VZCZCXRO2690
RR RUEHCHI RUEHCN RUEHDT RUEHHM
DE RUEHJS #0080/01 1911052
ZNR UUUUU ZZH
R 091052Z JUL 08
FM AMCONSUL SURABAYA
TO RUEHC/SECSTATE WASHDC 0246
INFO RUEHZS/ASSOCIATION OF SOUTHEAST ASIAN NATIONS
RUEHBY/AMEMBASSY CANBERRA 0127
RUEHJA/AMEMBASSY JAKARTA 0232
RUEHJS/AMCONSUL SURABAYA 0251
RUEHC/USAID WASHDC
RUEHRC/USDA FAS WASHDC
RHHMUNA/USPACOM HONOLULU HI
RUEHWL/AMEMBASSY WELLINGTON 0127

UNCLAS SECTION 01 OF 02 SURABAYA 000080 
 
SENSITIVE 
SIPDIS 
 
EAP/MTS, EAP/MLS, INR/EAP, EB 
 
E.O. 12958: N/A 
TAGS: EAGR ID ECON PGOV
SUBJECT: EAST JAVA--OIL PRICES, POOR INFRASTRUCTURE BATTER BOTH 
STATE-RUN AND PRIVATE FACTORIES 
 
SURABAYA 00000080  001.2 OF 002 
 
 
This message is sensitive but unclassified.  Please protect 
accordingly. 
 
¶1.  Summary: Top managers at two major Indonesian factories in 
Gresik, East Java, spoke to visiting Consulate staff about the 
challenges of running a large-scale factory in Indonesia. 
State-owned Petrokimia is a fertilizer company with a protected 
market and guaranteed prices.  Privately-owned Kelola Mina Laut 
(KML) is one of the largest seafood processors in Indonesia with 
75 percent of its exports bound for the U.S.  Each management 
team described vastly different regulatory playing fields: one 
protected and the other intensely competitive.  However, both 
suffer from the direct and indirect impacts of poor 
infrastructure and high oil prices.  End Summary. 
 
State-Owned and Safe 
---------------------------- 
 
¶2.   (SBU)  During a visit by Surabaya Pol-Econ Officer and 
Pol-Econ Assistant, managers at Petrokimia explained the 
business realities of operating a state-owned company in East 
Java.  Petrokimia produces various types of chemical fertilizer 
and other by-products supporting the agricultural sector of 10 
regencies in East Java province.  It is one of only five such 
state-owned fertilizer companies in Indonesia.  The Minister of 
Agriculture, with the governor's certification, regulates the 
distribution of this fertilizer.  Both the price and 
distribution networks of fertilizer are tightly regulated.  The 
managers referred to the strain that their operation was under 
due to rising fuel prices and poor infrastructure.  However, 
they offered no strategies or plans to adjust operations as a 
result of the rising cost of finished fertilizer inputs. 
 
Competing and Winning 
------------------------------ 
 
¶3.    (SBU) The managers of Kelola Mina Laut (KML), a privately 
owned seafood processing facility, presented a more dynamic 
picture of business operations.  KML is an integrated processing 
company that cleans, scales, washes, freezes and packages 
locally produced seafood in its Gresik factory.  KML's owner, M. 
Nadjikh, is a successful Pribumi (native Indonesian) who has 
flourished in a field traditionally dominated by 
Sino-Indonesians.  KML is Indonesia's top fish producer and 
exporter, and its third-largest shrimp producer.   KML operates 
factories in Sulawesi and competes with both domestic and 
international seafood corporations.  Processing of crab-meat is 
particularly labor intensive and high-cost.   KML has been able 
to use its thousands of skilled crab and shrimp cleaners to 
provided value-added products to European and U.S. customers, 
(mainly restaurant suppliers) eager for high-end seafood. 
 
A Study in Contrasts 
-------------------------- 
 
¶4.  (SBU) Petrokimia and KML illustrate the differences between 
a domestically oriented state industry and an export-oriented 
private business.  According to Petrokimia management, the 
company would try to redirect operations toward trade and export 
surplus fertilizer after domestic demand is met.  However, given 
that Petrokimia can only produce one third of the 1.2 million 
tons used in East Java's agriculture every year, the likelihood 
of becoming an export player is extremely low.  Petrokimia 
relies on imports of raw materials from a wide variety of 
countries and increasingly high shipping costs of these inputs 
still affect this subsidized industry.  To meet domestic demand, 
Petrokimia must import low-cost fertilizer (especially potassium 
chloride) from China, other raw materials from Canada, the 
Middle East, and Russia, phosphorous from Morocco, Jordan, 
Egypt, and China, phosphoric acid from Tunisia and China, and 
aluminum hydroxide from Turkey. 
 
¶5.  (SBU) In contrast, while Indonesia's subsidized fertilizer 
industry relies on imports, KML is a seafood exporter 
powerhouse.  KML exports 90% of its total production, more than 
75% of which goes to the U.S. market.  Other overseas markets 
are Canada, Europe, Russia, Japan, China, Korea, Australia, New 
Zealand, the Middle East, Southeast Asia and Africa.  The 
seafood comes from throughout Indonesian waters.  Stringent 
international standards for seafood processing have forced KML 
to comply with various international certification requirements. 
 This has meant that KML products can be sold in European and 
U.S. markets.  Because the U.S. is such an important export 
 
SURABAYA 00000080  002.2 OF 002 
 
 
destination, KML also complies with U.S. regulations outlined in 
CTPAT (Customs Trade Partnership against Terrorism).  U.S. 
Customs and the FDA have twice visited KML to inspect safety and 
security there. 
 
Common Challenges -- Infrastructure and Fuel Costs 
--------------------------------------------- ------------------- 
 
¶6. (SBU) Fuel prices and inadequate infrastructure are problems 
for both companies, but they have a more direct impact on KML. 
Petrokimia's representatives told us that high fuel prices have 
increased the cost of production as well as the price of raw 
materials.  To insulate itself from the weak power grid in East 
Java, PT. Petrokimia has its own power plant (gas turbine 
generator and steam turbine generator) with a total generating 
capacity of 50 MW.  In addition to compensating for poor 
infrastructure with their own power plant, Petrokimia's 
government managers must keep the retail price of fertilizer 
constant and has nearly doubled the subsidy on fertilizer, from 
Rp. 7.6 trillion (USD 828 million) in 2007 to Rp. 13 trillion 
(USD 1.4 billion) in 2008.  Petrokimia cannot increase their 
prices to consumers and therefore must try to cut costs through 
increased efficiency instead.  By contrast, costs that cannot be 
cut in the factory by KML have to be borne by the customer. 
 
 
¶7.  (SBU) Higher crude oil prices have increased demand for 
alternative fuels like palm oil, which in turns increases demand 
for fertilizer at new palm oil plantations of Jatropha palms. 
According to Petrokimia management, this has put sudden added 
strain on fertilizer supplies available to local distribution 
networks.  When asked if they were seeing a shift to cheap and 
readily available plant fertilizers in the form of compost-like 
green manure, Petrokimia told us that wealthier and more highly 
educated agricultural communities, such as those in Java, used 
green manure.  In poorer and more remote areas, farmers still 
use synthetic fertilizers almost exclusively. 
 
¶8. (SBU) Transportation infrastructure is a particular problem 
for KML.  Their marketing director praised the government's 
crackdown on illegal fishing by foreign vessels, but complained 
that the government has failed to create needed infrastructure 
at Indonesia's ports.  There are only five Indonesian ports 
(Medan, Semarang, Makassar, Tanjung Perak, and Tanjung Priok) 
large enough for KML's export needs. However, even these ports 
do not have the facilities to do direct export to the U.S.  KML 
containers bound for the U.S. must first go to Singapore and 
undergo consolidation on a larger vessel before continuing to 
their final destination.  This adds time and cost to the bottom 
line in an industry where speed and freshness are key.  Shipping 
fish from Surabaya to Japan (over 3000 miles) is cheaper than 
shipping fish barely 500 miles between fishing grounds near 
Makassar, Sulawesi, to processing facilities near Surabaya. 
Costs stay high due to infrequent inter-island shipping 
schedules and a captive market. 
MCCLELLAND