Downsizing in Indonesia

There has been considerable confusion about whether the law and courts allow employers in Indonesia to downsize a part of their workforce for efficiency reasons. We are writing to clarify the matter.

Termination under Article 164(3) of the Employment Law

Article 164(3) of Law No. 13 of 2003 regarding Employment allows a company to terminate employees when closing the company for efficiency reasons (i.e., without two consecutive years of financial losses or force majeure) with double severance pay. Article 164(3) of the Employment Law provides as follows:

An employer may terminate the employment of an employee if the company is closed not due to losses being suffered for 2 (two) consecutive years and not due to force majeure if the company is implementing efficiency provided that the employee shall be entitled to severance pay equal to 2 (two) times that provided in Article 156 paragraph (2), service pay equal to 1 (one) times that provided in Article 156 paragraph (3) and the compensation entitlement as provided in Article 156 paragraph (4).

The Employment Law is clear that an employer can terminate employees with Labor Court approval upon paying the double severance package if the company is closing for efficiency reasons, but there has been uncertainty about whether an employer can downsize a part of its workforce under Article 164(3) and continue operating the business. The law does not expressly mention such downsizing.

The conventional view is that downsizing may be characterized as a kind of permanent closing of a part of the business and that Article 164(3) of the Employment Law implicitly includes such permanent but partial closing of a business. That view has been effectively upheld by a number of Supreme Court decisions.

2012 Constitutional Court Decision

In 2011, the Papandayan Hotel conducted a mass termination of employees under Article 164(3) ostensibly due to the closing of the business. In fact, the employer was not closing all or even a part of the business permanently, but was merely closing the business temporarily to perform renovations on the hotel to improve from a four- to five-star rating.

The employees sought a judicial review of Article 164(3) by the Constitutional Court on the meaning of the expression "the company is closed" and for a ruling that the efficiency reasons must be legitimate (e.g., inadequate equipment for the workforce, new technology rendering workforce obsolete or the overcapacity of the workforce).

The employees requested that the court strike down Article 164(3) entirely, arguing that it violated Article 28D(2) of the Indonesian Constitution, which stipulates:

(2) Every person shall be entitled to work and to obtain fair and proper remuneration and treatment in their employment relationship.

The Ministry of Manpower filed a defense of Article 164(3) as constitutional but agreed that the temporary closing of a business due to renovations did not qualify as the company is closed within the meaning of Article 164(3).

The Constitutional Court ruled in 2012 that the company is closed within the meaning of Article 164(3) means permanent closing and does not include a temporary closing for renovations. It also ruled that the employer's right to terminate for reasons of efficiency must be construed as being subject to the obligation to make every effort to avoid terminations, for example, by reducing wages and benefits of senior managers, reducing shifts, etc.

It is important to note that the Constitutional Court was dealing with a permanent partial closing of a business. The case was silent on the legality of a downsizing (i.e., a permanent partial closing of a business), which had previously been upheld by the Supreme Court on several occasions.

So, the interesting issue following the Constitutional Court decision was whether the Labor Court and Supreme Court would continue to permit employers to terminate employees under Article 164(3) for a permanent partial closing of a business. The answer is yes. Downsizing a workforce as a kind of permanent partial closing of a business for efficiency reasons has been repeatedly recognized as a valid ground for termination in a number of Supreme Court decisions following the 2012 Constitutional Court decision.

Conclusion

Based on the Supreme Court decisions following the Constitutional Court decision in 2012, it is possible to downsize a workforce for efficiency reasons under Article 164(3) of the Employment Law.

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