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Long road ahead to clean up the mess in India’s crisis-ridden coal sector

An apex court verdict scrapping more than 200 coal mine allocations and a government edict keeping doors open for private miners prepare the ground for much-needed reforms in the sector

For more than two years, Coalgate, as the scandal has come to be known in the local media, has haunted India. It brought corruption and crony capitalism in the allocation of precious natural resources firmly to the political centrestage, following as it did a scam over the allotment of phone spectrum, added to popular disaffection against the Congress-led United Progressive Alliance (UPA) and contributed in no small way to ending the coalition’s 10-year rule in the April-May general election.

The climax to the scandal took less than two months to unfold. On 25 August, the Supreme Court ruled that allocation of all coal blocks from as far back as 1993 and until 2010 were illegal, wiping Rs.20,000 crore off share values of metals and power companies in a single day. In one fell swoop, on 24 September, the court cancelled the allocation of 214 coal blocks, including 42 operational ones.

“It is no coincidence that a large number of allottees are either powerful corporate groups or shady companies linked with politicians and ministers or those who came up with high-profile recommendations,” the court said in a stinging indictment of the way natural resources had been doled out by political figures.

And with rare alacrity, on 20 October, the cabinet of Prime Minister Narendra Modi approved an ordinance to resolve the crisis caused by the verdict, retaining the option of allowing private miners to compete with state-owned Coal India Ltd – a significant and radical reform, whenever it takes place.

The ordinance, which has already received the President’s signature, facilitates the allotment of coal mines to state-owned companies that need the fuel, and also to private entities in businesses such as power, iron and steel, and cement through auction for their own use.

“This heralds the age of commercial mining of coal in India that would be of interest to large companies…at the same time, it ensures that the existing owners are not thrown to the wolves,” said Sitesh Mukherjee, a partner at the law firm Trilegal.

To be sure, the Indian coal sector, with one of the five highest reserves in the world, is in a crisis from which it cannot be extricated without pain, effort and time. The mess has kept piling up since the nationalization of coal mining four decades ago to the extent that the country today imports coal worth $20 billion a year.

A decision taken in the early 1990s to allow industries such as steel and cement captive use of mines for their own use compounded the problem because the process of allotting the mines, as the Supreme Court found, was “ad hoc and casual,” “arbitrary” and “without application of mind”.

Too much money is at stake to allow any missteps in repossessing the cancelled coal blocks and reallotting them. The amount locked up in the development of coal mines and end-use plants is around Rs.6.87 trillion. The banking sector’s total exposure to companies that have had coal blocks scrapped is around Rs.2 trillion, according to Vaibhav Agrawal, vice-president of research at Mumbai-based Angel Broking Ltd. “However, a majority of the exposure is non-coal related,” he said.

Neither the companies at the receiving end nor their bankers have made a public fuss as they wait for the government to get its act together.

Fresh start

One good thing the court ruling did was to offer the Bharatiya Janata Party (BJP) government, which assumed office only a few months prior, an opportunity to restart the process with a clean slate and put in place a a transparent, rules-based regime for the allocation of coal.

If the government gets it right, it could end up dramatically changing the competitive dynamics of the coal market and herald a new era of investment that could transform the energy sector, analysts said.

“After getting the auction process done for the captive users in the next three-four months, government may carry out auction for commercial mining of coal by middle of next year. This will truly open up coal mining sector for serious miners and would go a long way in making India less dependent on imported coal,” said Debasish Mishra, senior director of consulting firm Deloitte Touche Tohmatsu India Pvt. Ltd. To get it right, the government would do well to look at the past and figure out what went wrong.

Coal mines were nationalized by the Indira Gandhi government in 1973. Perhaps realizing its folly, which created a black market for coal and led to the birth of the notorious coal mafia and also put the nation’s power supply at risk arising from Coal India’s inefficiencies, it amended the law twice, once in the 1970s itself and another time in the 1990s, making allotment of mines to captive consumers possible. “This experiment failed because of several reasons—first, the massive coal blocks in the country were sub-divided into smaller blocks divided by inherent coal boundaries and not natural boundaries,” said Partha Bhattacharya, former chairman of Coal India. “This left a lot of coal locked inside the blocks unexplored. Also, such a policy has never been successful across the world in major coal-producing countries. As a result, after 15 years, out of an estimated production of 111 million tonnes (mt), only 38 mt could be mined. This was a big failure.”

“Since 1993, the government allocated close to 200 blocks. But actual production started in only 40 blocks. Government needs to critically look at the issues for which mining could not be started in those mines and make the process easier for the mining companies. Need of the hour is to create a single window kind of approval process which also takes care of land acquisition,” said Nilendu Mukherjee, director-corporate clients, corporate and institutional banking, at Royal Bank of Scotland Plc.’s India unit.

The Modi government is in a race against time for taking over the mines that have been deallocated by the Supreme Court and reallotting them. Private companies are preparing for auction of the coal blocks. “As and when the coal block auctions get finalized, we will certainly participate,” said Seshagiri Rao, joint managing director and group chief executive officer at JSW Steel Ltd, the third largest Indian steel maker, which had coal blocks in Odisha, Jharkhand and West Bengal.

A Hindalco Industries Ltd spokesperson did not comment when asked how many coal blocks it would bid for, but the talk is that its parent, the Aditya Birla group, which has interests in cement and metals, would bid aggressively and for more blocks than before.

“Auctioning of coal blocks is an imperative for the industry, and we at JSPL are fully committed to participate in the auction process. We do have overseas mines in Mozambique, Australia and Indonesia and fulfil a part of our requirements from them. However, we await further clarity from the government on the way forward on the auction process,” said a spokesperson for Jindal Steel and Power Ltd (JSPL).

Or else?

All firms that had their coal blocks cancelled by the Supreme Court recently, barring those convicted for offences related to the allotment of mines, can bid in the e-auction after paying an additional levy, said the ordinance. Firms? running specified end-use plants such as steel, cement and power, including the ones having a coal linkage, also qualify to participate in the e-auction. By retaining the option of allowing private miners, it provides an incentive to Coal India to get its act together and increase stagnant coal production with the enabling provision serving as an or-else threat. It remains to be seen whether the government will use the provision. Private Indian firms have for long wanted the coal sector to be opened up to commercial miners with a level playing field against Coal India. Former Coal India chairman Partha Bhattacharya conceded that opening up the sector would bring benefits.

“Bringing in commercial miners like the Rio Tintos and BHP Billitons of the world will ensure higher competition, development of underground mines, mechanization of mines and supply of ultra-modern equipment and reduce dependence on imported coal – all factors which are currently major impediments in developing further coal resources in India,” he said. Amar Bhasin, vice-president of Hindustan Global Resources—a Australia-based mining consulting company and representatives of Australian mining equipment maker Valley Longwall International (VLI), said the equipment that Coal India and its subsidiaries use are decades old, restricting the output per mine in India and making mining highly labour-intensive. “De-allocation of mines is not the only solution. The government has to invest in modern machinery so that the output per mine reaches world average as has been seen in Australia and China. Currently, in India, while the average output per coal mine is around a million tonnes, in Australia and China it is between 8-10 mt. This can only be achieved through modern state-of-the-art machinery,” he said.

Stagnation, shortfalls

Coalgate, which reached the country’s top court after a report by the Comptroller and Auditor General (CAG) of India, the government auditor, in August 2012, estimated that the national exchequer had lost a notional Rs.1.86 trillion in the process of allocation, coincided with an acute shortage of coal in India, the world’s third largest consumer of the mineral. Behind only China and the US in coal consumption now, India is expected to become the second largest consumer of the mineral by 2016-17, with demand reaching 900 mt. Coal India, the world’s largest coal miner, is struggling to meet rising demand for the fuel. While India’s power generation capacity grew 60% over the last five years, coal production only expanded by around 6%. The country mined 532 mt in 2009-10, 533 mt in 2010-11 and 540 mt in 2011-12. Production was 557 mt in 2012-13 and 564 mt in 2013-14. In the fiscal year to March, India is expected to import close to 200 mt, up from around 165 mt the previous year, according to Punit Oza, a senior executive at Norwegian shipping company Torvald Klaveness. “Coal production from Coal India has been stagnating for about four consecutive years. Near total dependence on public sector monopoly; policy and governance paralysis in the last five years or so leading to inordinate delays in statutory clearances like forestry, environment and delay in land acquisition, etc., are some of the reasons of shortfall of production in the country. Even captive coal blocks faced similar bottlenecks,” said R.K. Sachdev, chairman of Coal Preparation Society of India, a non-governmental and non-profit body of coal washing, coal mining and allied professionals. The shortage of coal has taken an especially severe toll on the power sector in a country where 60% of power generation capacity is fuelled by the mineral. Of India’s 254,049.49 megawatts (MW) power production capacity, 152,970.89 MW is coal-based. The electricity sector accounts for nearly 80% of India’s coal consumption. India’s per capita power consumption, around 940 kilo watt-hour (kWh), is already among the lowest in the world. In comparison, China has a per capita consumption of 4,000 kWh, with the developed countries averaging around 15,000 kWh.

Moving forward

“The mandate of the ordinance is clear – that things must move forward and things will start moving… I am upbeat about it,” said Ramakant Tiwari, chief executive officer of Mahan Coal Ltd, a joint venture between Essar Power Ltd and Hindalco Industries Ltd that owned the Mahan coal block in Madhya Pradesh. To be sure, the government faces a tight timeline in completing the process; as per the Supreme Court’s September order, 38 operating blocks and six that are ready to produce coal can continue to operate for six months, after which Coal India should take them over and continue mining. The firms operating the mines want the government to complete reallocating the blocks by then.

These firms include JSPL, Jindal Steel, Usha Martin Ltd, Hindalco, Tata Power Ltd, Monnet Ispat Energy Ltd, Sova Ispat Alloys Ltd and Jai Balaji Industries Ltd. “Though this (ordinance) is a step in the right direction, given the short time span given by the Supreme Court to take over the cancelled coal mines, reform of the sector in a comprehensive manner should follow to attain the gains of professional mining and private sector participation,” said former power secretary Anil Razdan. “On the final timelines for auction, at least the government should be able to start it with a few initial blocks in the current financial year. But completing everything in next three-four months as talked about as of now will surely be unrealistic and aggressive,” said a Mumbai-based power sector analyst on condition of anonymity.

Analysts also cautioned that reallocation of more than 200 mines by way of competitive bidding as articulated by the Coal Mines (Special Provisions) Ordinance 2014, could create an electricity tariff conundrum. Independent power producers (IPPs) that were enjoying the benefit of captive coal will now see their input costs rise because they will now pay for the mine licence and production cost of coal.

“There is a likelihood of electricity tariffs going up. This brings us to the issue of financial capacity of the electricity distribution companies (discoms) to schedule power generated from the coal from these blocks which again brings us to the question of distribution reforms,” said P. Umashankar, a former official in the power ministry. State government-owned discoms have been hobbled by low tariffs, slow progress in? paring losses,? higher electricity purchase costs and crippling debt. State electricity boards are burdened by debt of Rs.3.04 trillion and losses of Rs.2.52 trillion.

No escaping imports

Even after the auction, hurdles may again surface in the form of hassles in completing land acquisition and in securing statutory approvals such as environmental clearances. And in any case, there is no escaping dependence on imports in the near future. The silver lining is coal prices have dropped in line with prices of other commodities, encouraging imports.

“We are overall seeing more coal cargoes moving into India from second half of October onwards; however, the absence of Chinese buyers/orders and sufficient vessel availability has meant the ocean freight rates have remained subdued,” said Oza of Torvald Klaveness.

“A supramax vessel (able to load approximately 52,000 tonnes of cargo) that is available for employment in Singapore is today able to command $9,500 per day to do a voyage from Indonesia to India and the same ship would have been able to earn close to $14,000 per day for the same voyage this time last year,” Oza said. The proposed auction of cancelled coal blocks to captive users is a “modest positive,” said a research report by Kotak Institutional Equities, but it is unlikely to adequately boost production of the mineral. To lift production, India would need to change the laws that restrain private-sector investment in commercial coal mining, the Kotak report added.

“While the current efforts are focused on resolving the uncertainty created due to de-allocation, for real impact and expansion of stagnant domestic production, the government needs to move towards a transparent mechanism for denationalization of coal, increasing competitive private participation in the sector and freedom on pricing,” Girish Shirodkar, partner and managing director at Strategic Decisions Group, a management consulting firm.

“This will help fetch the full price from the auction and prevent future discretionary power and loopholes which could be wrongly exploited by the bidders,” Shirodkar said.

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