Dispute Resolution: Resolving Indonesian construction disputes

Cornel B Juniarto and Ammar S Gill of Hermawan Juniarto investigate how the country’s growing number of disputes over construction agreements are being resolved

Infrastructure in Indonesia is developing at a rapid pace. In spite of the fluctuating dollar in Indonesia, Jakarta is considered a prospective city in Asia when it comes to market expansion in the construction field. Construction projects developed in Indonesia between 2012 and 2014, which ranged from small to large scale, contributed up to 10% to the gross GDP. Identified as the top Asian country for construction, Indonesia has a high demand for houses, apartments and properties, which are key investments for both foreign and domestic investors. Additionally, the public construction sector has been growing for the last five years, as evidenced by the monorail train constructions, the MRT (mass rapid transit) project, and highway, water resource and power plant projects. Coordinating with the Ministry of Public Works, investors are drawn to the cross-border investment plan to enhance infrastructure in Indonesia. Various investors from Japan, the US, Australia and Singapore have competed to invest their money in Indonesia through partnerships with the government. Therefore, in late 2014, the construction market totaled $49.2 billion, increasing from 7.07% to 13%, making it one of the most promising sectors for returned investment. It also proves that the purchasing rate increased for domestic consumption.

Statistics show that almost 90% of registered construction companies are small-scale companies whose markets are limited. Yet some of the big Indonesian cities such as Jakarta and Surabaya, where most building construction has taken place, are dominated by large foreign construction companies. Asia Construction Outlook, in their 2013 report, showed that the total spending for construction in Indonesia had reached $247 billion. It also showed that in the upcoming forecast under the Masterplan for Acceleration and Expansion of Indonesia's Economic Development (MP3EI), an estimated $181.8 billion of infrastructure investments will compete with China. Increased cross-border investments and transactions have brought an urgent need for Indonesia to develop the rule of law with regards to construction transactions. However, in spite of the favourable investment climate, the emerging disputes from construction agreements are inevitable.

Construction regulations

The role of the private sector is increasing due to the inefficiency of publicly-owned companies in the area of project funding. Through a partnership, both private and public companies may achieve their vision of developing construction projects and gaining profit for investors. Despite this partnership trend, there is an increasing need for appropriate and updated laws and regulations. The growth of construction projects has driven the government and stakeholders to improve construction regulations through the promulgation of several construction regulations, which help the contractor and its related parties in conducting the construction services, and particularly help to prevent any violations arising from the construction agreement.

The first regulation that was promulgated was Law 18 of 1999 concerning the Construction Service (Law 18/1999). This regulation was aimed at establishing strong and diligent business activities, and at allowing construction users and providers to compete for quality construction. The prime goal of this regulation is to assure equal standing between the service user and service providers. Further, the Indonesian Government enacted several other regulations to support the implementation of construction services in Indonesia, such as: (i) Government Regulation/Peraturan Pemerintah 28 of 2000 concerning the Role of Construction Society as amended by Government Regulation 4 of 2010 and Government Regulation 92 of 2010 (PP 92/2010); (ii) Government Regulation 29 of 2000 concerning the Implementation of Construction Service (PP 29/2000) as amended by Government Regulation 59 of 2010 (PP 59/2010); and (iii) Government Regulation 30 of 2010 concerning the Guidelines of the Implementation of Construction Service (PP 30/2010).

Under article 20 of PP 29/2000, construction contracts in Indonesia should be made separately according to the construction stages, which consist of construction works in terms of planning, and construction works in terms of execution and supervision. Such construction agreements may be distinguished based on the fee, duration, and payment terms for which each type is regulated further under PP 29/2000. A strict liability based on article 23 is also applied, which governs the law of construction agreements between both parties. Therefore, any construction agreement made within the territory of Indonesia will be governed by Indonesian law.

International instruments for construction law

Although this is a strict liability with regards to the governing law, Indonesia has adopted various international construction instruments, such as the Fédération Internationale Des Ingénieurs-Conseils (FIDIC) General Conditions of Contract. The FIDIC General Conditions of Contract have been used as guidelines for construction service users and providers when entering into construction agreements. The guidelines are not a model law in Indonesia, although both parties are eligible to determine under which procedure and forum they will conduct the dispute settlement. In this respect, once both parties comply with Indonesian regulations, they are given the freedom to determine any forum and procedure to institute the proceeding.

Nonetheless, the promulgation of the Arbitration Law in 1999 encouraged the development of construction participants in need of certain regulations to overcome issues arising from construction agreements. As implied in article 49 of PP 29/2000, settlements outside the court may be conducted through third party settlements such as mediation, conciliation, arbitration institutions and ad-hoc arbitration, or through the preliminary expert examination.

Dispute factors

Investing money for infrastructure and construction projects always entails various risks. As a developing country, Indonesia holds a mix of successful projects and opportunities, but also greater risks. Such risks, however, can be minimised by thoroughly examining the credibility of the construction companies and investors, and by performing a thorough due diligence.

There are several factors, mostly at the source of the claim, which constitute risks in the construction field.

Construction dispute resolution

With the lack of detailed regulations and well-established forums to settle disputes, investors and construction companies based on the principle of freedom of contract may choose the location and procedure for dispute resolution through the Indonesian courts (litigation) or alternative dispute resolution (local or foreign). In terms of investment, local counsel often advise any foreign lenders or investors to avoid Indonesian courts for litigating the dispute.

Parallel to the recent surge in foreign construction enactors in the Indonesian infrastructure arena, cross-border disputes in construction have seen an increase. Issues inevitably arise around the foreign element in settling construction disputes, such as the choice of forum, choice of law, and procedure. Even though cross-border disputes are prevalent in the field of construction, it is important to note that in Indonesia, the governing law for construction contracts must be Indonesian law.

One case in point involving choice of law in a construction service agreement entailed an agreement to renovate a Foreign Embassy building, including its facilities and interiors, in Jakarta. The parties included the Embassy as a service user and an Indonesian company as the designated contractor. The agreement was made only in the English language and all correspondence between the Embassy and the contractor during the course of the construction work was conducted in English. The agreement was drafted by the Embassy based on their own standards, without reference to any standardised construction contract such as FIDIC or JCT. Consequently, the contractor was not able to obtain a noteworthy bargaining position in the contract. Moreover, the dispute settlement clause in the contract provided that any disputes were to be within the jurisdiction of the Embassy's national court and governed by the law of the Embassy's country. Ultimately, the parties opted for conciliation to resolve the dispute.

Litigation through local courts

Litigation in the Indonesian courts is not commonly chosen by parties for settling their issues, due to the lack of certainty and the secrecy within the court. Meanwhile, the advantage of choosing arbitration as the dispute resolution medium (rather than litigation) is the legal certainty provided by the arbitrators, as all arbitrators are experts in the field of construction. Despite the higher cost of arbitration compared to court litigation, the majority of participants within the construction sector prefer arbitration as the dispute resolution method because court litigation lacks transparency and experience in complex construction disputes. Not to mention, court litigation involves an extensive and time-consuming procedure from the appeals process of the first instance court (District Court) through the High Court or to the Supreme Court, which may take years longer than arbitration proceedings to provide a final and binding judgment to the disputing parties.

There is no special court or tribunal that deals with project finance transactions and construction contracts in Indonesia. In the event that one of the disputing parties is an Indonesian entity, the dispute clause within the agreement will be Indonesian law, with the freedom of choosing the forum of settlement. It is possible to litigate the issue in the counterparty's country of origin. However, this might lead to the absence of implementation of judgment in Indonesia. Since Indonesia is not recognised in the implementation of foreign court judgments, such judgment rendered upon a case involving an Indonesian party would lead to a re-litigation process within the Indonesian courts, which is a process foreign parties generally avoid due to the lack of legal certainty. Therefore, foreign investors, lenders, and construction companies generally agree to alternative dispute resolution, particularly arbitration, to settle any potential issues.

Arbitration

There are several arbitration agencies in Indonesia which generally conduct construction dispute settlements, such as BANI [Indonesian National Arbitration Body] and BADAPSKI [Arbitration and Alternative Dispute Resolution for Construction Disputes in Indonesia], which was established by the Ministry of Public Works. However, the latest efforts of BADAPSKI in settling construction disputes have not seemed to be effective. Therefore, BANI is commonly used by both parties to institute the proceedings, due to its credibility and reputation. Moreover, the majority of disputes which are arbitrated by BANI are related to construction.

"Court litigation lacks transparency and experience in complex construction disputes"

Practically speaking, it is more common to settle such disputes within the senior management of the company and, if the disputes cannot be resolved amicably, to refer them to arbitration. The disputing parties typically attempt to resolve the dispute amicably through negotiation between several management levels of their companies, and occasionally, the disputing parties may agree in the dispute resolution clause of the agreement or on an ad-hoc basis to settle the dispute by mediation prior to the arbitration proceeding.

Arbitration is still considered to be one of the preferred types of dispute resolution. In general, the mechanisms to arbitrate construction disputes are similar to other type of disputes. Both parties will refer to the dispute clause of the agreement, specifically to determine which law governs the dispute and forum of settlement. In the event that both parties choose BANI to institute the proceedings of the dispute settlement, then the BANI procedure will prevail for both parties. Consequently, once the decision is rendered by the arbitrators, it will be final and binding. Nonetheless, where construction contracts are related to projects that are financed by foreign entities, investors, or lenders, it is more common for such contracts to provide the dispute resolution under the arbitration rules of ICC or SIAC with seats in Singapore.

Any arbitral award rendered outside the territory of Indonesia will be considered an international arbitral award, which might be implemented in Indonesia subject to requirements set out under Law 30 of 1999 concerning Arbitration and Alternative Dispute Resolution (Law 30/1999).

Enforcement of national arbitration awards

Within a few weeks of the conclusion being presented by the parties before the Arbitration Tribunal, Law 30/1999 provides a maximum of 30 days to render the award. The Arbitration Tribunal will summon the parties with its award, and within a week of this award hearing, the parties will be provided with the written award. After a 14-day period in which the parties may correct any issue related to the award, the Arbitration Tribunal will register the award with the relevant district court for the enforcement process. The maximum period allowed for settling the dispute before the Arbitration Tribunal is 180 days after the date of the appointment of the Arbitration Tribunal. However, depending on certain circumstances and the complexity of the dispute, this period could be extended by the Arbitration Tribunal.

A local arbitration award is final and binding to the parties, so no appeal should be made against the award. No later than 30 days after the issuance of the award, it will be registered at the district court. If the unsuccessful party refuses to comply with the award, the winning party may request the chairman of the relevant district court to issue an order for the enforcement of the award.

Enforcement of international arbitration awards

An international arbitration award is an award which is issued by an arbitration institution or individual arbitrators outside the jurisdiction of the Republic of Indonesia, or an award issued by an arbitration institution or individual arbitrator which is, according to the law of Indonesia, regarded as an international arbitration awarder. The District Court of Central Jakarta is the only court authorised with the recognition and enforcement of international arbitration awards. Several conditions must be fulfilled for an international arbitration award to be enforceable in Indonesia: (i) the international arbitration award is issued by an arbitrator or arbitration panel in a country which has a bilateral or multilateral relation with respect to the recognition and enforcement of international arbitration awards with Indonesia; (ii) the recognition and enforcement of the international arbitration award is limited to the award which, according to Indonesian law, belongs to the scope of trade or economic law; (iii) the international arbitration award can only be enforced in Indonesia as long as it does not interfere with the public order; and (iv) the international arbitration award will be enforced after securing an enforcement order (exequatur), from the chairman of the District Court of Central Jakarta.

The international arbitration award, which concerns the state of the Republic of Indonesia as a party in dispute, can only be enforced after securing an enforcement order from the Supreme Court, while its execution is to be delegated to the District Court of Central Jakarta.

Annulment of arbitration awards

The unsuccessful party may request the nullification of the award by submitting a written nullification request to the chairman of District Court. The period of nullification submission is at least 30 days after the arbitration award, and must be registered and submitted by the Arbitration Tribunal to the Court Registrar Office at the relevant district court.

An application to nullify an arbitration award may be made if the award is alleged to contain the following elements: (i) letters or documents submitted in the hearings which are admitted to be forged or are declared to be forgeries after the award has been rendered; (ii) documents are found after the award has been rendered which are decisive in nature and were deliberately concealed by the opposing party; or (iii) an award is made based on fraud committed by one of the parties to the dispute.

Growth brings risk

The recent growth of the construction market in Indonesia is evident. This situation has prompted an increase in foreign investment in the field of construction. Consequently, potential disputes in construction should be anticipated alongside the development of infrastructure in Indonesia. The most noteworthy aspect for investors to be aware of regarding the Indonesian construction arena is the mandatory requirement by law that construction contracts must be governed by Indonesian law. In spite of this, the settlement of construction disputes through the Indonesian courts is uncommon due to the lack of certainty and confidentiality in the court process. The majority of construction disputes in Indonesia are resolved by arbitration under BANI due to its credibility and reputation as well as the apparent advantages of arbitration in general. The arbitration proceedings of construction dispute settlement under BANI follow the general proceedings of any disputes under BANI; in other words, there are no particular differences in the treatment of construction disputes. Indonesia, as a developing country in terms of construction and infrastructure, has been trying to improve its regulations in order to increase investment potential. Therefore, in the coming years, it is hoped that Indonesia's commitment to resolving construction disputes will be achieved.

  First published by our sister publication IFLR magazine. Take your free trial today.

Cornel B Juniarto
Hermawan Juniarto
Jakarta

About the author

Cornel B Juniarto is senior partner at Hermawan Juniarto, where he regularly advises clients on general corporate law regulatory issues. He leads the dispute practice group of the firm, and has worked on numerous corporate commercial transactions involving both domestic and international clients, including various M&A transactions.

Juniarto specialises in dealing with bankruptcy, restructuring and insolvency issues. He is the author of various publications on foreign investment and corporate commercial matters published by Bloomberg, and is a contributor to the Indonesia Corporate Governance Manual published by IFC and the Indonesia Financial Services Authority.

Ammar S Gill
Hermawan Juniarto
Jakarta

About the author

Ammar S Gill is an associate in the dispute practice group in Hermawan Juniarto. He is a qualified attorney, and specialises in commercial litigation and alternative dispute resolution. He has substantial experience in commercial disputes, arbitration, employment disputes, compliance and fraud investigation.

Gill has broad range of experience representing clients in various commercial litigation cases. Some notable clients include Standard Chartered Bank, Draeger Medical Indonesia, Lockheed Martin Aeronautics Company and Hilti Nusantara.