Coal news and updates

A roller-coaster ride for investors

Fuel demand is relatively invariant with respect to price. But international price trends over the past year have been driven by changes in both demand and supply. A slow global economy has meant demand has eased down, while the US has developed new supply. As a result, the price of crude oil has halved and the prices of natural gas and coal have also fallen substantially. India imports 80 per cent of its crude, 32 per cent of its gas and 20-22 per cent of its coal.

It is against this backdrop that the coal industry is on the verge of massive change. Primary users include the power industry and power-intensive metal producers. India has ample reserves but the sector has poor efficiencies and large-scale imports are necessary.

The inefficient monopoly, Coal India Ltd (CIL), has not been able to ramp up supply to keep pace with demand. CIL suffers from a vicious cycle. It supplies to loss-making power generators, which delay payments. This leads to huge receivables and a cash flow problem. CIL also suffers due to the lack of connecting rail and road infrastructure and it has the usual public sector undertaking issue of over-staffing.

The direct allotment of captive coal blocks, to metal producers and power producers, caused a scandal. The Comptroller and Auditor General (CAG) claimed discretionary allotment had, over the years, resulted in a loss of Rs 1.86 lakh crore to the exchequer. That estimate was reached by multiplying assumed reserves in those captive blocks by Rs 295 per tonne, approximately CIL's profit per tonne.

The Supreme Court ruled that 218 coal block allotments were illegal. It cancelled 204 allotments (14 run by government entities). The Bharatiya Janata Party government decided to re-allot those 204 blocks via a more transparent e-auction.

A lot of complicated legal manoeuvring was required. The Coal Mines Special Provisions Act 2015 was passed by both houses of Parliament this week. So was the Mineral Development and Regulation Act 2015. Taken together, these legal amendments should enable necessary policy change, not just in coal but across other mining sectors.

The e-auction of 33 coal blocks been done in two phases. The award of eight of those has now been held up, pending review. The 33 fetch revenue commitments of Rs 2.13 lakh crore over the next 30 years. That revenue is a multiple of cost per tonne payable to government. It cannot be compared to the CAG's calculation. Only 10 per cent is to be paid upfront, in two tranches of five per cent each within the next financial year. After that, three per cent will be paid per annum.

Right now, the captive blocks (Schedule 1) can produce 90-100 mt and another 130 mt of capacity is reckoned close to operational (Schedule 2 blocks). The rest of the blocks will need to go through the tedious processes of clearances, mine development and the creation of linkage infrastructure. This will take years. Even if the government succeeds in accelerating clearances considerably, the physical infrastructure will still take years to develop.

CIL is slated to produce a little under 500 mt in 2014-15 and it hopes to produce 550 mt in 2015-16. CIL's target for 2019-20 is 925 mt and it hopes to hit 1 billion tonnes by 2020-21. That implies maintaining a 12 per cent CAGR in production, which is way higher than the CAGR of three per cent CIL has actually managed in the past five years. CIL must not only require improve internal efficiency; the railways must step up and create the necessary linkages and capacity.

Energy needs rise with growth. Imports exceeded 160 tonnes in 2013-14. By 2017-18, imports may rise to 250-275 tonnes, given annual gross domestic product growth at seven-eight per cent and a growing demand-supply gap. By 2020-21, higher domestic production (CIL plus captive) should help to reduce imports.

These estimates are inexact, with big error margins for volumes and timelines. But it takes three-four years to create the physical infra for a coal mine. The timelines cannot be shortened by much. Coal demand will also moderate only if economic growth slows or growth somehow becomes much more energy-efficient. The enabling legislation going through and speedy e-auction of blocks has rightly, boosted sentiment. Valuations for block allottees have risen. CIL is also likely to see a spurt in valuations. Sometime later, the reality of the long timelines will start to sink in. Then, there could be sharp corrections. Against that, international fuel prices are also likely to climb at some stage. That would affect valuations as well. The sector will offer a roller-coaster ride for investors.

source: http://www.business-standard.com