Developing Smallholder Partnerships - Lessons Learned From Asian Agri

DEVELOPING

SMALLHOLDER PARTNERSHIPS

LESSONS LEARNED FROM ASIAN AGRI’S M. Fadhil Hasan SMALLHOLDER PARTNERSHIP MODEL Eko Listiyanto Imaduddin Abdullah

INSTITUTE FOR DEVELOPMENT OF ECONOMICS AND FINANCE (INDEF)

DEVELOPING SMALLHOLDER PARTNERSHIPS LESSONS LEARNED FROM ASIAN AGRI’S SMALLHOLDER PARTNERSHIP MODEL

M. Fadhil Hasan Eko Listiyanto Imaduddin Abdullah

Jakarta, October 2017 INSTITUTE FOR DEVELOPMENT OF ECONOMICS AND FINANCE (INDEF)

National Library of Indonesia: Cataloguing in Publication (CIP)

M. Fadhil Hasan, Eko Listiyanto, Imaduddin Abdullah DEVELOPING SMALLHOLDER PARTNERSHIPS: Lessons Learned from Asian Agri’s Smallholder Partnership Model

INDEF, 2017 xv + 100; 15 cm x 21 cm ISBN: 978-602-50636-0-2

Layout and Cover Design: Sarwo Edhie

@Copyright All rights reserved. This book or any portion thereof may not be reproduced or used in any manner whatsoever without the express written permission of the publisher First Prints 2017

Publisher: Institute for Development of Economics and Finance (INDEF) Jl. Batumerah No.45, Pejaten Timur, Jakarta 12510 Telp. 021-7901001 Fax. 021-79194018 Email: indef@indef.or.id www.indef.or.id

MINISTRY OF TRADE THE REPUBLIC OF INDONESIA

FOREWORD It is undeniable that palm oil is one of Indonesia’s strategic commodities. Palm oil as the largest contributor of non-oil and gas exports has created millions of job opportunities, driven regional economic growth, and played a role in the eradication of poverty. Moving forward, palm oil is expected to support food and energy security in Indonesia.

In that context, we have seen the concrete role of Asian Agri in contributing to the country’s foreign exchange reserves through exports. More importantly, it created the partnership program that has long been established with the plasma core scheme. Partnership programs with independent smallholders are increasingly scarce as time goes by; though the rules are in place, they are decreasing in number. However, Asian Agri maintains the practice. Its plasma smallholder program today covers 60,000 hectares of oil palm estates.

Developing Smallholder Partnerships

|i

The second contribution is related to the independent smallholder program. In addition to the ongoing core plasma, Asian Agri is also guiding and acting as an off-taker/standby buyer of independent smallholders’ products. It is only natural that Asian Agri is concerned with quality. Thus, a mentoring program is an absolute necessity.

Improving crop quality adds value and positive impact to the country as a whole considering that several developed countries have expressed suspicions. The Indonesian government has always pushed for the acceptance of the ISPO in bilateral meetings with other countries’ ministers of trade. We have earnestly displayed our commitment to the sustainable development of palm oil to preserve the environment in accordance with international requirements and criteria.

The President and the government have shown great concern for smallholders and breeders. We are clearly partial to the smallholders, who need a mutual relationship with entrepreneurs.

We will never allow for the marginalization of the smallholders.

We are grateful for the important role of palm oil. Therefore, we want to invite Asian Agri to continue the development of partnership both upstream and downstream. Be a company that is loved by the people. Be a champion entrepreneur and a champion for entrepreneurs. Be a good role model. In addition to the partnership with palm oil smallholders, establish a packaging partnership such as what we proposed to the cooking oil association as another product of palm oil.

ii | Developing Smallholder Partnerships

Let’s strive to foster the people’s economy in tangible ways as another achievement of the company. A company’s or an entrepreneur’s success can be measured in the number of the SMEs under its guidance that later grow into independent and developed SMEs. If this can be implemented, rest assured, the economy will develop evenly and the socio-political condition will stabilize.

Jakarta, May 2017

Enggartiasto Lukita Minister of Trade of the Republic of Indonesia

Developing Smallholder Partnerships | iii

Preface To say that oil palm estate partnership is the right cooperation model for the agriculture sector is not an exaggeration. Plasma core partnership scheme or independent smallholder mentoring has successfully withstood Indonesia’s economic fluctuation.

Even with the economic dynamics, the smallholder partnership concept in oil palm plantations can still be beneficial in maintaining the significant role of palm oil in economic development today.

Therefore, we see the urgent need to share the success stories of smallholder partnerships in oil palm estates in a book to inspire smallholders and policy-makers to support partnership development in the management of Indonesia’s biodiversity.

Through a long process, the book Developing Smallholder Partnerships: Lessons Learned from Asian Agri’s Smallholder Partnership

Model

has

finally

been

completed.

This

book

documents the experience of smallholders in collaborating with a palm oil company, Asian Agri. Hopefully, this book can provide information on the success stories of the plasma core partnership scheme and independent smallholder mentoring by Asian Agri. In a broader context, this book is hoped to be a useful addition to the literature on palm oil contribution to the economic development and welfare improvement of the Indonesian people. We hope that this book will be adopted and expanded on by other sectors in the effort to develop smallholder partnerships.

iv | Developing Smallholder Partnerships

We express our gratitude and appreciation to all parties directly or indirectly involved in data collection and processing in the process of publishing this book. Thanks to Asian Agri for the opportunity to conduct the research for this book. We also express our gratitude to the smallholders who have participated as interviewees. Lastly, we want to thank the readers and Indef partners, who have been a loyal company in Indef’s journey.

Every rose has its thorn. We believe that this book has many shortcomings. Constructive input and feedback are very much appreciated for future improvement. We hope that this book is useful.

Happy reading.

Jakarta, October 2017 Writers Team

Developing Smallholder Partnerships | v

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INTRODUCTION Indonesia’s vast biodiversity offers unique benefits for the improvement of the people’s welfare, including the palm oil sector development. Currently, palm oil is one of the national economy’s strategic commodities. From upstream to downstream, the palm oil industry has greatly contributed to employment creation, poverty eradication, regional economic development, and export and foreign exchange reserve increase.

The great contribution of palm oil as an economic commodity today did not happen overnight. The growth of palm oil into one of the leading sectors in Indonesia was a long process. Such a long process includes the success of plasma core partnerships in oil palm plantations, which allows both industry and smallholders to enjoy the robust palm oil business today. Due to the partnership’s success, oil palm estates play a strategic role in the creation of employment opportunities and improvement of smallholders’ welfare. The plasma core partnership supports the welfare of smallholders and the fulfillment of raw materials.

The cooperation dynamics in a plasma core partnership scheme is inseparable from the economic fluctuation in Indonesia.

However, smallholder partnerships in oil palm estates has proven to be beneficial in different economic conditions. This shows that partnership cooperation is able to withstand economic fluctuation.

Developing Smallholder Partnerships | vii

To say that oil palm estate partnership is the right cooperation model for the agriculture sector is not an exaggeration. Therefore, we see the urgent need to share the success stories of smallholder partnerships in oil palm estates in a book to inspire smallholders and policy-makers to support partnership development in the management of Indonesia’s biodiversity.

We hope that this book will be adopted and expanded on by other sectors in the effort to develop smallholder partnerships.

The book Developing Smallholder Partnerships: Lessons Learned from Asian Agri’s Smallholder Partnership Model is divided into five chapters. Chapter 1 The Contribution of Palm Oil for Smallholders and the National Economy describes a number of benefits of palm oil for smallholders in improving welfare and the contribution of palm oil in the context of macroeconomics, such as export and foreign exchange reserve contribution, labor absorption, poverty eradication, raw materials for industry and added value creation, even distribution of regional economic development, and state revenue.

Chapter 2 Smallholder Company Partnership in the Palm Oil Industry elaborates on the various partnership benefits for smallholders as well as palm oil companies. This chapter also describes the role of agricultural partnerships from the angle of institutional economy from certainty, trust, to social capital generation through partnerships between smallholders and palm oil companies. This chapter concludes with a description of smallholder partnerships in Asian Agri.

Chapter 3 Partnership and Sustainable Agricultural Practices outlines knowledge transfer practices in partnerships with the

viii | Developing Smallholder Partnerships

multiplier effect of transfer from smallholder partners who have successfully developed palm oil to their workers, instead of one way from the palm oil industry (Asian Agri) to the smallholder partners with the hope of simultaneous growth smallholder.

This chapter also illustrates the important role of mentoring in ensuring knowledge transfer in the management of sustainable oil palm estates. This chapter concludes with an illustration of the Fire Free Villages and biogas electricity production program, as an inseparable part of the efforts for sustainable palm oil practices.

Chapter 4 Partnership in Palm Oil Business: A Learning Model outlines the lessons learned in case studies of smallholder partnerships in Asian Agri as a successful palm oil business partnership model. This chapter also describes the dynamics and variations in the way companies engage smallholders in collective partnerships.

Chapter

5

Conclusion:

Keys

to

Partnership

Development

concludes the book with the discussion on the urgency to highlight the oil palm estate partnership model to the public to inspire smallholders and policy-makers to support partnership development between smallholders and companies in managing biodiversity in Indonesia. The last chapter concludes at least three main factors enabling partnerships to generate positive impact for the industry or smallholder partners, which are social capital, strong institutionalization of smallholders, and collective action in smallholder communities.

Developing Smallholder Partnerships | ix

TABLE OF CONTENT FOREWORD

i

PREFACE

iv

INTRODUCTION

vii

CHAPTER 1

CHAPTER 1 THE CONTRIBUTION OF PALM OIL FOR SMALLHOLDERS AND THE NATIONAL ECONOMY 1.1.

Palm Oil Partnership from the Smallholders’ Perspective

1.2.

The Contribution of Palm Oil to the National Economy

CHAPTER 2

1

5

SMALLHOLDER-COMPANY PARTNERSHIP IN THE PALM OIL INDUSTRY 2.1.

Beneficial Partnership

21

2.2.

Smallholder Partnership from the

24

Perspective of Institutional Economy 2.3.

CHAPTER 3

Asian Agri Partnership

36

PARTNERSHIP AND SUSTAINABLE AGRICULTURAL PRACTICES 3.1.

Sustainable Partnership

48

3.2.

Knowledge Transfer in Partnership

50

3.3.

Fire Free Villages

53

3.4.

Generating Electricity Using Biogas

54

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CHAPTER 4

PARTNERSHIP IN PALM OIL BUSINESS: A LEARNING MODEL 4.1.

Palm Oil Partnership and National Development

56

4.2.

National Development Context

58

4.3.

Lessons from the Dynamics of the Partnership between Smallholders and 60

Asian Agri CHAPTER 5

CONCLUSION: KEYS TO PARTNERSHIP 74

DEVELOPMENT

BIBLIOGRAPHY

78

CURRICULUM VITAE OF THE AUTHORS

80

Developing Smallholder Partnerships | xi

LIST OF IMAGES Image 1.1.

The Growth of Palm Oil Export

Image 1.2.

The Composition of Indonesia’s Export in 2016

5

Based on Commodity

6

Image 1.3.

Indonesia’s Commodity Exports in 2016

7

Image 1.4.

Labor Absorption in Several Palm Oil Sectors and Sub-Sectors

10

Image 1.5.

Area of Smallholder Plantations

11

Image 1.6.

Area of Smallholder Agricultural Commodities Plantations

Image 1.7.

11

Portion of Area of Oil Palm Estate Based on Business Type

12

Image 2.1.

Palm Oil Smallholders’ Sources of Funding

45

Image 2.2.

Palm Oil Smallholders’ Sources of Loan

45

xii | Developing Smallholder Partnerships

LIST OF TABLES Table 1.1.

World Shares of CPO Production and Export 2016

8

Table 1.2.

Palm Oil Products

13

Table 1.3.

Added Value of Palm Oil Products

14

Table 1.4.

Ten Provinces with the Largest Palm Oil Production in Indonesia

15

Table 1.5.

Economic Development Indicators

16

Table 1.6.

Export Duty of Palm Oil and Cocoa

18

Table 1.7.

Tax Type and Object Imposed on Palm Oil Businesses

Table 2.1.

Table 2.2.

19

Partnership Model Based on the Linkage between Ownership and Land Management

28

Business Model Based on Economic Governance

29

Developing Smallholder Partnerships| xiii

xiv | Developing Smallholder Partnerships

CHAPTER 1

PALM OIL’S CONTRIBUTION TO SMALLHOLDERS AND THE NATIONAL ECONOMY 1.1. Palm Oil Partnership from the Smallholders’ Perspective

Partnership is educational. Those are the words uttered by Zaenal Arifin (age 72), a smallholder from Buana Bhakti Village, Kerinci Kanan District, Siak Regency, Riau Province when asked about the benefit of the over 22-year partnership with PT Inti Indosawit Subur (a business unit of Asian Agri).

As a transmigrant from Garut, West Java, Zaenal has benefitted from the partnership with the company, especially from the knowledge transfer.

Zaenal had no experience in the palm oil field when he first came to Buana Bhakti Village as a transmigrant in the government’s

smallholders

transmigration

program.

In

his

hometown, he focused on rice farming at the rice fields and horticulture, as oil palm is not commonly found in Java Island.

Developing Smallholder Partnerships | 1

After becoming a plasma smallholder under the mentoring of Asian Agri, Zaenal finally developed experience and skills in managing an oil palm plantation under various training, counselings, mentoring, and comparative studies initiated by the company.

In addition, Zaenal also participated in trainings on the skill to grow a side business to support his livelihood when his oil palm plantation is in the rejuvenation (replanting) state.

Despite having lived in Buana Bhakti Village for 25 years, Zaenal easily recalled his early experience as a plasma smallholder under the mentorship of Asian Agri in details. That afternoon on Tuesday, February 12, 1991 Zaenal reached Buana Bhakti Village with his wife and three young children. His first child just graduated from elementary school (SD), his second child was in third grade, and his youngest child was only five years old. The family participated in the government’s smallholders transmigration program to improve their economic well-being.

Aside from the desire to improve their lives, Zaenal and his family’s decision to become transmigrants was inspired by the success story of his sister, who moved to Padang as a transmigrant under the 1982 smallholders transmigration program.

As was common for transmigrants, the early days of their arrival were not easy: even more so for the head of a household with three young children. Together with his family, Zaenal lived in a house that was prepared for the transmigrants on an area of 0.5 Ha. In the first two months of living in the transmigrant housing, Zaenal tried to adapt to the environment without any work.

2 | Developing Smallholder Partnerships

Eventually, the 1961 graduate of a People’s School (SR) was registered as a daily worker (Buruh Harian Lepas/BHL) when he crossed paths with PT Inti Indosawit Subur. His duties varied from a cutter, sprayer, and, from time to time, a coater who coats weeds with liquid.

As a transmigration smallholder, Zaenal knew that after four years as a daily worker, he would receive a land area of two hectares or one lot for him to manage. However, he did not know where his portion of land was located.

The surprise came in October 1994, after four years of working as a daily worker on the oil palm estate. Two hectares promised by the government in the smallholders transmigration program were distributed and as it turned out, Zaenal received the land he had been maintaining. “So, in the last four years, I have been maintaining my own land and oil palm trees,” said Zaenal, happily describing his feelings upon receiving his oil palm land.

The land received by the transmigrants was not free.

Smallholders paid in installments using the proceeds from their oil palm plantation. The two hectares received by Zaenal in 1994 was worth IDR9,474,000. Zaenal paid for the land with a 30 percent cut of the proceeds from his oil palm plantation.

In the course of just four years, the land had been paid off: well under the 13-year period plan of the bank’s credit scheme.

It meant that the credit was paid off three times faster than estimated. It was an impressive leap for a smallholder considering the various credit risks in the agriculture sector. Zaenal Arifin’s experience shows the great prospects of the palm oil sector.

Developing Smallholder Partnerships | 3

The economic benefits Zaenal enjoyed as an oil palm smallholder extended beyond that. Long story short, the crops from his ‘mere’ two-hectare plantation effectively freed his family from poverty. His three children are considered quite successful in their education. His first child, who had just graduated from elementary school upon his arrival in Buana Bhakti Village, graduated high school and is now a kindergarten teacher. His second child, who was in third grade when he arrived at the village, had finished high school and is now working at a four-star hotel in Pekanbaru. A toddler when he first arrived, his third son just graduated with a Bachelor’s Degree.

Zaenal and his family made the right decision to become an oil palm smallholder to better their lives. The contribution of palm oil extends beyond the improvement of the economic welfare of smallholders. The oil palm allowed Zaenal’s children to pursue higher education. The oil palm even acted as a medium for knowledge and technology transfer to smallholders.

“There is no success without companionship and partnership.”

ZaenaL Arifin.

Plasma Smallholder, Buana Bhakti Village, Siak Regency, Riau.

4 | Developing Smallholder Partnerships

1.2. Palm Oil’s Contribution to the National Economy

The success story of an oil palm smallholder transmigrant in changing his life through partnership in the subchapter above actually illustrates the role of oil palm as a vital pillar of the national economy.

As a flagship commodity, palm oil greatly contributes to the national economy. Palm oil contributes at least seven advantages to the national economy, namely: export and foreign exchange reserve, labor absorption, poverty eradication, industry raw materials and added value creation, even distribution of regional economic development, as well as state revenue. This subchapter will specifically discuss in detail the six contributions of palm oil to the national economy.

1.2.1. Export and Foreign Exchange Reserve Contribution

As an agricultural product, palm oil plays a great role in Indonesia’s exports. According to the data of Indonesian Economic and Financial Statistics (SEKI) issued by Bank Indonesia, Indonesia’s palm oil exports in 2016 reached US$14.36 billion.

Image 1.1. The Growth of Palm Oil Export (US$ million)

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Source: Indonesian Economic and Financial Statistics/SEKI – Bank Indonesia (2017)

Developing Smallholder Partnerships | 5

Despite a decrease from the total export of US$15.40 billion in 2015, palm oil remains the second largest export commodity in Indonesia following coal with a total export of US$14.56 billion in 2016. Image 1.2 shows that palm oil contributes 10 percent of Indonesia’s total export in 2016. It is significantly higher than oil and gas export, which respectively contribute 3 percent and 5 percent to the total national export in 2016. This shows the great role of the palm oil business in shaping the national export.

Image 1.2. The Composition of Indonesia’s Exports in 2016 Based on Commodity

Coal: 10%

Electrical, measurement tools, and optical equipment: 6%

Palm oil: 10%

Textile and textile products: 8%

Agricultural products: 4% Natural gas: 5% Timber products: 3%

Miscellaneous: 36%

Base metal products: 5%

Refined rubber: 4%

Copper seed: 2%

Raw oil: 3%

Paper and its by products: 2% Chemical: 2%

Source: SEKI – Bank Indonesia (2017), processed

Compared to other agricultural products, there’s a significant difference in export value. In 2016, palm oil export was recorded at over US$14.36 billion, while other commodities like coffee beans contributed over US$1 billion in export. Take commodities such as

6 | Developing Smallholder Partnerships

tea, tobacco, and cocoa: none of the three export commodities has contributed more than 0.6 percent of the total palm oil export.

This shows that in the agriculture sub-sector, palm oil has the highest contribution to Indonesia’s export.

Image 1.3. Indonesia’s Commodity Export in 2016 (million US$)

Palm oil (US$14,358 million)

Cocoa Bean (US$85 million)

Coffee Bean (US$1,001 million)

Tea (US$85 million)

Herbs and Spices (US$698 million)

Tobacco (US$49 million)

The high export value of palm oil significantly impacts the national economy. One of the largest contributions of palm oil export to the national economy is the increase of foreign exchange reserves. As we know, every export activity generates foreign exchange reserves that maintain Rupiah stability so that it is able to cover import expenses. According to the Central Bureau of Statistics (BPS), in 2015, the palm oil industry generated US$18.6 billion or around IDR250 trillion in foreign exchange. Therefore, the high value of palm oil export affects the increase of foreign exchange reserve, which could ensure national economic stability.

Developing Smallholder Partnerships | 7

Looking at palm oil’s significant export contribution, the government has made palm oil a leading commodity of Indonesia.

Furthermore, from the perspective of the global economy, palm oil is a typical Indonesian commodity concerning which Indonesia has a comparative advantage in production. In the 2010 Indonesia’s Revealed Comparative Advantage (RCA), Palm oil recorded the highest RCA score of 19.15, significantly higher than other commodities such as rubber at 5.32; cocoa at 4.10; rattan at 5.54; or seaweed at only 0.27 (FAO 2011).

RCA is a trade-flow based comparative advantage scoring method for a country’s commodities. The high RCA score of palm oil has expanded Indonesia’s market for palm oil export to various countries, including the People’s Republic of China, India, the United States of America, Germany and South Africa.

In the global palm oil market, Indonesia and Malaysia are the two countries dominating the palm oil commodity export.

The two countries cover around 85 percent of production and 90 percent of export in the global palm oil industry. Meanwhile, Indonesia dominates 51 percent of the world’s palm oil production and 47 percent of the world’s export (see Table 1.1). This shows Indonesia’s significance in the global palm oil market.

Table 1.1 World Shares of CPO Production and Export, 2016 No

Country

Palm oil Production (million MT)

Production Share (percent)

Export (million tons)

Export Share (percent)

1

Indonesia

35

54.5

26

54.6

2

Malaysia

20

31.1

17.5

36.7

3

Others

9.2

14.4

4.2

8.7

Source: Mundi Index (2017) / MT = Metric Ton

8 | Developing Smallholder Partnerships

1.2.2. Labor Absorption

Another contribution of palm oil to the national economy is labor absorption. As a labor-intensive sector that absorbs more manpower than capital-intensive sectors, the growth of the palm oil sector contributes to the creation of employment opportunities that leads to labor absorption and unemployment decrease.

According to the data of the Directorate General of Agriculture, the Ministry of Agriculture, over 5.4 million Indonesians work in the palm oil sector in 2014. It is an increase from the absorption of 3.4 million in 2010. It means that in the period of 20102014, employment in the palm oil sector grew by over 60.8 percent. Such high growth was due to the rapid growth of the palm oil sector in 2010-2014, as reflected in the 29.6 percent growth of Indonesia’s palm oil export from US$13.47 billion to US$17.46 billion.

These published numbers do not yet include manpower in the sectors related to oil palm through forward linkages or backward linkages, such as shipping, refining, laboratory, estate administration, harvesting, and transportation. Therefore, employment in the palm oil sector is even higher and may reach 5.4 million employees.

Even as a sub-sector of the agriculture sector, the palm oil sector recorded higher labor absorption rate than other national economic sectors such as mining and excavation, as well as finance, real estate, rental and service. The mining and excavation sector, which covers mining businesses such as coal, nickel, copper, and oil and gas mining, only absorbed 1.3 million employees or 24 percent of the 5.4 million employees in palm oil businesses in 2015. Meanwhile, the financial institution, real estate, rental and service sector only absorbed 3.2 million employees

Developing Smallholder Partnerships | 9

in 2015. This shows the ability of the palm oil sector as an agricultural sub-sector to create vast employment opportunities.

Image 1.4. Labor Absorption in Several Palm Oil Sectors and Sub-Sectors 40.000.000 35.000.000 30.000.000 25.000.000 20.000.000 15.000.000 10.000.000 5.000.000

Source: BPS (2016)

In du Po st ry D we r i r, Tr nk G in a s Tr ad g , a n e, W an s p Re at d or s t er C t a au on r ti a st on n ru , t s, ct W io C ar an om e d n h m ou Se un s r v i c e, i c e at an ; io d Fi ns na nc A g ia ri lI cu lt Es nst ur t a itu e te ti , on B Pu , us R In b in e a di lic es l vi , s du S o al c i S a l, er a vi n ce d s Pa lm oi l

M

in

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gr

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ca

ul

va

tu

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-

The high employment in the palm oil sector shows the great contribution of the palm oil sector to the creation of employment opportunities, which eventually leads to lower unemployment rate.

The employment opportunities generated by the palm oil sector also improve palm oil employees’ welfare and thus, contribute to poverty eradication. Further growth of Indonesia’s palm oil sector will generate greater labor absorption, which will eventually lead to welfare improvement and poverty eradication in Indonesia.

1.2.3. Poverty Eradication

Palm oil contributes to poverty eradication not only through employment, but also the involvement of smallholders in the palm oil sector development. In the last 20 years, the palm oil sector has developed into one of the leading sectors in Indonesia without abandoning smallholder plantations. On the contrary, smallholder oil palm plantations expanded along with the sector.

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The expansion of smallholder oil palm plantation is reflected in the data published by the Central Bureau of Statistics (BPS), which is sourced from the Directorate General of Agriculture, the Ministry of Agriculture. Based on the data published in 2015, smallholder oil palm plantations have been growing since 2006. The total area of smallholder oil palm plantations grew by 79 percent between 2006 and 2014 from 2,536.5 thousand Ha to 4,551.5 thousand Ha.

2008

2009

2010

2011

2012

2013

4.551,85

4.356,09

4.137,60

3.752,50

3.387,30

2007

3.061,40

2.571,20

2006

2.881,90

2.536,50

Image 1.5. Area of Smallholder Plantations (Thousand Ha)

2014

Source: Directorate General of Agriculture (2015)

Compared to smallholders of other agricultural commodities such as rubber, coconut, and cocoa, the area of smallholder oil palm plantation has significantly increased (see Image 1.6).

Image 1.6. Area of Smallholder Agricultural Commodities Plantations 5000,00

2006

4000,00

2007

3000,00

2008

2000,00

2009

1000,00 0,00

2010 Rubber

Coconut

Palm oil

Coffee

Cacao Cocoa

2011

Source: Directorate General of Agriculture (2015) Developing Smallholder Partnerships | 11

While the area of smallholder oil palm plantations increased by 79.5% within the period of 2006-2014 with an average annual growth of 7.64%, rubber and cocoa only increased by 8.12% and 34.21% with an average annual growth of 0.99% and 3.8% respectively. In contrast, the smallholder coffee and cocoa plantations area declined. In 2006, smallholder coconut plantation covered an area of 3,720.5 thousand Ha, larger than the total smallholder oil palm plantation area. But in 2014, the number decreased by 3.44% to 3,592.6 thousand Ha. Along with coconut plantation area, the smallholder coffee plantation area also decreased by 0.6% from 1,255 thousand Ha to 1,198 thousand Ha within the period of 2006-2014.

Interestingly, smallholder oil palm areas grew more significantly and more rapidly than large estates. As a result, there’s a shift in the proportion of smallholder oil palm plantation and large plantations.

Image 1.7. Portion of Oil Palm Plantation Area based on Business Type

40,4%

38,5%

39,3%

38,5%

39,6%

41,2%

40,8%

41,6%

41,5%

59,6%

61,5%

60,7%

61,5%

60,4%

58,8%

59,2%

58,4%

58,5%

2006

2007

2008

2009

2010

2012

2013

2014

Large Plantation

2011

Smallholder Plantation

Source: Directorate General of Agriculture (2015)

The expanding smallholder plantation signifies the benefit of the growth of the palm oil sector both to large palm oil companies

12 | Developing Smallholder Partnerships

and smallholders. The size of smallholder oil palm plantations also shows the economic growth of smallholders, allowing them to expand their plantations. Smallholders’ economic growth definitely has a positive economic impact of increased income and improved welfare, which eventually helped them overcome poverty. It would not be exaggerating to say that the growth of palm oil as a commodity has improved the welfare of smallholders and freed them from poverty.

1.2.4. Industry Raw Material and Added Value Creation

Palm oil also functions as a raw material for industries. Palm oil has great potential as raw material for various industry products such as soap, wax, and cosmetics. The difficulty in extracting different palm oil products also vary. The great variety of palm oil products is shown in the research carried out by the Ministry of Industry in 2011, which is summarized in Table 1.2.

Table 1.2 Palm Oil Products Category

Potential Product

Food

Baking Shortening, Frying shortening, Milk Fat Replacer, Cocoa Butter substitutes-equivalent and replacer, confectionery fats, ice cream fats, creamer, specialty bakery fats, icing and filling fat, spread fats

Oleochemical

Fatty acids (Stearic Acid, Oleic Acid, Palmitic Acid, Myristic Acid, Lauric Acid); Fatty Alcohol; Glycerine; Candle Fatty Alcohol Methyl Esther Sulphate (FAMES); Fatty Alcohol Ethoxylate (FAE); Methyl Esther Sulphonate (MES); Glycerol Mono Oleate (GMO); Diethyl Oleate (DEO); Tocopherol.

Pharmacy/ Cosmetics

Tocopherol; Beta Carotene

Energy

Fatty Acid Methyl Esther (FAME), FAME Euro 2 and Euro 4 Specification

Source: Ministry of Industry, 2011

Developing Smallholder Partnerships | 13

Furthermore, the research done by the Indonesian Agency of Agricultural Research and Development, the Ministry of Agriculture in 2007 shows that palm oil products have high added value. Processed palm oil has an added value of 60 percent, while margarine has an added value of 180 percent, bath soap has an added value of 300 percent, and cosmetics have an added value of 600 percent (Ministry of Industry, 2011).

Table 1.3 Added Value of Palm Oil Products Product

Raw Material

Technology Level

Added Value (%)

Olein & Stearin

CPO

Medium

20

Fatty Acids

CPO, PKO, Catalyst

High

50

Ester

Palmitate, Myristate

High

150

Surfactant/ Emulsifier

Stearate, Oleate

High

200

Bath Soap

CPO, PKO, NaOH, coloring, perfume

Low

300

Wax

Stearate

Low

300

Cosmetics, Powder, Shampoo

Sufactant, Ester, Amide

Low

600

Source: Indonesian Agency of Agricultural Research and Development, Ministry of Agriculture in 2007

Palm oil’s great potential as raw material for industry products establishes its position as a large contributor to the national economy. Considering Indonesia is in the early deindustrialization stage, palm oil refinement can encourage the domestic industry, particularly eventually

agro-industry. contribute

to

Such

industry

national

development

economic

employment creation, and export improvement.

14 | Developing Smallholder Partnerships

will

development,

1.2.5. Even Distribution of Regional Economic Development

Oil palm development also contributes to the even distribution of regional economic development in Indonesia since palm oil production commonly takes place in the provinces outside Java according to the data of the Central Bureau of Statistics. Riau Province has become the largest palm oil producer in Indonesia with a total production of 7,037 million tons in 2014, followed by North Sumatra and Central Kalimantan with a production of 4,753 million tons and 3,312 million tons in 2014 (see Table 1.6). The total palm oil production in Sumatra and Kalimantan alone makes up 95 percent of national palm oil production, making Sumatra and Kalimantan the centers of national palm oil production.

Table 1.4. 10 Provinces with the Largest Palm Oil Production in Indonesia No

Province

Production (ton)

Area (ha)

1 Riau

7,037,636

2,296,849

2 North Sumatra

4,753,487

1,392,532

3 Central Kalimantan

3,312,408

1,156,652

4 South Sumatra

2,852,988

1,111,050

5 West Kalimantan

1,898,871

959,226

6 Jambi

1,857,260

668,810

7 East Kalimantan

1,425,895

749,092

8 South Kalimantan

1,316,224

499,873

9 West Sumatra

1,082,823

381,754

853,854

413,874

10 Aceh Source: Central Bureau of Statistics (2015)

Developing Smallholder Partnerships | 15

The high palm oil production in those provinces contributes to economic growth based on Gross Regional Domestic Product (GRDP) growth, agriculture sector growth, and agriculture sector contribution to GRDP as the three indicators. Table 1.5 below shows that the GRDP growth and agriculture sector growth in several provinces are higher than the national economic growth. Although the global CPO market in 2014 experienced low global demand and low CPO price, palm oil producing provinces continued to grow.

Moreover, palm oil businesses propped the economy of several provinces that rely on the mining and oil and gas sector, such as East Kalimantan and South Kalimantan, during the mining and oil and gas slump.

The slowdown of the mining and oil and gas sectors in East Kalimantan is shown by the decline of the oil and gas and mineral export by 25% and 20.5% (yoy) respectively. On the contrary, CPO export increased by 36.6% (yoy).

Table 1.5. Economic Growth Indicators No.

Province

GRDP Growth (%)

Agricultural Growth (%)

Contribution of Agriculture Sector to GRDP (%)

1

Riau

2.62

6.34

1.49 (source)

2

North Sumatra

5.23

4.37

25

3

Central Kalimantan

6.21

6.71

21.76

4

South Sumatra

4.68

4.1

5

West Kalimantan

5.02

1.93

22.38

6

Jambi

7.9

13

26.7

7

East Kalimantan

2

5.1

7

8

South Kalimantan

4.85

3.72

14.5

9

West Kalimantan

5.9

5.9

24.1

10

Aceh

National

1.65

2.35

25.2

5.02

4.18

13.39

Source: BPS and Bank Indonesia (processed) 16 | Developing Smallholder Partnerships

In addition to export, the decline of the mining and oil and gas sectors is indicated by sectoral growth. In 2014, the mining and oil and gas sectors in East Kalimantan experienced a contraction of 0.1 percent. Meanwhile, the agriculture sector increased by 5.1 percent, higher than the 2 percent GRDP growth of East Kalimantan.

The agriculture sector recorded relatively good growth following the improvement of the agriculture sub-sector, especially palm oil. In addition, land expansion and high precipitation in 2014 also drove production increase. Furthermore, entrepreneurs are confident in the expansion of the palm oil sector in light of the projected high demand as confirmed by liaison from KPw BI Prov. Kaltim (Bank Indonesia, 2015). This shows that the palm oil business does not only encourage economic development in provinces outside of Java that have never been national economic hubs, but also secures provinces experiencing economic shock.

1.2.6. State Revenue

The palm oil sub-sector also contributes economically to the state revenue. State revenue increase will eventually increase the State Budget (APBN) to fund development programs to drive the national economy and improve people’s welfare. Therefore, palm oil’s contribution to the state revenue indirectly affects economic development and welfare improvement.

One of the contributions of the palm oil sub sector to the state revenue is the increase of export duty from palm oil export. As explained earlier, palm oil is the second largest export contributor after coal. The high palm oil export value results in the high state revenue from palm oil export duty. According to the publication of the Directorate General of Agriculture, the Ministry of

Developing Smallholder Partnerships | 17

Agriculture, the export of palm oil and its derivative products in 2014 generated IDR9,144 billion (IDR9.1 trillion) in export duty, declining from over IDR13 trillion in 2011-2013. The decline in palm oil export duty in 2014 was caused by the decline of the export value of palm oil and its derivative products as a result of the global palm oil market slump. Nevertheless, the export duty from palm oil export in 2014 was much higher than export duty from cocoa export at IDR176 billion.

Table 1.6. Export Duty of Palm Oil and Cocoa (IDR Billion) Commodity

2010

Palm oil

4,157.81

13,334.86

17,563.57

14,909.87

9,144.24

510.37

354.00

123.07

231.48

176.04

Cocoa

2011

2012

2013

2014

Source: Directorate General of Agriculture (2015)

Nevertheless, the palm oil sub-sector is estimated to contribute around IDR9.1 trillion to the state revenue from the various taxes imposed on palm oil businesses. In addition to export duty, palm oil businesses also pay Income Tax (PPh), Value-Added Tax (VAT), and Land and Building Transaction Tax (LBTT). The different tax types and objects imposed on palm oil businesses that contribute to the state revenue are summarized in Table 1.7.

18 | Developing Smallholder Partnerships

Table 1.7. Tax Types and Objects Imposed on Palm Oil Businesses No

Tax Type

Tax Object

1

Income Tax Article 21

Taxable income such as salary, wage, honorarium, allowance, and other payments under any name and in any form, related to the work or position, services and activities performed by Domestic Individual Taxpayer.

2

Income Tax Article 23

Income obtained from transactions between two parties. The income in this category includes dividend, interest, royalty, prizes and reward, rent and income related to assets other than land and building transactions, and services.

3

Income Tax Article 26

Income from Indonesia that is received and obtained by Foreign Taxpayers other than permanent entities in Indonesia.

4

Income Tax Article 4 paragraph (2)

Land and/or building rental.

5

Value Added Tax (VAT)

Handover of Taxable Goods/Utilization of Taxable Services.

6

Land and Building Tax

Land and/or Building, including in the mining, forestry, and farming sectors.

7

Land and Building Title Acquisition Duty

Title acquisition on land and/or building.

Source: Regulation of the Directorate General of Taxation, 2015 (processed)

Developing Smallholder Partnerships | 19

Palm Oil through the Ages In the colonial era, the plantation sector was one of the main economic activities. An evidence was the period of Forced Planting in 1830, where most of the crops were used to fund the state budget of the Dutch government, which was experiencing a deficit due to the Diponegoro war.

A wide range of export commodities were planted in the rich Indonesian land and the colonists reaped the yield.

Palm oil in Indonesia originated from four oil palm seeds brought over from Bourbon (Mauritius) and Amsterdam, which were planted in Kebun Raya Bogor in 1869. The progenies of those oil palm seeds were shipped to Sumatra (Deli) and then used by large palm oil companies in Deli and Malaysia at the time. Meanwhile, the palm oil business was commercially operated for the first time in Sungai Liput (Aceh) and Pulau Radja (Asahan) in 1911. In its development since 1911 – 1979, oil palm was only cultivated by major estates in northern Sumatera and a minor portion was cultivated in southern Sumatera (Badrun, 2010).

In the 1980’s, the government took a preliminary step to develop oil palm estates under the Nucleus Estates and Smallholder (NES) development concept. Simultaneously, the 31 projects in 12 provinces were immediately implemented. Following this policy, the area of oil palm estates grew and the business expanded across Indonesia. This is the point of a partnership mechanism based on mutual reliance and mutual benefit (Badrun, 2010).

This palm oil PIR scheme strategy was successful. After the Reformation Era, oil palm estates in Indonesia underwent a few interesting developments. Since 2006, Indonesia has been the world’s largest palm oil producer. Beyond that, smallholder plantations continued to grow. In the last ten years, the palm oil sector has been dominated by private and smallholder plantation.

As the world’s largest palm oil producer supported by major estates and smallholder plantations, it is crucial to undertake efforts to maintain the sustainability of this dominance. One of the challenges is to improve the productivity of smallholder plantations to the level of private estates (core as well as plasma). This is where various certifications and standardizations of palm oil production come in. With these certifications and standardizations, palm oil sustainability will hopefully improve. On the other hand, the efforts to encourage the processing of raw materials into finished goods on the industry’s side must be made. Hundreds of derivative palm oil products must be created for the added value from palm oil farming to result in welfare improvement.

20 | Developing Smallholder Partnerships

CHAPTER 2

SMALLHOLDER-COMPANY PARTNERSHIP IN THE PALM OIL INDUSTRY

2.1. Beneficial Partnership

Sugiono (age 45), a plasma smallholder from Ukui SubDistrict, Pelalawan Regency, Riau Province mentored by Asian Agri, talked about how his welfare improved after he became an oil palm smallholder. He came to Ukui-Riau from Gunung KidulYogyakarta in 1988 with his parents who became transmigrants through the smallholders transmigration program. Sugino has deep understanding of the socio-economic development of his current home, Ukui.

In 1987, Asian Agri through its business unit PT Inti Indosawit Subur began its journey organizing the smallholders transmigration program by planting oil palm in Ukui, Pelalawan-Riau. In terms of infrastructure, by the end of the 1980s, the Ukui Sub-District was only accessible through dirt roads instead of paved. In the rainy season, the road was covered in mud, making it difficult for

Developing Smallholder Partnerships | 21

vehicles to pass through. As a result, the mobilization of goods and people was constrained. According to Sugino, a trip from Pekanbaru to Ukui (approximately 150 km) in the rainy season took up to three days and three nights. At the beginning of the 1990s, the paving of the main road began when oil palm began to generate yield in 1992. As the oil palm plantations in Ukui began to show prospect, the access to the villages in Ukui improved.

Having been an oil palm smallholder in Ukui for 28 years, Sugino has benefitted from the partnership between smallholders and palm oil companies. The plasma smallholder with two children detailed the numerous benefits they enjoyed from the partnership with the palm oil company, as follows: First is buyer assurance. The regulation requiring companies to buy Fresh Fruit Bunches (FFBs) from the partner smallholders guarantees buyers for the smallholders’ oil palm crops. Such buyer assurance is highly important for smallholders, given that the crop cannot be stored for an extended time and must be purchased immediately.

22 | Developing Smallholder Partnerships

In addition, buyer assurance is one of the main incentives in the agriculture and plantation sectors. Many times, we hear the lack of buyer certainty for the crops at a reasonable price as one of the challenges in the agriculture sector development, demotivating smallholders to work in this sector. The buyer assurance policy with a pricing mechanism that involves the smallholders, companies, and the government is one of the benefits for plasma smallholders mentored by Asian Agri.

Second is the prompt payment for the smallholders’ FFBs by the company. For oil palm smallholders, prompt payments are one of the most important indicators of the sustainability of the partnership cooperation. The consistently prompt payment enhances the company’s credibility, allowing it to gain the smallholders’ trust. Prompt payment also helps maintain the smallholders’ cash flow, allowing them to meet their daily necessities. Through consistent liquidity (in this case cash payment), the smallholders do not have to bear any opportunity cost.

Third, regular mentoring is conducted by Asian Agri concerning maintenance, fertilization, and harvest. Such mentoring is one of the key factors in strengthening the partnerships between plasma smallholders and independent smallholders with Asian Agri. Continuous mentoring by the company enables knowledge transfer to the smallholders. This allows Asian Agri’s partner smallholders to gain knowledge on how to care for, fertilize, and harvest oil palm in accordance with the company’s FFBs criteria.

Damanik (age 46), an independent farmer in Petapahan Village, Tapung Sub-District, Kampar Regency, Riau Province said

Developing Smallholder Partnerships | 23

that the greatest benefit of the partnership with Asian Agri is the availability of superior oil palm seeds to be planted in his lot.

Regular monitoring and mentoring by the company on the seeds purchased by independent smallholders from the company have strengthened the partnership between both parties. According to Damanik, his cooperation with Asian Agri has grown to feel more like family rather than just a simple partnership. This is not an exaggeration considering that the company’s approach does not only cover business cooperation, but also social relationship through the on-field personnel who proactively mentor the smallholders.

2.2. Smallholder Partnership from the Perspective of Institutional Economy

The testimonies of plasma and independent smallholders on the benefit of partnership with a palm oil company in the above sub-chapter mostly relate to institutional economic aspects, from certainty, trust, to social capital.

Theoretically, partnership in the agriculture sector can be analyzed from the perspective of institutional economy. From this perspective, we will be able to see the role and benefits of partnership in the agriculture sector. Theoretical description of the role and benefits of partnership in the agriculture sector can be further used as a framework in analyzing the role of partnership in the palm oil business, particularly in relation to the success and uniqueness of the Asian Agri partnership model.

24 | Developing Smallholder Partnerships

2.2.1. Institutional Economy and Smallholder Partnership

As an approach, institutional economy is inseparable from the concept of institution and the way institutions facilitate and influence different economic transactions, including transactions in the agriculture sector. Thus, the institutional economy focuses on how individuals perform transactions and how individuals coordinate in transactions. Institutions play a vital role in helping organize transactions to ensure seamless completion at a minimal cost. The two main concepts in institutional economy, institution and transaction costs will be explained below.

In the institutional economy theory, institution is not defined as a formal organization such as the United Nations (UN), political parties, and others. The definition of institution in institutional economy is all rules that affect human behavior and aim to serve as a safety net before an individual performs a transaction.

Institution can be formal and informal. Formal institution comprises the public rules formulated by public authorities, while informal institution comprises personal rules that govern behavior, are developed gradually, and do not require government regulation.

The main concept in institutional economy is transaction cost. In economic activities, cost is always a decisive factor. In addition to production cost, there is transaction cost. Transaction cost consists of three aspects: the cost of information; the cost of compiling, negotiating, and signing the agreement; and the cost of supervision and enforcement.

One of the most important theories in institutional economy is how economic governance affects transaction cost. According to Coase (1937), a company or organization as an economic

Developing Smallholder Partnerships | 25

governance emerged as an alternative to market transactions in cutting transaction cost. By establishing a contract with the supplier in the long run, both for services and goods, entrepreneurs can minimize the level of uncertainty arising from transactions in the spot market (Coase, 1937). Since then, the transaction cost theory has been evolving to explain the most suitable governance structure. One of the economists developing this theory is Williamson (1985), who explains that there are three main dimensions that result in different transaction costs for each governance structure. The three dimensions are asset specifications, uncertainty, and frequency. Asset specifications show the extent to which an asset is tied to a transaction so that the asset cannot be used by another user. Meanwhile, uncertainty explains that the ability to list all future events is limited. Frequency explains that if the parties in the cooperation conduct transactions regularly, they will turn into routines and develop mutual understanding that reduces the need to establish a formal enforcement mechanism.

Groenewegen et al (2012) is trying to develop how transaction cost affects the type of institution to be selected by the parties in the transaction. The actors will choose the structure that can result in the most efficient transaction cost. In the transaction cost theory, the actor is assumed to have bounded rationality where they minimize transaction cost, even though the information obtained is not perfect and uncertainty is inevitable. Therefore, the option of economic governance is determined based on the extent of asset specifications, uncertainty, and frequency.

The greater the role of these three dimensions, the economic actor is more likely to prefer vertical integration in the economic

26 | Developing Smallholder Partnerships

governance of the transaction. Conversely, if the role of the three dimensions is low, then the economic actor will prefer the spot market in the economic governance of the transaction.

The agriculture sector is a unique economic sector in that it explains why the role of institutional economy requires close attention. There are several factors that differentiate this sector from other sectors in the context of institutional economic analysis. Some of these factors include high asset specifications, inelastic agricultural products, and special soil function as a production factor. Other main factors include the agriculture sector’s great reliance on nature. This makes planning, monitoring, and supervision more difficult (Schmitt, 1993). Moreover, Hansmann (1996) explains that smallholders face high cost in every transaction. There are two main reasons for this. First, smallholders have weaker market power than the trading partners. Second, the information held by smallholders in transactions tends to be asymmetric. Therefore, agricultural partnerships based on a long-term contract between smallholders and agribusiness companies can be an alternative in reducing transaction cost.

2.2.2. Partnership Models in the Agriculture Sector

In practice, there are a number of partnership models in the agriculture sector. The emergence of various partnerships in the agriculture sector can be perceived as an effort by the economic actor, whether a smallholder or an agribusiness company, to reduce transaction cost. The reason is the significant role played by the three dimensions shaping the transaction cost, which are asset specifications, transaction frequency, and high uncertainty,

Developing Smallholder Partnerships | 27

in the agriculture sector. Thus, from the institutional economic perspective, partnership is the best option for an economic actor in the agriculture sector to decrease transaction cost.

The form and model of partnership in the agriculture sector implemented in Indonesia and in other countries are very diverse.

Vermeulen and Cotula (2010) formulated a two-dimensional classification of partnership models. The first dimension is the linkage between land ownership and land manager. In relation to the land, the difference relies on whether the land is controlled and owned by smallholders or the community or owned by a large agribusiness. In relation to the production manager, the difference relies on whether the agricultural estate is managed by smallholders, the community, or a large agribusiness. The partnership models based on this first dimension are summarized in Table 2.1.

Table 2.1. Partnership Model Based on the Linkage between

Ownership and Land Management Land Ownership Smallholders or community

Agribusiness

Smallholders

Contract Farming

Management Contract

Agribusiness

Joint Ventures

Labour Arrangements

Production Manager

Source: Vermeulen and Cotula (2010)

28 | Developing Smallholder Partnerships

The second dimension is the extent to which the transaction in the business partnership is carried out. This corresponds with the economic governance structure that has been described in the theoretical foundation. There are several types of business models, including market-driven transaction model, value chain coordination, and vertical integration. The table below explains the differences between types of business model based on governance in transactions.

Table 2.2. Business Model based on Economic Governance Economic Governance Structure Spot Market

Open Market

Purchase Agreement

Value Chain Coordination

Contract Farming

Vertical Integration

Management Contracts

Fully Incorporated land & production

Source: Vermeulen and Cotula (2010)

More generally, there are at least four partnership models of an agribusiness partnership that have been properly implemented locally, nationally, and in other developing countries. The 4 (four) partnership models are:

1.

2.

3.

4.

Contract Farming Management Contract Joint Venture Farmer-owned Business

Developing Smallholder Partnerships | 29

Explanations of each partnership model will include definition, application, advantages and disadvantages, as well as things that need to be done to ensure that the partnership model is beneficial to smallholders.

2.2.1.1. Contract Farming

The first partnership model is the contract farming. Contract farming can be defined as a partnership between smallholders and agribusiness companies stipulated in an agreement on the production and supply of agricultural products, where prices have been set when the contract is agreed (Eaton and Shepherd, 2001).

According to Vermeulen and Cotula (2010), the agreement of a contract farming partnership includes not only product selling price when the product is transacted to the buyer, but also other matters from time of delivery, amount, to quality. Moreover, under certain conditions, the agribusiness company is also committed to providing various elements for production such as credit and financing, seed, fertilizer, pesticide, and technical production assistance. Meanwhile, according to Eaton and Shepherd (2001), the contract farming models differ in complexity.

There are at least three forms of contract farming in terms of product provision agreement, namely:

1.

Market Provision. The smallholder and the agribusiness company agree to buy the agricultural product.

2.

Resources Provision. More than an agreement to buy agricultural products, this model also agrees on the provision of input facilities, land preparation, and technical assistance.

30 | Developing Smallholder Partnerships

3.

Management Specifications. The smallholder agrees to comply with the specifications of the various aspects of the cultivation system recommended by the agribusiness company.

More broadly, Eaton and Shepherd (ibid) divide the contract

farming partnership models into five models based on the type of plants, the objective and resources provided by the agribusiness company, and the role of smallholders who are parties to the partnership. The five models are (Eaton and Shepherd, ibid): 1. The centralized model. The centralized model is coordinated vertically where the agribusiness company buys the agricultural products from the smallholder. The cultivation process in this model is closely monitored by the agribusiness company. In some countries, this centralized model is commonly applied on tobacco, cotton, sugar cane, banana, coffee, tea, cocoa and rubber. The involvement of the agribusiness company varies greatly ranging from the provision of seed to the provision of land, seed, pesticide, and harvesting services.

2. The nucleus estate model. This model is a variation of the centralized model. In this model, the agribusiness company owns and manages the oil palm plantation, which is usually located near the processing mill. This model is usually implemented under the transmigration scheme like the one in Indonesia and New Guinea for oil palm and other plants.

3. The multipartite model. The multipartite model usually covers legal entities and private companies cooperating with the smallholder. This multipartite contract usually consists of separate organizations that have different responsibilities

Developing Smallholder Partnerships | 31

covering the provision of credit, production management, and marketing. This model is implemented by several countries, such as Mexico, Kenya, and West African countries. In addition to these countries, this model is also common in China as both the central government and the regional government along with foreign companies have been bound by a contract with the village committee and independent smallholders since the early 1980s.

Under this model, smallholders establish partnership smallholder with not only agribusiness companies, but also government agencies. In the context of China, village apparatus plays an active role in the process of cultivating agricultural products where they are responsible for implementing and ensuring the fulfillment of the contract that has been agreed upon.

4. The informal model. In this model, smallholders are engaged in a partnership with a small company under a simple contract.

The contract usually takes the form of a seasonal informal production contract. In this contract, the small company is only obligated to buy products from the smallholders to be resold in retail. This model is commonly implemented for fresh vegetable and fruit products. Because of its simple nature, assistance with production for the smallholders is very limited. According to Eaton and Shepherd (ibid), this model is the most temporary and speculative model among the various contract-farming models.

5. The intermediary model. This model is commonly found in Southeast Asian countries, including Indonesia. To put it simply, in this model, large agribusiness companies buy agricultural products from the intermediaries who obtain the products from smallholders. These intermediaries are merely mediators between the smallholder and the agribusiness company. In some

32 | Developing Smallholder Partnerships

cases, this model is very similar to the practice of brokers, which is often detrimental to smallholders due to the limited direct contact between the smallholder and the agribusiness company, resulting in low income for the smallholder, unstandardized, poor quality and uncertain production.

There are a number of benefits of contract farming both for smallholders and agribusiness companies. For smallholders, contract farming offers benefits that will eventually improve the lives of smallholders. Through contract farming, smallholders have access to agribusiness companies that are higher in economic scale to gain access to technology, information, and capital to increase agricultural production. With the access to technology, information,

and

capital,

the

smallholders

can

shift

from

traditional farming to the production of agricultural products that have high added value and competitive edge. Moreover, through contract farming, the risk factors faced by the smallholders are reduced as smallholders get the assurance that the products will be purchased by the partner upon harvest.

The contract farming partnership has at least three benefits for agribusiness companies. First, contract farming can solve land scarcity. In some cases, agribusiness companies face difficulty in increasing production due to limited land ownership. By partnering with smallholders who own lands, agribusiness companies can increase the supply of agricultural products and, ultimately, the company’s production. Second, contract farming guarantees supply availability unlike transactions in the open market. This is in line with the institutional economic perspective, which states that in the event of uncertainty and high-standard asset specifications, the hybrid scheme or vertical integration model with long-term

Developing Smallholder Partnerships | 33

contracts are better governance models than transactions in the open market with relatively shorter contracts. Third, contract farming allows agribusiness companies to obtain products with consistent quality due to the relationship between smallholders and agribusiness companies, compared to products obtained in the open market where the buyer (agribusiness companies) and the seller (smallholders) do not have a strong relationship.

Trust between the two parties is key in a partnership between smallholders and agribusiness companies. It is proven by the research of Sartorius and Kirsten (2007), which shows that trust affects the stability and implementation of the contract between smallholders and agribusiness companies.

2.2.1.2. Management Contract

Management contract is a partnership model in which smallholders cultivate agricultural estates owned by estate owners for money or profit sharing with the estate owner. In other words, the estate owner grants the right to use the estate to the smallholder. Cotula and Leonard (2010) explain that there are at least three types of profit sharing, as follows: Smallholders receive fixed remuneration depending on the area of the estate owned.

Smallholders receive a share of the production profit from the estate owner. The profit sharing scheme and mechanism depend on the negotiation between the estate owner and the smallholder.

Smallholders receive a share of the yield from the estate they manage. Under this scheme, both the smallholder and the estate owner are severally responsible to market their products.

34 | Developing Smallholder Partnerships

Such a partnership model has several advantages, including incentive for smallholders to maximize the land they manage to generate more profit and solution to the land access issue.

Moreover, this partnership model is easy to implement. However, the mechanism also has several disadvantages. The biggest disadvantage is the weak position of the smallholders in the negotiation process. As a result, smallholders are prone to exploitation.

2.2.1.3. Joint Venture

Joint venture is a partnership model where two economic actors such as an agribusiness company and a smallholder agree to develop a new agricultural business jointly. This mechanism allows for the distribution of assets, ownership, income, and expenses. Moreover, this includes policy-making collaboration so that any policy concerning the business is taken together.

For agribusiness ventures, this partnership model will benefit the company as the risk in the development of the agricultural business is borne together with the business partner. Low political and legal risk is another benefit of this partnership model. However, there are several problems that may occur with this partnership model. This partnership model is difficult to implement considering the amount of time and effort required to build a relationship with the partner (smallholders as well as smallholders group/Gapoktan). This issue is exacerbated by the cultural gap and different cultivation methods between the agribusiness company and the smallholders, which make integration and cooperation in the joint venture difficult.

Developing Smallholder Partnerships | 35

2.2.1.4. Farmer-owned Business

Farmer-owned business is a formal business structure in which smallholders are collectively involved in certain agricultural businesses to gain access to credit. Those businesses are owned by a cooperative that aims to facilitate business transactions (Cotula and Leonard, 2010). This is one of the many forms of collective action to enhance smallholder participation in the modern market.

A cooperative promotes community empowerment and enhances smallholders’ access to agricultural services (Vorley et al., 2008).

The cooperative model is an inseparable part of the lives of smallholders in Indonesia. Many smallholders cooperatives can be found across Indonesia. However, so far, various problems emerge from the direct involvement of smallholders in the business under a cooperative, including the smallholders’ lack of managerial, leadership, and production planning abilities. Other issues of this business model include the lack of entrepreneurship and different estate ownership between the members of the cooperative.

However, it is undeniable that this partnership model has several advantages for smallholders, such as easy access to production necessities such as credit or farming equipment.

Equal bargaining position among all members of the cooperative is another advantage. The cooperative system also gives equal opportunity to all member smallholders of the cooperative to be involved in the formulation process of the regulations.

2.3. Asian Agri Partnership

In the economy, productivity enhancement is key in the improvement of people’s welfare. High productivity contributes

36 | Developing Smallholder Partnerships

directly to the increase of income and improvement of welfare.

Hence, the quality of smallholders’ welfare depends on their productivity rate.

According to the data gathered, Asian Agri’s plasma smallholders produce 21.4 tons per hectare per year. This is quite close to the productivity of core estates at 23.5 tons per hectare per year. This is not only true for plasma smallholders, but also for independent smallholders. Several independent smallholders have stated that the productivity of their plantations before the partnership was at 9.6 tons per hectare per year. Now they have reached 18 tons per hectare. The more productive the oil palm plantation owned by the smallholders, the higher their income. With the production increase, the smallholders’ income increases by 80 percent.

Therefore, the productivity of the oil palm plantation run by the oil palm smallholders plays a significant role in the increase of oil palm smallholders’ income.

Oil palm smallholders in partnership with Asian Agri are able to achieve high productivity due to better access to essential production

factors

from

the

partnership,

including

land,

knowledge, production equipment, and capital. Every production factor will be further explained below.

1. Land

Land is the most essential production factor in the agriculture sector since cultivation by smallholders is not possible without land. Furthermore, the size of the land will also affect the economic scale of their agriculture business. Bigger land area equals a bigger profit margin. The smallholders engaged in partnership with Asian Agri, both the oil palm smallholders engaging in partnership with

Developing Smallholder Partnerships | 37

the company under the Nucleus Estates and Smallholder (NES) development partnership model and independent smallholders engaging in partnership with Asian Agri, are well aware of such benefits.

Plasma smallholders own at least 2 Ha of land to cultivate.

This is a result of the PIR model in which plasma smallholders who are transmigrants from other provinces obtain 2 Ha of land to cultivate. However, the 2 Ha land will not be given directly to the smallholder transmigrants. When they first arrive at the transmigration destination, they will be employed as a daily worker at the land that will be given to them. After two years of working, the transmigrants will obtain the land in the plasma estate for which payment will be deducted from the profit from FFB sales.

In some cases, the land credit could be paid off in four years.

Land ownership by smallholders is a key first step for plasma smallholders in developing their plantation. The smallholders can use the land as collateral to obtain funding from a financial institution. In the process, plasma smallholders will buy land outside the plasma and nucleus plantation to expand the 2-Ha land. Plasma smallholders usually use the revenue they obtain as an oil palm smallholder, saved over the years, to buy more lands to cultivate. It is not a surprise then, that a few smallholders like H. Zulkifli in Jambi own more than 10 Ha of land consisting of 2 Ha of plasma plantation and 8 Ha of independent land. The sizable land of the smallholders leads to larger economic scale, which ultimately leads to increased revenue.

Unlike plasma smallholders who own at least 2 Ha of land for palm oil cultivation, the plantation of independent smallholders tend to vary in size. In some cases, a few independent smallholders

38 | Developing Smallholder Partnerships

own less than 2 Ha of land. On the other hand, a few independent smallholders own more than 2 Ha of land to cultivate. In the field study, it was found that an independent smallholder in Petapahan Village, Kampar Regency, Riau Province owns more than 20 Ha of land.

The wide range of land ownership occurs due to the different starting points of each smallholder. A few smallholders already owned more than 2 Ha of land, while a few others owned less than 1 Ha when they first started oil palm plantation. Furthermore, the productivity of independent smallholders also varies, resulting in a variation of the amount of revenue obtained to add to the capital required for development such as land expansion. The different productivity rates of independent smallholders’ plantations are mainly caused by the use of different seeds.

The variation in the productivity of independent smallholders engaging in partnership with Asian Agri does not affect the company’s determination to engage in the partnership. This is one of many unique traits of Asian Agri’s partnership with smallholders. It is not surprising then that Herawati, the Head of Regional Agriculture Office of North Sumatra, appreciates Asian Agri’s decision to create a special division for independent smallholders partnership. “Not all companies have a partnership division/department for independent smallholders,” said Herawati in an interview at the Regional Agriculture Office of North Sumatra on September 26, 2016.

Asian Agri’s Independent Smallholders Program commenced in 2012. Twenty nine years of partnership with plasma smallholders have been greatly beneficial to smallholders and the company.

Therefore, it is only right to implement the same partnership model

Developing Smallholder Partnerships | 39

for independent smallholders in the hope that all stakeholders in the palm oil sector can together improve in welfare.

2. Knowledge

Another factor that affects the performance of the palm oil business is knowledge. Knowledge on cultivation and post harvest process is very important for palm oil business productivity. In this context, it is undeniable that smallholders tend to have limited knowledge compared to the core agricultural companies. As such, the productivity of smallholders tend to be lower compared to core agricultural companies. The limited knowledge of smallholders is a classic unsolvable problem in Indonesia not only in the palm oil business but also in other agricultural businesses.

As a matter of fact, the government has already provided mentoring for smallholders through trainings. However, based on interviews with the smallholders, there are a limited number of seminars on agricultural business, even more so for palm oil commodity compared to other agricultural products. However, this is understandable as the government is targeting self sufficiency in the supply of rice, corn, sugar, soy and beef in the next five years as stated in the 2015-2019 National Medium-Term Development Plan (RPJMN). Therefore, the seminars organized by the government tend to focus on those commodities.

This condition does not improve the limited knowledge of smallholders, which results in limited revenue generated by smallholders. An example of how limited knowledge could affect smallholders’ revenue is knowledge on ripe FFBs. With limited knowledge, smallholders are unable to differentiate between ripe, raw and overripe FFBs. Meanwhile palm oil mills will pay

40 | Developing Smallholder Partnerships

high prices for FFBs with the right level of ripeness. At the end, smallholders are unable to generate optimum revenue as they sell raw or overripe FFBs. In some cases, the FFBs from palm oil smallholders should not be purchased as they are rotten.

Therefore, knowledge is crucial for the smallholders to be able to increase productivity and welfare.

The

partnership

between

smallholders

and

agricultural

companies can be a solution to the issue of smallholders’ limited knowledge. Through partnership, the company provides various information and training that specifically aim to enhance the smallholders’ knowledge so they are able to better cultivate their oil palm and carry out post-harvest activities.

The knowledge-transfer model above has already been implemented under the plasma partnership model in the estates of Asian Agri. Plasma smallholders participate in a number of trainings on palm oil cultivations, from proper fertilization, plant maintenance, pests handling, to proper harvest. Such

Developing Smallholder Partnerships | 41

trainings are carried out continuously to eventually internalize the knowledge in the cultivation process of the plasma smallholders.

In addition to the aspect of cultivation, other trainings organized by Asian Agri also educate the plasma smallholders on business diversification. The business diversification training is carried out by inviting some of the plasma smallholders to participate in a comparative study at an estate in Yogyakarta that has successfully integrated the agricultural business and the farming business. Some plasma smallholders started their farming business, such as chicken and cow farming, after the training.

Business diversification is crucial considering the uncertain nature of palm oil business as it relies on nature. If smallholders are able to diversify their businesses, their revenue will not drop when the palm oil business is disrupted. Furthermore, diversification

is

very

important

during

the

replanting

(rejuvenation) process. The palm oil rejuvenation process takes around three years until the oil palm can produce FFBs. The smallholders’ income will definitely be affected during the

42 | Developing Smallholder Partnerships

replanting process when FFBs cannot be produced. Through business diversification, oil palm smallholders are able to maintain revenue in the midst of a declining palm oil business.

Trainings aimed to enhance the capacity of oil palm smallholders are not only provided to plasma smallholders, but also to independent smallholders. In line with the plasma partnership, several partnerships between Asian Agri and independent smallholders also include technical training and training on oil palm plantation management. It differs from partnership with plasma core smallholders, where the FFBs are sold to Asian Agri, which encourages Asian Agri to ensure that the plasma smallholders maintains high productivity and high quality FFBs. Meanwhile, there is no coercion for the independent smallholders to sell the yield from their oil palm plantation to the company. Nevertheless, through the training, the overall quality and productivity of the independent smallholders’ oil palm plantation, located near Asian Agri’s estate, will improve in general. Ultimately, the training provided by Asian Agri is not only beneficial to the independent smallholders, but also to the company.

3. Production Facility

The third production factor is production facility such as seeds, fertilizer, plant protection substance, equipment and machinery. So far, oil palm smallholders find difficulty in obtaining such production facilities. Meanwhile, they play a significant role in the productivity of an oil palm plantation. Various findings in field survey show that smallholders face difficulty in obtaining high quality seeds. When they begin planting, they have no option but to plant low quality seeds. The lack of access to high quality seeds results in low productivity of the oil palm plantation managed by smallholders. Oil palm plantation that use low quality seeds only produce 9.6 tons per

Developing Smallholder Partnerships | 43

hectare in one year. Meanwhile, high quality seeds such as Topaz can generate 21 tons per hectare of FFBs in one year.

Limited access to high quality seeds for smallholders is a serious problem considering the effect of seed on oil palm productivity and its long-term utilization considering that oil palm’s average lifespan of 30 years. It differs from seasonal commodities where improper seed utilization will not result in long-term adverse impact.

In addition to seeds, the availability of high quality fertilizer is also a serious issue for smallholders. Several oil palm smallholders expressed their concern about the limited availability of high quality fertilizer. Provided with those limited options, palm oil processing is not optimal and eventually leads to poor productivity.

Various obstacles encountered by the smallholders in obtaining production facilities can be solved with the development of a good partnership between smallholders and the company. Under the partnership with Asian Agri, the smallholders will be supplied with various production facilities, especially fertilizer, from the company. In addition to the supply of various production facilities, the smallholders that have joined the cooperative can also apply for credit for fertilizers and other production facilities to alleviate the financial burden that must be borne by smallholders must bear for production facilities.

4. Capital

The last production factor that often results in low productivity is limited capital. To date, smallholders still experience difficulty in obtaining financing. Several contributing factors to limited access to financial institutions for smallholders include limited knowledge about credit schemes, time consuming and complicated credit

44 | Developing Smallholder Partnerships

process, collateral problems, and the absence of formal financial institutions around the smallholders’ residences. As a result, smallholders often prefer to borrow money from community members who hold disposable money such as middlemen under the condition that the debt is settled by selling the smallholders’ products to the middleman. In a publication issued by BPS, only 10 percent of smallholders successfully obtain capital. However, oil palm smallholders’ access to financing from a formal financial institution is shown to be quite promising as 68 percent of smallholders are able to obtain financing from the bank. That number is considered high compared to other agricultural commodities such as cocoa, in which only 25.6 percent of smallholders receive financing from a bank.

Image 2.1. Oil Palm Smallholders’Sources of Funding

6%

Image 2.2. Oil Palm Smallholders’ Sources of Loan

3%

4%

7% 9% 8%

68%

3% 2%

90% Out-of-pocket Costs

Bank

Loan with interest

BPR

Loan without interest

Other Financial Institutions Cooperatives

Source: Agricultural Household Census (2013)

Agricultural Companies Individuals Others

Developing Smallholder Partnerships | 45

The partnership between smallholders and Asian Agri is one of the factors that encourages smallholders to obtain financing in addition to self funding. Even though the credit provided directly by the company to the partner smallholders is relatively low considering it is not the core business of the company, Asian Agri has been actively involved in connecting smallholders with formal financial institutions, especially banks, through cooperatives.

5. Mentoring

Aside from the production-related factors, there are additional factors to Asian Agri’s success in building a partnership with smallholders, including proactive mentoring.

Interviews with several smallholders of Asian Agri, both independent and plasma smallholders, found that the presence of a field mentor in a partnership is vital. They spearhead the communication between smallholders and the company. A mentor also represents Asian Agri’s strong commitment to cooperating with smallholders. Such mentoring creates social interrelation between smallholders and the company to minimize information

46 | Developing Smallholder Partnerships

imbalance and misunderstanding. Active mentoring also enhances smallholders’ trust in Asian Agri, resulting in a better learning process.

6. Prompt Payment of FFBs

Price is a fundamental incentive in the partnership between smallholders and the company. Plasma smallholders understand that the company is not in full control of the pricing mechanism.

The Governor has established a FFBs Pricing Team that consists of the government, smallholders and palm oil companies.¹ According to smallholders, partnership with Asian Agri provides them with the advantage of prompt FFBs payment. Certainty in FFBs payment gives assurance to smallholders about the purchase of their yields. Such prompt payment also indirectly reflects Asian Agri’s commitment to developing partnership with smallholders.

Asian Agri’s FFBs supply data shows that plasma and independent smallholders are vital in the palm oil industry’s chain of sustainability. Fifty percent of Asian Agri’s FFBs supply is sourced from smallholders. Kelvin Tio, Managing Director of Asian Agri, in an interview with Sawit Indonesia March 15-April 15, 2016 edition states that the smallholders partnership program is a part of Asian Agri’s business model.

¹Regulation of the Minister of Agriculture No. 14/Permentan/0T.140/2/2013 concerning Guidelines on Fixed Purchase Price of Fresh Fruit Bunches (FFBs) of the Palm Oil Yields of Smallholders.

Developing Smallholder Partnerships | 47

CHAPTER 3

PARTNERSHIP AND SUSTAINABLE AGRICULTURAL PRACTICES 3.1. Sustainable Partnership His strong spirit and poor economic condition forced young Zulkifli to step out of Padang Sidempuan in South Tapanuli, North Sumatra. Although leaving his hometown and his extended family was difficult, he refused to look back. His mind was made up to leave for a better future.

He had vast experience as a daily worker in other people’s plantations and he was determined to strive for a better life. Until one day, young Zulkifli entered Tungkal Ulu, Jambi and found his soulmate in a local girl.

He’s been through a lot, from waiting for oil palm trees to grow, picking fresh fruit bunches (FFBs) to saving money to fulfill the needs of his three beloved children. “We had a lot of help from PT Inti Indosawit Subur in starting the oil palm plantation, which started with 2 Ha,” said the man who is now known as Haji Zulkifli Sihombing, mentioning one of Asian Agri’s subsidiaries.

48 | Developing Smallholder Partnerships

“The distance between our plantation and our house was quite far. It took around 3-4 hours by foot. If we were lucky enough to pass by a company’s vehicle, we could ask for a ride and arrive sooner,” said H. Zulkifli. In those days, he continued, he had to earn extra money by selling instant noodles cooked by his wife for the company’s employees around the estate.

Both of his daughters are now working, married, and independent. Zulkifly has high hopes that his son, who graduated in Malaysia and is now working in Jakarta, will one day continue his business in the palm oil sector.

Zulkifli expressed his life principle, “If we are successful, enjoying it alone is no use. We have to help others achieve success!”

It is not an empty promise. His workers, who are helping him manage his 50-Ha plantation, are given the opportunity to improve their lives by becoming an estate owner. How? His workers are asked to save their income every month.

When the money collected is enough to buy one lot or about 2 Ha of oil palm plantation, Zulkifli will help them acquire a plantation and manage it depending on their turn. “This means that we help other people grow and seize the future as a landowner.”

Haji Zulkifli is one of the smallholders sharing their stories among the 29,000 partner smallholders of Asian Agri, a palm oil company established by Sukanto Tanoto. Unlike other agricultural entrepreneurs, Zulkifli who owns a motorcycle, a car and four carrier trucks, remains modest.

Developing Smallholder Partnerships| 49

“My happiness is when other people enjoy the yields from my oil palm plantation. This afternoon, we are having estate-style menu for lunch, including roasted chicken, cassava leaves, jengkol, and coconut orange.

What else do we need?” said H. Zulkifli (left).

3.2. Knowledge Transfer in Partnership

Knowledge transfer in a partnership is not limited to just one way from Asian Agri to smallholders. Beyond that, smallholders who have successfully developed oil palm plantation also transfer their knowledge to their workers in the hope that they will grow together. The story of one of Asian Agri’s partners (Haji Zulkifli) in the previous sub-chapter clearly depicts the knowledge and experience transfer between smallholders and their workers.

50 | Developing Smallholder Partnerships

One of the main advantages of a partnership for palm oil companies and smallholders is the transfer of knowledge on how to properly manage an oil palm plantation. If this knowledge transfer can be done, both the company and the smallholders benefit and the oil palm plantation will be sustained in the long run.

From the discussion and interviews with the smallholders, both plasma and independent smallholders, in Riau, Jambi, and North Sumatra, all agree that one of their motivations to engage in partnership with the company is knowledge transfer. The instrument used by companies to transfer the proper method of oil palm planting varies. At Asian Agri, knowledge transfer is carried out through mentoring, training, counseling and comparative studies for smallholders.

With the mentor proactively striving to raise awareness on the proper palm oil management among the smallholders, a shift in the smallholders’ mindset and behavior will occur in oil palm cultivation. A simple example is how the smallholders comply with the rules of ripe fruit and abandon the slash and burn practice in palm oil cultivation.

However, the change in the smallholders’ mindset through this partnership smallholder was not instantaneous. To ensure compliance with and trust in the training and counseling carried out by the company, the company must first develop credibility.

Without strong trust and social capital, it is difficult for the smallholders to abandon instantaneous oil palm planting practices.

Fortunately, Asian Agri’s credibility in the partnership with smallholders has always been maintained. Almost every oil palm smallholder interviewed on their impression of and experience in

Developing Smallholder Partnerships| 51

the partnership with Asian Agri stated that the company always pays in a timely manner. The company has never been late in FFBs payment to the smallholders in partnership with Asian Agri, both plasma and independent smallholders. Apparently, smallholders also search for information on the palm oil companies’ credibility concerning partnership with smallholders and the prompt payment indirectly shows Asian Agri’s commitment to the partnership with smallholders.

Another example in relation to knowledge transfer is oil palm fertilization. The partner smallholders’ ability to acquire fertilizer promptly and in the correct amount generates a positive impression on the sustainability of the partnership program in the long run.

Guaranteed fertilizer quality and availability when needed have given the smallholders in partnership with Asian Agri assurance when fertilizing time comes. This is highly understandable as smallholders outside the partnership program occasionally find counterfeit fertilizers and face scarcity at times of need.

Further, the fertilization issue is not limited to the aspects of quality, availability and continuity only. Procedure, type, and dosage of fertilizers also matter. Through the field mentors who actively assist the oil palm smallholders, good knowledge transfer occurs on fertilization by smallholders in accordance with the company’s directions. Usually, the mentor is the first person to ask for any question on fertilization as well as pest handling procedures.

52 | Developing Smallholder Partnerships

3.3. Fire Free Villages

Sustainable farming practices also relate to the behavior concerning land and forest fires prevention. Through the partnership established by Asian Agri, the company has initiated the Fire Free Villages program. It began with the establishment of the Fire Awareness Community program in 2014. The objective is to mentor villagers to raise awareness on the danger of land fire through mentoring, training, and the establishment of a village team as part of the Fire Awareness Community. In this program, Asian Agri socialized fire issues to the community and donated infrastructures and facilities to handle fire.2 In its development, Asian Agri launched a more comprehensive program called the Fire Free Villages program. The program, which adopts the program of the Fire Awareness Community, was implemented more comprehensively in 2016, when Asian Agri established partnerships with 10 villages. Technically, in each village there are approximately 10–20 people trained to be firefighters equipped with the proper firefighting gear.

2

Sourced from the interview with Kelvin Tio, Managing Director of Asian Agri, Sawit

Indonesia Magazine, March 15-April 15, 2016, page 22-25.

Developing Smallholder Partnerships| 53

Oil palm land and crops are the main assets of smallholders as well as the company. Therefore, the company uses the approach of prevention in dealing with fire hazard. Through cooperation with the communities around the estate and preparedness in the implementation, fire prevention will be more effective.

3.4. Generating Electricity Using Biogas

Further initiative from Asian Agri in the sustainable palm oil practices is the construction of Biogas Power Plants (PLTBG). The waste from palm oil processing at the mill is used as renewable green energy through the establishment of PLTBG as part of Asian Agri’s commitment to environmental preservation.

On January 24, 2016, Asian Agri inaugurated the 5th PLTBG in Ukui, Riau Province. The capacity of this PLTBG is 2 Mega Watt (MW) with an investment value of US$4.7 million per unit. Asian Agri is planning to build 20 other PLTBGs by 2020. The construction of this biogas power plant aims to process the liquid waste Palm Oil Mill Effluent (POME) into electricity, which will be used to power the operations, public facilities, and special facilities of the company.

54 | Developing Smallholder Partnerships

Other than internal purposes, the electricity generated will also be distributed to the communities around the plant. In detail, the required electricity for the palm oil mill is approximately 700 kilowatt, resulting in excess power of 1.3 MW. If one household requires 900 watts, the excess power can power more than 700 households.3 Should the planned 20 PLBTGs be realized, around 28,000 houses can utilize the power from this palm oil waste.

3

Summarized from the interview of Freddy Widjaya – General Manager

of Asian Agri with Kompas.com on January 24, 2016 and August 28, 2016

Developing Smallholder Partnerships| 55

CHAPTER 4

PARTNERSHIP IN PALM OIL BUSINESS: A LEARNING MODEL

4.1 Palm Oil Partnership and National Development

In addition to being beneficial to oil palm smallholders, there are other reasons why partnership between smallholders and agricultural companies must be supported. These include the fact that partnership does not only benefit smallholders, but also the company’s estate. According to Williamson (1985), the selection of the suitable institution to reduce transaction cost as mentioned above is highly dependent on three dimensions, which are asset specifications indicating the extent to which an asset is bound to a transaction so that it cannot be used by other users, uncertainty explaining the limited ability to list all events in the future, and frequency explaining that regular transactions by any party would lead to the establishment of routines and mutual understanding that will reduce the need to establish an enforcement mechanism.

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Referring to the three dimensions above, it can be stated that the palm oil business faces high asset specifications, frequency, and uncertainty. Explanation on the three dimensions are as follows: 1. High asset specifications can be seen from the long oil palm planting period of up to 20 years. Therefore, the asset specifications of the palm oil business is high, meaning that once you invest assets in a palm oil business, transferring the assets in a short period of time is difficult. Moreover, the planting period of oil palm is very long and as such, long-term contracts are required.

2. The frequency of transactions between smallholders and palm oil companies is very high to ensure sufficient FFBs supply to avoid idle CPO mill.

3. Uncertainty

is

inevitable

in

a

natural-resources-related

business, especially in the agriculture sector. The factor of nature is vital in shaping the development of the agriculture sector. In some cases, severe climate change events such as El Nino in 2015 or pest invasion greatly affect palm oil productivity. Therefore, palm oil businesses face high levels of uncertainty.

Based on the explanation on the three dimensions above, the efficient option for palm oil companies in transacting with smallholders is partnership. Meanwhile, the market transaction option is highly risky for the sustainability of palm oil businesses.

The

partnership

between

both

plasma

smallholders

and

independent smallholders with Asian Agri is a form of hybrid institutionalization in which the two actors in the transaction are bound by long term contracts while maintaining their independence.

Developing Smallholder Partnerships | 57

Institutionalization in the form of partnership is an efficient institutionalization model for two reasons. First, companies are guaranteed supplies from smallholders engaging in partnership.

It is even more crucial considering the scarcity of land for palm oil cultivation and the government policy on palm oil land clearing moratorium. With high demand for CPO production, the partnership with smallholders is the most efficient and profitable option for the company. Second, by keeping the transaction outside the company, Asian Agri does not have to incur considerable employment agency fees. Under the partnership model, the relationship between smallholders and Asian Agri is much more flexible and thus more efficient than the relationship between employers and employees, which is more rigid due to various employment regulations. As such, the partnership between smallholders and Asian Agri is not a matter of moral obligation of the company. Beyond that, the partnership ensures that the business of agribusiness companies can be performed sustainably in the long run.

4.2. National Development Context

The

partnership

between

smallholders

and

agricultural

companies has long been implemented in Indonesia. It began with the smallholder transmigrants in the New Order era where transmigrants became plasma smallholders in the company’s estate and established partnership. In its journey, the partnership program that has been ongoing for years is considered successful as an institutional solution that can accommodate the interests of both smallholders and agricultural companies. Therefore, it is not surprising that palm oil partnership is hoped to be a model to be duplicated for other agricultural commodities.

58 | Developing Smallholder Partnerships

Within the regulatory framework, the partnership program is mandatory for agricultural companies. Law No. 39 of 2014 on Agriculture states that for the empowerment of agricultural businesses, agricultural companies establish a mutually beneficial, mutually respectful, mutually responsible, as well as mutually supportive and mutually dependent agricultural partnership with smallholders, employees, and the surrounding communities.

In that context, an agricultural company with an agriculture business license or an agriculture business permit for cultivation must facilitate the development of the surrounding communities’ plantations by of at least 20 percent of the total estate cultivated by the company. Therefore, partnership between smallholders and agricultural companies is inseparable from the agricultural business as it is regulated in the Agriculture Law. However, in practice, there are still a number of critics on the implementation of the partnership program. Many people feel that the partnership program is detrimental to oil palm smallholders due to their low bargaining power in negotiations with agricultural companies, leaving them with a partnership scheme that puts them at a disadvantage. In some cases, the relationship between the company and plasma smallholders is so bad that it leads to a physical conflict that ultimately harms the interests of the company, plasma smallholders, and national interest to boost palm oil as a flagship commodity.

Therefore, an analysis of the factors affecting the success of an oil palm partnership model is needed to enable the duplication of the model in partnerships of oil palm smallholder not only with agricultural companies, but also with smallholders and companies in other agricultural commodities.

Developing Smallholder Partnerships | 59

4.3. Lessons from the Dynamics of the Partnership between Smallholders and Asian Agri

The partnership between smallholders and Asian Agri does not only improve the access of smallholders to different production factors to enhance productivity and welfare, but also has positive impacts on Asian Agri as a company of certainty and increased supply of FFBs without estate expansion. Nonetheless, the various positive impacts of the partnership between smallholders and Asian Agri were not generated automatically. The relationship between partner smallholders and Asian Agri was built over the years through the dynamics of the relationship. The various dynamics emerging from the partnership will certainly affect the success of the partnership between smallholders and a palm oil core company. In this context, the experience and dynamics in Asian Agri’s efforts to build partnership with oil palm smallholders are important examples that can serve as a model in developing partnership both on palm oil and other agricultural commodities.

In the case of Asian Agri’s partnership with smallholders, based on field investigations, there are three factors that allow smallholders for the generation of positive impact for Asian Agri as well as partner smallholders. The three factors are the existence of social capital, strong institutionalization of smallholders, and the collective action of the smallholders community. More detailed explanation of the three factors is as follows.

1. Social Capital

The first factor affecting the success of the partnership between smallholders and Asian Agri is the existence of social capital in the relationship between the two actors. The main elements of

60 | Developing Smallholder Partnerships

the concept of social capital are: mutual trust, reciprocity, mutual respect and mutual tolerance, collective identity, sense of shared future, and working together.

Social capital in a community affects the community positively.

With great social capital, the community will work together to solve any problems that arise. Moreover, great social capital allows for more efficient economic activities. Great social capital combined with mutual trust, mutual cooperation, and collective identity will remove the need for various transaction costs such as contract formulation and monitoring costs. In some cases, contract and monitoring costs are no longer relevant in a transaction and cooperation between two actors because both of them adhere to the agreement and refrain from any moral hazard and adverse selection. Conversely, low social capital will lead to high transaction cost because the actors involved in the transaction have to formulate a complicated contract with high formulation and monitoring costs to prevent both actors from taking opportunistic actions such as moral hazard or adverse selection.

Based on the field observation, there is a strong social capital between partner smallholders, both plasma smallholders and independent smallholders, and Asian Agri. In an interview with one of the independent farmers in Petapahan Village, Kampar Regency, Riau Province, the independent smallholder conveyed that the relationship between the independent smallholder and Asian Agri is based on the trust that they have built over the years.

Although every partnership between independent smallholders and Asian Agri commences with the signing of a memorandum of understanding that serves as a contract for both parties, for

Developing Smallholder Partnerships | 61

the independent smallholders and Asian Agri, the trust between them is far more important than the contract. With a sense of trust, both parties will choose to execute the agreement made rather than violate the agreement and cause the termination of the relationship that has been established over the years. It also shows that informal institutions with the informal sanction of being ostracized from the community for violation are much more feared compared to the formal sanctions listed in the contract between both parties.

The high social capital between partner smallholders and Asian Agri was not forged overnight, but rather in a dynamic long process. For partner smallholders, they trust Asian Agri based on a number of reasons. The first reason is the various facilities enjoyed by the smallholders to obtain production factors such as seeds, fertilizers, and pesticides as well as the necessary training on oil palm cultivation. Damanik has experienced the great care of Asian Agri, from providing supervision and monitoring for the oil palm plants in the independent estates to FFBs production.

The supervision and assistance were given by a special team that consists of a group manager, a manager, and an assistant manager. The team is responsible to coach Asian Agri’s partner smallholders.

For

independent

smallholders

like

Damanik,

trust stems from the prioritization of independent smallholders partnering with Asian Agri in selling FFBs to the processing mill located in the company’s estate, which gives them assurance that yield from their plantation will be absorbed by the processing mill.

The second reason is the approach of the Asian Agri’s team, which prioritizes kinship. This gives the partner smallholders a sense of belonging as an inseparable part of the palm oil

62 | Developing Smallholder Partnerships

business ecosystem. With the existence of strong social capital in the relationship between independent smallholders in Riau with Asian Agri, Damanik prefers to call the relationship between independent smallholders and the company a kinship rather than partnership.

The third reason is the transparency of FFB prices at the mill.

It is undeniable that the price set by the mill fluctuates depending on the prices of CPO in the international market. However, the transparency in weighing and pricing at the mill successfully maintains the trust of independent smallholders in Asian Agri.

Trust in the selling process is crucial because in some cases, issues in FFBs sales to the mill become the main problem of a partnership.

2. Smallholder Institutionalization

The next factor affecting the success of the partnership between smallholders and Asian Agri is smallholder institutionalization.

The institutionalization of smallholders can be interpreted as formal and informal smallholders association that gathers smallholders to achieve a shared goal. The smallest scale smallholders institutionalization is a smallholders group under an informal institution. Meanwhile, the broadest smallholders institutionalization is a cooperative, which is a formal institution consisting of a number of a smallholders group (Gapoktan). Based on the field survey results, strong smallholders institutionalization improves and maintains the partnership in the long run.

In

general,

smallholder

institutionalization

affects

the

smallholders’ business by solving various problems that emerge when smallholders are not incorporated into an institution. Among

Developing Smallholder Partnerships | 63

the problems that arise are the inability to expand on the economic scale, low market and bargaining power, as well as difficulty in obtaining production factors especially capital. Smallholders institutionalizations benefit smallholders with greater economic scale since cooperatives economically combine all members without diminishing the independence of each member, serve as a smallholders network to gain mutual support, increase bargaining power to negotiate, increase access to a number of resources and services, improve access to the market and access to capital for smallholders.

In the context of partnership between smallholders and agribusiness companies, successful partnerships tend to involve strong smallholder institutionalization. The vital smallholders institution in the partnership between smallholders and Asian Agri is the smallholders group (Gapoktan), which helps partner smallholders avoid the risks that can disrupt its palm oil cultivation.

In a small palm oil business, there are a number of risks for smallholders in a partnership such as the lack of knowledge that results in the lack of clarity on the matters regulated in the contract leading to contract violation. The recurring problem will result in mutual distrust between partner smallholders and the company, which will ultimately disrupt the operations of the palm oil business.

Moreover, Gapoktan is believed to improve the implementation of the partnership and garner positive impact on smallholders.

The benefits of strong institutionalization for partner smallholders include better bargaining power for the smallholders as well as an intermediary to access rural credit. In addition, the Gapoktan also facilitates a forum where smallholders can express their

64 | Developing Smallholder Partnerships

concerns and seek solutions to the various problems they are facing. Therefore, Gapoktan is a part of the collective action to solve various problems that arise. If the smallholder institutionalization is strong, the potential positive impact of the partnership between smallholders and the company can be achieved. This will ultimately satisfy the smallholders concerning the implementation of the partnership, allowing the partnership to be maintained and continued.

The benefit of a strong Gapoktan to the partnership is not only felt by the smallholders, but also the agricultural company.

With a strong institutionalization, the company can reduce the transaction cost because the company only incurs the costs of discovery, contract formulation, and supervision to one Gapoktan unit consisting of dozens of smallholders. Meanwhile, if the smallholders institutionalization is not strong, the transaction cost will be higher as smallholders have to do separate transactions with each smallholder. Moreover, strong institutionalization will also improve the relationship between smallholders and the company due to the more frequent communication with the smallholder institution allowing for the social capital to be developed quickly.

Another smallholders institution apart from Gapoktan is the smallholder association (KUD). KUD is a formal smallholder institution in the form of a legal entity. The role of KUD is not only to enhance their bargaining power or to serve as a discussion forum for the smallholders like Gapoktan, but also to perform any economic and social activities to improve the welfare of its members.

An example of an established smallholders institution that already brings positive impact to its members is the Barokah Smallholders Association (KUD) in Jambi Province. KUD Barokah Developing Smallholder Partnerships | 65

is under professional administration by professionally recruited committee members who receive income as compensation for their tasks in the KUD. In addition to being professionally managed, KUD Barokah also implements democratic practices in which the KUD committee members are selected through voting to ensure the equal right of every member to be involved in the selection.

Moreover, as a manifestation of their participatory principle, members are involved in information updates and decisionmaking process of the KUD. Such activities are implemented to make sure no member feels left out of any KUD decisions and activities.

[image]

KUD

Barokah

also

implements

the

accountability

and

transparency principles by asking an independent auditor to audit its operations and finances. For the committee members of the KUD, such audit is not mere formality to obtain facilities from the government, but also an instrument to strengthen the relationship and trust between the committee and the members.

The committee of the KUD believes that such strong relationship is essential, especially for plasma smallholders KUD considering 66 | Developing Smallholder Partnerships

that plasma smallholders come from all over Indonesia with different cultures, languages, and customs. The transparency and accountability will help to mitigate any potential conflict between the committee and the members. Until today, there has been no significant conflict between the committee and members of KUD Barokah due to the accountability in its management.

In its implementation, KUD offers many facilities and benefits to its members. The first facility is capital to invest in or buy production factors such as fertilizer. The second facility is training including on-farm trainings on fertilization and off-farm trainings through comparative study on estates that have integrated cattle farming and oil palm estates. The smallholders gain vast knowledge from the comparative study on businesses that can be explored by the oil palm smallholders during the rejuvenation period or during the planting period as part of the diversification efforts of oil palm smallholders.

However, the KUD and Gapoktan face several challenges in maintaining the strength and longevity of smallholders institutionalization. The first challenge is managing internal conflict within the institution. Transparency among members is key to manage internal conflicts in the KUD. A number of measures have been taken by the KUD committee to mitigate internal conflict such as financial audit and summons of meetings on any information update or decision-making.

The second challenge is management capacity enhancement.

Despite the development of the KUD, it must enhance its capacity to improve management. In response to such a challenge, the KUD committee has stated that they are developing cooperation with other institutions, especially with Asian Agri, to obtain trainings to enhance the KUD’s management capacity.

Developing Smallholder Partnerships | 67

The third challenge is environmental changes that force the smallholders institution to adapt constantly. The agricultural business

is

highly

dependent

on

the

environment.

Any

environmental changes could affect productivity, which ultimately would affect palm oil prices. Therefore, it is no surprise that the FFBs prices are highly fluctuative. For the KUD committee, the biggest challenge in such conditions is to maintain the income of its members. The KUD with Asian Agri organizes many trainings and workshops on business diversification for its members.

Ultimately, a good smallholders institution, through Gapoktan or KUD, improves the partnership between smallholders and agricultural companies and positively impacts the smallholders economy and the business sustainability of the oil palm plantation.

3. Collective Action

The third factor that affects the effectiveness of the partnership between smallholders and the company is collective action of community groups. Collective action helps the community solve any problem together. A collective action in and of itself can be defined as any form of action taken together as a community or society in their collective interest. The partnership between oil palm smallholders and Asian Agri shows that collective action is one of the important aspects in ensuring the success of oil palm partnership in addition to social capital and institutionalization.

The reality on the field shows that most smallholders, especially independent smallholders, are facing restrictions in managing their plantations. Apart from different starting points, with many oil palm smallholders using low quality seeds, the location of independent smallholders that are outside the plasma and company’s estate is one of the problems in building

68 | Developing Smallholder Partnerships

partnerships with the palm oil company. This results in challenges in the implementation of the partnership program. For example, smallholders in Gonting Malaha Village, Bandar Pulau Regency, North Sumatra live miles away from the core estate, which takes a long time to reach. In Negeri Lama Village, Labuhan Batu Regency, North Sumatra, independent smallholders live adjacent to Asian Agri’s estate so that the distance is relatively short. However, the heavily damaged road limits the access for the oil palm smallholders to reach the company as well as to other areas. Thus, ineffectiveness from infrastructure problems is another challenge for the development of the partnership program. The situation ultimately affects the smallholders’ trust in the partnership model since their high expectations cannot be fulfilled. However, the Negeri Lama case is a good example where the collective action of the surrounding communities to build a public road solves a key problem faced by the independent smallholders. Such collective action contributes to the successful partnership between the independent smallholders and Asian Agri until today.

[image]

Developing Smallholder Partnerships | 69

A few years ago, the main road of Negeri Lama was severely damaged; it took hours just to travel four kilometers. As a result, logistics costs rose significantly, eventually resulting in higher costs for a number of basic necessities and palm production facilities. It hindered the economic activities of the people including in the context of partnerships with Asian Agri.

To solve the issue of the damaged roads, the oil palm smallholders in the area collectively built the road. Since the smallholders had limited capital to build a proper road, the smallholders collectively started a charity where oil palm smallholders reserve some of their FFBs revenue for the construction of public infrastructure, in this case the main road.

In 2011, construction of the village road that connects Negeri Lama Village and the Asian Agri estate and the surrounding areas began.

Since its construction in 2011, the access through the main road has had a significant impact on the community’s economy.

The first impact is the cheaper logistics cost for FFBs sales. Before, the smallholders had to cross the river to sell the FFBs due to the lack of road and bridges. Now, they can pass through the road with lower cost and shorter travel time. The shorter travel time also affected the price of the FFBs received by the mill as explained by Jumadi, who has been an oil palm smallholder since 1998. He said that the main road triggered economic activities in the village as FFBs prices for palm mills increased and the transportation of FFBs to the mills became easier.

Another smallholder took advantage of the quality of the main road. Misdar opened a convenience store since many transport trucks pass the village now. For Misdar, the convenience store does

70 | Developing Smallholder Partnerships

not only generate financial benefits especially during plantation replanting, but also generates social benefit as the smallholders can socialize and bond at the store.

Collective action is key in solving various problems to ensure the proper implementation of the partnership. In the Negeri Lama case, collective action takes form in the smallholders’ initiative to rebuild public roads in their collective interest. Collective action is not limited to public infrastructure repair, but can also be applied to other cases, including collectively maintaining the estates to prevent fire in the dry season.

However, collective action can’t just emerge automatically in a community. Strong social capital in a community usually generates strong collective action automatically. However, that doesn’t usually happen in diverse communities that consist of people from across Indonesia. Agricultural companies, in this case Asian Agri, play an important role to mediate collective action in oil palm smallholders group. In the case of the collective rebuilding of the main road above, Asian Agri facilitated such collective action.

Developing Smallholder Partnerships | 71

The first facility was building an Independent Smallholders Meeting Center together with the community to facilitate the smallholders in making decisions or resolving conflicts. The second facility is the provision of a payment mechanism for the road construction in the village. Though oil palm smallholders contributed to the village road construction through palm oil charity, Asian Agri assisted with the provision of fundraising mechanism and the initiation of village road construction beforehand.

Collective action is essential to solve the problems faced by oil palm smallholders, which leads to positive impact for the sustainability of the partnership. The company’s important role in facilitating a collective action cannot be negated. Therefore, close attention from palm oil companies in developing the collective action of oil palm smallholders is required to guide them in gaining the ability to solve their problems independently.

72 | Developing Smallholder Partnerships

Developing Smallholder Partnerships | 73

CHAPTER 5

CONCLUSION: KEYS TO PARTNERSHIP DEVELOPMENT

The great contribution of palm oil as a commodity to Indonesia’s economy today did not happen overnight. It required a long process to grow palm oil into one of the leading sectors in Indonesia. Such long process includes the success of plasma core partnerships in oil palm plantations, which allows both industry and smallholders to enjoy the robust palm oil business today.

The success of the partnership allows oil palm plantations to become a strategic part of the effort to create employment opportunities and improve smallholders’ welfare, in addition to other benefits such as foreign exchange generation, even distribution of regional development, and state revenue.

Solid collaboration between entrepreneurs and oil palm smallholders under the partnership has driven the growth of this sector in terms of productivity and sustainability, along with the

74 | Developing Smallholder Partnerships

knowledge transfer in relation to oil palm cultivation in a proper, standardized, and sustainable manner. Ultimately, smallholders’ welfare will be improved and the sustainable supply of high quality palm oil will be maintained as collaboration under the framework of partnership develops.

The cooperation dynamics in a plasma partnership scheme is inseparable from the economic fluctuation in Indonesia so far. However, the smallholder partnership concept in oil palm plantation has been beneficial in various economic conditions.

This has proven that the partnership cooperation has succeeded in withstanding economic fluctuation.

It is not an exaggeration to say that partnership in oil palm plantation is the right cooperation model for the agriculture sector. Therefore, the success stories of smallholder partnerships in the Asian Agri’s oil palm estate must be shared not just to other palm oil companies, but also to other strategic commodities for their development. This partnership model of Asian Agri can be replicated as an alternative to revive Indonesia’s agriculture sector. In short, partnership can be a way to reaffirm Indonesia’s reputation as an Agrarian Nation internationally.

Another urgency in sharing the partnership model of Asian Agri is to inspire smallholders and policy-makers to support the partnership development concept in the management of Indonesia’s biodiversity.

From the partnership model between smallholders and Asian Agri that have been elaborated in several chapters of this book, there are at least three main factors enabling partnerships to generate positive impact for the industry or smallholder partners,

Developing Smallholder Partnerships | 75

which are social capital, strong institutionalization of smallholders, and collective action in smallholder communities.

The great social capital is obvious when talking to Asian Agri’s partner smallholders. In an interview with one of the independent farmers in Petapahan Village, Kampar Regency, Riau Province, the independent smallholder conveyed that the relationship between the independent smallholder and Asian Agri is based on the trust that they have built over the years. Although every partnership between independent smallholders and Asian Agri commences with the signing of a memorandum of understanding that serves as a contract for both parties, for the independent smallholders and Asian Agri, the trust between them is far more important than the contract.

The next factor affecting the success of the partnership between smallholders and Asian Agri is smallholder institutionalization. The institutionalization of smallholders can be interpreted as formal and informal smallholders association, gathering smallholders to achieve the goal that has been set together. In the smallest scale, smallholders institutionalization is a smallholders group under an informal institution. The broadest smallholders institutionalization is a cooperative where it is a formal institution consisting of a number of a smallholders group (Gapoktan). Based on the results of the field survey, strong Smallholders institutionalization improves and maintains the partnership in the long run.

The third factor that affects the effectiveness of the partnership between smallholders and the company is collective action of community groups. Collective action helps the community solve any problem collectively. The partnership between oil palm

76 | Developing Smallholder Partnerships

smallholders and Asian Agri shows that collective action is one of the important aspects in ensuring the success of palm oil partnership in addition to social capital and institutionalization.

Ultimately, Indonesia’s palm oil advantages must be maintained and preserved. To ensure that palm oil in Indonesia benefits smallholders, palm oil companies, and all economic actors involved, the effort to develop partnership can be a solution.

Developing Smallholder Partnerships | 77

BIBLIOGRAPHY Badan Penelitian dan Pengembangan Pertanian, Kementerian Pertanian. (2007). Nilai Tambah Produk Olahan Sawit. Jakarta Badan Pusat Statistik. (2013). Survei Rumah Tangga Pertanian.

Jakarta ______. (2015). Produksi Sawit Berdasarkan Provinsi. Jakarta ______. (2016). Penyerapan Tenaga Kerja di Sektor Ekonomi. ______. (2016). Perkembangan Ekspor Sawit. Jakarta ______. (2016). Statistik Ekonomi dan Sosial. Jakarta Badrun, Muhammad. (2010). Tonggak Perubahan: Melalui PIR Kelapa Sawit Membangun Negeri. Jakarta: Direktorat Jendral Perkebunan-Kementerian Pertanian.

Bank Indonesia. (2016). Ekspor Komoditas Indonesia. Jakarta _______. (2016). Komposisi Ekspor Indonesia 2015. Jakarta Coase, R. H. (1937). The nature of the firm. Economica, 4(16), 386- 405.

Direktorat Jenderal Pajak. (2015). Jenis dan Objek Pajak yang Dikenakan Kepada Usaha Sawit. Jakarta Direktorat Jenderal Perkebunan. (2015). Bea Keluar Sawit dan Kakao. Jakarta Direktorat Jenderal Perkebunan. (2015). Luas Areal Pekebun Rakyat. Jakarta Direktorat Jenderal Perkebunan. (2015). Porsi Luas Perkebunan Sawit Berdasarkan Jenis Usaha. Jakarta

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Eaton, C., & Shepherd, A. (2001). Contract farming: partnerships for growth (No. 145). Food & Agriculture Org. Groenewegen, J., Spithoven, A. H. G. M., & Van den Berg, A. (2010). Institutional economics: An introduction. London: Palgrave Macmillan. (Schmitt, 1993) Hansmann, H., & Hansmann, H. (1996). The ownership of enterprise. Harvard University Press.

Kementerian Perindustrian. (2011). Produk Olahan Komoditas Sawit. Jakarta Kementerian Pertanian. (2013). Pedoman Penetapan Harga Pembelian Tandan Buah Segar Kelapa Sawit Produksi Pekebun (Peraturan Menteri Pertanian No. 4/Permentan/OT.140/2/2013).

Kompas.com. (2016, Agustus 28). Wawancara Freddy Widjaya – General Manager Asian Agri. Kompas.com.

Majalah Sawit Indonesia. (2016, Maret 15 – April 15). Wawancara Kelvin Tio – Managing Director Asian Agri. Majalah Sawit Indonesia, 22-25.

Oxfam. (2014). Pangsa Produksi dan Ekspor Minyak Sawit Dunia.

Jakarta Sartorius, K., & Kirsten, J. (2007). A framework to facilitate institutional arrangements for smallholder supply in developing countries: An agribusiness perspective. Food Policy, 32(5), 640655. (Vorley et al., 2008) Vermeulen, S., & Cotula, L. (2010). Making the most of agricultural investment: A survey of business models that provide opportunities for smallholders. Iied.

Williamson, O. E. (1985). The economic institutions of capitalism.

Simon and Schuster.

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CURRICULUM VITAE OF THE AUTHORS

Dr. Mohamad Fadhil Hasan has an experience of more than thirty years in economic policy research and consultation, particularly in macro economy, industry, agriculture and public policy both in the government and private. Currently, he serves as Corporate Affairs Director in Asian Agri. Fadhil Hasan is also Chairman of and

Supervisory Member

Board

of

of

National

Bank

Indonesia

Economic

and

(BSBI) Industry

Committee (KEIN).

His previous positions are Executive Director of Indonesian Palm Oil Association

(GAPKI/IPOA),

2009-2017,

Director

of

Sustainability

and

Smallholder Development of Council of Palm Oil Producing Countries (CPOPC), a newly established institution initiated by the world’s main palm oil producing countries (Indonesia and Malaysia), 2015-2017, Consultant of World’s Bank for Budget Committee – DPR RI, 2007-2009. Between 20032008, he served as Director of Institute for Development of Economics and Finance (INDEF), an independent think tank institution. Between 2001-2004, he served as policy consultant of Ministry of Maritime Affairs and Fisheries.

Fadhil Hasan graduated bachelor from Bogor Agricultural University (IPB), then obtained Master of Science title from Economic Department, Iowa State University, United States, and finished his Ph.D program in University of Kentucky, United States majoring Agricultural Economic study.

80 | Developing Smallholder Partnerships

Eko Listiyanto, MSE is an INDEF’s researcher. Eko obtained his Bachelor’s Degree in Economic Studies and Development Studies from Brawijaya University.

He graduated with a master in Postgraduate Economic Study, Faculty of Economy, Universitas Indonesia.

Besides being active as a researcher and writer of economic article in several mass media, Eko is also an Analyst in Supervisory Board of Bank Indonesia (BSBI) and Member of Employment Workforce Team, Human Resources, and Research & Technology in National Economic and Industry Committee (KEIN).

Imaduddin Abdullah, M.Sc finished postgraduate education program from Lund University (Sweden) in

Development

Studies.

Besides

being

active

as

INDEF’s researcher, Imaduddin is also active in various researches

with

government

institutions

such

as

Bappenas and international institutions namely ILO, UNAIDS and UNDP. Imaduddin also serves as a teacher for the Master Program of Public Policy Planning (MPKP), Faculty of Economy and Business (FEB) of Universitas Indonesia.

Developing Smallholder Partnerships | 81

“Agricultural development model moving forward should be based on partnership between entrepreneurs and smallholders. Accordingly, efficiency, management, economic equity and smallholders' welfare improvement can be performed simultaneously. This book proves that a partnership-based development model has been successful in improving palm oil smallholders' welfare and creating an efficient agricultural business management. Hopefully, that success can be a lesson-learned for other smallholders groups in the future.”

Prof. Bambang Brodjonegoro Minister of National Development Planning “Palm oil is one of the strategic agricultural commodities for national economy, as food and new renewable energy sources for the world, so that its sustainability is the responsibility of every nation. This book shows the synergy between smallholders and companies in managing competitive and sustainable palm oil estates for people's welfare and Indonesia's greatness.”

Bambang Directorate General of Agriculture Ministry of Agriculture “Agriculture sector development is the solution to drive economic growth and reduce gap, and since its initial development, Indonesian palm oil has been an inseparable part of this endeavor. To that end, partnership between smallholders and the company is required and necessary. Developing good and mutually beneficial partnership is the strategic key to maintain sustainability of Indonesian palm oil business moving forward.”

Dr. Bayu Krisnamurthi President Director of Agricultural Fund Management Agency (BPDP) 2015-2017 and Institut Pertanian Bogor (IPB) Lecturer.

“Partnership is the standard in economic and business world. Economy is not always about competition, but also the arrangement of collaboration between the players.

The agriculture sector is a case of economic/business activity that requires intensive collaboration/partnership, including the palm oil agriculture industry. Collaboration/ partnership between smallholders and companies is a vital part that needs to be evaluated and arranged thoroughly to position them as independent subjects. This book is an endeavor that discusses about such urgent life matter.”

Ahmad Erani Yustika Directorate General of Rural Area Development (PKP) Ministry of Villages, Disadvantaged Regions, and Transmigration “The ability to improve the productivity and sustainability of palm oil practices in the smallholders’ estates, both independent smallholders and plasma smallholders have not reached the level of big companies' estates. Steps to improve these are essential to improve Indonesia's palm oil industry in general. The partnership between smallholders and the company discussed in this book is one of the successful examples on improving the productivity of farmers’ estate and their capability to implement sustainable palm oil practices following ISPO standard and criteria. This book can be used as comparison by other partnerships to benefit even more people.

DMSI appreciates every effort that aims to create a more productive, friendly and sustainable Indonesia's palm oil industry to gain global recognition.”

Ir. Derom Bangun Chairman of Indonesian Palm Oil Board (DMSI)