Indonesia information technology report q2 2014

BMI Industry ViewBMI View: We expect the Indonesian IT market will be a regional outperformer over the medium term, on the back of strong economic growth, a low PC penetration rate and a

Q2 2014 www.businessmonitor.com

INDONESIA

INFORMATION TECHNOLOGY REPORT

INCLUDES 5-YEAR FORECASTS TO 2018

Report Q2 2014

INCLUDES 5-YEAR FORECASTS TO 2018

Part of BMI’s Industry Report & Forecasts Series

Published by: Business Monitor International

Copy deadline: January 2014

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DISCLAIMER

BMI Industry View 7

SWOT 9

IT 9

Wireline SWOT 11

Political 13

Economic 15

Business Environment 17

Industry Forecast 18

Table: Indonesia IT Industry - Historical Data And Forecasts (IDRbn) 18

Broadband 23

Table: Internet - Historical Data And Forecasts, 2012-2018 23

Macroeconomic Forecasts 25

Current Account Mending Slowly 26

GDP Buffeted By Triple Headwinds 27

Table: Indonesia - Economic Activity 28

Industry Risk Reward Ratings 29

Table: Asia Pacific IT Risk/Reward Ratings - Q2 2014 31

Market Overview 32

Hardware 32

Software 39

IT Services 45

Industry Trends And Developments 48

Regulatory Development 52

Table: Key Ministers And Departments 52

Competitive Landscape 55

International Companies 55

Table: Lenovo Indonesia 55

Table: Intel Indonesia Corporation 56

Table: Microsoft Indonesia PT 57

Table: IBM Indonesia 58

Table: Foxconn Technology 59

Local Companies 60

Table: Performance PT Multipolar Technology Tbk (MLPT) 60

Table: Walden Global Services (WGS) 61

Table: Aprisma Indonesia 61

Table: ALTiUS ERP 62

Company Profile 63

Sigma 63

Regional Overview 66

Hardware Sales Opportunity Remains 68

Demographic Forecast 70

Demographic Outlook 70

Table: Indonesia's Population By Age Group, 1990-2020 ('000) 71

Table: Indonesia's Population By Age Group, 1990-2020 (% of total) 72

Table: Indonesia's Key Population Ratios, 1990-2020 73

Table: Indonesia's Rural And Urban Population, 1990-2020 73

Methodology 74

Industry Forecast Methodology 74

Sources 75

Risk/Reward Ratings Methodology 76

Table: It Risk/Reward Ratings Indicators 77

Table: Weighting Of Components 78

BMI Industry View

BMI View: We expect the Indonesian IT market will be a regional outperformer over the medium term, on

the back of strong economic growth, a low PC penetration rate and an emerging middle class Retail hardware, enterprise software and cloud computing are expected to be key drivers of medium-term growth The retail market will be the major driver of growth, with PC penetration estimated at below 10% in 2012, meaning there is significant growth potential from first-time buyers and upgrades/personal

devices However, vendors face short-term challenges in the form of a depreciation of the rupiah, which has raised the cost of dollar denominated hardware and software imports In the immediate future, IT spending

is forecast to increase to IDR69.7trn in 2014, up 12.3% from 2013, with the IT market accounting for 0.67% of GDP.

Headline Expenditure Projections

Computer Hardware Sales: IDR49.0trn in 2014 to IDR75.4trn in 2018, at a compound annual growth rate

(CAGR) of 11.3% in local currency terms Short-term growth will be limited by rupiah depreciation, butavailability of low-cost tablets will maintain positive growth We expect stronger medium-term growth asthe economic environment becomes more supportive

Software sales: IDR8.6trn in 2014 to IDR15.6trn in 2018, at a CAGR of 16.1% in local currency terms.

Government initiatives to reduce piracy, including a roadshow to bring down illegal software use, will boostmedium term spending - but in the short term the key demand driver will be enterprise software

deployments

IT Services Sales: IDR12.0trn in 2014 to IDR20.2trn in 2018, at a CAGR of 14.0% in local currency terms.

Our forecast has been downwardly revised, but a key growth area is cloud services, which could be worthmore than IDR15.5trn by 2018

Key Trends & Developments

In the short term an important trend impacting the development of the IT market is the depreciation of therupiah, putting upward pressure on the price of imported hardware and software For instance, in September

2013 global PC market leader Lenovo announced plans to raise prices of its PCs by about 20% in

Indonesia This will lead to some deferred sales in the PC market, where consumers remain highly price

sensitive An additional trend could be additional momentum granted to lower-cost tablets, particularly from

local and regional OEMs producing devices running Google's Android OS.

Another challenge to the continued growth of the IT market is from the uncertainty created by the lack ofcyber security measures In October 2013, it was reported that Indonesia is responsible for 38% of theworld's malicious internet traffic, surpassing China as the leading root of online attacks This has grown

from only 0.7% of recorded attacks 12 months previously, according to the US-based Akamai

Technologies The reasons behind the growth are under debate, but the implications of a dramatic increase

in online attacks have worried officials Cyber security is notoriously weak in Indonesia The highest cause of the 1.2mn daily attacks recorded by the government is attempts at data theft Network-heavy industries, such as oil and gas, are most susceptible to data phishing attempts

IT

SWOT Analysis

Strengths ■ Large potential market

■ Th market may be entering a faster growth stage It is forecast to grow quicker thanmost other Association of South East Asian Nations (ASEAN) markets over theforecast period, due to its underdeveloped nature

Weaknesses ■ Computer penetration is among the lowest in South East Asia, estimated at only 9%

in 2012

■ Underdeveloped telecommunications infrastructure, due to years of governmentcontrol and slow progress in deregulation

■ Lack of government support, and there is still no unified ICT ministry

■ History of recent political instability

■ High piracy rate continues to be a drag on the software market, with one of thehighest piracy rates in the region

■ Indonesia overtook China as the largest source of cyber attack traffic in 2013, withcyber threats becoming an increasingly important issue for domestic users as well

Opportunities ■ Some positive trends: computer ownership and internet access are on the rise, and

the government is showing signs of taking intellectual property more seriously

■ Strong demand for tablets and low-cost laptops from a youthful population andbooming economic performance

■ Per capita IT spending to increase rapidly as the middle class increases in size

■ Opportunities exist in services such as system integration, support systems, training,professional services, outsourcing and internet services

SWOT Analysis - Continued

■ IT services, with local telcos investing heavily in data centres, networks, machine communication and cloud computing services

machine-to-Threats ■ Continuing lack of government action to support increased PC penetration and

internet access, or drive ICT sector development

■ The global economic slowdown may hit key demand segments

■ A weaker rupiah could have a dampening effect on household and businessspending

Wireline SWOT

SWOT

Strengths ■ Fixed-wireless offers a balance between fixed line and mobile at affordable prices and

has experienced strong demand, helping to boost overall fixed-line subscriber figures

in an otherwise slowing market

■ Increased competition in the fixed-wireless market following the award of nationwidelicences to Bakrie Telecom and Smartfren

Weaknesses ■ Lack of competition in the fixed-line market with Telkom dominating with an

80%-plus market share

■ Low teledensity rates, especially in the fixed-line sector

■ Limited available capital via loans could hinder further progress of the broadbandmarket

■ Poor fixed-line infrastructure means limited internet accessibility in rural areas

Opportunities ■ Plenty of opportunities for broadband growth, with a higher number of operators

awarding contracts to the likes of Nokia Siemens Networks and Ericsson

■ Submarine cable projects are on the rise, connecting Indonesia to regional peers such

as Hong Kong and then onwards to Singapore and Vietnam

■ Solid economic outlook led by domestic demand should aid growth of the telecomsindustry

SWOT - Continued

Threats ■ Uneven development between urban and regional areas could be further

exaggerated, with current broadband contracts centring on the larger islands of Javaand Sumatra

■ The cost of PCs and tariffs could place internet and broadband services out of thereach for the majority of Indonesians

■ Growing preference in the consumer segment for mobile broadband solutions

SWOT Analysis

Strengths ■ Indonesia managed a successful transition to democracy in 2004 In addition, the

2009 parliamentary and presidential elections passed peacefully, signalling theconsolidation of the democratic process Following 2009, the government showedfurther signs of improvement in both efficacy and engagement, but progress hasstagnated since 2012

■ The military's role in politics has gradually been reduced The prospects of a militarycoup - which seemed a real possibility in the late 1990s and early 2000s - havediminished substantially As the military's role in politics continues to wane,Indonesia's political stability should likewise improve

Weaknesses ■ Indonesia's domestic political scene is characterised by a proliferation of minority

parties, and formal and informal coalitions are necessary to govern and legislate.Moreover, the efficiency of state institutions is encumbered by bureaucracy andcorruption Prospects for reform are beset with numerous challenges, such as thelong-running practice of politicians promising government positions to campaignsupporters

■ The country was impacted by separatist rebellion and ethnic violence in the late1990s and early 2000s, which took great efforts to bring to heel In the event of a neweconomic crisis, calls for regional secession could re-emerge

Opportunities ■ President Susilo Bambang Yudhoyono's Democratic Party had a strong showing in

the 2009 parliamentary elections Coupled with a strong mandate following his election in the same year, the implementation of policies in the legislature shouldbecome less problematic

re-■ Indonesia's status as the world's most populous Muslim country leaves it wellpositioned to speak out on global Islamic issues and act as a bridge between theMiddle East and the Asia Pacific region

SWOT Analysis - Continued

Threats ■ Regional militant group Jemaah Islamiah poses a lingering threat to security in

Indonesia Jemaah Islamiah is blamed for a series of attacks, including the Balibombings of October 2002 and the Jakarta bombings of July 2009

■ The fact that Indonesia subsidises basic goods means that when the governmentraises prices, there is a risk of public unrest, or at least a political backlash

Additionally, Indonesia's population is extremely young, with more than 50% ofIndonesians younger than 30 Younger populations have historically been a predictor

of political instability

SWOT Analysis

Strengths ■ Indonesia's strategic location between the Indian and Pacific Oceans and its

adjacency to major east-west trade routes make it an important economy in theregion Indonesia is also resource-rich and is the world's largest producer of palm oil

■ Indonesia has a low cost and large supply of available labour resources Its labourforce, the fourth-largest in the world, is also one of the world's youngest

Weaknesses ■ Indonesia's economy is not growing fast enough to reduce unemployment, with the

rate still relatively high at 5.9% as of Q113 Many are forced to work in the informalsector Of particular concern is the youth unemployment rate, which is five times theoverall rate

■ Indonesia's physical infrastructure is considered sub-standard The archipelagicnature of the country makes it difficult to weave national infrastructure together.Despite an ambitious infrastructure revitalisation plan, the country currently comparesunfavourably with its Association of Southeast Asian Nations peers

Opportunities ■ Indonesia could attract much-needed foreign investment by strengthening its

business environment, particularly through reform of its unreliable legal system

■ Indonesia stands to benefit from the rise of Islamic financing, having adopted newlegislation in early 2008 designed to tap into this rapidly expanding sphere With anoverall market share of only 3%, growth prospects for Islamic banking in the world'slargest Muslim country are enormous

Threats ■ Production at Indonesia's ageing oil fields has been in decline since the mid-1990s

The country has therefore become a net importer of crude oil in recent years, puttingdownward pressure on its current account position Furthermore, rising oil priceshave begun to pressure Indonesia's current account, where it typically runs a healthysurplus The resumption of the Cepu field, which occurred in late 2009, may help toalleviate Indonesia's dependence on foreign oil given its small boost to productionoutput, but we expect this bounce to be short-lived

SWOT Analysis - Continued

■ Indonesia is perceived as one of Asia's riskier destinations This leaves the economyvulnerable to sudden capital outflows at times of risk aversion, which can lead tosharp swings in the currency

Business Environment

SWOT Analysis

Strengths ■ Indonesia is South East Asia's largest economy with a nominal GDP of US$880bn and

is the world's fourth most populous country with more than 240mn people It thusoffers investors a vast home market in which to do business

■ As a member of the Association of South East Asian Nations' Free Trade Area,Indonesia is committed to lowering tariff and non-tariff barriers to trade

Weaknesses ■ Corruption remains a major problem Indonesia ranked 118th out of 176 countries

surveyed in Transparency International's 2012 Corruption Perceptions Index, where alow ranking denotes a higher degree of corruption

■ Indonesia's excessive bureaucracy makes it a difficult place to do business AmongAsian economies, Indonesia has the longest period to start a business Labour lawsare also considered excessive

Opportunities ■ President Susilo Bambang Yudhoyono's administration has gradually been reforming

the business environment, particularly by strengthening the legal system and fightingcorruption If sustained, this would boost investor interest in Indonesia However,reform has been slow, and divisions within the government could curb progressahead of 2014 elections

■ Indonesia has been amending its debt and banking regulations, with the aim ofattracting Islamic financial activities Over the past five years, Islamic banking growthhas averaged more than 65%

Threats ■ Recent high-level business disputes between the government and foreign investors

demonstrate that even after investments are up-and-running, there is still scope forlegal problems or obstacles posed by legal wrangling

Industry Forecast

Table: Indonesia IT Industry - Historical Data And Forecasts (IDRbn)

2011 2012 2013e 2014f 2015f 2016f 2017f 2018f

IT Market Value 46,571.0 54,646.4 62,023.6 69,658.7 78,595.9 88,451.9 99,322.6 111,221.4 o/w Hardware 33,694.1 39,181.4 44,067.8 49,039.7 54,820.7 61,120.2 67,986.3 75,408.1

- PC 27,359.6 32,128.8 36,488.1 40,604.9 45,501.2 50,729.8 56,428.6 62,588.8

- Servers 3,032.5 3,526.3 3,966.1 4,413.6 4,933.9 5,500.8 6,118.8 6,786.7 o/w Software 5,215.9 6,339.0 7,442.8 8,637.7 10,060.3 11,675.6 13,507.9 15,571.0 o/w Services 7,660.9 9,125.9 10,513.0 11,981.3 13,715.0 15,656.0 17,828.4 20,242.3

e/f = BMI estimate/forecast Source: BMI

BMI extended the forecast for the Indonesian IT market to 2018 in the Q214 update Our positive outlook

for Indonesia is maintained and we expect it to be a regional and global outperformer over the duration ofour forecast period However, we also made a minor downgrade to the outlook for 2014 on the basis of aweaker rupiah, which negatively hit demand for imported products

Despite the short-term drag on growth we expect strong medium term growth based on positive

fundamentals in the IT market Rising incomes along with low computer penetration and growing

affordability as device prices decline should ensure the market remains firmly in positive growth territory.Meanwhile, we expect strong growth in enterprise demand over the medium term as modernisation

initiatives gather pace We forecast a compound annual growth rate (CAGR) of 12.4% 2014-2018, withIndonesia's IT market reaching a total value of IDR111trn in 2018

2014 Outlook

The overall economic environment remains

conducive for IT market expansion in 2014, however

currency weakness will weigh on sales BMI

forecasts 5.4% real GDP growth in 2014 and 4.7%

real private final consumption growth, which will

see confidence levels remain high and boost retail

spending However, with large numbers of products

and components imported to Indonesia the

depreciation of the rupiah will raise prices This will

be a drag on spending growth, magnified compared

to developed markets because of the price sensitive

nature of the market

The weaker rupiah is also a symptom of wider

concerns about Indonesia's exposure to global

headwinds The sentiment towards emerging

markets has shifted fast in early 2014, and although

BMI's core view is for robust growth in Indonesia, business IT investment will be susceptible to shifting

confidence, with Indonesian enterprises adopting a wait-and-see approach to hardware and systems

upgrades in the face of concerns about Indonesia's exposure to economic headwinds

A key are of growth in 2014 will be the hardware market, which is expected to account for 70.4% of totalspending Imported products will be hurt by higher prices but lower cost imports from other East Asianmarkets, notably tablets from Chinese OEMs, and domestically produced notebooks and tablets are

expected to see strong sales There is a large growth opportunity in Indonesia with individual PC

penetration around 10% Meanwhile household PC penetration reached 15.1% in 2012, less than half theAPAC average of 31% and below the global emerging market average of 27.6% When this is consideredalongside Indonesia's huge population and trajectory of rising incomes enabling the emerging middle class

to acquire their first household computing device, the scale of the opportunity is apparent

Government initiatives will also contribute to growth momentum in 2014 The development policy aiming

to lift Indonesia into the ranks of the world's top 10 economies by 2025 should fuel ICT investment

Spending in some key IT verticals, such as financial services and banking, will be central to growth in

Industry Trends - IT Market

2011-2018

e/f = BMI estimate/forecast Source: BMI

enterprise IT spending However, there is also great potential in currently underpenetrated sectors, such asmanufacturing Adoption of cloud computing services by enterprises will also increase, and we identify theSME market as a large medium term opportunity.

Direct spending by the government on infrastructure will boost the market in 2014 Government IT

spending is expected to increase and continue to account for around 25% of the IT market, while thegovernment is also encouraging state companies to use more IT

Market Drivers

Over the medium term IT hardware will continue to be the single largest segment of the IT market Theshare of hardware will decline slightly over the medium term, but with Indonesia remaining in a phase ofrapid growth for the duration of our forecast this decline will only be small We estimate the hardwaremarket accounted for 70.4% of sales in 2014, which will decrease to 67.8% by 2018 We forecast hardwaresales will reach a value of IDR75.4trn in 2018, with Indonesia achieving faster growth than many otherASEAN members Low PC penetration and efforts to promote regions beyond Jakarta will benefit hardwaresales in the retail market However, Indonesia's uneven development and digital divide remain majorbarriers to faster growth within this potentially huge IT market

The enterprise market will also boost spending on IT products and services as modernisation initiatives areundertaken by firms looking to expand into neighbouring markets and/or defend domestic positions Privateenterprises, particularly SMEs, will provide a large part of PC sales, while ERP and other e-businessapplications are also finding increasing popularity in the SME market The SME sector of 42.2mn

companies will drive demand for basic hardware and applications, as enterprises look to enhance

productivity through automating inventory, accounting and other functions

Around 30-35mn Indonesian companies are estimated to lack any IT-based solutions IT services for thissegment will be dominated by basic services such as system integration, support systems, training,

professional services, outsourcing and internet services There is also an opportunity for cloud computingvendors in the SME market, but this market will only open up as telecoms operators invest in improvingwireless and wireline broadband infrastructure

A more active approach by the government to encourage IT development, including the establishment of theNational ICT Council, headed by President Yudhoyono, should stimulate spending through a series ofinfrastructure and education initiatives The Indonesian government's Master Plan for Acceleration andExpansion for Indonesia Economic Development (MPEEI) states that connectivity between the islands of

the country is a priority area Major government infrastructure and ICT initiatives, particularly the PalapaRing Project, have been rolled out to create the infrastructure to support IT market growth Cheap computerprogrammes are likely to be favoured, as increasing internet penetration and computers in schools

programmes are believed to represent potential demand for up to 25mn units

Segments

The enterprise hardware market will remain robust for the duration of our forecast, and continue to producestrong demand for desktops However it is in the consumer market where there will be faster growth andmore dynamism Demand for traditional notebooks is being eroded by the popularity of new form factors,

particularly tablets, but BMI expects hybrids/convertibles could gain traction as prices decline, with

first-time buyers likely to see multi-functionality as a major positive

In the short term though it is tablets that are the dominant trend, for instance, Taiwanese vendor Asus

estimated that tablets account for 50% of its Indonesian sales in 2013.Low-cost tablets running Android,particularly from OEMs in China, are expected to prove particularly popular with Indonesian consumers.The government's plans to establish fixed wireless networks in major cities and encourage WiMAX build-out in rural areas will also be drivers There are also an increasing number of Wi-Fi 'hotspots' Telecomsoperators are increasingly pushing tablets as devices to bundle with wireless data subscriptions as a means

of winning market share and increasing network usage

While the emerging middle class in Indonesia is promoting consumption, a large portion of sales are reliant

on government initiatives to increase penetration It will remain dominated by the lower-price tiers, whichwill account for about 80% of sales The popularity of lower-cost netbook computers, which flooded themarket a few years back, has helped to sustain volume sales, but demand for the devices has dropped offsharply - largely replaced by tablets, but also by low-cost and slimline notebooks Computer sales will alsoreceive a boost from programmes to increase computer penetration in education, as the government seeks tomeet its growth targets for this sector

Increased corporate demand for IT products and services will reflect a growing awareness of the value oftechnology in various sectors Despite cutbacks due to the financial crisis, the financial services segmentwill continue to be significant, with spending on regulatory compliance and security, for example, lesssusceptible to cutbacks The market also remains relatively under-penetrated, with IT implementationslargely limited to transactional support Islamic banking also presents strong growth opportunities over thenext few years

Another potential demand driver will be organisations looking for help to utilise efficiencies from cloudcomputing, such as SaaS and infrastructure-as-a-service The cloud computing market is currently small in

absolute terms, at less than IDR2bn, but in H111 IT giants such as PT Telkom and Microsoft launched

cloud services in Indonesia, driving the development of the market by offering new services and increasinglevels of education among customers about potential uses

Table: Internet - Historical Data And Forecasts, 2012-2018

2012 2013e 2014f 2015f 2016f 2017f 2018f

No of internet users ('000) 37,597 45,116 50,981 55,569 58,348 61,265 64,328

No of internet users/100 inhabitants 15.2 18.1 20.2 21.7 22.6 23.4 24.4

No of broadband internet subscribers ('000) 2,983 3,222 3,383 3,552 3,729 3,841 3,880

No of broadband internet subscribers/100

e/f = BMI estimate/forecast Source: BMI ITU, Kominfo, operators

New data from the ITU show that there were approximately 37.6mn internet users in Indonesia at the end of

2012, up from 29.8mn a year earlier These figures are lower than those previously reported, although itremains unclear why the data have been revised downwards Kominfo, the agency charged with publishingstatistical analyses of the postal and communications markets, has not disclosed any useful information

since 2010 Therefore, BMI is using the new ITU figures and adjusting its five-year forecast to 2018 to

account for the newly revealed market growth dynamic

The ITU data also show that there were 2.983mn fixed broadband subscribers in the country at the end of

2012, up from 2.736mn a year earlier This is broadly in line with our previous estimate for 2012, so there isonly a small change to our forecast for fixed broadband adoption

We are yet to include mobile broadband connections in the forecast owing to a lack of clarity from

operators regarding the number of dedicated mobile broadband connections (those that are primarily voice in nature) However, the top three operators indicate that there is a high level of usage of non-voiceservices, although we note considerable quarterly variations in growth

non-BMI expects Indonesia's fixed broadband industry to exhibit a steady growth trajectory with increasing

service adoption mainly in urban cities among businesses and more affluent consumers that require speed connectivity The masses' generally low purchasing power and lack of need for high-speed broadbandservices mean that 3G-based mobile broadband services will continue to struggle to achieve traction in themedium term We forecast 3.841mn fixed broadband subscribers by 2017, representing a penetration rate ofjust 1.5%, up from 1.2% in 2012

higher-Industry Trends - Broadband Sector

2012-2018

e/f= BMI estimate/forecast Source: BMI, ITU, Kominfo, operators

Macroeconomic Forecasts

BMI View: As expected, Indonesia's August trade surplus was a one-off, with the country's trade account

returning to deficit in September All told, Q313's current account deficit is likely to come in slightly from Q213's record 4.4% of GDP print, but we continue to believe that the improvement in Indonesia's external position will be a gradual one Meanwhile, real GDP growth slowed yet again to 5.6% year-on-year (y-o-y)

in Q313 as the triple headwinds of the country's external imbalance, high inflation, and rising borrowing costs hit economic activity As this slowdown continues to play out, we have downgraded our 2013 real GDP forecast slightly to 5.7% (from 5.8 previously), and maintain our expectations for the rate of

expansion to ease further to 5.4% in 2014.

In line with our expectations, Indonesia's trade balance slipped back into the red in September, flippingfrom a slight (downwardly revised) surplus of US71.6mn in August to a deficit of US$657.2mn The resultshould have been of little surprise to markets, as August's surplus was a clear outlier that arrived as a result

of a particularly weak month of imports (-25.3% month-on-month [m-o-m] in August) as opposed to a boost

in exports, which also experienced a substantial 13.4% m-o-m drop All told, Indonesia's Q313 trade deficitposition, which includes a record US$2.3bn deficit in July, improved only slightly to US$2.9bn from US

$3.1bn in Q213

Back Into The Red

Indonesia - Exports & Imports, % chg y-o-y (LHS) & Trade Balance, US$mn

Source: BMI, Statistics Indonesia

Current Account Mending Slowly

As such, it is likely that Indonesia's Q313 current account position will, likewise, show only a modest

improvement from its record US$9.8bn shortfall in Q213 As we have written before (see 'Current Account

In Uncharted Territory, But Gradual Recovery Seen', September 9), both the government and Bank

Indonesia (BI) have introduced a slew of measures aimed at reducing the current account deficit from itsrecord levels The most potent (and politically controversial) of these measures was the government'sdecision to hike the price of subsidised petrol and diesel fuel by 44.4% and 22.2%, respectively, in June Assoon as the long-debated policy became a reality, the central bank then stepped in to hike its benchmarkinterest rate in anticipation of soaring headline inflation

Both the interest rate and fuel price hikes were meant to curb import demand, in an effort to cool andrebalance the overheating economy That said, while the measures were appropriate, they arrived rather late

in the game, and much of the damage to Indonesia's external position had already been done Nevertheless,now that the policies have had some time to take effect, we believe that Indonesia's external position willbegin to mend, albeit at a modest pace As a result, we have downgraded slightly our 2013 current accountforecast to a deficit equivalent to 3.4% of GDP, from 3.1% previously

Heading South

Indonesia - Real GDP, % chg y-o-y (LHS) & Current Account Balance, % GDP

f= BMI forecast

Source: BMI, Bank Indonesia

GDP Buffeted By Triple Headwinds

As expected, the triple headwinds of higher inflation, a deteriorated external position, and higher borrowingcosts (BI's benchmark rate has risen by a total of 150 basis points [bps] since June to 7.25%) have begun tomanifest in slower economic growth In Q313, real GDP growth eased to 5.6% year-on-year (y-o-y), itsslowest clip since Q409, and we expect this trend to continue into Q413 and H114 as the retrenchmentcontinues With inflation appearing to stabilise (headline inflation came in at 8.3% y-o-y in October, off ofits cycle peak of 8.8% in August), we believe that BI will likely switch its focus towards supporting

economic growth as early as H114, informing our view that the central bank will cut its benchmark interestrate by at least 50bps in 2014 In the meantime, we have downgraded our 2013 real GDP growth forecastslightly to 5.7% (from 5.8% previously), and maintain our expectations for the economy to slow further to5.4% in 2014 in line with a challenging outlook for investment activity and private consumption

Expenditure Breakdown

Private Consumption: Real private consumption growth has held up relatively well in 2013 despite high

inflation and rising interest rates, and the category appears likely to hit 5.0% growth on the year However,

2014 should prove to be a more challenging backdrop as the aforementioned issues continue to hit

household spending, and we expect growth to fall to 4.7% for the entire year

Government Consumption: Although real government consumption growth fell to a forecasted 2.5% in

2013, we expect the category to rebound in 2014 Election years generally suggest higher governmentconsumption programmes, and H114 will bring both parliamentary and presidential elections As such, weexpect government consumption to accelerate to 6.0% for 2014

Investment Expenditure: Fixed Capital formation fell from 9.8% in 2012 to a forecasted 6.5% in 2013,

and we expect this trend to continue into 2014 In particular, higher interest rates stoked by BI's tighteningcampaign, along with increasingly nebulous mining and investment regulations (not to mention electionrisks) will likely hit investment activity, especially in the first half of the year We forecast fixed capitalgrowth to fall to 5.1% in 2014

Net Exports: Real Exports should see a bit of a recovery in 2014 following a forecasted expansion of just

3.9% in 2013, especially as the weaker rupiah makes Indonesian goods somewhat more competitive inrelation to regional peers We expect real export growth to hit 5.9% in 2014, with imports rebounding to5.3% versus just 0.7% in 2013

Table: Indonesia - Economic Activity

2010 2011 2012 2013f 2014f 2015f 2016f 2017f

Nominal

GDP,IDRbn 2 6,415,530 7,427,086 8,260,335 9,201,059 10,181,846 11,390,802 12,712,875 14,219,085 Nominal GDP,US

Industry Risk Reward Ratings

BMI's Asia Pacific IT Risk/Reward Ratings (RRR) compares the potential of a selection of the region's

markets over our forecast period, which now extends to 2018 Our Q214 ratings reflect our analyses ofmacroeconomic and country risk factors that impact the IT market, as well as key market trends and

industry-specific risks such as intellectual property (IP) rights protection

Most of the 12 countries on our table saw changes to their scores in three categories - Industry Rewards,Country Rewards and Country Risks - of our ratings As a result, the regional average scores for thesecategories also changed, along with their respective aggregate scores and the regional average aggregatescore The increases in the Industry Rewards and Country Rewards scores were mainly due to IT marketvalue and GDP per capita figures following the extension of our forecast period to 2018 and the use ofYE13 as our base year data Despite these changes, there were only two movements on the table in thisquarter's update The Philippines moved up two places to eighth while Indonesia dropped two places to 10th.The relative stability of our rankings is down to two factors - the large spread between the aggregate scores

of the countries and the fact that the increases in the aggregate scores were largely proportional

Industry Rewards

The main factors in BMI's industry rewards rating are value of the addressable IT market, our five year

growth outlook, government initiatives and IT spending as well as market depth, which assesses the

proportion of hardware sales to other IT products and services sales South Korea and China record thehighest score of 75 in this category This reflects the depth of South Korea's IT market, with hardware salesaccounting for around 24% of the market, and the sheer size of China's IT market, which is forecast to reachUS$148.8bn in 2014 India has the third highest score in this category owing to the size of its market andstrong government ICT initiatives aimed at sustaining the country's global competitive advantage in

software development and business processes outsourcing (BPO)

Australia is the only other country with a score above the regional average in this category The remainingeight countries recorded scores that were below the regional average Despite being high-tech countries,Singapore and Hong Kong score below the regional average owing to their relatively small populations and,consequently, IT market values On the other hand, Indonesia, Malaysia and the Philippines are held back inthis category by a lack of depth in the IT market

Country Rewards

BMI's country rewards ratings incorporates key factors that impact the sale of IT products and services in a

particularly market These include the rate of urbanisation, GDP per capita and rate of unemployment.There is a wide gap between the lowest score of 15 in this category and the highest score of 100 Thisreflects the wide range in the figures in some of these indicators for the 12 countries in our table Forexample, China and India have populations of more than 1bn but Singapore and Honk Kong have

populations less than 10mn Again, Australia has a GDP per capita of more than US$60,000 but this figure

is less than US$2,000 in India and Vietnam

Singapore and Hong Kong make up for their relatively weak industry rewards scores with the maximumscore of 100 in the country rewards category In addition to high GDP per capita (US$40,000 in Hong Kongand US$56,000 in Singapore), both countries have 0% rural populations and high rates of IT literacy.Australia and South Korea are not too far behind, with country rewards scores of 95 and 80 respectively.Australia and South Korea are the only other two countries with rural population of less than 20% of thetotal population

Unsurprisingly, countries with a high proportion of rural dwellers and relatively low GDP per capitaunderperform in this category Of these countries, India, Vietnam and Sri Lanka have the lowest score of

15, compared to the regional average of score of 50 Sri Lanka has the highest rural population of 84%,followed by India at 68% India and Vietnam's GDP per capita were just US$1,400 and US$1,800

respectively The other countries recorded scores around the regional average, as the high values of someindicators were counterbalanced by scores in others

Industry Risks

BMI's industry risk rating assesses the threat from piracy and counterfeiting of IT products as well as the

existence and level of implementation of laws to protect intellectual property (IP) rights There is no change

to our ratings in this category this quarter, with South Korea and Singapore outperforming their regionalpeers in this category with scores of 75 and 70 respectively At the other end of our table, five countries -Malaysia, Indonesia, Thailand, Sri Lanka and Vietnam - recorded the lowest score of 35 The risk of IPright infringements is high in these countries, partly due to lax government regulation

Country Risks

The country risk category assesses the impact of key macroeconomic factors on the IT market Some of thefactors we consider in our analysis include short-term external and financial risks, trade bureaucracy andlegal framework We also incorporate Transparency International's corruption index in our ratings Thescores in the country risk category have the narrowest range and highest average score among the fourcategories in our table Hong Kong has the highest score of 77.7, followed by Singapore on 74.4 HongKong's score is boosted by its strong legal framework, transparent and efficient trade policies and a strongcorruption score

Table: Asia Pacific IT Risk/Reward Ratings - Q2 2014

Country Industry rewards rewards Country Industry risks Country risks IT rating Rank Previous rank

economic profile, based on BMI's proprietary Country Risk Ratings that could affect the realisation of anticipated returns Source: BMI

BMI forecasts that hardware spending will increase over the medium term at a compound annual growth

rate (CAGR) of 11.3% 2014-2018 in local currency terms Even with this fast pace of growth, the share ofhardware in the overall IT market will decline by two percentage points (pps) during our five-year forecastperiod to 67.8% in 2018

The effects of a depreciating currency and a slowing economy had an impact on PC sales in 2013, butdespite these challenges the underlying trend of rising incomes and low PC penetration ensured continuedgrowth Retailers reported that sales of desktops and notebooks in the first three months of 2013 were down

on the same period of the previous year, but the boom in tablet sales helped offset this squeeze Meanwhile,government spending remained robust but, amid continued economic uncertainty, there were indicationsthat businesses were delaying upgrades

In 2014 the depreciation of the rupiah will continue to be a drag on market growth, an important feature in a

price sensitive market The impact on prices is already being felt, for instance in September 2013 Lenovo

announced plans to raise prices of its PCs by about 20% in Indonesia Chief operating officer at LenovoIndonesia, Sandy Lumy said the company will adjust its prices upward by 10% to 20% in accordance withthe latest exchange rate Lumy said the prices across all market segments will increase as the import costsfor the products were in US dollars Lenovo's move comes after the Indonesian rupiah weakened by 16%against the US dollar in 9M13

Despite the short-term challenges, there are a range of factors that combine to underpin our outlook for theIndonesian hardware market and still make it one of our picks for outperforming growth both regionally andglobally The Indonesian promise hinges on the following factors:

■ The sheer size of its economy places Indonesia among the top markets in Asia Pacific, even though PCpenetration remained low in 2012 It is the only country in South East Asia to feature in the G20 Forlong periods since the late 1970s, Indonesia has seen healthy economic growth -barring the meltdown in

1997 to a large extent Indonesia, at its present growth rates, is well on the way towards featuring in thetop ten global economies by the year 2025

■ The low PC penetration rate means there is a large pool of first-time buyers that can be tapped as incomes

rise over the medium term Intel pegs the PC penetration of the country to be as low as 7%, while other

estimates are slightly higher, at around 9-10% for 2012 The latest regulatory data show household PCpenetration reached 15.1% in 2012, compared to the APAC average of 31% and the developing world

average of 27.6% Given BMI's forecast for real private final consumption growth to average 6.5%

annually from 2014 to 2018, during which time GDP per capita will increase from US$3,565 in 2013 toUS$5,735 in 2018, the low PC penetration rate is a compelling business opportunity

■ Indonesia's regions offer particularly strong growth opportunities The modest national PC penetrationremains centred on cities such as Jakarta, according to estimates, providing a much clearer picture of themarket opportunity In Q113, regions outside Java and Bali were reported to show the fastest quarterlygrowth, while some other regions showed a decline

■ Indonesia presents an attractive demographic distribution, with over half of the population under 30 years

of age, as of 2013 This distribution places the segment most receptive to IT in a clear majority, whichbodes well for IT hardware vendors over the medium term

Local Manufacturers

Indonesia enjoys a strong base of local manufacturers and assemblers Apart from being price leaders, thesecompanies also cater to custom requirements These companies account for a sizeable fraction of overall PCsales

SMEs

SMEs form an important, yet comparatively unexplored component of the Indonesian hardware market TheMinistry of SMEs and Co-operatives asserts that SMEs account for 99% of the registered firms in thecountry and provide employment to 97% of its workforce Their share in exports and value-added products

is not commensurate with their overall dominance otherwise Investment in IT can offset this imbalance to aconsiderable extent

Financial Institutions

The Indonesian economy is on the ascendancy in

terms of its growth rate The large proportion of

SMEs provides a strong domestic bulwark against

the vagaries of international trade Buoyed by the

long-term positive prospects in the region, financial

institutions have been employing continual

upgrades Some of the Indonesian banks that

underwent core banking upgrades in the recent past

include Bank Syariah Mandiri, Panin Bank and

Bank Andara among others.

Government Push

The government will play a major role in boosting

the prospects of IT hardware, both as a facilitator

and end-user In H113, government spending was a bright spot for the PC market and helped to compensatefor constrained spending by the private sector Government investments in PC hardware were boosted by anumber of procurements delayed from Q412

The Indonesian government provided a major boost to the hardware market by eliminating duties onpersonal computers in 2010 Some of the major initiatives undertaken by the government as an end-userinclude the following:

■ The Palapa Ring Program, also known as the Nusantara Superhighway Project, driven by the Ministry ofCommunication and Information Technology, will create a backbone of optical fibre on a nationwidescale spanning more than 55,000 km and including terrestrial, as well as undersea cables The GlobalBusiness Guide Indonesia reports the project had achieved completion levels of 80% in February 2012

■ The ongoing computerisation of government procurement, also known as e-GP had covered more than 25enterprises in 2012, according to the Global Business Guide Indonesia

■ Computerisation of road toll collection

Issuing of electronic identification cards to citizens, also known as e-KTP, covered close to 60% of thetarget population by 2012

Hardware Market (IDRbn)

2011-2018

e/f = BMI estimate/forecast Source: BMI

Notebooks have gained the greatest traction in the

retail market, where BMI estimates that they

account for upwards of 80% of sales, compared to

around one-third of units in the business market

However, in the retail segment, the popularity of

traditional notebooks is being undermined by

enthusiasm for newer form factors, such as tablets,

particularly low cost devices running Google's

Android OS

This difference between retail and corporate and

business users is supported by statements from

Chinese equipment vendor Lenovo Lenovo also

contends that notebooks are the main draws for

first-time PC users, including students Given the

demographic profile of Indonesia, it is obvious that the most promising customer segment is

overwhelmingly in favour of mobile PCs Lenovo, in fact, pegs the proportional share of notebooks amongthe retail user's PC purchases at a formidable 85% Recognising the appeal of notebooks in the largelyaspirational youth segment, Lenovo offered its IdeaPad products at a very competitive price of US$250 inJanuary 2013

Lenovo has good reason to be aggressive in the Indonesian market, as the top two slots in notebook sales in

the country in 2012 were occupied by Acer and Asus respectively, according to IDC However, it is not yet

clear what impact raising prices has had on Lenovo's market share in Q413

Netbooks

Netbooks have been a major source of growth in Indonesia, particularly the likes of devices from Axioo and

local PC makers that target first-time buyers The extended boom in netbooks is contrary to the trendglobally, where sales have fallen off as notebook prices have come down and tablets have captured themarket for ultra-mobile content consumers However, the market for netbooks tailed off in 2012, as

notebooks have become more affordable to local consumers and competition has intensified from low-cost

Household PC Penetration (%)

2010-2012

Source: National Regulator, ITU

tablets By 2013 netbooks had declined to a peripheral device category in the Indonesian market in terms ofsales.

Tablets

Tablets experienced a sharp uptick in sales in 2012 and continued to grow rapidly in 2013 IDC estimates a42% increase in the number of tablet shipments in the country in 2012 In that sense, tablets in Indonesia arefollowing in the footsteps of their success globally Tablet uptake in Indonesia was initially slow, with an

Apple-centric market meaning the devices were out of reach for the majority of consumers However, more

affordable Android devices have seen volumes increase markedly

Statcounter data show that iOS (the operating system

on Apple's iPad) continues to account for a large

share of tablet browsing traffic in Indonesia,

reflecting the large installed base However, the

share of tablet traffic from iOS was down 5.4pps

y-o-y to 37.6%, illustrating the declining share of the

iPad in total tablet sales

Meanwhile Android has increased in popularity as

vendors capitalise on the price sensitive nature of the

Indonesian hardware market Samsung leads the

market with 44% of tablet browsing traffic, but its

share was up by just 0.3pps y-o-y as it lost out to

lower cost vendors This data is in line with

Samsung claims that it achieved 50% tablet market

share in 2012 through its Galaxy Tab products (as

well as an 80% share of Android smartphones),

moving it ahead of Apple However as is the case in

the majority of emerging markets, price erosion in the Android ecosystem has seen Samsung fall backslightly

The significance of tablets to vendors as a driver of sales is considerable Taiwanese vendor Asus has saidthat it expected tablets to contribute 50% towards its total Indonesia market sales in 2013 The vendor hopes

to capture 20% market share in 2013, up from around 1% in 9M12, by focusing on low-cost tablets in aneffort to target the emerging middle class IDC states that Acer was not even among the top 10 tablet

Indonesia Tablet Browsing Traffic

By Vendor (%) And Y-o-Y Change

(pps)

December-2013

Source: Statcounter

vendors in 2012, during which over 1.3mn tablets were shipped Acer's success in Indonesia will dependpartly on its ability to reach beyond the largest cities to establish a dealer network that will repair as well assell its devices As part of its drive to meet the target, from the last quarter of 2012, the company haslaunched an intensive marketing campaign for its tablets Asus has introduced a broad portfolio of tabletsmodels at various price points, with the newest Fonepad tablet following on from Memopad, VIotab andPadfone.

BMI believes that low-priced alternatives from Chinese OEMs and local manufacturers are the ones to take

the tablet truly mass market The most successful vendor appears to be woPad, which accounted for thethird highest share of tablet browsing traffic in December 2013, according to Statocunter data, and it had thelargest y-o-y increase

Other important low-to-mid range vendors include Advan, MITO and Smartfen among others.

Meanwhile, Indonesia manufacturer S Nexian launched six new devices in March 2013, including an 8-inch

Android tablet The S Nexian device will come with 8GB to 32GB of storage with a 1,024x768 resolution

The device is available for IDR1.5mn (US$155), approximately 50% of the cost of the Asus Google Nexus

7 and is available subsidised through a partnership with telecoms operator Indosat, giving the user access to

the operators 5,000 Wi-Fi locations across the country S Nexian is targeting the sale of 250,000 tablets overthe course of 2012

The decline in the average price of a tablet sold in Indonesia reflects the focus on the low end of the market.The average price was US$485 in 2012, which was a considerable drop from US$651, as recorded in 2011,according to Gfk Indonesia

Ultrabooks

Despite little traction being gained in 2012, Intel, the key driver behind the ultrabook concept, remainsbullish about it in Indonesia It plans to stick to its guns by employing the more advanced, and thus moreexpensive, Ivy Bridge processor There were suggestions from certain vendors about reverting to the cost-effective, but feature-limited Sandy Bridge processors; but Intel plans to stick to Ivy Bridge, for its betterendurance Some of the ultrabook models available in Indonesia as of Q412 include Acer Aspire S3, Asus

Zenbook, Dell XPS, HP Folio, Lenovo Ideapad U300, Samsung Series 5 and Toshiba Portege Z series.

While premium pricing of ultrabooks can be a showstopper in a price-sensitive market such as Indonesia,

Intel is confident that economies of scale will make the price more palatable BMI expects lower-cost

ultrabooks to become widely available in 2014, as vendors risk losing out on volumes to tablet

manufacturers Lower-cost slimline Ultrabooks (or near equivalents) have already been seen in Vietnam

Hybrids/Convertibles

Windows 8 has met with an enthusiastic response in the Indonesian market after being launched in October

2012, with a wide array of product launches by vendors The shape of things to come was unveiled to an

extent in the boot camp held by Microsoft Indonesia in April 2012 for Windows 8 The camp saw the

launch of as many as 44 applications developed by Indonesians for Windows 8

In October 2012, with the launch of the new OS, Windows vendors were able to introduce touch devices with a number of tablets released The addition of more vendors and another touch OS will add to

-competition in the market - putting further pressure on prices

However, the more significant development is the medium-term impact on innovation and form factors.Windows has a traditional strength in productivity use cases and software, with the OS being central to theenterprise market and Microsoft's Office Suite ubiquitous

There is therefore an opportunity for vendors to leverage this strength over rival iOS and Android devices

by designing tablets with strong productivity functionality alongside the passive media consumptionfeatures Early examples have been hybrid devices such as Microsoft's own Surface (RT & Pro), HP's Envyand Lenovo's Yoga and Helix More recently, a range of hybrids including the Dell Venue range and AsusTransformer run full versions of Windows 8, increasing the functionality gap versus Apple and Androidtablets

Although design innovation has some way to go, and prices of hybrids will need to decline, the multi-usedevice has scope to capture a share of the tablet market by offering a stronger value proposition to

consumers while not compromising on user experience

BMI forecasts a 15.9% CAGR for the computer software market in Indonesia 2014-2018, with total

spending reaching IDR15.8trn in 2018 The share of software in the overall IT market will increase by morethan 1.5pps during our forecast period We forecast slightly slower growth in 2014 as a result of rupiahdepreciation, but despite this we still expect software spending will be the outperforming segment of the ITmarket There should be a continued boost from systems upgrades previously delayed as a result of theglobal economic crisis Compliance with government and international regulations is a long-term driver inthe financial sector, manufacturing and other sectors

Enterprise Software

Indonesia has a vibrant ERP market SAP has a solid presence in the region However, it is believed in

certain quarters that Indonesian business practices require high levels of customisation in ERP, which is

delivered by home-grown companies such as Epicor Interestingly Ramco, the Indian cloud-based ERP vendor announced a partner in Indonesia in the form of Multipolar Technology in September 2012 Ramco counts Panasonic and SDV Logistics as its customers in the country.

In 2013 Lexmark increased its focus on the enterprise market in Indonesia to challenge the leading players

It has offered print services in Indonesia since 2006, but after stopping the production go inkjet printers in

2012 Lexmark is now targeting enterprise solutions Acquiring 10 software companies since 2010, Lexmarkhas shifted its focus and sees great opportunity in Indonesia Its solutions include document lifecyclemanagement software 'Perceptive', end-to-end banking workflow solution 'Lexmark Distributed IntelligentCapture' and intelligent engine process software 'Brainware' that clarifies and extracts data from documents

Windows 8

According to local press reports, Windows 8 was well received by businesses Indonesia Finance Todayreported that Microsoft counted 500 companies that used the enterprise edition of Windows 8, in January

2013 Meanwhile, in the overall market, Windows 8/8.1 accounted for 6% of Indonesia PC browsing traffic

by December 2013, a strong if not stellar start

The transition to Windows 8 has an added dimension in the Indonesian market, where there is a

considerable legacy of Windows OS, including Windows XP This situation makes the timing of Windows

8 launch ripe for long-pending migration in a considerable proportion of the Indonesian market Microsoft