Indonesia favored once more

Since the global financial crisis six years ago, Indonesia became the darling of investors, then a pariah, and is now making its way back.

Most of these swings in perception match similar swings in the country's economic environment. Throughout 2011, Indonesia was widely touted as the next big story among emerging markets.

But a series of setbacks that started in 2012 and lasted through much of last year put investors on the defensive. They were scared away by rising inflation, slowing economic growth and issues with the national currency.

"The Indonesia market has been in turmoil since June 2013 as the currency began to depreciate and a small currency crisis broke out," says Li Yao, CEO of the China-ASEAN Investment Cooperation Fund.

"Several large emerging markets - Indonesia, India, Brazil - all saw turmoil both in foreign exchange markets and capital markets. Therefore, the overall return is less stable than in 2012."

Indonesia's stock markets have also faltered. As with most markets in Asia (except Japan), performances were weak.

"Indonesia's performance was less impressive compared with developed markets, such as Japan, Europe and the US, which were doing quite well," says Li.

In the broader economy, growth continued to slow in 2013, but the government also started putting in place a series of policies to stabilize the economy, control inflation and secure stable growth. The emphasis was on "stable".

Indonesia is not quite out of the hot water yet, but it is on its way. The country is starting to make a comeback. Investors are taking a second look, aware that the challenges over the past two years have opened up doors that were firmly closed before and have even created new opportunities.

"The turmoil in the Indonesia market actually provided us with more negotiating (opportunities)," says Li.

He adds that it is unknown whether the turmoil will continue, "but Indonesia has abundant exchange reserves and the government has learned lessons from the financial crisis in 1997 and has been making great efforts to deal with the crisis".

As things stand today, Indonesia is a gold mine of opportunities for private equity (PE) investors.

It is one of the most populous countries in the world and the most populous within the Association of Southeast Asian Nations (ASEAN).

Its growth rates are fast. Domestic consumption is rising and the middle class is expanding. There are plenty of natural resources.

Best of all, the government recognizes that it needs to invest heavily to make the country even more attractive for investors and an easier location in which to do business.

Deals are still being done, even if they are relatively small compared with those in the United States, Europe or even China. Last year, for example, international PE group Kohlberg Kravis Roberts & Co (KKR) bought a 9.5 percent stake in the Jakarta-listed snack food manufacturer Tiga Pilar Sejahtera for $42 million.

KKR had just finished raising $6 billion for an Asian buyout fund when it announced the deal.

Between 2011 and mid-2013, PE funds closed some 13 deals worth $900 million, according to business development group Mergermarket. Accountancy firm Ernst & Young, in its annual PE report for 2013, said the country is likely to continue attracting investors.

"We are seeing good deal flow," says Karam Butalia, executive chairman of KV Asia Capital, a relatively new Asia-based fund that last year raised $263 million to invest in mid-sized companies in the region. "Indonesia is an important focus area for KV Asia Capital."

The challenge for the fund is that there is still a pricing gap, with sellers asking for a premium price for the best assets.

The Indonesia story is somewhat typical of the largest markets in Asia. In its Global Private Equity Report 2013, consultancy Bain & Co said that through much of the last decade, the country (along with others such as China and India) was a good target for fund managers because its economy was growing steadily.

The investors, known in the PE world as limited partners, were also generally very interested in getting exposure to the market.

But when GDP growth became less reliable through 2012 and 2013, things changed somewhat.

Through 2013, economic growth was the lowest in about four years, even though it picked up speed in the last quarter of the year when GDP growth rose 5.72 percent, according to Indonesia's Central Bureau of Statistics. The number in the last quarter was higher than economists had expected.

Some analysts suggest growth will continue to slow through 2014. Both Credit Suisse and Barclays expect softer numbers for this year, with some suggesting growth may be 5 percent.

On the other hand, Bank Indonesia expects growth this year to range between 5.8 and 6.2 percent and at least one international bank, Standard Chartered, agrees.

But stable growth of 5 or 6 percent is nothing to sneeze at, particularly if it can be tied to a more stable currency, something that Indonesia has had a difficult time delivering.

The rupiah was the worst-performing Asian currency in 2013, plunging 21 percent against a strengthening dollar.

On the other hand, household consumption rose 5.25 percent in the last quarter of 2013 from a year earlier and investment climbed 4.37 percent. Domestic consumption is a big part of the economy, accounting for 55.8 percent of GDP, a full percentage point higher than in 2012.

DBS Group, a Singapore-based bank, expects private consumption to remain strong through the near and medium term and to continue powering economic growth.

A key area of focus is infrastructure, which Indonesia badly needs.

Roads are far fewer than needed and often in disrepair. The country's biggest cities are famously congested while traffic jams in Jakarta, the capital, can last for hours. The power supply in the countryside is not always reliable and water sanitation needs an upgrade.

To address these challenges, Indonesia needs to attract more investment. As part of an effort to do that, it has created the Indonesia Infrastructure Guarantee Fund.

The aim of the fund is to provide guarantees for investors that may shy away from the country fearing political risk or policy changes, explained Sinthya Roesly, the fund's president director, during a roundtable organized by China Daily as part of the Asian Financial Forum in Hong Kong in January.

"What we actually provide is the guarantee through various contracts with the private sector and also the government," she said. "This contracting scheme is expected to provide confidence."

Another driver of growth in Indonesia is its increasing links to ASEAN and the imminent launch of the ASEAN Economic Community, likely to be established in 2015. As a group, ASEAN has a population of 600 million people and some dynamic economies, including Malaysia and Thailand.

Among respondents to Ernst & Young's annual survey, 9 percent identified Indonesia as their country of focus while more than a third of investors active in Southeast Asia said Indonesia was their focus.