VZCZCXRO0047
RR RUEHCHI RUEHDT RUEHHM
DE RUEHJA #0024/01 0042351
ZNR UUUUU ZZH
R 042351Z JAN 07
FM AMEMBASSY JAKARTA
TO RUEHC/SECSTATE WASHDC 2670
RUCPDOC/DEPT OF COMMERCE WASHDC
RUEATRS/DEPT OF TREASURY WASHDC
INFO RUEHZS/ASSOCIATION OF SOUTHEAST ASIAN NATIONS
RUEHUL/AMEMBASSY SEOUL 3843

UNCLAS SECTION 01 OF 02 JAKARTA 000024 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
DEPT FOR EB/TPP/MTA AND EAP/MTS 
USDOC FOR 4430/BERLINGUETTE 
DEPT PASS USTR--KATZ 
 
E.O. 12958: N/A 
TAGS: ETRD ELAB EINV ECON ID
SUBJECT: INDONESIA - KOREAN INVESTMENT DISPUTE HIGHLIGHTS LABOR 
PROBLEMS 
 
 
¶1. (SBU) Summary: An early October decision by apparel and shoe 
retailer Adidas to terminate supply contracts with three local shoe 
manufacturers has led to the layoff of 17,000 workers and sparked 
labor demonstrations.  The three firms owe a combined $140 million 
to Indonesian banks, but have not produced shoes for months.  The 
Korean owners of two of the factories fled Indonesia without paying 
millions of dollars in required severance pay to workers, and show 
no signs of returning.  The continuing closure of the three 
factories highlights both the disincentives in Indonesia's overly 
rigid severance pay system as well as weaknesses in Indonesia's 
bankruptcy system.  End Summary. 
 
Adidas Review Uncovers Supplier Problems 
---------------------------------------- 
 
¶2. (U) Paul Griffiths, Chief Representative of Adidas Indonesia, 
briefed us in late December about recent financial woes affecting 
three Adidas suppliers in the Jakarta area.  Adidas completed its 
buyout of Reebok in June 2006 during which Adidas reviewed Reebok's 
development and manufacturing contracts in Indonesia.  In the course 
of the review, three factories caused concern: Korean-owned sister 
companies Dongjo and Spotec, and Indonesian-owned Tongyang. 
 
¶3. (SBU) According to Griffiths, Dongjo and Spotek owed at least $40 
million to Indonesian banks but had few assets.  A prominent South 
Korean businessman, Cheon Song Ho, owned a controlling 80% stake in 
the two firms, but subsequently reduced his ownership stake to a 
minority holding over the summer of 2006 and left for Korea.  Ho has 
not been back to Indonesia since.  Dongjo's new chairman, made 
several trips to South Korea in an attempt to raise capital, but did 
not return to Indonesia after his last trip in September 2006. 
 
¶4. (U) Griffiths said Adidas lent Dongjo funds for materials 
purchases for future deliveries, but with $15 million in debt to two 
suppliers and $40 million in Bank debt, the company could not keep 
up the quality or quantity of the orders. Adidas terminated support 
in late September and the Dongjo factory closed October 13.  Sister 
factory Spotek was not able to remain open or receive loans from 
Adidas due to the much smaller size of its orders and closed one 
week after Dongjo.  The Indonesian-owned Tongyang factory closed on 
October 30 under the burden of $100 million dollars in debt, 
although owner Danny Susanto is actively seeking buyers. 
 
Workers Protest; Liabilities Mount 
----------------------------------- 
 
¶5. (SBU) The factory closings left 17,000 workers jobless with 
little explanation about why their factories closed.  Factory 
managers repeatedly promised to reopen the factories and pay 
financial compensation, but were unable to keep their promises.  As 
a result, all three factories experienced labor unrest, with Spotek 
experiencing large demonstrations.  The workers are also waiting for 
their severance payments, which represent approximately $17 million 
in liabilities for the three factories on top of their already heavy 
debt burden.  According to Griffiths, all three factories are 
capable of running at optimal capacity and once again supplying 
Adidas.  However, all three are currently in legal limbo, with the 
Dongjo and Spotec factories declaring bankruptcy in late December. 
However, Indonesia's bankruptcy laws are slow-moving and complex, 
and it is unclear weather a new buyer would have to assume the large 
severance payouts, making the factories significantly less 
attractive.  According to factory management, the Tongyang factory 
is set to re-open in April 2007, but it has not presented a 
financial plan that would permit it to reopen. 
 
¶6. (SBU) Adidas remains very involved in the labor situation at the 
three plants, although the company does not have an equity stake in 
any of them.  Adidas frequently consults with management, unions, 
and government officials.  Earlier this month, Adidas was able to 
persuade Jamsostek, the Government social security fund, to release 
retirement payments to workers ahead of their actual retirements. 
Adidas is also funding six months of healthcare costs for workers. 
In addition, Adidas consulted with Minister of Trade Mari Pangestu, 
who supported the idea of talking to South Korea about the return of 
the Dongjo executives who fled Indonesia.  However, Griffiths 
expressed doubt about pursuing Ho as he is widely believed to have 
close ties to the current South Korean administration. 
 
¶7. (SBU) Comment: The investment dispute demonstrates the perverse 
incentives of Indonesia's current severance pay system.  Very 
generous severance pay entitlements make workers reluctant to quit 
and move on to new jobs.  At the same time, heavy severance pay 
costs can make fleeing the country a more attractive option than 
paying workers what they are due.  The disputes also highlight a 
 
JAKARTA 00000024  002 OF 002 
 
 
point that Indonesian and international business have been making 
for years--Indonesia's current severance pay system erodes the 
country's competitive advantage in labor intensive industries at the 
same time regional players present an increasingly attractive 
market.  Nonetheless, the Yudhoyono Administration has shown very 
little inclination to move forward with politically difficult labor 
reforms after last April's labor demonstrations.  More positively, 
although the three factory closings cost Adidas millions of dollars, 
Griffiths said the company remains positive about Indonesia and that 
production by Adidas contractors grew 26% over the past year, facts 
he attributed to high quality workmanship and well established 
supplier relationships.  The challenge for Indonesia will be 
maintaining its market position in labor intensive industries as 
other Southeast Asian markets, especially Vietnam, are becoming 
increasingly more attractive due to more favorable labor and 
investment laws. 
 
HEFFERN