VILLAGE BANKING IN INDONESIA

I. PREFACE

This paper has been prepared based on the experience of APRACA Consultancy
Services (ACS) in conducting several exposure visit program on Village Banking in
Bali. In addition, the author make expansion of data so that this paper is not only
includes the development of village banking in the regional level but also in
national scope.

This paper, however, does not have the luxury of adequate time or funding
resources for rural surveys or any form of extensive data gathering. Therefore, the
analytical framework used in this study is simple trend analysis and occasionally,
some anecdotal evidence. The data used are a combination of published statistics
from the Central Bank and Indonesian newspapers, internet as well as some non-
confidential data from Bank Rakyat Indonesia, Bank Bukopin and Regional
Development Bank of Bali.

Data collected in this paper is not based on any survey or purposive data gathering.
Rather, it makes use of already existing data, and tries to deduce or infer trends
and impact from them. As such, the study is subject to the usual limitations of
using already existing data that were not generated for the specific purpose.

This paper on Village Banking in Indonesia consists of 5 chapters. The first chapter
describes the commercial banking sector and focuses on the largest microfinance
network in Indonesia, the unit system of Bank Rakyat Indonesia. The second
chapter deals with Bank Perkreditan Rakyat, secondary banks that are also subject
to the banking act and Bank Indonesia regulation and supervision. The third
chapter covers Bank Bukopin and its Swamitra program. The fourth chapter
provides an overview of LPD Bali, it is a unique non-bank microfinance institution
but act like a bank owned by the customary village of Balinese. The fifth chapter
summarizes major issues identified for the village banking in Indonesia and
conclusions.

Finally to simplify the calculation of currency conversion in Indonesian Rupiah (IDR)

into USD, it was agreed that the exchange rate of USD 1 is equal to IDR 10,000.

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II.INTRODUCTION

II.1. Indonesia in Brief

Indonesia is an intercontinental country having 17,508 islands. Its population

reaches more or less 237 millions and is estimated to continue growing and
reaching to 315 millions in 2035. With area of 1,919,440 kilometer square,
Indonesia is the 16th world’s vastest country. Indonesia is also known as having the
largest Moslem population in the world.

There are five big islands in Indonesia. They are Sumatera, Sulawesi, Java,
Kalimantan and Papua. Java is the most populated island of the country. Many
kinds of race, ethnic, language and religion live and grow in Indonesia, including
faith in supernatural beings and relics, as well as syncretism between local beliefs
and one of five religions, such as Islam Kejawen, which is an assimilation of Islam
and local belief.

Biological diversity in Indonesia is the world’s second largest after Brazil. Some
endangered endemic fauna live in Indonesia, such as Anoa (Sulawesi), Orang Utan
(Kalimantan), One-horned Rhinoceros (Java) and Sumatran Tiger (Sumatra). Now
these fauna are in the brink of extinction for the destructive hunting, black market
and deforestation.

Indonesia has 33 provinces. Each province is autonomous and has its own laws and
regional head or governor. By the issuance of Law no.22/1999 on local autonomy,
most of national government’s authorities are transferred to autonom regional
heads.

Indonesia is still categorized developing country. In March 2008, there were 34.96
millions or 15.42% of Indonesian population who live under poverty line. Most of
these poor population live in rural areas, i.e, 63.47%, and 70% of them work in
agriculture sector.

Another thing to note about Indonesia is the political dynamics. One of important
moments in Indonesian history is the fall of New Order in May 1998 that led
Indonesia to reform era. It brought significant changes to Indonesia. One of them is
the open opportunity for democratization strengthening in Indonesia. This is
particularly evident in general election events, in which Indonesians directly vote
their representatives for legislative body, as well as president as vice president.

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II.2 Rural Finance in Indonesia

The formal sector comprises financial institutions that are chartered by the
government and are subject to regulation and supervision by the state as opposed
to the informal sector, which comprises intermediaries that operate outside the
framework of government regulation and supervision. Between the two sectors,
there is a so called semiformal sector that comprises institutions that are not
regulated by banking authorities but are registered and/or licensed by other state
authorities or regional governments.

In most countries, microfinance is typically dominant in the semiformal and

informal sector. This is not the case in Indonesia. The frontier of microfinance has
been pushed into the formal sector and the formal sector has been regulated to
accommodate MFIs. Many financial institutions in the formal sector provide
microfinance services and have a long tradition of doing so (Bank Rakyat Indonesia
and some rural finance institutions). The contribution to microfinance by the
formal sector outperforms the semi- and informal sector in terms of outstanding
loans and savings as well as in number of micro-borrowers and -depositors. This is a
result of Indonesia’s long tradition in microfinance that goes back to the early
village banks described above.

Indonesia is far advanced when it comes to the size of its formal microfinance
sector. The formal sector alone counts 4,538 BRI Units, 1,706 Rural Banks, totally
more than 3,000 rural finance institutions all over the country. In addition, there
are 636 state run pawnshops, which offer ready cash against valuables at
competitive rates of interest to more than 10 million clients. They are supervised
by the Ministry of Finance. The cooperatives have so far played a minor role as
financial intermediaries due to repressive regulation and excessive government
interference under the New Order Regime of former president Suharto. However,
the more than 5,000 government sponsored KUDs (Village Cooperatives) are
established throughout the country and would in fact possess a tremendous
microfinance potential if properly stimulated and regulated.

The semiformal sector is estimated to serve an additional 1 - 2 million clients,

generally with a smaller repayment capacity than those clients served by the
formal sector. They are at least 400 NGOs that have started credit programs to
selected target groups, mostly using the self-help group approach.

The informal sector counts a wide variety of arisan, the Indonesian name for
indigenous ROSCAs (rotating saving and credit associations). They are spread all
over the country, although more popular in the Inner Islands. In the absence of
statistical figures, the number of arisan and people participating in these

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institutions can only be estimated very roughly. Assuming that every tenth
Indonesian adult participates in an arisan would mean that about 5 Mio people are
involved and assuming an average of 20 persons per arisan would result in
approximately 250,000 rotating saving and credit associations. A more developed
form of informal financial institutions are the various types of self-help groups,
which are usually summarized under the Indonesian term Kelompok Swadaya
Masyarakat or simply KSM.

The various MFI cater for different customer groups. The BRI Unit is serving part of
the upper segment of the MFI customer pyramid, followed by Rural Bank,
cooperatives, LPD Bali/LDKP/BKD, and so on. The lower the segment in the
customer pyramid, the larger the size of its potential customer group and the
lower its average credit repayment capacity.

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III. BANK RAKYAT INDONESIA (BRI) AND ITS UNIT BANKING SYSTEM

III.1. History

Bank Rakyat Indonesia (BRI) was established in Purwokerto, Central Java, by Raden
Aria Wirjaatmadja, under the name of Hulp Spaarbank der Inlandsche Bestuurs
Ambtenaren or the Bank Assistance and Savings of Indonesian Native Elites.
Established in the 16th of December 1895 which later on was marked as the birth
date of BRI.

The founder of Bank Rakyat Indonesia Raden Aria Wirjaatmadja. After the
independence of the Republic of Indonesia, pursuant to the Governmental
Regulation No. 1 of 1946 Article 1 it is stipulated that BRI is declared as the first
government owned bank in the Republic of Indonesia. Due to the war to preserve
Indonesia’s independency in 1948, the activities of BRI was temporarily suspended
and not until the Renville Agreement in 1949 was the reactivated under a new
name of Bank Rakyat Indonesia Serikat. At that time pursuant to the Statutory
Regulation No. 41 of 1960, a Bank Koperasi Tani dan Nelayan (BKTN) was
established, which was the merger of BRI, Bank Tani Nelayan and Nederlandsche
Maatschappij (NHM). Later on, in accordance with the Presidential Decree
(Penpres) No. 9 of 1965, BKTN was integrated into Bank Indonesia under the name
of Bank Indonesia Urusan Koperasi Tani dan Nelayan.

After being in operation for one month, a Presidential Decree (PenPres) No. 17 of
1965 was issued which concerns to the establishment of the single Bank under the
name of Bank Negara Indonesia. Under the new regulation Bank Indonesia Urusan
Koperasi, Tani dan Nelayan (eks BKTN) was integrated into Bank Negara Indonesia
unit II Rural Sector, while NHM had become Bank Negara Indonesia unit II Ekspor
Impor (Exim) sector.

Under the Law No. 14 of 1967, on the Principles of Banking Laws, and the Law No.
13 of 1968, concerning Central Bank Law, which in principal had reassign the
function of Bank Indonesia as Central Bank and Bank Negara Indonesia Unit II Rural
Sector and Export-Import sector being separated into two Banks, which
are the Bank Rakyat Indonesia and Bank Ekspor Impor Indonesia. Subsequently, the
Law No. 21 of 1968 reestablishes the primary tasks of BRI to serve as General Bank.

Since August 1st, 1992 in pursuant to the Banking Law No. 7 of 1992 and
Governmental Decree of Republic of Indonesia No. 21 of 1992, the status of BRI was
transformed into PT. Bank Rakyat Indonesia (Persero) with 100% ownership in the
held by the Government.

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In line with the rapid development of banking industry, up to this present Bank
Rakyat Indonesia is currently operating more than 4,600 Work Units, which consists
of one BRI headquarter, 18 Regional Office, 14 Inspection Offices (Kantor
Inspeksi)/SPI, 409 Branch Office (Domestic), 470 supporting branch offices, 1
Special Branch Office, 1 New York Agency, 1 Caymand Island Agency, 1
representative office in Hong Kong, 431 Cash Payment Offices, 1 mobile banking
units, 4,538 BRI UNITs.

In November 10, 2003, BRI went public and government divested 30% of its shares.
Since listed in the Jakarta Stock Exchange until now, BRI shares’ price has been
rising continuously and categorized as blue chips in LQ45. With 43.03% of public
ownership, BRI’s shares are actively traded in capital market.

III.2. Overview of BRI

Based on the Banking Act of 1997 became an independent commercial bank after
changeable years of mergers and rapid changes in banking policies. With the
banking act of 1992 BRI changed its status into a limited liability company, with
100% of its shares owned by the state. The bank is organized into four “Strategic
Business Units” (SBU). The SBU Treasury and Investment handles treasury functions
and controls BRI financial subsidiaries. The SBU Corporate makes corporate loans
larger than Rp. 3 billion in both Rupiah and US Dollar. The SBU Retail Banking is in
charge of some 330 branches that provide full banking services, make loans of up
to Rp. 3 billion, and channel loans for government programs. The SBU Micro
Banking is in charge of the 4538 BRI units.

BRI has developed a range of deposit products, which are adjusted to the varying
demand of its customers. Savings deposit products, which allow withdrawals at any
time, are the rural savings scheme Simpedes. All of these products provide semi-
annual lottery prices. BRI time deposit products (Depobri) are offered with
maturities of one two 24 months in Rupiah and foreign currencies. Besides its
normal corporate loan products, small-enterprise credit schemes and the rural loan
product Kupedes, BRI channels loans to targeted sectors and cooperatives, and also
participates as a stakeholder of microfinance programs such as the P4K project in
cooperation with the Ministry of Agriculture.

In the 2000s BRI developed into one of the largest banks in Indonesia with assets
boosting from Rp203.7 trillion as of the end of 2007 to Rp396.6 trillion as of the
end of 2010. The global economic crisis in 2008 does not impact to the financial
performance of BRI. However, during the monetary crisis in 1998, BRI entered the
restructuring and recapitalization program, with the government’s recapitalization
bonds Rp20.4 trillion and bad debts transferred to IBRA. As of December 1999, Loan

6
portfolio (27.8 trillion) reduces by 15.6 trillion, with loan loss reserves fall to 5.4
trillion and assets to Rp31 trillion. Loss accounted for in the consolidated balance
sheet stood at 28.2 trillion. The bank’s recapitalization was finalized only in
October 2000, with recapitalization bonds of Rp20.4 trillion bringing its assets
again to about Rp50 trillion.

With respect to its corporate business BRI will undergo a profound change in the
near future. The BRI business plan states that the bank will gradually divest its
corporate loans until 2002. The letter of intent signed by the Indonesian
Government and the International Monetary Fund in September 2000 requires BRI
to transfer all corporate loans to other bank by the end of 2000, thus focusing its
role on micro, retail, and small and medium businesses. This has led to an ongoing
dispute between BRI and the Government. While BRI and banking experts have
been highly pessimistic about the bank’s ability to meet this target, the
Government has been adhering to the target.

III.3. Inception and Transformation of the Unit System (BRI Unit)

Within the state-led development of the financial system until the early 1980s BRI
was led by bureaucratic rather than banking logic. The establishment of the unit
system was instructed by presidential decree in the early 1970s in order to handle
credit component of the BIMAS (mass guidance) program of achieving national self-
sufficiency in rice production, a typical example of targeted and subsidized credit
scheme that led to the misallocation of resources and undermined savings
mobilization and institutional viability. In 1974, the units were made responsible
for channeling micro loans (Kredit Mini) for off-farm activities. In 1980, another
credit scheme for larger non-agricultural loans (Kredit Midi) was added. In the
early 1980s, the system could no longer be sustained as is because of the huge
losses incurred by the BIMAS and other subsidized credit schemes, on the one hand,
and the limitation imposed on the government budget at the end of the oil boom
period, on the other hand.

III.4. Institutional Set-up and Framework

The BRI unit system is a "strategic business unit" of BRI. The units operate at the
sub-district level under the supervision of BRI branches at the district level, but
they are separate profit centers with their own financial statements. The units’
financial operations are included in the financial statements of BRI. Some BRI units
also maintain village services posts (Pos Pelayanan Desa) or village service points
(Tempat Pelayanan Desa) which service areas in which units appear not yet
profitable and able to break even. As of December 2009 there are 4,538 units and
68 service posts. The first are typically manned by a cashier and bookkeeper, and

7
open three to five days a week to handle financial transactions. The second may be
better understood as mobile services that usually operate on market days and one
to two times a week. Depending on the business volume, service posts may be
upgraded to units and units downgraded to service posts. In 2010 there are no more
village service posts, some of them might be upgraded to unit and partially
transformed to ‘Teras BRI’, it is a new type of BRI outlet supervised by the unit.

A typical BRI unit has a staff consisting of four to six employees, while larger ones
have up to 11 employees. The basic staff is made up of a unit manager, who
approves loans and is responsible for the unit’s performance, a credit officer who
maintains 400 borrowers, a teller who has 250 average daily cash transactions, and
a deskman who has 150 average daily book transactions. Here under is the
organization chart of BRI Unit:

UNIT MANAGER

CREDIT OFFICER TELLER DESKMAN

TELLER DESKMAN

Village
Service Post

Teras BRI

Growing units employ additional loan officers based on pre-defined standards. The
unit’s staff is often recruited from its area of operation in order to inspire
confidence and maintain close customer contact. A striking feature of the unit
system is its staff incentive system. Features such as decentralized authority and
responsibility as well as giving employees a stake in performance have to be
regarded as a major factor predicating the units’ success.

Other success factors have been simplicity, standardization and transparency in

organization and management. This is particularly true for the system’s
accounting, supervision and financial reporting, which are functioning effectively
and efficiently. The management informati on system consists of six reports, which
provides information on the number of deposit customers, the Kupedes loan

8
classification, the unit’s business development, the unit’s budget and annual
performance, the balance sheet and income statement.

BRI district branches are responsible for the supervision of units in their area of
operation. The branch manager is obliged to visit the units himself and is
authorized to take swift action, including direct warnings and score penalties for
employee performance. Branch supervisory personnel work under the supervision
of a unit officer and, on average, are responsible for four units. Off-site
supervision is carried out based on the management reports provided by the units.
On-site supervision is carried out once a month for each unit and takes up to five
days. These inspections are based on a standard report format that helps to
examine financial and human resource aspects, and includes recommendations and
a follow-up plan for the unit. BRI also maintains 18 regional inspection offices that
carry out on-site audits once in 18 months.

One of the few weaknesses of the supervision system is that BRI has not
implemented a unit rating system such as the CAMEL systems used for local
financial institutions. Nonetheless, it is safe to argue that BRI units are among the
most accountable and professionally supervised local financial institutions in
Indonesia. It is also safe to say that unit staff members receive the best training
available for microfinance professionals.

III.5. Products

III.5.1. Deposit Products

BRI units offer checking accounts (GiroBRI), savings deposit accounts and time
deposit accounts. Checking accounts have not yet met a significant demand in
rural/village areas. BRI units offer also transfer services to any other account in
Indonesia. The service, however, is quite expensive (up to Rp15,000)

Simpedes, the rural savings deposit product, is the unit’s basic savings product
that constituted the popularity of BRI units. Simpedes is one of the products
offered by Bank Rakyat Indonesia (BRI), which aims to attract small funds from the
villagers that are less familiar with the Banking. The success of Simpedes has been
achieved, although the product usually provides lower than comparable return. An
important factor that contributed to the product’s success was that at its time of
introduction it was the first and only banking product recognizing the demand for
flexible savings instruments in rural areas. Other financial institutions were not
permitted to mobilize savings from the public. In many rural areas of Indonesia BRI
units are still the only bank offices or, as part of a state-owned bank, have the
comparative advantage of being able to promote the high protection of deposits.

9
Another success factor has been the product’s design. It requires a minimum
balance of only Rp10,000 and allows unlimited withdrawals, reflecting the need for
instruments through which rural customers are able to flexibly manage their
liquidity. Simpedes savings may also be pledged as partial collateral for loans. A
special feature of the product is that it carries semi-annual non-cash lottery prices
such as motorbikes and television sets. Considering that national lotteries were
prohibited some years ago, the effect of this feature should not be under-
estimated.

DepoBRI, is a term deposit, which may only be withdrawn within a certain period
in accordance with the agreements. DepoBRI provides 6.5% interest rate, and
interest paid in advance directly. This exciting program is intended for individual
customers that make opening a new deposit or a placement, with a term deposit of
3 months, 6 months, and 12 months. The nominal amount is ranging from
Rp50,000,000 to Rp500,000,000.

III.5.2. Loan Products (Kupedes)

The BRI units have a single loan product, Kupedes or General Rural Credit. Kupedes
loans are provided as working capital or investment loans to eligible borrowers
from all economic sectors or to individuals with regular income such as civil
servants and employees of local enterprises. Typical borrowers are government
employees or pensioners, small traders and entrepreneurs. Loans can be provided
with amounts ranging from Rp. 500,000 to Rp. 100 million, but loan applications
below Rp. 500,000 are nowadays seldom. As long as the maximum ceiling is not
reached one borrower can take both working capital and investment loans in
parallel. Kupedes terms range from 3, 24 and 36 months, with repayment schedules
being adjusted to the borrowers’ cash-flows. All loans are monthly installment
loans, partly with grace periods ranging from 3 to 6 months.

A special feature of Kupedes loans, that has proven to improve loan collection, are
incentives paid for timely repayments, a refund of 25% of the interest paid when
installments are not delayed for six consecutive months. The original interest rate
was 1.5% per month on the loan principal. Collateral is required equivalent to the
value of the loan principal and interests to be paid. Loans are usually secured with
a land certificate, motor vehicle ownership certificate or a cession of salary or
pension. Usually loans larger than Rp. 50 million require a land certificate as
collateral. Deposits may be pledged as partial collateral. For a certain ceiling
requirement of collateral is ignorance. The loan principal and interest is secured by
a life insurance. The premium costs can be wholly borne by BRI or sharing with
debtor dependent on the set of interest rates.

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The unit managers have the authority to approve loans of up to Rp. 5 million.
Larger loans require approval from the district branch. Loan officers usually
consider the present income for appraising the borrowers’ repayment capacity. The
client has to sign an acknowledgement of his debt, an authorization for the bank to
execute the collateral pledged, and his wife/her husband has to sign a guaranty. It
is often claimed that loan processing takes not longer than one week. Field visits
indicate that three to four weeks are not unusual. Even longer periods can be
found depending on the time borrowers need to prepare the documents required.

III.6. Key Principles in Micro Lending

The BRI Units have used the following principles in their lending activities:
 The Units’ lending rate must cover all costs – including the efficient but
relatively high overhead the commercial cost of funds and loan risk and return
a profit to the bank. This assures that fund are used efficiently, that the
institution is not dependent on external subsidies, and that lending is not
limited by the availability of cheap funds.
 Consistency and sustainability are important to borrowers. More than 80% of
Kupedes borrowers borrow again, and they need to know that their ability to
borrow again depends on their own performance, not on factors outside their
control.
 Credit is available to all creditworthy customers. Credit decisions are base
solely on borrowers’ willingness and ability to repayment ability of the
enterprise or household. The bank without any external intervention makes
decisions regarding borrowers’ credit worthiness. In return, the bank bears the
full credit risk.

III.7. Key Principles in Saving Mobilization

Lending is the engine of the Units’ profitability, but it is only one side of financial
intermediation. My meeting the needs of small savers, the BRI Units have mobilized
funds far in excess of what would have been available from donors or the
government.
 Saving are mobilized voluntary from people wants to save. The Units do not
collect forced savings from borrowers.
 Saving instruments, BRI offers security, liquidity, convenience of location,
confidentiality, access to credit, and a positive real interest rate. Lottery
prizes attract many small savers who see relatively little interest income.

III.8. Key Principles of Unit Operations

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The success of BRI Units in financial intermediation is due to well-trained local
staff operating a simple, transparent system with clear incentives. In practice, this
means:
 Straightforward credit and savings instruments -- saving instrument, loan
terms, and interest rates are standardizes and set in advance by the head
office.
 Enforcement of a simple, standard set of financial rules – each Unit has its
own balance sheet and profit-and-loss statement. Loan provisions and write-
offs are carried out automatically based on the age of arrears. Income is
recorded on cash, not accrual basis. Strict rules govern Unit liquidity, and
Units receive or pay a pre-set transfer price for their deposits or borrowings
with the supervising branches. Units must prepare a few key reports and send
them to the branch in a timely manner.
 Delegation of responsibility and authority -- the responsibility and authority
for making good loans and earning a profit lie at the local level, with the local
Unit manager directly approving most loans.
 Performance incentives -- 10 percent of each unit’s annual profit is distributed
to employees as bonuses based on individual performance. BRI also conducts a
semi annual performance contest with winning criteria set in advance by the
Head Office
 Job-specific standardized training – BRI has made a major commitment to
training unit staff. Standard training materials has been developed by BRI to fit
Unit products and operations. BRI maintains five training centers, in which unit
staff members are trained. The training covers not only technical aspects
(financial and legal subjects) but also subjects such as customer satisfaction
and cultural characteristics of the units’ clientele.

III.9. Teras BRI

The existence of markets, particularly the traditional markets is one of the most
obvious indicators of economic activity of a region. BRI is very concerned about the
existence of traditional markets such as one with huge potential target market.
Moving on from this matter and in order to enhance the role of BRI as Bank-based
SMEs and to explore the potential in traditional markets, on August 21, 2009 BRI
introduced a new business unit called ‘Teras BRI’.

The launching of these new business units are meant to regain some of the
microfinance ‘cake’ that has been for some time sold by the competitors. TERAS
BRI provides banking services to micro customers with the assistance of a teller, a
customer service, and an account officer, equipped with EDC (electronic data
capture) real time on-line. This electronic data capture instrument, which becomes
mandatory for the account officer to have, enables customers to deposit and pay

12
 their installment without having to visit BRI Units because BRI Unit account officer
will visit them. Since the transactions are basically on-line in nature, they will be
automatically recorded in BRI bookkeeping system.

Besides providing banking services, Teras BRI also serves as a center for
information, promotional products, and as a media of education to the public.
Although providing banking services, however Teras BRI is not given authority to
make credit decisions.

As of June 2010, Teras BRI has reached as much as Rp135.41 billion and disbursed
loans amounting to Rp333.61 billion. Teras BRI is a new breakthrough in the
development of micro and small business market in the country, this is because of
BRI is designed not only to serve the savings and loan transactions, but also
enriched with a touch of personal, familial, and financial consulting for traders of
traditional markets.

III.10. BRI Unit’s Development Trends 2007 - 2010

As of December 2010, the number of BRI units had grown to 4,538 units, the
Kupedes loan portfolio to Rp71.178 trillion, and their total deposits to Rp89,924
trillion. The Simpedes product contributed 82% to total deposits. Deposits financed
91% of the unit’s assets, while Kupedes loans made up only 49% of their assets. On
average, the units had 998 loan accounts with an average outstanding mount of
Rp11 million.

Contrary to other financial institutions, BRI units maintained their good

performance and experienced an unprecedented growth during the monetary crisis
in 1997/1998 and global economic crisis in 2008. Between December 2007 and
December 2010, the units’ deposits increased by 69%. This was partly due to the
liquidation and deteriorated image of other banks, motivating many customers to
transfer deposits to the sound BRI units, which, as state-owned institutions, were
regarded as comparably safe places to save. Another reason was the crisis’
economic impact on the units’ clientele. Part of the clientele experienced
increasing incomes because of the inflationary pressure on prices of agricultural
products. The development trend of BRI Unit can be seen in the following table:
December December December December
Growth Growth
2007 2008 2009 2010
Num ber of units 4,300 4,417 2.7% 4,538 4,538 0.0%
Assets = Liabilities 58,914 67,605 14.8% 82,007 99,116 20.9%
Average assets per unit 14.0 15.0 7.1% 18.0 22.0 22.2%
Kupedes loan portfolio 32,602 43,222 32.6% 54,076 71,178 31.6%
as % of assets 55.3% 63.9% 65.9% 71.8%
Total deposits 53,183 64,400 21.1% 75,334 89,924 19.4%
asTable 1. Development
% of assets Trend of90.3%
BRI Unit (Dec 2007 – Dec 2010,in 91.9%
95.3% Billion Rupiah)
90.7%
Simpedes deposit 45,977 55,136 19.9% 62,571 73,357 17.2%
as % of total depos it 86.5% 85.6% 83.1% 81.6%
Time deposits 4,631 5,410 16.8% 7,054 8,949 26.9%
as % of total depos it 8.7% 8.4% 9.4% 10.0%
Kupedes accounts per unit 818 131,010 23.5% 1,045 1,122 7.4%
Avg. amount [Rp million] 8.0 10.0 25.0% 12.0 16.0 33.3%

Source: Bank Rakyat Indonesia

From 2007 to 2010, the amount of time deposit increased by 93%. Time deposit
mobilization allowed the units to increase average assets from Rp14 trillion in 2007
to Rp22 trillion in 2010 or increased by 59%.

IV. BANK PERKREDITAN RAKYAT OR RURAL BANK (RB)

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IV.1. History

The first rural lending institutions were founded in Indonesia with the aim of
assisting farmers, employees and labourers to free themselves from the grip of
moneylenders charging extortionate interest. The history of the rural banks (RBs)
industry is summarized as follows:

Establishment of Lumbung Desa, Bank Desa, Bank Tani (village and

19th century
farmers banks) and Bank Dagang Desa (village trading banks).

Early Establishment of Bank Pasar (market banks) and Bank Karya

independence Produksi Desa (village production banks or BKPD).

Regional governments set up Lembaga Dana Kredit Pedesaan (rural

Early 1970s
fund and credit institutions or LDKP)

Government issues October 1988 Policy Package (PAKTO 1988), in

Presidential Decree No. 38, resulting in renewed surge of
1988 momentum for establishment of rural banks. Package established
clear framework for establishment and business conducted by
“Rural Banks” or RBs.

Act No. 7 of 1992 concerning Banking established definitive legal

basis for category of banks other than commercial banks.
Government Regulation No. 72 of 1992 permits non-bank financial
institutions previously licensed by the Minister of Finance and
1992 small-scale financial institutions, such as Bank Desa Lumbung Desa,
Bank Pasar, Bank Pegawai, LPN, LPD, BKD, BKK, KURK, LPK and
BKPD, and other equivalent entities to upgrade to rural bank status
by 31 October 1997, subject to fulfilment of prescribed
requirements and the procedure for conversion to rural banks.

IV.2. Definition

The legal foundation for RBs is Act No. 7 of 1992 concerning Banking as amended by
Act No. 10 of 1998. Under this law, RBs are expressly defined as banks conducting
conventional business and/or business based on sharia principles, excluding
provision of clearing payment services. RBs business is targeted primarily at small-
scale business and rural communities. RBs may be incorporated as Limited Liability
Companies, Regional Government Enterprises or Cooperatives.

IV.3. RB Business Operations

15
A. Operation of RBs
 Mobilizing funds from the public in the form of deposits comprising time
deposits, savings deposits and/or other equivalent form;
 Extending credit;
 Placing funds in Bank Indonesia Certificates (SBIs), time deposits, certificates
of deposit and/or savings deposits placing funds in other bank.

B. Operations Not Permitted For RBs

 Accepting deposits in the form of demand deposit and participating in clearing
payments;
 Conducting business in the foreign currencies except as money changer;
 Conducting equity participation;
 Conducting business in insurance
 Conducting other business other than those referred to in letter A.

IV.4. Key Banking Regulations

The regulation and supervision of RBs, which represent one of the two categories
of banking institutions, is the responsibility of Bank Indonesia (central bank of the
country) as mandated by Act. No. 3 of 2004 concerning Bank Indonesia. Bank
Indonesia’s regulatory and supervisory powers towards RBs include the right to
license, right to regulate, right to control and right to impose sanctions.

Regulation and supervision of RBs by Bank Indonesia is aimed at ensuring the

optimum functioning of RBs as an institution of public trust involved in promoting
economic growth primarily in rural areas. Accordingly, this regulation and
supervision is tailored to the specific operational characteristics of RBs within the
limits set by prudential banking principles for the creation of a sound banking
system.

IV.4.1. Establishment

 RBs may be established and owned only by the following parties, subject to
approval from the Board of Governors of Bank Indonesia:
a. Indonesian citizens;
b. Indonesian legal entities wholly owned by Indonesian citizens;
c. Regional Governments; or
d. Two or more of the parties referred to in letters a, b and c.
 Requirements for Paid up capital:
a. Rp 5 billion for RBs established in the Jakarta capital city region;
b. Rp 2 billion for RBs established in provincial capitals in Java or Bali and
the regencies or municipalities of Bogor, Depok, Tangerang and Bekasi;

16
 c. Rp 1 billion for RBs established in provincial capitals outside Java and Bali
other than specified in letters a and b;
d. Rp 500 million for RBs established in regions other than specified in letters
a, b and c.

IV.4.2. Ownership

 Requirements for RBs owners:

a. Not included in the list of disgraced persons in banking
b. Possess integrity, including but not limited to good character and moral
principles, with commitment to legal and regulatory compliance and
development of sound RBs operations.
 The following are prohibited sources of funds for ownership of RBs:
a. Loans or financing facilities in any form, extended by bank and/or other
party (excpect when taken from a Regional Government Budget) and
b. Any funds derived from or intended for money laundering.
c. Controlling shareholders must meet the requirement for commitment to
resolve any capital or liquidity difficulties faced by the bank in the course
of its business and possess the requisite financial standing as set out in the
fit and proper test for RBs.

IV.4.3. Management

The RB management consists of the Board of Directors and Board of commissioners.

Members of the Board of Directors and Board of commissioners must meet certain
requirements of integrity, competence and financial standing as specified for the
fit and proper test. The Board of Directors must have at least 2 members, both
certified by a certification institution.

IV.4.4. Merger, Consolidation and Acquisition

Merger is the combining of two or more banks by retaining the incorporation of one
of the banks and dissolving the other banks with or without liquidation.
Consolidation is the combining of two or more banks by establishing a new bank
and dissolving the existing banks with or without liquidation, while acquisition is
takeover of shares by individual or legal entity resulting in the transfer of control
of the RB in which share ownership is 25% or more of the capital of the RB or less
than 25% of paid up capital but notwithstanding directly or indirectly determining
the management and/or policies of the bank.

Merger, consolidation and acquisition of an RB must have prior approval from Bank
Indonesia and may be pursued at the initiative of the RB itself or as ordered by

17
Bank Indonesia. Merger or may be undertaken only among RBs. Merger or
consolidation between a conventional RB and sharia RB (RB with Islamic principle)
is permitted only if the bank resulting from the merger or consolidation is sharia
RB. Merger or consolidation may be undertaken between RBs domiciled in the same
province or in different provinces insofar as the offices of the RB resulting from the
merger/consolidation are located in the same province.

IV.4.5. Establishment of Branch Offices

Branch offices may be established only in the same province as the head office,
subject to rating, available capital, information technology capability and
disclosure of the plan for establishment of the branch office in the annual business
plan.

IV.4.6. Establishment of Cash Offices

Cash offices may be opened only in the same Regency or Municipality as the head
office, subject to the rating of the RBs and disclosure of the planned opening of
the cash office in the annual business plan.

IV.4.7. Outdoor Cash Operations

Outdoor cash operations involving mobile cash units, floating cash units and
payment points are permitted only in the same Regency or Municipality as the
supervising office. Outdoor cash operations involving ATM machines operated by
the RBs it self are permitted only in the same province as the supervising office,
however it is permitted to operate ATM machines if only RBs have cooperation with
commercial banks.

IV.4.8. Minimum Capital Adequacy Requirement (CAR)

The requirement for the minimum CAR is a prudential regulation which regulated
by Bank Indonesia. RBs are required to maintain a minimum CAR at 8%, calculated
as the ration of capital to risk-weighted assets. The capital components are Tier 1
capital and Tier 2 capital, in which maximum Tier 2 capital is 100% of Tier 1
capital.

Tier 1 capital consists of paid up capital, agio, funds for paid up capital, donated
capital, general reserves, retained earnings (after deduction for income tax),
earnings in past years (after deduction for income tax) and current year earnings
(50% after deduction for income tax). Offsetting items in Tier 1 capital are
goodwill, disagio, loss carry-forward and current year’s loss.

18
Tier 2 capital consists of reserves from revaluation of fixed assets, general
allowance for earning asset losses (maximum 1.25% of risk-weighted assets),
hybrid/quasi capital and subordinated loans (maximum 50% of Tier 1 capital). Risk-
weighted assets are RB balance sheet assets assigned a weighting according to the
risk inherent in each asset account.

IV.4.9. Legal Lending Limit (LLL)

As the prudential regulation, the LLL is the maximum permitted limit on provision
of funds by an RB to specific debtors or group debtors. Lending in the excess of the
LLL is the excess amount calculated according to the following formula:

Provision of Funds at Date of provision

X 100% - LLL
Capital at Date of provision of fund

Violation of the LLL is the excess amount calculated according to the following
formula:

Provision of Funds at LLL reporting date

X 100% - LLL
Capital at LLL reporting date

The LLL for any individual debtor or one group debtors not related to the RB is not
more than 20% of RB capital. The LLL for related parties, an individual debtor or
group of debtor, is a maximum of 10% of RB capital. In the case of exceedance of
the LLL, the RB is required to submit an action plan to Bank Indonesia and shall be
subject to imposition of sanctions in rating scores. In cases of violation of the LLL,
sanctions are imposes in bank rating in addition to criminal penalties.

IV.4.10. Earning Asset Quality

Earning assets are RB fund placements comprising credit, SBIs and inter-bank
placements managed in compliance with prudential regulation, in which the RM
management is required to perform assessments and monitoring and take the
necessary actions to maintain earning asset quality at current al all times. Asset
quality for credit is categorized into four rating: Current, Sub-standard, Doubtful,
and Loss. Assessment is based on promptness of repayment and/or the repayment
capability of the debtors.
IV.4.11. Allowance for Earning Asset Losses

19
Allowance for earning asset losses is the required provision for RBs to cover risk of
losses. The general minimum allowance for earning asset losses is 0.5% of earning
assets classified Current (not including SBIs). The specific allowance for earning
asset losses is determined as a minimum of:
a. 10% of earning assets classified Sub-standard, after deduction for collateral
value;
b. 50% of earning assets classified Doubtful, after deduction for collateral value;
and
c. 100% of earning assets classified Loss, after deduction for collateral value.

Allowable collateral for offsetting against the allowance for earning asset losses is
as follows:
a. 100% of liquid collateral comprising SBIs, savings deposits and time deposits
blocked by the bank with written authorization for encashment, ni addition to
gold bullion and precious metals;
b. 80% of mortgage value for mortgaged assets comprising land, buildings and
houses with ownership title of ‘Sertifikat Hak Milik’ (SHM) or building use
rights (SHGB);
c. 60% of taxable selling value for collateral comprising land, buildings and
houses with ownership title SHM or SHGB, not encumbered by mortgage;
d. 50% of taxable selling value for collateral comprising land, buildings and
houses with locally registered transfer (Surat Girik), supported by the latest
tax collection notice (SPPT); and
e. 50% of market value for collateral comprising motor vehicles supported by
certificate of ownership, subject to encumbrance under the applicable
regulations.

IV.4.12. Debt Restructuring

Debt restructuring may be considered for any debtor experiencing difficulty in

repayment of loan principal and/or interest if the debtor has sound business
prospects and will be able to fulfill obligations after restructuring of the debt. RBs
are prohibited from engaging in Debt Restructuring solely for circumventing
downgrading in classification on credit quality, increase in Allowance for Earning
Asset Losses and/or discontinuing recognition of accrued interest income.

Credit quality for restructured debt may be maximum Sub-standard for credit rated
Doubtful or Loss prior to restructuring and unchanged for credit rated Current or
Sub-standard prior to restructuring. Credit quality for restructured debt may be
classified Current provided that the debtor is not in arrears in repayment of
principal installments and/or interest for 3 (three) consecutive repayment periods.

20
If the debtor is unable to meet this requirement, credit quality shall be the same
as prior to debt restructuring.

IV.4.13. Rating System

RBs rated by a number of criteria with bearing on condition and performance,

namely Capital, Assets, Management, Earnings and Liquidity (CAMEL), while
allowing for other factors that could lead to downgrading and/or loss of rating.
Other information on the rating process:
 The rating result is expressed as one of four rating levels: Sound, Fairly Sound,
Less Sound and Unsound.
 The weightings for each of the CAMEL factors are:
- Capital, 30%
- Asset Quality, 30%
- Management, 20%
- Earnings, 10%
- Liquidity, 10%

Sanctions pertaining to RB rating may be imposed in cases of violation and/or

exceedance of the Legal Lending Limit, violation of Know Your Customer (KYC)
principles and violation of RB product transparency and customer data privacy.

Factors that may lead to immediate downgrading of RB, window dressing, bank-
within-bank practices, financial difficulties and other banking practices that may
endanger the survival of the RB.

IV.5. Rural Bank’s Report

As the RBs are regulated and supervised by Bank Indonesia, they are required to
provide the following reports to Bank Indonesia:

IV.5.1. Monthly Report

The monthly report is the financial statement and business result, consisting of
balance sheet accounts and detailed list of balance sheet items. The RB monthly
report shall be submitted no later than the 14 th day after the end of the reporting
month.

IV.5.2. Legal Lending Limit (LLL) Report

21
RBs are required to submit the LLL report to Bank Indonesia with information on
credit facilities to debtors and debtor groups in excess of the LLL and all credit
facilities to related parties. This report shall be submitted each month no later
than the 14th day after the end of the reporting month.

IV.5.3. Debtor Information System Report

The debtor report covers information on debtors, management and owners,

facilities for provision of funds, collateral, guarantors and debtor financial
statements. This report shall be submitted no later than the 12 th day after the
reporting month.

IV.5.4. Published Financial Statement

RBs are required to submit Publish Financial Statements to Bank Indonesia each
quarter for the reporting positions at the end of March, June, September and
December. The Published Financial Statement consists of the financial statement
and other information and is presented in comparison with the same reporting
position for the preceding year. The Published Financial Statement shall be
announced in a local newspaper or placed on the notice board at the offices of the
RB no later than:
a. 1 month after the end of the reporting month, for a financial statement for the
end of March, June and September;
b. 2 months after the end of the reporting month for a financial statement for
the end December position, not audited by a Public Accountant.
c. 4 month after the end of the reporting month for a financial statement for the
end-December position, audited by a Public Accountant.

IV.5.5. Customer Complaints Report

RBs are required to resolve each complaint lodged by a customer and/or customer
representative and for this purpose establish a policy and written procedures
concerning the receipt, handling and resolution of complaints and the monitoring
of complaint handling and resolution. RBs are also required to submit a complaint
handling and resolution report each quarter no later than one month after the end
of the reporting period.

IV.5.6. Business Plan and Progress Report

22
The Business Plan is prepared by the Board of Directors or equivalent level of
management and approved by the Board of Commissioners. The business plan
disclose the plan for mobilization and channeling of fund, balance sheet and
income statement projections for 2 semi-annual periods, the human resources
development plan and measure for strengthening the performance of the RB. The
business plan should be submitted to Bank Indonesia no latter than the end of
January for the business year covered by the plan.

The business plan progress report shall be submitted by the RB Board of

commissioners to Bank Indonesia on a semi-annual basis. This report shall present
an evaluation of progress achieved in the work plan, factors influencing the
achievement of targets and a description of problems that may disrupt the smooth
operation of the RB and past and future actions to address these issues. The
deadline of submission of this report is the end of August for the period ending July
and the end of January for the period ending December.

IV.5.7. Annual Financial Statement

RBs are required to submit the Annual Financial Statement to Bank Indonesia as
follows:
a. Annual financial statement for RBs with total assets of Rp 10 billion or more
must be audited by a Public Accountant registered with Bank Indonesia and
submitted together with a Comment Letter no later than the end of April in
the following year.
b. RBs with total assets of less than Rp 10 billion shall submit the annual financial
statement proposed by the Board of Directors or equivalent for adoption by the
General Meeting no later than 2 (two) months after the end of the fiscal year.

The annual financial statement consists of the balance sheet, statement of

commitments and contingencies, income and retained earnings statement, cash
flow statement and notes to the financial statement.

IV.5.8. Business Group Structure Report

The scope of the business group structure report extends to all related parties
exercising control, including the ultimate shareholders, and discloses the
ownership proportion and management structure of each of these related parties.

IV.6. Development Trends of BRI Unit 2007 - 2010

23
RB development trends from 2007 to 2010 quite well, although there was a
decrease of the number of RBs that can be seen on the average growth of RB by
minus 2.40% per annum. The number of RB decreased considerably in 2008, where
there were 1,817 in 2007 decreased to 1,772 in 2008 which mainly caused by the
closure of some RBs which indicated as ‘not healthy’ in view of Bank Indonesia and
the merging of several RBs.

However, the decrease in the number of RB is inversely proportional to the number

of RB's offices (head and branch offices). Indonesian Banking Statistics indicated
that the number of RB offices in 2007 is 2,458 and 2,794 in 2010 or increased by
13.67%. The growth is not only on the number of offices, but also other facilities
such as automatic teller machine (ATM) and products are constantly being
developed by the RB.

Nevertheless, the number of RB offices is still less than the number of commercial
banks office which is almost expanding in every year, in contrast to the RB that the
number of branch offices and even sometimes fell sharply in certain years. The
number of RBs is still concentrated in Java, where 66% of total RBs are located in
Java. Meanwhile, the number of RB in Sumatra is only 16.47% and less than 10% RB
scattered in Sulawesi, Bali & NTB, and other eastern parts of Indonesia.

Time deposits are the major source of funds for the RB industry, and contributed
more than 50% to total deposit. There is high variance between the provinces also
in this respect. The RB in Lampung, Central Java, East Java, and East Nusa
Tenggara had more than 50% of their funds mobilized through time deposit
instruments, whereas time deposits contributed less than 50% to the RB funds in
Aceh, West Sumatra, South Sumatra, South Kalimantan and South Sulawesi.
Meanwhile, savings deposits are the second major source of funds and contributed
32% to total deposit.

Third party funds, including deposits and savings in 2007 is Rp18, 71 trillion and in
Rp31, 31 trillion in 2010 or increased by 67.27%. This performance indicates that
public confidence continues to improve on the performance of RB with the
intention that people no longer hesitate to open a savings and deposit account at
RB, this causes the number of accounts increased from 6.4 million accounts in 2007
to 7.8 million accounts in 2010. However, this growth makes loan to deposit ratio
(LDR) dropped from 80.03% to 79.02% in the same period. Nevertheless, this
percentage of LDR is remains ideal (still at the range of 78% - 100%) higher than the
LDR of commercial banks which is at the average of 77.06%.

24
The average of deposit rate decreased from 11.64% as of December 2007 to 10.25%
as of December 2010 which caused a decline in credit interest rate from 33.53% as
of December 2007 to 30.56% as of December 2010. The differences of interest rate
loan with a deposit interest rate shown that RB still enjoy net interest income (net
interest margin / NIM) is around 17% higher than commercial banks that only 5.75%.

In general, the performance of RBs in the last four years has continued to improve,
evidenced by the increasing quality of its financial ratios and CAMEL rating and
soundness. The data on development trend of RB 2007 – 2010 as shown in following
table:

Table 2. The Development Trend of Rural Bank, December 2007 – December 2010

Dec '07 Dec '08 Dec '09 Dec '10

Number of RBs 1,817 1,772 1,733 1,706

Number of Offices 2,458 2,525 2,679 2,794
- Head Offices 1,817 1,722 1,733 1,706
- Branches 641 803 946 1,088

Total Assets [Rp Billion] 27,741 325,333 37,554 45,742

Average Assets per RB [Rp Billion] 1,527 1,836 2,167 2,681

Source of Funds:
- Amount of Saving [Rp Billion] 6,018 7,135 8,272 9,857
- Average amount of saving per RB [Rp Billion] 3 4 5 6
- Amount of Deposit [Rp Billion] 12,701 14,204 17,280 21,455
- Average amount of deposit per RB [Rp Billion] 7 8 10 13
- Inter-bank [Rp Billion] 3,240 4,214 3,947 4,738
- Loans Received [Rp Billion] 481 542 541 610

Investment of Funds:
- Sertificate of Bank Indonesia [Rp Billion] 45 45 60 -
- Inter-bank [Rp Billion] 6,009 5,841 8,075 10,033
- Amount of Loans Disbursement (LD) [Rp Billion] 20,540 25,472 28,001 33,844
- Average amount of LD per RB [Rp Billion] 11 14 16 20
Profit/Loss YoY [Rp Billion] 663 849 1,158 1,447

Interest Rates:
- Savings (%) 7.59 7.16 6.32 5.53
- Deposits (%) 11.64 12.43 10.81 10.25
- Loans Disbursement (%) 33.53 31.91 32.09 30.56

Number of Accounts:
- Number of Saving Accounts (NSA) 6,403,079 6,867,321 7,334,640 7,804,000
- Average NSA per RB [Rp Billion] 3,524 3,875 4,232 4,574
- Number of Deposit Accounts (NDA) 378,775 390,968 401,368 413,082
- Average NSD per RB [Rp Billion] 208 221 232 242
- Number of Loan Accounts 2,543,912 2,692,648 2,823,027 3,242,360
- Average number of Loan Accounts per RB 1,400 1,520 1,629 1,901

Financial Rasios:
- CAR (%) 23.38 23.34 24.17 30.01
- LDR (%) 80.03 82.55 79.61 79.02
- NPL Net (%) 4.64 6.41 3.97 4.25
- ROA (%) 2.39 2.61 3.09 3.16
- ROE (%) 20.98 22.67 25.08 26.71
- Operation Efficiency (%) 84.27 82.83 81.82 80.97

Soundness:
- Sound (%) 74.15 78.90 80.59 81.45
- Fairly Sound (%) 11.84 11.63 9.88 10.08
- Less Sound (%) 9.56 5.90 5.20 5.57
- Unsound (%) 4.45 3.57 4.33 2.90
25
IV.7. Current Issues on Development of the Rural Bank Industry

The Policy and strategy for the future development of RBs is geared towards
building the characteristics of these institutions as sound, strong, productive
community banks with a presence throughout Indonesia, focused on the provision
of financial services to micro, small and medium enterprises (MSMEs) and local
communities in rural areas. The following are the actions and strategies for
building the competitiveness and expanding outreach of RBs:

IV.7.1. Institutional Building

The institutional basis of the RB industry needs to be reinforced through the

harnessing of regional potential, strengthening of RB capital, policies that promote
broader distribution of RBs throughout Indonesia, of fice network expansion and
collaboration with commercial banks and other financial institutions in lending to
MSMEs (the Linkage Program). The institutional building shall consist of stronger
capital base, distribution of RBs throughout Indonesia, office network expansion,
and strengthening RB collaboration with commercial banks/other institutions
(linkage program).

IV.7.2. Improved Regulation

The quality of the regulatory framework will be strengthened further with

improvements in the minimum paid up capital requirement, a review, evaluation
and improvement of the regulations governing prudential banking, establishment
and institutional presence of RBs and rating of RBs, differentiated by total assets,
economic characteristics and regional culture. To this end, the regulation drafting
process will be supported by the research necessary for strengthening the role and
contribution of RBs as financing institutions serving MSMEs and rural communities.

IV.7.3. More Effective Supervisory System

In building a sound, robust and productive rural bank industry that enjoys public
trust, a key element is the supervisory system operated by Bank Indonesia. To
improve the quality of supervision, the Technical Guidelines for Focused
Supervision have been published as a reference for all RB supervisors to
complement the ongoing training and certification for building the competency of
these supervisors. This is especially important for early warning of the increasingly
complex problems or potential problems facing RBs.

These guidelines are expected to reduce regulatory violations and irregularities by

RBs to a minimum, including problems with possible elements of banking crime,

26
and serve as a reference for supervisors in their supervisory tasks and in
determining areas of examination in fulfillment of the Know Your Bank principles.

Improved effectiveness in the supervision system is also closely linked to the

information system. For this purpose, changes to the information system include
the online submission on RB reports to Bank Indonesia, a more integrated
information and management system for RB supervision and improvements to
regular information and publications on the condition and results of RBs.

IV.7.4. Quality of Governance and Management and Sound, Professional

Operations

As Indonesia marches into the future, RBs are expected to under competent
management of high integrity, applying the principles of good corporate
governance. This calls for sustained improvement in the qualifications and
competence of RB human resources to bring RB management to a satisfactory
level. Possible measures include the building of professional capacity in RBS
through a certification program for RB directors and training for other RB
personnel. Facilitation can be provided for RB personnel to build their skills and
knowledge in the area of product innovation in deposits and financing for the
agricultural sector and rural communities. Also important are efforts to promote
the use of information technology for RB operations, internal reporting and
reporting to Bank Indonesia. The sound, professional management of RBs will raise
the credibility of these banks in the eyes of the public.

IV.7.5. Effective Supporting Infrastructure

The strategy for development of the RB industry infrastructure will be

implemented through a revamped role for the RB associations in training and
development. This strategy will focus on RB human resources development,
establishment of the Apex institution, improved effectiveness of professional
certification institutions and closer cooperation and coordination with other
agencies in the creation of a conducive climate for RB expansion.

(i) The Apex Institution

The Apex Institution is an umbrella agency for RBs, performing functions essential
to operating efficiency through provision of liquidity support for RBs experiencing
liquidity mismatch, financial assistance for RB expansion and technical assistance
in such areas as training, information technology, management consultancy and
limited payment system services for member RBs.

27
The effort in establishing the Apex Institutions has been started since 2005 as the
pilot project of the Apex Institution was launched. Currently, 3 (three) Apex
Institution is believed functioning that are BPD West Sumatera in West Sumatera,
BPR in Bali and BPR in Central Java supported by PT PNM as an Apex Institution.

In 2009, the drive for Rural Bank Apex Institutions establishment will be continued
with monitoring activities, technical meetings with Apex operating institutions and
possible establishment or Apex Institutions in other regions.

(ii) Professional Certification Institution

CERTIF, the Professional Certification Program, has been launched for RBs to
promote systematic and sustainable improvement in the quality of RB personnel
and ensure that required competency levels are met. The Professional Certification
Institution for Microfinance Institutions (LSP LKM Certif) has the task of regulating
the certification system and is approved by the competent authorities. The primary
objective of the certification institution is to ensure the operation of the
certification system for RB directors. This includes quality assurance and system
operation and improvements in the quality and professional competence of RB
personnel.

This institution has already demonstrated its usefulness in building the quality of
RB personnel. In the future, the institution’s role will need to be broadened to
include certification programs for RB commissioner and employees. The purpose is
to strengthen the competency of RB personnel, most importantly in providing
services to MSMEs and also to gear for increased competition among financial
institutions serving MSMEs. A 14-module certification program was launched for
candidate directors in 2007.

IV.7.6. Building Rural Bank Capacity

To support rural development and promote RB financing for productive sectors,

Bank Indonesia is engaged in an ongoing program for seminars and workshop on RB
financing for agriculture and other productive activities. The objective of this
program is to broaden the horizons of RB directors and build the technical
competency of RB account officers in providing financing to these sectors.

The workshop held in specific region and involving Provincial/District Agriculture

Unit of Department of Agriculture, the MSME and also BPR Directors and managers.
In 2008, the workshop was held in Bogor City.

28
IV.7.7. Empowerment and Protection of Consumers

The objective of this development strategy is for RBs to uphold the public interest
in their operations by providing quality service and transparent product information
so that customers have a better understanding of the products offered by RBs and
their interest are protected. Actions include monitoring and evaluation of the
customer complaint process, monitoring and evaluation of the guidelines on
product information transparency and collaboration with relevant agencies.

29
V. BANK BUKOPIN AND ITS SWAMITRA PROGRAM

V.1. Profile

Since its establishment on 10 July 1970, Bank Bukopin has been focusing on UMKMK
(Micro, Small, Medium and Cooperative Business) segment, and keeps developing it
self to enter the medium bank category in Indonesia from assets Perspective. In
line with the opportunity and capacity improvement in serving wider scope of
people's needs, Bank Bukopin has expanded its business segment into commercial
and consumer segments.

These three segments have become the pillar of Bank Bukopin's business, delivering
either conventional or sharia' banking service, supported by optimum fund
management system, advanced information technology, competent human capital,
as well as good corporate governance best practices. This foundation has enabled
Bank Bukopin to move forward and position itself as a credible bank. Bank Bukopin
operation has been currently supported by more than 280 offices spreading in 22
provinces all over Indonesia under real time on-line connection. Bank Bukopin has
also established micro-banking network namely Swamitra, with over 543 offices
(outlets), as a realization of partnership program with cooperative unions and
micro finance institutions.

With a stronger capital structure as a result of the Initial Public Offering (IPO)
conducted on July 2006, Bank Bukopin has been continually developing its
operational program by implementing the scale of priorities in accordance with is
well-defined short-term strategy. Implementation of the strategy is aimed to the
fulfillment of comprehensive banking services to the customers, through its
national and international network connection, range of Products, as well as
quality service that meet the high level of standard.

All of these activities and programs execution has in turn resulted in building up
the Bank Bukopin image as a trusted banking institution with firm, sound and
efficient financial structure. The success of building the trust will eventually drive
Bank Bukopin forward to continually grow and delivering a sustainable best result.

V.2. Swamitra

Swamitra is the name of cooperation/partnership between Bank Bukopin and a

cooperative in the development and modernization of the saving and loan business
through the utilization of a technological network and the support of a

30
management system in order to have a wider scope of financial transaction service
capability, with due regard to the prevailing laws and regulation.

Cooperation/partnership so established is based on the consideration of the same

interests in the creation of an added value to both parties (the cooperatives and
Bank Bukopin).

Swamitra is a business set up through cooperation with cooperatives is subject to

Law No.25 of the year 1992 on Cooperatives and to Government Regulations No.9
of the year 1995 on the Saving and Loan Business, which in its activities of raising
and distributing funds through the savings and loan business from and for the
members of the related cooperative, prospective members, and other cooperatives
and/or their members (further on referred to as Swamitra members).

As a business unit of saving and loan cooperative, Swamitra constitutes a business

unit of each cooperative integrated into a business called Swamitra. However, it is
a separate economic unit (entity) owned by each cooperative and is not an
affiliate/outlet of Bank Bukopin. Being in charge thereof, it is obligatory for Bank
Bukopin to submit periodic reports to the cooperative for management of
Swamitra.

Swamitra forms part of the mission statement of Bank Bukopin in order to play an
active role in developing small-scale business through cooperation with cooperative
in the development or enhancement of the saving and loan business of the related
cooperative so as to provide services of wider scope to Swamitra members through
the following phases:
1. Preliminary phase, transactional mechanism. It is mean providing services of
saving and loan and other financial transactions associated with the saving
and loan business such as savings, loans, remittance, and payment of claims.
2. Intermediate phase, (business information system). It provides information
and business communication related to goods and services.
3. Advanced phase, it gives support to the transactions of sale and purchase of
goods and services (physical distribution). It is conducive to sales and
purchase transactions making good use of a more efficient distribution
network.

V.2.1. Objectives and Benefits of Swamitra

As a business unit of an all purpose a cooperative, Swamitra has the following

objectives:
1. To make deposits and loans of members of each cooperative grow and develop
so as to be conducive to business growth for those members’ welfare.

31
2. To give access to capital to those cooperatives which have faced many
obstacles to their cooperation with banks or other financial institutions.
3. To give support to the availability of a network between one Swamitra office
and another all over Indonesia in the hope of generating:
 A synergy of a wider scope between Swamitra offices
 A larger volume of financial transactions
 Faster and safer transaction
 Higher business efficiaency and optimization
 Better control over funds

While benefits of Swamitra are as follows:

1. The system technology and management used by Swamitra will be able, as
hoped for, to enhance Swamitra members’ trust so as to increase fund-raising
for distribution to other members who are in need of funds for the purpose of
improvement in members’ welfare.
2. In the future, Swamitra members will be able to make financial transactions
at any Swamitra office through the online system based on a cooperative
agreement between Swamitra members.
3. To give support to the provision of information and business communication so
that production planning and marketing can be done better those Swamitra
members can take advantage of for their increase in productive business.
4. Presentation of financial statement and the amendment thereto can be done
fast and accurately when the need arises so that the need for control and
supervision in the management of Swamitra can be met better.
5. Swamitra’s system of management and technology can be attractive to other
parties such as the Government, State owned corporations, and the private
sector for purposes of distribution of a particular fund (including foreign aid)
aimed at assisting with increasing micro-to small scale businesses.

V.3. The Cooperation between Bank Bukopin and Village Cooperative

through Swamitra

The provision of credit to small-scale entrepreneurs as farmers and business people

has attracted major attention from policy makers at national and at local level.
The consensus is that access, to financial services provided by banks, credits as
well as saving services, is beneficial for small entrepreneurs because it facilitates
the application of modern technology and thereby enables them increase their
income.

The provision of credit and saving services to the small-scale entrepreneurs has,
however, proved to be difficult because the entrepreneurs often live at
considerable distance from a bank branch and because their financial capability in

32
generally small. For small entrepreneurs it is not attractive either to travel half a
day to a bank and to spend several hundred Rupiahs for transport to deposit or
collect small amount required. Bridging this geographical and financial distance
between small entrepreneurs and bank requires the development of new method of
operation. Below a cooperative savings and credit system is described which aims
to reach the small entrepreneurs inside and outside the agricultural sector with
services adjusted to their needs is a cost effective manner.

V.3.1. Objectives

 To strengthen working capital for members of the cooperatives

 To develop rural credit system suitable for low income and groups.
 To encourage Cooperative members to develop prospective business to
increase their welfare.
 To increase the role of Bank Bukopin to strengthen the capital forming of
cooperatives in Indonesia as well as managerial training.

V.3.2. Organization

The organizational structural of the program consists of there levels: Bank Bukopin
at National and Provincial level; The Village Cooperatives (Koperasi Unit Desa or
KUDs) at Kecamatan (Sub district) levels and The Kelompoks (Groups) at the
member of households.
 At National level the Program deals with policy matters and supervision the
ongoing program in the provinces.
 At Provincial level the Bank Bukopin staff is in charge of the daily operations
and of the expansion of the program to new KUD and Kelompok. From this
level the field assistant are providing supports and control services to the
participating KUDs and Kelompok.
 The savings and credit services to the participant’s members are provided
within the structure of the KUDs operating at Kecamatan level.
 The participants are organized In-Groups Kelompok consist of 40 persons who
all become member of the KUD.

33
The organization chart is as follow:

BANK BUKOPIN
HEAD OFFICE

MICROBANKING
DIVISION

BRANCH OFFICE

COMMERCIAL MICRO SMALL SCALE INDIVIDUAL

BANKING CREDIT CREDIT BANKING

SWAMITRA

THE VILLAGE COOPERATIVES

INPUT SUPPLY SAVING & MARKETING

UNIT CREDIT UNITS UNIT

Remark:
GROUP
MEMBERS Line of operation
Line of coordination

34
The Swamitra management at least consists of:
 1 Manager
 2 Operational coordinator
 2 Account officers
 1 Credit support, and
 1 Teller

BANK BUKOPIN EXECUTIVE MEMBER OF

COOPERATIVE

MANAGER

COLLECTOR ACCOUNT OPERATION INTERNAL

OFFICER COORDINATOR COMTROL

TELLER CS

V.3.3. Operations

The participation of new KUDs and kelompok start with extension to members and
a training course for KUD staff and kelompok committees. Further, the members
are required to the deposit monthly saving for a certain amount for at least three
months. There after the kelompoks each receive through their KUD a loan
amounting to maximum Rp 50 million from Bank Bukopin. This loan serves as
starting capital for the credit services. The loan must be repaid in seven years. The
loans are provided from a revolving fund and repayment are used to provide to new
kelompoks.

The kelompoks must build up their own capital through regular monthly savings,
voluntary savings, and through the profit from the provision of loans. The short
term loans are provided at an interest rate of market rate. In kelompoks with a
good repayment record a profit is made, and 80% of this profit is returned to the
individual members as “special saving” at the end of the year.

35
The financial services, short term loans for periods up to six month and savings
facilities, are provided to Kelompok members on a fixed day per week, the cash
day (hari kas). The cash day is held in a location close to the kelompok members.
Such as the house of the kelompok chairman. This to minimize the cost, in terms of
time spent and travels expenses, for the kelompokmembers to obtain financial
services.

On the cash day the KUD assistant is present to assist the kelompok committee in
loan evaluation and administrative procedures. The field assistant from the
provincial Bank Bukopin office is twice a month present on cash days. The KUD
assistant for the provincial Bank Bukopin office prepares monthly reports per
kelompok.

The basic regulation and the financial and administrative procedures of the
Cooperative Rural Saving and Credit Program are laid down in two very specific and
detailed manuals “Buku Peraturan Dasar dan Buku Penuntun Kredit Pedesaan”
respectively.

V.3.4. Requirements for the Swamitra Program

The village co-operatives (KUDs)

1. Legal entity
2. Minimum classification B (as licensed by the Ministry of Cooperatives and
Small Enterprise Development).
3. Having a minimum of 5 group members.
4. Having Sub-Unit of Savings and Loan.
5. Fulfill the technical requirements as determined by Bank Bukopin.

Members group (Kelompok)

1. Has been selected by Bank Bukopin and KUD concerned
2. Having a minimum of 40 members that live within the working area of the
KUD.
3. Having a leader organization from the group itself.

V.3.5. The Roles and Responsibilities

Bank Bukopin
1. To develop training and education for KUD and members of the group.
2. To provide guidance and supervisions though a systematic program for KUD,
groups and their members.
3. To manage the excess savings and loan funds in the KUDs.

36
4. To administer all the necessary cre4dit activities for KUDs who have
participate in the scheme including education of Assistant Manager of KUD in
handing the savings and loan activities.
5. To implement monthly meetings with the KUD and attend the monthly
meeting with member groups.
6. To provide starting capital loan and special loan to KUD/s/Kelompok.

KUD
1. To develop a central administration of group members.
2. To provide counseling and supervision periodically, once a week based on the
cash day of the members group.
3. To approve the credit from Bank Bukopin and decide the credit allocation for
the members.
4. To handle coordination meetings with the group leaders every three months.

Groups
1. To center administration of savings and loans for the members.
2. To guide and promote the members business activities.
3. To sign credit approvals with Bank Bukopin and evaluate the application of the
members credit.
4. To implement monthly members meetings.
5. To receive and handle voluntary savings from KUD members or non members
(rural people).

V.3.6. Loans Mechanism

1. The loans extended by the group could be utilized by the members for
agricultural activities (mostly small size), commodities trading, handicraft,
poultry business and fisheries could utilize the loans extended by the group.
2. To obtain a loan each member has to become a member of the group and to
meet the requirement of compulsory savings for at least 3 months (for the
beginning).
3. Term and conditions for obtaining the loan depend on selection to member of
KUDs.
4. The KUD then distributed the initial capital loan to the group members. In one
KUD consist of minimum 5 group members and each group consists of around
40 members.
5. Therefore, the maximum amount of a loan required by each KUD is Rp 250
million as initial working capital loan. Larger than Rp250 million each KUD will
also need and additional Rp10 million which will be allocated as follows:

37
 a. Rp 12 million take used in the KUD itself for purchasing
one motor cycle to be used by the Assistant Manager of saving and loans
units of the KUD and for equipment.
b. Rp 12 million take used by all group members for
purchasing equipment and cash liquidity for the initial 3 months period
(before the group generates income).
6. Most of the loans mature within 6 months or according to the duration of the
growing season (if it will be used in agriculture). The loan process would be
based on the feasibility of the business of the members. Loan Application
Procedures are as follows;
 The village Cooperative (KUDs) to Bank Bukopin. Each KUD can apply for
loans to the nearest Bank Bukopin office.
 Bank Bukopin Offices will immediate to do some analysis about the
proposed loan.
 This process to be followed by an approval letter to the KUD who
proposed the loan (or rejection letter if not feasible).
7. After signing the loan agreement loan disbursement can be made. Members to
the group: Each member of the group (on KUD level) has to fill an application
form made available at the group’s office. Concise loan analysis will be
prepared by the committee of the group together with the Assistant Manager
of savings and Loan Units of the KUD.
8. The next stage in the process is signing the Loan agreement and the
disbursement of the Loan. The guidance and supervision process are given the
following chart:

BUKOPIN -
SWAMITRA
Monthly coordination
meeting among AM of
KUDs Monthly visit by
BUKOPIN Officers
Weekly visit by Visit by BUKOPIN
BUKOPIN Officers officers every two
weeks Weekly meeting of
members for getting
guidance from the
Board of Group and
Weekly visit by AM of the KUD
THE VILLAGE
Asst. Manager
COOPERATIVES Credit of the KUD GROUP
MEMBERS MEMBERS
SAVING AND
CREDIT UNITS
Weekly “Cash Day”
meeting at Group
Office

38
V.4. Development Trends of Swamitra

Swamitra as a partnership program between cooperative and Bank Bukopin,

recorded a significant increase in assets over the last three years. As of December
2010, the total assets of Swamitra is up to Rp1,180 trillion, whereas the initial
capital provided only Rp400 billion.

During the last three years, the number of Swamitra growth rapidly by an average
of 14.226%. Loan disbursement from 2008 to 2010 increased by 36%. Almost all
indicators are improving. However, the profit in 21010 year has decreased
compared to previous years. The development trend of Swamitra can be seen in
the following table.

Indicators Dec'08 Dec'09 Dec'10

Number of Swamitra (on line) 464 488 530
Total Assets [Rp Billion] 886 1,050 1,180
Total Loan Disbursed [Rp Billion] 692 846 944
Total Saving [Rp Billion] 392 449 446
Total Net Profit yoy [Rp billion] 38.41 54.01 34.53
Number of Debtors 88.31 103.30 106.60
Number of Customers 274.18 328.18 370.00

39
VI. LEMBAGA PERKREDITAN DESA/VILLAGE CREDIT INSTITUTION (LPD BALI)

VI.1. History

In February 1984, the Ministry of Home Affairs chose the cradle of the BKK to
organize a seminar on how to provide credit to the rural poor and to
microentrepreneurs that were not yet reached by formal financial institutions. The
seminar in Semarang brought together high-ranking representatives from various
provinces. It inspired Prof. Dr. Ida Bagus Mantra, the first governor of Bali to
launch a pilot project establishing one Village Credit Institution/Lembaga
Perkreditan Desa (LPD). At the first phase, 8 Desa Adat 1 (Customary Village) were
chosen as the pilot, they are Desa Adat Lukluk, Desa Adat Selumbung, Desa Adat
Ekasari, Desa Adat Jullah, Desa Adat Kubu, Desa Adat Manukaya, Desa Adat
Buahan, and Desa Adat Penasan. During the three years pilot phase (from March
1985 – March 1988), 161 LPDs were established, the provincial decree (peraturan
daerah) No. 2 provided the legal basis for the LPD, rooting them firmly within the
customary village (desa adat) and their associations (sekehe). After the Governor
and Provincial Parliament had issued the new framework of LPD Regulation and
Guidance, the number of LPD increased rapidly during the next five years and
reached 650 as of March 1993.

VI.2. Profile

The LPD is owned, operated and use by the members of Desa Adat. LPDs are fairly
autonomous units and were designed as financial intermediaries form the very
beginning, although limited to the boundaries of the traditional customary village.
AS a financial institution, LPD is unique because the Desa Adat is not only its
geographical but also its social place. LPD is established to achieve the following
goals:
1. To encourage the economic development of the village community by way of
controlled savings and term deposit and effective allocation of capital;
2. To eliminate the practice of ‘ijon’ (buying and selling crops before harvest),
black-market pawning and similar practices currently operation at the village;
3. To create even distribution of prosperity and business opportunities for
members and human resources of the village community;
4. To increase the buying power and to level the flow of payment and circulation
of money in the village, and;
1
Desa Adat is a village unit which customary symbols and regulations play an
important role in community life and for social integration

40
5. To avoid the informal money lender.

The size of LPDs differs greatly, reflecting the economic potential of the respective
community. There are more than 20 large LPDs with assets above Rp1 billion,
almost as large as the average rural bank. The average size LPD has assets worth
Rp1 billion, is operated by 6 staff, serving 600 customers which is mostly are the
local people of the traditional village. The industry is profitable reaching 5% ROA
and 25% ROE in 2010. Income is derived almost entirely from lending.

LPDs rely on savings and deposits rather than on credit and grants as their source of
refinancing. They have been very successful in mobilizing savings. BPD (The
Regional Development Bank in Bali) acts as the banker of the LPDs, absorbing over
liquidity and providing credit when needed. LPDs offer passbook savings accounts
and deposits at market rates. Credit is short-term with frequent installments and
mostly used to finance working capital. Lending procedures are character and
membership based. A recommendation from the adat Chief is required. Though in
principle LPDs are only to serve adat community members, in practice however,
the large LPDs in urban and semi-urban areas do also serve non community
members to which their adat rules do not apply. Peer pressure within the Desa
Adat is responsible for high repayment rates. Delinquent borrowers risk to be
expelled from their community and lose their right to pray in the village temples.
This is regarded as a severe sanction with many negative implications for the
offender.

VI.3. Organization and Management

The LPD organization varies depending on duration and scale of operation. New and
small LPD operate with a management consisting of a chairman, accountant and
treasurer. Field staff is added with growing numbers of customers and increasing
savings mobilization through door-to-door services. A smaller part of the LPD
industry has been developing models of organizationally differentiated divisions
and functionally differentiated field staff. Generally the LPD operate with 5
employees, on average, while large LPD with assets exceeding Rp. 1 billion usually
operate with more than 5 employees. The LPD management usually consists of
elder and male members of the Desa Adat. In contrast to most of the other
government-initiated small financial institutions in Indonesia, village officials do
usually not dominate LPD management. LPD staff often consists of younger
members of the Desa Adat. A great part of the LPD managers consider the lacking
quantity and quality of human resources as a major constraint for expanding and
improving LPD operations.

41
The LPD usually operates from its own building in the Desa Adat. Computers
support operations only in a small minority of larger LPD. Software applications
tailored to their needs, however, are not available. LPD customers are served
every working day with office hours ranging between four and eight hours a day.
Half of the LPD provide door-to-door services. The lack of transport facilities is a
major constraint for LPD with larger areas of operation.

LPD administration and management is usually carried out on the basis of annual
plans and written guidelines. Financial reports are prepared periodically in
accordance with existing regulations. Sometimes reports are seen as an obligation
imposed by other parties rather than an internal instrument of control and
decision-making. Decision-making processes vary considerably. Especially larger
LPD enjoy high degrees of management autonomy, whereas smaller LPD experience
a considerable involvement of the Desa Adat and its leaders in decisions such as
staff employment, determination of product features, and loan approvals.

VI.4. Savings and Credit Products

The products of LPDs are saving deposit, term deposit and credit (loan), there are
no other products as usually offered by commercial banks. Though the product of
LPD is limited, however the rate of interest is fairly competitive, compared to
those commercial banks. In some LPDs, the interest rates are even lower than the
rural banks. The majority of LPD collects compulsory savings as a percentage of the
loan amount disbursed. The latter are only relevant for small institutions in areas
with limited savings capacities. But, also in these cases compulsory savings seldom
contribute more than 10% to total funds mobilized.

Voluntary deposit accounts are the major instruments of fund mobilization. As of

December 2010, savings deposits made up 20% of the total liabilities and equity of
the LPD industry. They are presently offered with annual effective interest rates
(most usually 10% to 12%) higher than offered by commercial banks. In determining
interest rates most LPD react flexibly to local market conditions and their own
need for funds. Time deposit accounts are offered by most LPD and are the major
fund mobilization of large LPD. As of December 2010, time deposits financed 6% of
the total assets of the LPD industry. Time deposit services are offered with terms
of 3 to 12 months and, depending on local market conditions, with interest rates
ranging from 9% to 12%.

LPD provide mainly loans for productive purposes. Consumption loans are of some
importance in larger ones in urban areas. Most loans provided are monthly
installment loans that have a high variance with regard to both terms (10 to 36
months) and interest rates (2% declining to 3% flat per month). Loans with daily

42
installments have most usually a 100-day term, with annual effective interest rates
ranging from 36% to 72%. Seasonal loans for usually 6 months are provided with
similar interest rates.
VI.5. Regulation and Supervision

Although the LPD is owned by the Desa Adat, the provincial government of Bali and
BPD Bali (provincial development bank of Bali) continue to play an important role
in the LPD development as father and promoter. To fulfill its guidance, supervisory
and auditing role, the provincial government has installed a guidance and
supervisory body of the LPDs (Badan Pembina LPD) at provincial, district and sub-
district level. This body is presided by the governor himself and consists of his
representatives at lower levels as well as representatives from BPD. The provincial
government has also ruled that LPDs would be audited by the regional inspectorate
(Inspektorat Wilayah Daerah). Technical guidance and supervision is entrusted to
the BPD by analyzing monthly LPD reports and by carrying out on-site visits.
Besides, the government has installed so called LPD Centers called in Bahasa is
“Pusat Lembaga Perkreditan Desa Kecamatan” (PLPDK) at sub-district level, which
are supposed to support BPD’s function. There are currently 66 staff posted in 9
PLPDKs.

To carry out its primary function, BPD may conduct special investigations and shall
conduct regular on and off-site supervision. The off-site supervision, BPD receive
from LPD specified monthly and quarterly reports consisting of balance sheet, loss
and profit account and a loan classification report, to be analyzed and to detect
any problem (early warning system). Based on this report, on-site visits is carried
out to verify the specified information supplied by LPD, and to assess whether all
laws, regulation, decrees and directives (of the BPD) have been complies with. The
frequency of on-site inspections shall be determined by the BPD, taking into
account the principles of risk-based supervision.

Distribution of profits is uniform for all LPDs. In accordance with the Regulation of
Bali Province No. 3/2007, the annual allocation of net profit and the role of LPDs
within village development are as follow:
 Reserve fund/Capital : 60%
 Village development fund : 20%
 Production fee : 10%
 LPD guidance, supervision and support scheme: 5%
 Social fund : 5%

As mentioned above, 20% of the profit is allocated to the traditional villages as the
owner of LPDs. The fund is use to finance the activities of the villages such as the
restoration of the temple, carrying out ceremony/temple festival and other

43
cultural or religious activities, infrastructure (road, sidewalks, bridge, market),
etc.

VI.6. Current LPD Performance

As of December 2010, there are 1,405 LPDs that operate in 97% of the Balinese
custom villages. It is the goal of the local government to further expand the system
until every Desa Adat has its own LPD. The number of LPDs has been growing at an
average annual rate of 2% and their total assets grew by an average of 23% annually
in the last five years. With 1.4 million savings deposit account and 417,000 loan
accounts, LPDs provide financial services to most of the 850,000 Balinese
households. Saving and time deposits contribute more than 60% to total assets of
the LPD industry.

The average LPD had assets amounting to Rp. 1 Billion. The LPD world, however, is
a highly differentiated one. The high variance in organization, management and
outreach is reflected in highly varying assets sizes, ranging from some million to
billions of Rupiah. The latter LPD are mainly located in southern urban and growth
centers, whereas assets sizes below the overall average may already be large in
some rural and more remote areas.

The structure of assets is highly dominated by performing assets. Depending on

scale of operation, higher proportions of non-performing assets can be found in
newly established and small LPD. On average, the loan portfolio contributes more
than 60% (net of loan loss provisions) and BPD placements 30% to total assets. Large
LPD with high levels of deposit mobilization are characterized by under-investment
in the loan portfolio, when eligible borrowers cannot e found for their loanable
funds. The placement of large proportions of assets in BPD accounts has become a
source of inefficiency and affects earnings negatively. LPD with low levels of
deposit mobilization or difficulties to incur additional debts at reasonable costs are
often characterized by over-investments in their loan portfolios, a source of both
liquidity and credit risks.

The structure of liabilities and equity depends on deposit mobilization. As of

December 2010, savings (42%) and time (39%) deposits contributed 81% to the total
liabilities and equity of the LPD industry. Small and newly established LPD depend
on capitalized earnings to a much higher degree. LPD are generally successful in
mobilizing voluntary savings. Time deposit accounts are the fund mobilization
instruments enabling LPD to grow to sizes that are often not achieved by RB. In
some areas of operation and times of high inflation rates, however, many of these
LPD have been experiencing difficulties in placing time deposits mobilized to
eligible borrowers.

44
The structure of income is highly dominated by credit income, contributing 82% to
the total income of the LPD industry as of December 2010. Depending on assets
structure, LPD with high loan portfolio investments earn close to 90% of their
income from lending. The fact that BPD placements made up 30% of total assets
but only 12% of the total income of the LPD industry indicates the negative effect
of these placements on profitability. This situation is particularly given for LPD
with high investments in BPD accounts. In these cases income from BPD placements
do not seldom contribute more than 30% to total income.

The significant costs of LPD mainly consist of interest paid on deposit accounts and
personnel costs. Interest paid on savings and time deposit accounts made up 57% of
the total costs incurred by the LPD industry during 2010. Depending on the
structure of liabilities and equity, this share is even higher for LPD with high levels
of time deposit mobilization. The role of personnel costs, contributing 25% to total
costs as of December 2010, usually decreases with scale of operation and degree of
deposit mobilization. Operating expenses such as for supplies, maintenance and
depreciation of fixed assets, loan loss provisions and write-offs contributed 17% to
the total costs of the LPD industry as of December 2010. It has, however, to be
considered that many LPD do not fully account for loan loss provision costs in their
income statements and tend to delay writing off loans. In accordance with the
structure of funds, costs incurred from inter-bank liabilities do not play a
significant role in LPD operations.

The LPD supervision system as applied by the BPD examines the loan portfolio
quality. Based on the latest data from the BPD, the loan portfolio of LPD are 90%
pass, 5% doubtful, and 2% for Sub-standard and loss. The LPD supervision system
also includes a CAMEL rating. At the end of 2010 the BPD classified 83% of the
1.405 LPD as sound, while 9% is fairly sound. Detailed CAMEL reports for December
2010 shown that assets quality is the major factor predicating less sound and
unsound ratings. As measurements for assets quality are weak because of the
reasons mentioned above, alternative CAMEL ratings arrive at higher percentages
of LPD classified as less sound and unsound. It may be assumed that the CAMEL
rating presented approximately describes the present state of the LPD industry. It
is often said that the soundness of a LPD is a direct indicator of the strength of the
local adat.

VI.7. Development Trends 2007 - 2010

Between December 2007 and December 2010 the total assets of the LPD industry
grew by an average annual growth rate of about 25%. The major motor of assets
growth has been deposit mobilization. The loan portfolio also increased. Loan

45
portfolio growth was due to increasing loan disbursement rather than market
expansion, which grew by an average annual growth rate of about 30%. While the
average number of loan accounts were slightly increased during the period under
review, and the average loan amount outstanding per borrower increased by 2.5
times since 2007. Operating under highly competitive conditions in Bali and with an
outreach to one third to half of the households in their area of operation, well-
established LPD, in terms of the number of borrowers served, have approached
limits of expansion. Provided the LPD industry continues to improve its soundness
and to sustain its image as a safe place to save, these limits may not yet be given
with regard to the number of savings customers. Attractive savings products,
convenient services and the fact that all family members in Bali tend to open their
own savings accounts has been enabling LPD to expand their outreach to above the
average number of households per Desa Adat.

During the period of 2007 – 2010 the number of LPD increased from 1,208 to 1,405
(197 new LPDs has been established). The Balinese government re-orientated its
support from expansion to consolidation and improving the soundness of the LPD
industry. By and large, this move has been successful. Between December 2007 and
December 2010 the loan portfolio quality improved considerably. Most remarkably,
this improvement was achieved during times of adverse economic conditions and
despite the financial and global economic crisis. The share of LPD classified as
sound increased from 77% as of December 2007 to 83% as of December 2010, while
the share of LPD classified as less sound on the period under review is fluctuating
at the rage of 5% to 6%.

In spite of these positive trends, the number of unsound LPD increased from 102
(7.88%) to 114 (8.66%) during the period of 2007 to 2009. Though it is not really
significant, at least part of them is financially not sustainable. This situation has
been caused partly by economic and internal management factors. Many of these
LPD also suffer from lacking support by their Desa Adat and from weak social
control exerted by customary law, factors which have proved to be decisive
predicators of LPD performance. However, as December 2010 the unsound LPD
decrease to 17 (1.54%).

VI.8. Advantages, Potentials and Constraints

Compared to 536 bank offices in Bali, LPD has the following advantages:
 Direct and easy access
 Personal contact
 Convenient services and door step collection
 Simple procedures
 Rapid service

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 Low borrower and saver transaction costs
 Profit benefits the community
 Self-financed, self-managed, and self-controlled
 An integral part of the customary village as the center of life
 Banking on “karma phala” (the law of caused & effect) as an effective
collateral substitute.
 Crisis proof (strengthened by monetary crisis 1997/1998)

The LPD industry is an indispensable sub-system of the financial system in Bali. The
future potential of the industry lies in its expansion to areas not yet served,
through both service posts and new establishments, and in developing LPD
networks with functions such as inter-lending, deposit protection, supervision and
technical support.

With regard to individual LPD well performing and poorly performing LPD have to
be distinguished. Part of the first group has exhausted its growth potentials in
terms of area and number of customers served. Most of them will continue as is
and grow in line with their customers’ businesses. Fewer LPD tend to grow beyond
the boundaries of the Desa Adat and may convert to BPR. The group of poorly
performing LPD consists of two sub-groups. The first one with the potential to
improve management practice and grow in sustainable ways will have to undergo a
phase of consolidation. This requires adequate systems of support and supervision.
The second one may not have the potential to recover because of structural
problems in their Desa Adat. In these cases it seems to be advisable to clean up
unviable institutions and, at a later point in time, initiate new start-ups based on
deliberations of each Desa Adat concerned.

There are several constraints for achieving these objectives. The first is the Desa
Adat system itself. Though it is ideally a place of social integration, it has not been
free of communal conflicts. Some Desa Adat lack written customary laws required
for making enforcement effective. The enforcement capacity well-functioning Desa
Adat is limited in cases where LPD provide financial services beyond its boundaries.

The second constraint is the structural weakness of the support system available to
LPD in need of technical assistance. While the BPD cannot provide the required
number of trainers and consultants, the PLPDK staff is often not capable of
providing the assistance required. Training provided to LPD is seldom based on an
adequate assessment of training needs and training impact. Training provided does
not appear to have a significant positive impact on performance. The
transformation of individual learning into institutional practice requires a
comprehensive training and consultancy system that is able to respond to the
specific problems and needs of individual LPD.

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The third constraint lies in the present state of the supervision system. It lacks a
clear distinction from technical assistance functions and involves too many parties.
The system also lacks the capacity to carry out on-site supervision adequately and
has not been enforcing compliance with existing regulations.

The fourth constraint has to be seen in the lack of a consistent national regulatory
framework. The requirement to convert LDKP to BPR has not been reflecting the
needs of institutions such as the LPD. This led Bank Indonesia to temporarily allow
LPD operating as non-banks.

One of the major problem faces by LPDs is the lack of professional human resource.
At the beginning LPDs were started, most of the LPDs were managed by staff which
were not professional enough. When LPDs were still small in size this condition did
not create any problem. But when LPDs are growing up and getting big in size,
these unprofessional staff does create a problem. Some of these key human
resource challenges related to the lack of the technical and training system with
the goal of increasing skill level of LPD managers and staffs.

As overall and with present outreach and effective financial intermediation, the
LPD industry has become an indispensable part of the financial system in Bali and
plays an important role in local economic development in Indonesia, though maybe
it seem unrivaled in worldwide.

Table 3.1. The Development Trend of LPD, Dec. 2007 – Dec 2010

DEC'07 DEC'08 DEC'09 DEC'10

1 Number of customvillage 1,423 1,433 1,434 1,463

2 Number of LPD 1,351 1,356 1,368 1,405
3 Soundness:
a. Sound 994 1,000 991 919
- as percentage 76.76% 76.92% 75.30% 83.32%
b. Fairly sound 129 141 157 97
- as percentage 9.96% 10.85% 11.93% 8.79%
c. Less sound 70 49 54 7
- as percentage 5.41% 3.77% 4.10% 6.35%
d. Unsound 102 110 114 17
- as percentage 7.88% 8.46% 8.66% 1.54%
4 Number of personnel 6,892 6,956 7,074 7,375
5 Average personnel /LPD 5.32 5.35 5.17 5.25
6 Number of borrowers 359,507 372,092 398,791 477,002
7 Number of savers (Savings) 1,111,533 1,153,233 1,240,187 1,313,586
8 Number of savers (Time deposit) 81,936 83,467 92,054 98,468

Source: Regional Development Bank of Bali

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Table 3.2. The Balance sheet Development Trend of LPD, Dec. 2007 – Dec 2010
[Rp: 000]
DEC'07 DEC'08 DEC'09 DEC'10

ASSETS
1. Cash 64,978,202 74,697,338 88,320,523 92,027,736
2. Inter-bank assets
a. Current or demand 957,045 684,153 397,074 1,194,167
b. Savings 602,858,089 664,643,812 670,433,389 680,671,651
c. Time deposit 116,684,150 256,585,449 241,037,430 289,677,719
3. Loans
a. Loan disbursed 1,768,747,513 2,308,744,333 3,120,314,279 3,911,695,492
b. Loan loss reserve (41,101,283) (50,570,041) (67,951,947) (83,447,907)
4. Fixed assets and inventory
a. Purchase value 96,231,546 117,170,589 162,157,443 189,194,011
b. Accumulated depreciation (31,926,029) (38,797,212) (48,808,571) (60,691,026)
2. Other assets 40,898,129 63,743,352 62,804,730 84,791,316
TOTAL ASSETS 2,618,327,362 3,396,901,773 4,228,704,350 5,105,113,159

LIABILITIES
1. Savings 1,077,777,646 1,463,124,819 1,796,950,323 2,139,995,149
2. Time deposit 968,760,259 1,262,100,819 1,614,564,875 1,986,834,112
3. Inter-bank liabilities 3,234,125 3,050,352 2,157,973 2,780,054
4. Received loans 15,479,123 14,751,489 23,611,213 30,041,904
5. Other liabilities 17,422,854 22,159,448 28,380,804 33,315,394
6. Equity 29,179,932 30,229,164 34,108,003 35,977,532
7. Reserves 375,344,980 450,358,879 540,599,653 649,847,302
8. Profit/loss 131,128,443 151,126,803 188,331,506 226,321,712
TOTAL LIABILITIES 2,618,327,362 3,396,901,773 4,228,704,350 5,105,113,159

Source: Regional Development Bank of Bali

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Table 3.3. The Income Statement Development Trend of LPD, Dec. 2007 – Dec 2010

[Rp: 000]
DEC'07 DEC'08 DEC'09 DEC'10

OPERATIONAL INCOME
1. Interest income
a. Fromother banks
- Current or demand - - - 3,906
- Time deposits 2,394,158 4,110,781 5,722,568 5,930,694
- Loan disbursed - - - 480,451
- Others 27,063,382 40,444,760 43,924,972 43,024,545
b. Fromthird parties (non-banks)
- Loan disbursed 337,600,858 401,702,381 515,123,012 589,802,524
- Others 34,362,381 45,826,547 57,892,186 60,111,621
2. Other operational income 12,064,558 15,936,591 19,427,866 23,432,220
TOTAL OPERATIONAL INCOME 413,485,337 508,021,060 642,090,604 722,785,961

OPERATIONAL COST
1. Interest cost
a. To other banks
- Loan received 298,363 305,479 300,220 650,485
- Others 842,664 828,674 1,116,522 1,076,308
b. To other parties (non-banks)
- Time deposits 97,519,017 123,077,013 153,551,677 176,689,536
- Savings 60,824,701 77,131,278 97,061,063 108,548,998
- Others 2,418,082 3,021,376 3,407,378 3,777,020
2. Cost of personnel 80,069,016 93,189,383 115,040,258 124,789,789
3. Maintenances &Renovations 2,643,159 3,749,851 4,609,318 3,203,988
4. Depreciation
a. Fixed assets &inventory 6,454,106 8,063,705 11,695,579 12,733,590
b. Loan (account receivable) 8,617,677 10,993,302 18,619,905 16,952,958
5. Good &services fromthird parties 15,069,294 18,445,292 22,231,059 25,912,611
6. Other operational cost 13,878,674 18,232,139 26,146,580 25,152,496
TOTAL OPERATIONAL COST 288,634,753 357,037,492 453,779,559 499,487,779

PROFIT / LOSS 124,850,584 150,983,568 188,311,045 223,298,182

Source: Regional Development Bank of Bali

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VII. EXECUTIVE SUMMARY

1. The major merit of the BRI unit system has been to transform this theory
into practice. Achieving an outreach to more than 25 million customers and at
the same time developing into a sound, profitable and self-sustained network of
4,538 units has been a superlative in the history of microfinance.

2. The BRI unit system has gained international recognition that, however,
often focuses on Kupedes as “a success story in microlending”. There is no
doubt that Kupedes has been successful in holding losses extremely low and
contributing to the profitability of the unit system. The essence of the success
story, however, has been savings mobilization and financial intermediation
rather than lending. At the time the Simpedes product was introduced rural
finance was supply-led and credit-led, and governed by bureaucratic command
rather than market logics. The rural population was not a market segment of
business-oriented banking as it was considered too poor to save and in need of
cheap credit.

3. The revolution commenced with Simpedes is two-fold. First, the BRI unit
system has proved that serving the rural people's demand for savings
instruments is just as important as satisfying their demand for credit. All rural
households are in need of safe instruments that allow managing their liquidity
in flexible ways. Only a part of the rural households, though a continuously
growing one, is in need of working capital and investment loans that exceed
their capacity of self-finance to a considerable extent. Second, the BRI unit
system has proved that independent and cost-covering financial intermediation
between savings customers and borrowers rather than targeted and subsidized
credit is able to achieve both sound institution building and outreach to the
masses of the rural population.

4. Despite the rapid development of the commercial banking sector and the
large network of some 4,538 BRI units, the primary banking sector still has a
highly limited outreach to rural areas, in general, and the village level, in
particular. With more than 2,000 viable institutions the BPR industry has
developed into an indispensable sub-system of the financial system in
Indonesia. However, it has not yet been able to fully develop the huge market
left by the primary banking sector. The BPR industry is highly concentrated in
Java and Bali, and the majority of its institutions have been operating in urban
and business centers.

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5. There is sufficient evidence that the majority of rural households have
considerable demand for both savings and credit services. Moneylenders are
still omnipresent and meet the existing credit demand at high interest rates.
Microfinancial institutions with scarce loan able funds are not able to meet the
existing credit demand. Loan approvals often distribute scarce funds, thus
limiting the profitability of investments. Savings and credit groups need
financial institutions to deposit excess funds and increase their loan able funds.
There is a range of development projects with microfinance activities that
prepare new markets for financial institutions and aim at sustaining financial
services to their target groups. Poverty and social safety net programs
channeling cheap and easy money to the villages have been inhibiting BPR from
expanding outreach to the village level. These programs, however, are not
sustainable. If the government changes its mind and returns to focusing on
viable institution building in microfinance, RB would be better able to develop
their potential rural markets.

6. The still viable part of the industry does not only consist of sound and well-
performing RB. To improve this situation prudential regulatory and supervisory
frameworks must be in place. RB regulations and supervision instruments still
have to be improved. It has, however, to be considered that the major
constraints for influencing the soundness of the BPR industry in the past have
been weak supervision practice and, above all, weak enforcement of
compliance with existing regulations. The strict enforcement of full loan loss
provisioning, compliance with legal lending limits and other regulations is of
utmost importance for improving the soundness of the industry.

7. Supervision practice has to give more emphasis to assets quality, loan loss
provisioning and prudential accounting, especially of loan loss and write-off
costs. The frequency of on-site inspections has to be increased and inspections
have to focus on RB that are not sound. Recommendations of on-site
supervision have to be followed up and enforced. According to the Bank
Indonesia Act of 1999, bank supervision has to be transferred to a new
independent agency until the end of 2002. The objectives and tasks mentioned
above would be difficult to achieve, if this agency, its quantitative and
qualitative human resources, are not timely prepared.

8. The training of bank staff could not cope with the rapid development of the
banking industry, in general, and of the RB industry, in particular. The lack of a
comprehensive training system, and the resulting human resource problems,
has been a major constraint for the development of the RB industry. Training
did not necessarily improve institutional performance, as individual knowledge
was not transformed into practice. The transformation of individual to

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 institutional learning requires a training management system that includes
participative training needs assessment, procurement of quality trainers,
evaluation of training, and evaluation of training impact. However, training has
only a limited function for the institutional development of individual RB.
Institutional strengthening requires setting up systems of internal control,
financial and human resource management. Human resource problems are
often related to low remuneration and lacking career opportunities. An
important step in solving these problems is to establish clear remuneration and
incentive systems, and to provide staff with personal development plans.
Improving BPR governance by adequate functional differentiation of roles
played by owners, commissioners, directors and employees is another crucial
factor of institutional development. Institutional development requires
institutional development plans and management consulting services. A major
task ahead is to institutionalize both functions, training management and
management consultancy, i.e., in RB associations.

9. The vast majority of Swamitra partners are cooperatives; especially KUD

that have been used by the government to channel targeted and subsidized
credit. Bank Bukopin started the Swamitra program also to improve the public
image of cooperatives by a business-oriented and professionalized management
system. As the cooperative system lacks accountability, effective supervision
and compliance with prudential banking practice, the success of the Swamitra
program depends highly on Bank Bukopin’s own role in supervising its partners
and enforcing sound management practice. Furthermore, Swamitra partners
would not be able to become successful and growing financial intermediaries, if
Bank Bukopin treats them as credit channeling agencies, thus undermining the
institutions’ own savings mobilization function.

10. The LPD in Bali are probably the most successful small financial institutions
in Indonesia. Contrary to BKD in Java, they are effective financial
intermediaries placing many small savings to productive loan uses. The vast
majority of LPD has evolved into competitive financial institutions in a province
that has the highest density of financial institutions in Indonesia. A considerable
part of the LPD industry has reached scales of operation comparable to or
larger than those of RB.

11. The strength and comparative advantage of LPD is based on their character
as community-owned financial institutions, in general, and their integration
into the organization and value system of the Desa Adat, in particular. Owned,
controlled and operated by community members the LPD is able to inspire the
trust necessary for mobilizing deposits and achieving self-reliance. LPD
managers are well-known community members who maintain continuous and

53
 close customer contact. Readily available information necessary for prudential
credit management reduces transaction costs for the LPD. Low distances to LPD
offices and door-to-door services reduce the transaction costs of LPD
customers. These comparative advantages are further strengthened when social
integration and control based on customary law provide the LPD with effective
means of enforcement.

12. Part of the LPD industry has been facing low growth rates and deteriorating
loan portfolio qualities despite this generally successful development and
favorable environment. This has also been due to external factors such as
unfavorable economic conditions and socio-cultural conditions that deviate
from the comparative advantages mentioned above.

13. LPD operating in large Desa Adat face difficulties in maintaining continuous
and close contact to their customers. For doing so and extending their outreach
to remoter areas, the LPD industry has not yet developed a network of service
posts or contact persons at the Banjar (hamlet) level. This would also be
appropriate because the Banjar Adat is the focal point of customary law and
practice.

14. The LPD industry lacks a system financially intermediating between LPD. As
shown earlier, the LPD industry has been experiencing opposite financial
situations. Part of it lacks the loanable funds necessary to expand its business,
whereas another part is highly over-liquid and places large parts of assets in
bank accounts. The most logical solution to this problem would be to develop a
LPD inter-lending market, through which they are able to access loans at
reasonable costs and to place excess funds to uses with returns higher than
earned from BPD placements.

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