Court Raises the Bar for Terminating Employees in Indonesia

from flickr commons by martine bingisser

By Ira A. Eddymurthy and Douglas G. Smith

In June of last year, the Indonesian Constitutional Court issued a decision that may have a far-reaching impact on employers in Indonesia who wish, due to economic circumstances or market conditions, to downsize or rationalize their labor force. The knock-on effects of that ruling are only now beginning to be appreciated.

Terminating employees has never been an easy or straightforward process in Indonesia. The employment law regime – largely governed by Law No. 13 of 2003 on Manpower (the Manpower Law), as amended by Constitutional Court decision No. 012/PUU-I/2003 of October 28, 2004 – is decidedly complex. Labor laws and regulations change frequently, and while the creation of a relatively new Labor Court has improved the reporting of important decisions, it has also resulted in some inconsistent decisions.

The notion of termination on notice or pay in lieu of notice does not apply in Indonesia. The US concept of employment at will is similarly unheard of. Even where a valid reason exists under the Manpower Law for an employer to terminate, Labor Court approval of each termination is required in the absence of a so-called Mutual Termination Agreement in writing between the employer and the subject employee.

In addition, the Indonesian Constitution enshrines every Indonesian citizen’s basic entitlement to employment. Article 42D of the Constitution specifically acknowledges, along with a number of other basic legal principles, that “[E]very person shall have the right to work and to receive fair and proper remuneration and treatment in employment.

Causes for termination

The Manpower Law does, however, stipulate permissible causes for termination. These include “ordinary” cause such as breach by an employee of his or her employment contract, company regulation or collective labor agreement, upon due warning and “serious” cause including theft, providing false information to the employer, dangerous or immoral conduct, or similar behaviors. The Manpower Law previously expressly permitted termination for such “serious” cause without a court order. Note that since that provision was struck down by the Constitutional Court, employers are well advised to include termination for serious cause with approval of the Labor Court in their employment documentation. An employee can also be dismissed in the event of his or her resignation, death or upon the employee reaching retirement age.

The Manpower Law also recognizes certain economic imperatives. An employer is entitled to dismiss an individual employee in the event of the bankruptcy of the employer or upon a change of status, merger or consolidation of the employer.

A similar entitlement to terminate exists under Article 164(3) of the Manpower Law where a company is closed down for reasons of efficiency (i.e., without two consecutive years of financial losses) or due to two consecutive years of financial losses or force majeure. The Article goes on to stipulate higher termination benefits for termination for reasons of efficiency without such financial losses.

For many years, employers in Indonesia have relied upon Article 164(3) to justify downsizing a part of the workforce for reasons of efficiency, whereas Article 164(3) expressly contemplates the closing of the company as the triggering event. There is no other provision of the Manpower Law that expressly permits downsizing the workforce for reasons of efficiency.

Constitutional Court ruling

It was in this context that in early 2011 a group of petitioners who had been dismissed ostensibly on the basis of Article 164(3) went to the Constitutional Court to contest their terminations as contravening their constitutional rights (Case No. 19/PUU-IX/2011).  Importantly, in this case the employer entity closed its plant, terminated all employees and then re-opened the plant.

In reviewing the case the Court was obliged to directly weigh the rights of employers under the Manpower Law against the right to work enshrined in the Constitution. The Court handed down its decision on June 20, 2012. In addressing the issues, the Court made a number of significant findings. First, it established that the inclusion of the word “efficiency” in Article 164(3) could not, in and of itself, be interpreted as the basis or right for a company to terminate an employee in Indonesia. The desire of an employer to make labor costs more efficient through the reduction of the workforce is not a proper legal basis for termination in Indonesia.

The Constitutional Court continued in this vein and noted that the termination of employment of any worker is the very last resort of an employer after making other efforts to achieve efficiency in the operations of its business. The Court offered a series of very practical alternatives that any employer must consider prior to reducing its staff via termination. These options include (a) reducing wages and benefits of upper-level workers (specifically at the manager and director level); (b) reducing the number of shifts; (c) limiting or eliminating overtime work; (d) reducing work hours; (e) reducing the number of work days; (f) granting extended temporary leave to workers; (g) not granting contract extensions to those contract workers whose contracts have expired; and (h) granting early retirement and pensions to those who qualify. The Court concluded this reasoning by restating that the goal of achieving efficiency alone could not form the basis of employee terminations.

Finally, and perhaps more importantly, the Constitutional Court addressed the meaning of Article 164(3) directly. In a move to remove any uncertainty or ambiguity in the Article the Court stated that the provisions could only be invoked where the employer company in question needed, in fact, to be permanently closed down. Temporary or threatened closure of the employer was not sufficient to allow an employer the termination rights specified in the Article. In the view of the Court, any contrary interpretation would be inconsistent with the Constitution.

Conclusion

The Constitutional Court’s ruling in the case is particularly poignant when considering any acquisition or foreign direct investment where the intent of the investing party is to achieve efficiencies through the investment. It also underscores the need for planning and good counsel before taking steps to reduce the employee complement of any business in Indonesia.

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