Raw Deal - Indonesian coal for Indian power generation - My article in MEAI Journal

Indonesia is one of the largest suppliers of coal to India and many Indian power generation companies have made or planned investments in coal mining sector in Indonesia. However, the projects have faced teething problems, which need to be addressed on fast track. That will help Indian power generation companies tide over supply risks and also help investment flow into Indonesia. Indonesian coal mining sector has been regulatory flux since the passing the new law in January 2010. The implementing regulations (GR 22 & 23 and PerMin 28 & 34) that have followed have led to a certain degree of clarity but the kinks nonetheless remain. The conversion of coal contracts of work (CCoW) and kuasa pertambangan (KPs) into universal license (Ijin Usaha Pertambangan or IUP, which has lifted restriction on investments in KPs by foreign investors) have had its share of uncertainty in terms of continuance of provisions of taxes and royalties. Domestic market obligations have been purported and that is likely to impact the quantum of exports to India. Benchmarking of coal prices with global indices has been introduced, which looks justifiable for royalty and other state revenues but looks stretched for all commercial transactions. This will have impact on the cash flows of power generation assets in India that will source coal from Indonesia. These developments have escalated the politico-regulatory risk of investment in Indonesia.


On the facilitation front, Indonesia has recently created provision for single window clearance through BKPM, the Capital Investment Advisory Board, but for the lack of supporting statutory provisions, the nodal agency has been often less than effective. Even for seeking incentives for project developments in remote areas, the foreign investor may have to knock several doors at central, provincial and municipal government levels. These are true for infrastructure sector as well, and considering that many coal mining companies may have to develop their own transportation and logistics facilities, these procedural hurdles may be challenging. The infrastructure projects may be developed on public private partnership model with the government facilitating land acquisitions, clearances, approvals and other preparatory work. That will go a long way in attracting foreign investment in Indonesian coal sector.

On the operational level, the implementing regulations provide that coal mining companies cannot outsource the entire value chain activities and have restrained use of contractors in coal winning. This may be challenging for power utilities as their expectation had been to hire specialists in mining since contract mining in Indonesia has been relatively higher on maturity level. This in light of the requirement of ministerial approval for employment of expatriates only seems making foreign investment tougher.

From the taxation point of view, coal being non-VATable good has had additional cost in the form of input VAT not being able to be passed through. This has been a long pending request from the industry in Indonesia but has not been allowed in view of higher electricity tariff it is likely to result in Indonesia.

Indonesia has enacted new environmental law (No. 32 of 2009) and issued government regulation (GR 24 of 2010) on use of forest land for mining activities. These are expected to affect the resource base in Indonesia, as some of these may fall in conservation forest (equivalent of a no-go zone in India) and protected forest (where only underground mining methods can be implemented). These are also likely to raise compliance costs, some of which, of course, is justifiable.

On these accounts, the government of Indonesia may need to engage with stakeholders, including potential investors from India, and provide for supportive investment environment. With some efforts Indonesian coal is likely to steam the Indian thermal power generation in times to come.

The great Australian coal rush - Quoted in the Business Standard

Australia may be a bitter adversary for Indian cricket fans, but for Indian companies scouting for coal assets, there couldn’t have been a better choice.


Two Indian companies have made major acquisitions in Australia in the last few months. First, Adani Enterprises purchased Linc Energy’s Galilee coal tenements for $2.7 billion in August last year. Second, power producer Lanco Infratech recently acquired Griffin coal assets for $750 million. But, the Australian story does not seem to end there. Three major Indian groups — Essar, GVK and Lanco — are bidding for $2-billion coal mines, put up for sale by Hancock Coal.


With these investments, India has joined the ranks of Japan, South Korea and US, which have been traditional investors in Australia. The reasons for a tilt towards Australia could be many, but J Suresh Kumar, the chief financial officer of Lanco who also led the takeover of Griffin, says the ease of doing business in Australia is the most attractive factor.

“Australia has a very consistent framework, which is open and transparent, making it relatively easy to do business there because there are no roadblocks or bureaucratic hassles. For example, we sent an application to the Foreign Investment Review Board and it was cleared in 30-45 days,” said Kumar.

In a stark contrast with processes in India, it takes just two days to register a company in Australia, and most of the work can be done through email. Last year, the country had 180 applications with the Foreign Investment Review Board and only three were rejected.

“The Australian government policy is to encourage foreign direct investment, expansion of private investment, development of internationally-competitive export-oriented industries and creation of employment opportunities,” says Kylie Bell, Investment Commissioner (South Asia), Australian Trade Commission.

With an annual production in excess of 800 million tonnes, Australia is the world’s largest exporter of coal. The coal industry in the country is in an expansion mode. In April 2010, A$4.9 billion worth of infrastructure projects related to new coal mines and expansion of old ones were committed or under construction. This is throwing up opportunities for investment in the sector.

“Currently, mining assets for sale in Australia typically exist in early-stage projects, most commonly by forming a joint venture with an exploration company, but this means a longer lead time for production for potential investors. New coal areas like the Galilee Basin in Queensland and the Gunnedah Basin in New South Wales provide opportunities for larger Indian companies willing to fund infrastructure developments as part of a partnership agreement,” says Bell.

Australia vs Indonesia

With these advantages, Australia is poised to dethrone Indonesia as the favourite coal mining destination for Indian companies. Until three years back, with huge coal reserves, Indonesia was an obvious choice. It was more favourable because of its proximity to India which translates into lower freight charges for companies.

There had been a few high-profile acquisitions in Indonesia, too. Tata Power, which is currently developing imported coal-based ultra mega power project at Mundra, acquired 30 per cent stake in two coal mines of Bumi Resources for $1.1 billion in 2007. The very next year, Reliance Power bought three coal mines in South Sumatra region with an investment commitment of $2 billion. In 2009, GMR acquired Indonesian coal company Barasentosa Lestari for around $80 million.

The investment scenario, however, changed in late 2009, after Indonesia tightened its mining policy with regards to coal exports. “The statutory framework in Indonesia has raised concerns, as the new implementing regulations have restricted flexibility of pricing of coal and contract mining. Hence, the cash flows to the Indian power generation assets with a coal mine in Indonesia will be modified. This can affect their attractiveness. Prices will have to be globally benchmarked and, hence, the cannibalisation of mining profits for competitive power generation in India may no longer be an option,” said Dipesh Dipu, director at mining sector consulting practice of Deloitte.

These laws, formulated by the end of 2009 and effective in 2010, also made it tougher to own mines. The companies that acquire mines cannot employ a turnkey contract miner, because it is required that they are involved in some part of the value chain. This makes it tougher, particularly for power companies, as they have no experience in mining. Besides, companies now require clearance from municipal authorities along with the Federal government, making the process lengthier.

“The Indonesian coal market is also very unorganised and there is a lot of coal mafia at play. Besides, some of the best assets have already been taken, and the ones available now are at places that lack basic infrastructure. This means we have to make larger investments,” said a top official of a power company which had tried, unsuccessfully, to acquire a mine in Indonesia.

Coal mining experts also say that the unorganised nature of assets in Indonesia raises doubts on the quality of coal and the asset being promised, and there is uncertainity over the ownership too. On the other hand, Australian coal mining market is mature and offers proven reserves with a long track record.

The flip side: Costs add up

The Australian advantage, however, comes for a price. “Australian coal resources command a premium due to better coal quality. This must be considered when price to reserves ratio is being compared for evaluation,” said Dipu.

Australian grade coal, especially thermal coal (for power generation), has an average calorific value of 6,500 KCals. This is higher than that of the Indonesian coal, which is 5,500 KCals, and much higher than that of Indian coal (around 3,500 KCals).

But, higher grade coal from Australia does not add significant value to Indian power generation, which does not require it. In fact, Australian coal, with high calorific value, will have to be blended with low-grade Indian coal for thermal power plants, even as the new super-critical-technology-based power plants require coal with higher efficiency.

Shipping costs of Australian coal are also higher — by about $2 per tonne — if the coal assets are on the West Coast of Australia. If the mine is located along the East coast, inland transportation cost would be higher. Indonesia, on the other hand, offers many options for companies to choose to be close to a river or a water body. This helps the companies save on inland transportation costs. Companies like Reliance, which have acquired mines in Indonesia, are also investing in setting up rail infrastructure to save these costs.

These factors, experts say, may encourage some companies to still pursue Indonesia. “Corruption and bureaucracy might be tough for a European company to handle, but Indian companies know how to handle these. So, I think it would be wrong to assume that companies would shun the country completely,” said a top company official of a company.

Coal exports have become a necessary evil for Indian companies — both in the steel and power sector. The gap between demand and supply for coal in the country was originally projected at 51.1 million tonnes — 40.8 million tonnes (mt) coking coal and 10.2 mt thermal coal. This gap has now widened to 81 mt, increasing the need for companies to secure assets abroad to control coal price fluctuations.
“In the past few years, we have seen huge fluctuations in the coal market — from $200 per tonne in 2008 to $70 a tonne in 2009. Currently, coal prices are ruling at about $100 a tonne. In such a scenario, it becomes risky for companies to develop power without tying up coal resources,” said Pukhraj Sethiya, consultant (mining), PwC. Coal prices also indicate an upward trend. A recent commodity report by Macquarie projected that hard coking coal prices were expected to go up by 4-11 per cent, to $251 in 2011, and could settle at $223 in 2012.