PT. Danareksa: Entering The Municipal Bond Market

MM 6029CORPORATE RISK MANAGEMENT

Erlangga Febrianno 29110011Putra Samodra 29110073Eko Ardiansyah 29110086

MASTER OF BUSINESS ADMINISTRATIONSCHOOL OF BUSINESS AND MANAGEMENT

INSTITUT TEKNOLOGI BANDUNG2011

PT Danareksa

Entering The Municipal Bond Market

PT. Danareksa was established in 1978 as an investment bank and was owned by Indonesian government. It’s business focus in :

- Investment banking- Mobilizing capital for corporate customers- Providing wealth management services- Executing investment in various currencies

At present, it was the only Indonesian financial services company to offer direct market access to its clients worldwide. Part of the strength of PT. Danareksa laid in ability to successfully to develop new products and services. It has introduced several new instruments to the Indonesian market such as mutual funds services, US$-denominated fixed income funds, and syariah-based investment offerings in the public market.

The market for municipal bonds in Indonesia consisted of two distinct segments : - Bonds issued by municipal enterprises- Bonds issued by regional govermentsOn the positive side, bonds issued by municipal enterprises would be treated by

regulations equally to ordinary corporate bonds. PDAMs provided piped water to domestic and small non-domestic water users, but

normallnya did not serve large-scale industrial users. In 2005, many PDAMs barely covered operating expenditures, and over 80% were unable to service their loans or finance rehabilitation. On average, water losses were averaging 50% of production.

Even though the overall picture was bleak, a small number of PDAMs were profitable and actively searching for external financing to expand their distribution networks and build additional water treatment plants. The studies indicated a strong demand for piped water and willingness of the potential customers to pay a commercially ciable tariff fot that service. PT Danareksa considered as the minimum size for a bond issue, the main reason being :

- Market demand for a minimum amount of liquidity- Fixed costPT. Danareksa considered IDR 150 billion as the minimum size for a bond offering. PT.

Danareksa could set up a special purpose vehicle to lend funds to smaller PDAMs. A regional government could invest cash in its PDAM, and assigned cash to compensate bondholders in

case the PDAM would default on its debt service obligations. Bob had developed a proposal for security arrangements for a PDAM bond issue, consisting four layer:

- The PDAM would need to establish a liquidity reserve amounting to 10% total outstanding debt to bondholders.

- The owner of the PDAM would also need to set up a liquidity guarantee, financed from a cash equity investment in its PDAM

- If both liquidity reserves with be exhausted before bondholders could be compesated in full, the partial guarantee would compesate bondholders for 50% of losses

- The PDAM would pledge its accounts receivables to compensate the US government int case the trustee would need to utilize the partial credit guarantee

In general, PDAMs seemed to favor short loan processing times, fixed interest rate, project cashflows as the basis for assessing credit worthiness

Edwin Syahruzad, the Head of Debt Research at PT. Danareksa had a discussion with Bob Parra, a financial consultant to the US-sponsored Environmental Services Program, about proposal to finance municipal water utilities through the domestic bond market. Bob proposed that bond issued by PDAMs would be backed by a partial credit guarantee that would cover up to 50% of losses bondholders. Edwin was in two minds :

1. Water supply financing represented a huge, undeveloped market for PT. Danareksa.

2. Most of the country’s PDAM were small, poorly managed and heavily indebted.

First contact with prospective PDAMs indicated that the underwriting of a first PDAM bond would be a difficult and time consuming process because no PDAM had ever issued a bond. In addition, issuing a PDAM bond might raise concerns about risk management. On the positive side, the US government was willing to issue a partial credit guarantee to bondholders at a very attractive rate.