Did you know Indonesia's large companies were among the most productive in terms of asset-turnover ratio for the five years till 2016, from a sample of 27 prominent emerging or frontier markets?
Indonesia was also among the eight markets that saw at least one-third of their large companies deliver more than 10 percent return on equity in each of the five years from 2012 to 2016. Large companies here refer to the top 200 listed companies by the 2016 Bloomberg market cap. They have better access to resources, so are better proxies for market performers.
These data show the improvement in Indonesian market performance. But many globally would have been unaware of this; hence only 50 portfolio funds had over 90 percent allocation of their corpus to Indonesia as of early 2017, while Thailand had close to 200.
This performance data also reveals two key challenges, which are constraining the scale of investor interest the market deserves.
Indonesia saw robust economic growth in recent years — its gross domestic product grew at 9 percent compounded annual growth rate (CAGR) in 2012-16, according to the International Monetary Fund (IMF) — and IMF expects a similar CAGR for the next few years till 2021.
If Indonesia wants this economic story to translate into a corporate story and create the scale of investor interest it deserves, it has to address these two challenges.
Are Profits Too Concentrated?
The contribution of the largest three sectors to the profit pool of its top-200 companies was close to 70 percent in 2016. These were finance, consumer staple and discretionary. Thailand, Philippines and India were less concentrated.
A higher concentration indicates the impact on profit-pie due to increased focus on a few sectors of competitive advantage at the expense of others, but this cannot be said for Indonesia, since the last five years saw a profit dip in most of its large sectors.
Interestingly, only few companies that saw the maximum growth to profits from 2012 to 2016 came from these sectors — banks (Bank Central Asia, Bank Maybank Indonesia, Bank Negara Indonesia, Bank Rakyat Indonesia, Bank Tabungan Negara) and consumer (Matahari Department Store, Japfa Comfeed, Mayora Indah, Indofood CBP Sukses Makmur).
The others were from telecom (Telekomunikasi Indonesia, Sarana Menara, Linknet), real estate (Pakuwon Jati, Metropolitan Kentjana) and materials (Chandra Asri Petrochemical).
This implies its other sectors do have great performers, but only a few! So the sector remains small.
If more companies of those sectors can improve their performance, their sectoral share can go up. That would also mean any risk to its large sectors would not derail market performance. A more rounded profit growth would push the case for more Indonesia-dedicated funds.
The case for its real estate and materials sectors is compelling. The IMF expects Indonesia's gross investment to grow at a 9 percent CAGR from 2017 to 2021, which should push domestic demand for these sectors.
Also, the drop in the Indonesian rupiah versus the Thailand baht and Malaysian ringgit makes its exports competitive. The services sector offers scope for expansion. This formed only around 45 percent of its gross domestic product (GDP), compared to the average 60 percent in large emerging economies.
Consumption also remains an opportunity. The percentage of GDP spent on private consumption was around 58 percent in Indonesia, less than the sample average. An average Indonesian spent about $7,000 out of a per capita of around $12,000. Egypt and Sri Lanka had a similar per capita, but they consumed more.
Also, the good performers from other sectors who are unlisted need to be listed. Its ratio of large companies’ revenue to GDP is relatively low, and this gap between the real and listed economy has to reduce.
Is It Investing Adequately in Size and Realizing the Gains?
Sri Lanka was a moderate-sized market in our sample of 27, if one looks at the average profit per company of its top-200 companies. The average Chinese company was 18 times larger, Indian three times, South African 1.5 times and Thai 1.3 times.
Indonesia's average profit was similar to the United Arab Emirates, Turkey and Saudi Arabia, though it had a larger GDP. So are its companies investing to scale up? Their combined equity rose since the last five years despite a decline in profit in the same period, indicating some fresh equity was shored up to fund expansion. But the leverage still remains far less than the sample average, and this constrains the size to achieve further growth.
In any case, its gross savings rate at 30 percent or more is on the higher side. So productive investment avenues have to be found for them to be productive, else it would disincentivize savings in favor of current consumption.
At the same time, these incremental assets have to be profitable. The lack of current profitability has pulled down its ROE, despite the companies being very productive in sweating their assets. The de-growth in profits coupled with the equity addition is a positive, because it means some investments into size is done from which operating leverage can flow in the future. But the lack of debt addition constraints growth than what it could have achieved.
At the end, if Indonesia can address these two challenges, it would improve its ROE as compared to its regional peers and would help it evince the level of investor interest a high-growth market deserves.
Sourajit Aiyer is an author, financial services professional and researcher for South Asia Fast Track.