rubber industry uses
contract farming, among others; the footwear industry applies subcontracting and the hotel andretail industries predominantly implement contract management and franchising.
Management and franchise contracts should be promoted as foreign brand holders have demonstrated
strong global marketing capabilities to attract tourists from around the world to countries and to hotels
in those countries. However, because brand holders have strict requirements to protect their brands,
national owners need to maintain high operating standards to remain attractive to brand holders.
In the retail industry, one scenario is a TNC implementing FDI, followed by NEMs. Another scenario
is a local company (master franchisee) entering into a franchise agreement directly with a TNC in its
home country. While the activities of the franchise unit may look similar in both cases, their impact
on local franchisees differs significantly. The level of direct participation by foreign parent companies
in a local franchise is minimal if the local master franchise has a direct NEM relationship with aforeign franchiser abroad.

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3.6 Opportunities and Challenges for Local Firms through NEMs
The existence of NEMs provides several potential benefits for local companies to grow theirbusinesses. However, Indonesian firms may face some potential issues that need to be considered.
Table 8 illustrates opportunities and challenges that are grouped into four categories: (1) continuity
issues, (2) typical NEMs issues, (3) capacity-building issues and (4) local firm initiatives and local
embeddedness issues. If local firms can strategically maximize TNCs’ know-how and technologicalskills by linking with them, they can build capacities to deal with the challenges and even expand
their businesses by using the TNCs’ networks.

Table 3. Opportunities and challenges local firms that engaged in NEMs faceOpportunities

Typical industries
concerned

Challenges

Continuity problems
Easier to find TNC partners in andoutside the country through, forexample, matching events and theInternet (because TNCs do notdirectly invest in the business)

Natural rubber andfootwear

TNCs can easily terminate contracts, andlong-term relationships are not guaranteed.
If quality of services or goods do not meet
the TNC’s standard and if local firms inother countries
are more competitive (e.g., competitors in
the footwear industry in China and Viet Nam)Natural rubber, footwear
and hotels

Using global brands can negatively affect a
local firm’s product if the brand (as a whole
or a particular branch) has some issues(e.g., footwear and hotels under a global
brand).

Typical NEMs issues
Easier to enter a new market or new
area even when demand is not yet
present in the country. Skills, talentsor resources that are available but
not required in the country can beutilized outside the country.

Demand by TNCs may change depending on
the interest and taste of their clients (e.g.,changes in trends for tourism destinations
and footwear styles).

Capacity-building issues
Easier for local employees towork in business activities in theindustry because of their low skill
requirements at the entry level.

Natural rubber, footwear,
hotels and convenience
storesLocal firms struggle to build further capacity
apart from receiving orders from customers
as they get only relevant know-how atbest (e.g., upgrading value chain activities
through their own efforts is difficult).

Initiatives and local embeddedness issues
Local firms and franchisees needto consider the localization model
carefully, so local firms take a longer
time to make profits. Therefore, theyseek initiatives for their operations or
activities that lead to embeddedness.

Convenience stores

TNCs should consider that local companies
dominate convenience stores in Indonesia
and prepare appropriate strategies. In the
short term, franchisees or local firms may
face difficulties in adapting TNCs’ original
strategies to local tastes and need to learn
through experience until they become partof the community (e.g., in the retail industry,
franchisees need to localize the TNCs’
strategy to meet local customer demands
that TNCs are not aware of).
…/

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37Table 3. Opportunities and challenges local firms that engaged in NEMs face (Concluded)
Opportunities
Local firms adapt to foreign design
and management and do not needto think about local values and alocalization strategy (that is, local
firms make profits more quickly byusing a TNC’s business model).

Typical industries
concerned
Hotels and footwear

Challenges
Local firms may lose their initiative,
creativity and traditional values, aside fromdesigning limited products in the footwear
industry (e.g., local firms may follow TNCs’
business models in the hotel industry as
they do not need to implement a localization
strategy).

4. POLICY IMPLICATIONSOver the past decade, the broader ASEAN region has been attracting FDI inflows, while FDI toindividual ASEAN countries has slowed in the past few years. Concerning the risk associated withinter-ASEAN relationships, the Indonesian government needs to aim to develop the economy so thatit enhances opportunities at the local level rather than develop an externally dependent economy.
To support this strategy, implementing NEMs has huge potential to make Indonesia become amajor player in GVCs with locally based growth. NEM cooperation also has a major impact on agovernment’s industrial development policy. Therefore, the Indonesian government must consider
whether any special policy framework is needed to promote NEMs.
UNCTAD (2011) indicates that maximizing the benefits that developing countries can obtain from
integrating local firms into a TNC’s GVC requires policymakers in developing countries to formulate
responses to several challenging areas (see table 9).

Table 9. Maximizing development benefits from NEMs
Policy area

Key actions

Embedding NEM policies inoverall development strategies• Integrating NEM policies into industrial development strategies• Ensuring coherence with trade, investment and technology policies• Mitigating dependency risks and supporting upgrading efforts

Facilitating and promoting NEMs

• Setting up an enabling legal framework• Promoting NEMs through investment promotion agencies• Securing home-country support measures• Making international policies conducive to NEMs

Building domestic productive
capacity• Enhancing technological capacities• Strengthening human resources• Developing entrepreneurship• Providing access to finance

Addressing negative effects• Protecting labour rights and the environment• Safeguarding competition• Strengthening the bargaining power of domestic firms

Source: UNCTAD (2011), p. 165.

In addition to the UNCTAD proposal, the following sections present five strategies for Indonesia that the
government, TNCs and local firms can consider to facilitate inclusive economic growth in Indonesia.

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4.1 Enhancing the Capability of Local Firms
Local firm capacity must be increased so that local companies can meet demands from TNCs.
TNCs generally already have quite sophisticated systems and technology. In establishing NEM
relationships with local companies, TNCs will certainly look for local companies that are ready toadopt the system.
One issue is the low quality of human resources, which can be overcome with training. To address
this issue of low quality of human resources, the government has launched a Pre-Employment Card
program (program kartu pra-kerja), which provides related training. This program is very appropriate
considering that, according to Statistics Indonesia, only 10 per cent of the national workforce
participated in training in 2019. Ensuring such a training program as this Pre-Employment Card
program is crucial because the Indonesian labour market will become more flexible after passageof the Job Creation Law. If applied to an unprepared environment, a flexible labour market actually
increases inequality between high-skilled workers and low-skilled workers. A flexible labour market
benefits high-skilled workers more because their skills make finding jobs again easier. This differs
for low-skilled workers. Unlike high-skilled workers, the employability of low-skilled workers
correlates with their ability to find skills-enhancing jobs and to diversify their work experience tomaintain their reputation and potential for learning.
Unfortunately, a flexible labour market will make it difficult for low-skilled workers to upgrade
their skills because such a labour market will reduce training participation. Contract workers
may not receive adequate training from a company because they only have short-term contracts.
Companies have less incentive to develop the human resources of their workers if their contracts
expire. Therefore, many low-skilled workers will remain less skilled because they have never had
job stability and training. Thus, lack of training will cause skills to decline, which in turn will reducelabour productivity.
The lack of training is generally experienced more by informal businesses and lower-class workers(blue-collar workers). The 2019 Statistics Indonesia data show that one third (30 per cent) of whitecollar workers have participated in training. TNCs—which are more interested in establishing NEM
relationships with companies with high capabilities—will primarily establish relationships withcompanies with many white-collar workers. TNCs will largely abandon MSMEs, which generally do
not have white-collar workers. Allowing such a dynamic to continue will further widen inequality.
Overall, MSMEs in Indonesia encounter several problems such as lack of access to finance, poor
quality of managerial and human resources, lack of access to markets and raw materials, minimal
technology adoption and licensing. The government has so far launched several policies to overcome
some of these problems. For instance, to improve MSMEs’ financial access, the government has issued
a people’s business credit (kredit usaha rakyat) policy, followed by an ultra-microfinancing (UMI) policy.
Another program worth mentioning is JakPreneur,6 an entrepreneurial development or incubation
program organized by the DKI Jakarta Provincial Government. This program includes various activities
that include training for entrepreneurs and MSMEs, entrepreneurial assistance, licensing assistance,
marketing assistance, training in preparing financial reports and capital facilitation. Specifically, under
Regulation No. 2 of the Governor of DKI Jakarta of 2020, JakPreneur aims to increase the number of
independent, quality, resilient and reliable entrepreneurs through developing the scale of productive
businesses and increasing the productivity and competitiveness of MSMEs in supporting economic

6

Formerly known as OK-OCE (One Kecamatan (District), One Center of Entrepreneurship) in 2017 and Pengembangan
Kewirausahaan Terpadu (Integrated Entrepreneurship Development) in 2018–2019.

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39growth and equality. This program not only involves the government, but also society at large. The
community can be involved as trainers, business assistants and business coaches.

4.2 Improving Investment Regulations
According to the 2017 Executive Opinion Survey conducted by the World Economic Forum, two of
the 16 most problematic factors for doing business in Indonesia are corruption and inefficiency of
the government bureaucracy, which includes issues of legal overlap and poor coordination between
regional governments and the central government. These problems are an obstacle to the entry of
foreign investment into Indonesia, including FDI and NEMs. In terms of the ease of doing businessindicator released by the World Bank, Indonesia ranked 73rd out of 190 countries in 2019. In ASEAN,
Indonesia ranks 6th out of 10 countries, losing to Singapore (2nd in the world rank), Malaysia (12thin the world rank), Thailand (21st in the world rank), Brunei Darussalam (66th in the world rank)
and Viet Nam (70th in the world rank). Some of the aspects that most hampered Indonesia in termsof this ease of doing business indicator relate to starting a business and registering a property—
aspects that relate closely to regulation and bureaucracy. In fact, the Indonesian government’s
ratification of the Job Creation Law at the end of 2020 aimed to solve this problem. Resolving thisproblem aims to improve the Indonesian business environment and attract TNCs to establish NEM
relationships with Indonesian firms.

4.3 Promoting and Upgrading Skills and Expertise
The low skill of the workforce in certain industries has reduced TNCs’ interest in establishing NEM
relationships with Indonesian companies. Based on Statistics Indonesia data, in August 2020, of the
203 million national population aged over 15 years, only 10 per cent had completed higher education(academies, diplomas and universities). Moreover, 38 per cent of the population aged over 15 years
were educated below the elementary school level, and the remaining 52 per cent had secondary
level education (junior high, senior high and vocational schools or SMKs). Aside from the issue oflow formal education attainment, Indonesia also grapples with the issue of matching, that is, thedisconnect between what is taught in schools and what industry needs. In fact, SMKs should solve
this problem. Yet, the facts show the opposite. In 2019, of the 7.67 million unemployed, 23 per centor 1.78 million of them were SMK graduates. In terms of the unemployment education profile, SMK
graduates are the most numerous. This is far from the purpose of SMKs, which should produce
graduates who are immediately ready to work. However, instead of working, they mostly make up
the ranks of the unemployed.
Facing such problems, in the short term, the government has launched a Pre-Employment Card
program aimed at filling the skills gap left by educational institutions. The Pre-Employment Card
provides beneficiaries with social assistance money and access to training. The only drawback ofthis policy is poor timing. The Pre-Employment Card is designed for a normal situation, not forthe pandemic era in which unemployment is the result of a decline in economic activity. During
the pandemic, economic activity has been forced to slow down, decreasing 25–50 per cent from its
optimal level. Unemployment from declining economic activity is not due to a skills gap between theskills possessed by prospective workers and those that employers demand. The current condition ismore accurately described as the disappearance of employers.
In the long term, the government has prepared several new education programs such as the Kampus
Merdeka (free campus) program, which effectively enables students to take direct internships inindustry or the world of work thus allowing students to catch up on their skills.

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4.4 Promoting Connectivity and Coordination
Joint organizational support for NEM companies is not sufficient to stimulate technological upgrading.
Strong connectivity and coordination between basic infrastructure and science, technology andinnovation and NEM companies are required. Connectivity alone is a challenge for Indonesia as anarchipelagic country. Hence, an emphasis on basic infrastructure will help companies build more
efficient business practices, shorten waiting times and reduce costs. Then, the development ofscience, technology and innovation infrastructure; science parks; industry-university linkages andstandard organizations, together with good quality and technically skilled university graduates, will
help stimulate innovation synergies in the company. Companies must upgrade their technology toenjoy participation in high value added activities.

4.5 Promoting Integration into Global Markets
NEMs can help ASEAN become more integrated. In 2015, ASEAN committed to change economic
integration from free flows of goods to free flows of investments, services and capital, pursuing thiscommitment through the implementation of the ASEAN Economic Community. The ASEAN Economic
Community offers low to zero tariffs on most product lines. Through this agreement, ASEAN NEM
companies can enjoy preferential treatment in the ASEAN market. The role of Indonesia in ASEAN
is also important; not only because Indonesia holds the highest share of ASEAN GDP at around 38
per cent and has the highest share of ASEAN’s population at around 41 per cent, but also because
the Indonesian share of total intra-ASEAN trade is 17 per cent among the top four ASEAN members(Verico, 2017). The Regional Comprehensive Economic Partnership concluded in late 2020 further
expands the market to a wider East Asia. Hence, the Indonesian government’s efforts to maximize
such opportunities include reduction of bureaucracy and deregulation in customs controls involving
trade. Reduced bureaucracy and deregulation will help companies to enter the global market more
efficiently, which will increase the competitiveness of Indonesian companies in the global market.
Further, facilitating investment policies and a more flexible labour market are indispensable
strategies to improve Indonesian competitiveness in the future.
The Government of Indonesia should consider implementing and strengthening the regulatory
framework for NEM firms so that they can successfully export, expand employment and upgrade
technologically. This initiative should start with a profound evaluation of the critical policy pillars
shown in table 10. This would be a first step for the government to decide whether it will establish
a policy framework for NEM promotion and, if so, to decide what, how and to what extent the
government must do.

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41Table 10. Checklist for NEM agreements and operations to maximize benefits andminimize costs from NEMs
Government
policy on NEMs

Compliancewith laws

Whether an agreement exists on NEM contract performance
Whether an agreement exists on contract terms (durations)
Whether an agreement exists on contract termination and its process
Whether an agreement exists on contract arrangements (additional
contracts) and their process

Respect for humanrightsWhether rules cover non-discrimination
Whether rules cover basic human rights
Whether rules cover harassment (whether a power balance exists
between local NEM firms and TNCs)

Environmental
considerations

Whether guidelines address air pollution by local NEM firms
Whether guidelines address water contamination by local NEM firms
Whether guideline address environmentally friendly goods or services
by local NEM firms

Work environment

Whether employment rules (laws) address age under the NEM
agreement
Whether employment rules (laws) address gender under the NEM
agreement
Whether employment rules (laws) address working environments
under the NEM agreement
Whether employment rules (laws) address working hours under the
NEM agreement
Whether employment rules (laws) address working conditions under
the NEM agreement
Whether employment rules (laws) address taking holidays under the
NEM agreement
Whether employment rules (laws) address treatment of absence
under the NEM agreement
Whether employment rules (laws) address maternity-related leave
under the NEM agreement
Whether guidelines address a safe and pleasant work environment
under the NEM agreement

Government
policy on NEMs

Work environment

Whether guidelines provide a support system of childcare andnursing care
Whether employment rules (laws) address terminating employment
contracts under the NEM agreement

For local firms’
development

Whether a program exists that local NEM firms can use to improvetheir technology/capacity
Whether a program exists that local NEM firms’ employees can learn
fromWhether a program exists that local NEM firms can take tounderstand the industry business environment

Subcontractors andsuppliers

Whether guidelines provide similar NEM policies for local
subcontractors and suppliers…/

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Table 10. Checklist for NEM agreements and operations to maximize benefits andminimize costs from NEMs (Concluded)
For TNCs that
the Indonesian
government
should address

Earning the trustof customers andconsumers

Whether guidelines exist for TNCs to provide correct information on
their products or services

Mutual growth withpartner companies

Whether guidelines exist for TNCs to respect free and fair trade rules
Whether guidelines exists for TNCs to provide relevant information
required for trading
Whether guidelines exist for TNCs to develop relationships based ontrust with local NEM firms

Coexistence withlocal communities

Whether guidelines exist for TNCs to establish and maintain a good
relationship with local communities where local NEM firms arelocatedSource: Adapted from Tokyo Chamber of Commerce and Industry (2013).

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43

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APPENDIXAPPENDIX A. Technical Explanation of the AHP Method
A fundamental problem of decision theory is how to derive weights for a set of activities according toimportance. We usually set priorities to scale, that is, determining which priority is more important
than others. Importance is usually judged according to several criteria. This multiple criterion
decision-making is made through a hierarchical structure whereby rank ordering usually determines
the most important thing. However, the precise weight cannot be acquired using such a method.
The problem then is to obtain relative strength.
Saaty (1977) developed a method to scale the weight using a hierarchical structure. Saaty (1977)
constructs a pairwise comparison matrix that can indicate the relative strength of each criterion
and its alternative.
In conducting AHP analysis, the researcher(s) must first define the hierarchy’s goal(s). For example,
in this study the goal is to determine the preferred foreign investment mode for Indonesia.
Additionally, the alternatives must be defined. In section 2, the defined alternatives are FDI and
NEMs. The next step is to specify the criteria that determine what makes a given foreign investmentmode the preferred mode. Researcher(s) could add sub-criteria to those criteria to further specify
the preferred foreign investment mode. For example, the criteria specified in section 2 are (1) growthand survival of businesses; (2) socioeconomic and developmental impact; (3) expansion of market
access and (4) acquisition of technology, knowledge and skills (see box figure 10.1).
To calculate weights and importance, researcher(s) conduct interviews with experts and fill in aquestionnaire. Table 1A presents part of the questionnaire used in this study.

Table 1A. Questionnaire9Extremely

7
Very Strongly

5

Strongly

3
Moderately

1

Equally

1. Growth and Survival
of Businesses

3
Moderately

1

5Strongly

Preferred Mode of Foreign
Investment for Indonesia
as Host Country

7
Very Strongly

No.

Extremely

9

Preferred Mode of Foreign
Investment for Indonesia
as Host Country
2. Socioeconomic andDevelopmental Impact

Source: Saaty (1977).

The experts were asked which criterion best depicts the preferred foreign investment mode forIndonesia. For example, table 1A shows that growth and survival of businesses is strongly more
important than socioeconomic and developmental impact as a criterion of the preferred mode offoreign investment for Indonesia. Similar questions continue until all criteria have been compared.
The results are then tabulated as in table 2A. After being tabulated, the values for each column areadded up.

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Table 2A. Pairwise comparison matrix of the criteria
Criterion

1. Growth andSurvival ofBusinesses

2. Socioeconomic
3. E xpansion ofand Developmental
Market Access
Impact

4. Acquisitionof Technology,
Knowledge
and Skills

1. Growth andSurvival ofBusinesses

1

5

3

1/5

2. Socioeconomic
and Developmental
Impact

1/5

1

1/3

1/7

3. Expansion ofMarket Access

1/3

3

1

1/3

4. A
 cquisition ofTechnology,
Knowledge andSkills

5

7

3

1

98/15

16

22/3

176/105

Column totals
Source: Author.

Next, the number in each cell in the matrix is divided by the sum for each column and each row’sarithmetic mean is calculated as in table 3A.

Table 3A. Row averages of pairwise comparisons of the criteria
Criterion

1. Growth andSurvival ofBusinesses

2. Socioeconomic
3. Expansion
and Developmentalof Market
ImpactAccess

4. Acquisitionof Technology,
Knowledge
a Skills

1. Growth andSurvival ofBusinesses

0.15

0.31

0.41

0.12

2. Socioeconomic andDevelopmental
Impact

0.03

0.06

0.05

0.09

3. Expansion ofMarket Access

0.05

0.19

0.14

0.20

4. Acquisition ofTechnology,
Knowledge andSkills

0.77

0.44

0.41

0.60

Row
average

0.248
0.055
0.143
0.552

Total

1.000

Source: Author.

From the calculation shown in table 3A, the weights of the criteria are obtained. Thus, we canconclude that the acquisition of technology, knowledge and skills is the most important criterion for
a foreign investment mode to be considered the preferred mode (with the highest value of 0.584). The
second most important is growth and survival of businesses (with the second highest value of 0.233).
The third most important is expansion of market access, and the least important is socioeconomic

PA P E R 3 I N D O N E S I A

47and developmental impact. The same steps are then taken for the sub-criteria and alternatives. For
example, table 4A tabulates the sub-criteria for growth and survival of businesses.

Table 4A. Pairwise comparison matrix of sub-criteria for growth and survivalof businesses
Growth andSurvival ofBusinesses

5. Financial
6. Increase of
Performance
Local Value
Added

5. Financial
Performance1

Growth andSurvival ofBusinesses

5. Financial
6. Increase of
Performance
Local Value
Added

1/5

5. Financial
Performance

0.167

6. Increase of
Local Value
Added

0.838

6. Increase of
Local Value
Added

5

1

Column totals

5

6/5

Row
average

0.167
0.167
0.838

0.838
Total

1.00

Source: Author.

Table 4A shows that to ensure growth and survival of businesses, a foreign investment mode mustfirst ensure the increase of local value added and then financial performance. Next table 5A shows
an example of the tabulation of the alternative modes of foreign investment.

Table 5A. Pairwise comparison matrix of foreign investment alternatives for
sub-criterion increase of local value added
NEM

FDI

6. Increase of Local
Value Added

NEM

FDI

NEM

1

1/4

NEM

0.20

0.20

FDI

4

1

FDI

0.80

0.80

Column totals

55/4

6. Increase of Local
Value AddedRowaverage
0.200
0.800

Total

1.00

Source: Author.

Table 5A only shows the result of the preferred foreign investment mode in terms of the increaseof local value added. To determine the preferred mode overall, we must get the result based on
all criteria. First, we must calculate the weights of the alternatives based on the criteria. To do so,tabulate all the rows’ averages obtained from pairwise comparison matrixes of alternatives andsub-criteria.

Table 6A. Aggregation of row averages obtained from pairwise comparison matrixes
of foreign investment alternatives and sub-criteria
Alternatives
NEM
FDI

5. Financial
Performance

6. Increase of
Local Value
Added

0.167
0.838

0.200
0.800

1. Growth and Survival ofBusinesses
5. Financial Performance
6. Increase of Local Value Added

Source: Author.

Then, multiply the vector in the left table and the right table.

Sub-criterion
average
0.167
0.838

N O N-E Q U I T Y M O D E S O F T R A D E I N A S E A N – M A R C H 2 0 21
P R O M O T I N G N E W F O R M S O F T R A D E B E T W E E N J A PA N A N D A S E A N

48

Table 7A. Row averages obtained from aggregation of pairwise comparison matrixes offoreign investment alternatives and sub-criteria
1. Growth and Survival of Businesses

Calculation

Criterion

NEM
FDI

0.167 (0.167) + 0.200 (0.838) =0.838 (0.167) + 0.800 (0.838) =

0.195
0.805

Source: Author.

Do the same for all sub-criteria and foreign investment alternatives to obtain the vector for thecriterion, such as in table 8A.

Table 8A. Aggregation of row averages obtained from pairwise comparison matrixes ofcriteria
Alternatives

NEM
FDI

1. Growth and 2. Socioeconomic
Survival ofandBusinesses
Developmental
Impact

0.195
0.805

0.431
0.569

3. E xpansion of 4. Acquisition
Market Accessof Technology,
Knowledge andSkills

0.698
0.302

0.418
0.582

Criterion

1. Growth and Survival
of Businesses
2. Socioeconomic
and Developmental
Impact3. Expansion of Market
Access
4. Acquisition ofTechnology,
Knowledge and Skills

0.233
0.053
0.130
0.584

Source: Author.

Re-do the step as before by multiplying the vector in the left table and the right table so that theresult is as in table 9A.

Table 9A. Result of aggregated row averages obtained from pairwise comparison matrixof criteria
Alternatives

Calculation

NEM

0.195 (0.233) + 0.431 (0.053) + 0.698 (0.130) + 0.418 (0.584) =FDI

0.805 (0.233) + 0.569 (0.053) + 0.302 (0.130) + 0.582 (0.584) =Final result
0.409
0.592

Source: Author.

Therefore, FDI is the preferred mode of foreign investment for Indonesia because it has a higher value(0.592) than NEMs (0.409). Each expert received the same questionnaire; therefore, each expert has
his or her own table. To combine each expert’s table, a geometric mean is used. For example, table
2A presents the judgement of expert 1 and table 10A shows the judgement of expert 2.

PA P E R 3 I N D O N E S I A

49

Table 10A. Pairwise comparison matrix of the criteria of expert 2
Criterion

1. Growth andSurvival ofBusinesses

2. Socioeconomic
3. E xpansion ofand Developmental
Market Access
Impact

4. Acquisition ofTechnology,
Knowledge andSkills

1. G
 rowth andSurvival ofBusinesses

1

3

1/3

3

2. S
 ocioeconomic andDevelopmental
Impact

1/3

1

1/3

3

3. Expansion ofMarket Access

3

3

1

4

4. A
 cquisition ofTechnology,
Knowledge andSkills

1/3

1/3

1/4

1

Source: Author.

To combine these two judgements, the geometric mean is used as in table 11A.

Table 11A. Combined pairwise comparison matrix of the criteria
Criterion

1. G
 rowth andSurvival ofBusinesses

1. Growth andSurvival ofBusinesses

2. Socioeconomic
3. E xpansion ofand Developmental
Market Access
Impact

4. Acquisition ofTechnology,
Knowledge andSkills1

3.872981

1/1.29099

1/3.87298

1

1/3

1/1.52753

3. Expansion ofMarket Access

1

3

1

1.1547

4. A
 cquisition ofTechnology,
Knowledge andSkills1.29099

1.52753

1/1.1547

1

2. S ocioeconomic andDevelopmental
ImpactSource: Author.

Generally, studies using AHP do not calculate the weight manually; researcher(s) usually use
software such as SuperDecisions or Expert Choice.

ISBN 978-4-910293-27-1

ASEAN Promotion Centre on Trade, Investment and Tourism
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