This is second in the series of a three-part article tracking facts, issues and challenges confronting the Indian coal mining sector in attracting foreign direct investments. It recommends steps that the government ought to take to make commercial coal mining lucrative enough for global mining players.
Top 10 Stumbling Blocks in Attracting FDI in the Commercial Coal Mining Sector
- Challenge from Climate Change Issues/Renewables: In the last decade and a half, debate around climate change has increased the pressure on governments to reduce carbon footprints. Increasingly, the governments are shifting from conventional energy sources (fossil fuels) to sustainable green energy sources (wind and solar). Renewable energy available at increasingly lower prices, India's ever-evolving policy-regulatory regime favouring cleaner fuels, is challenging the future of fossil fuels. On one hand, India aims to achieve 175 GW of renewable energy capacity by 2022, on the other it is proposing to increase coal production capacities. World over, major coal operators have been scaling down projects because of growing environmental concerns and fast-changing energy mix/landscape. So, in the Indian context, it will be interesting to see how foreign miners respond to the call of investing in India given the future uncertainties for conventional energy sources.
- Markets, Auctions, Contract Structure: Serious players loathe uncertainties in market structures. They get jittery when faced with a lop-sided bid process structured around favouring the State (revenue maximisation alone). Poorly conceived contractual framework with inequitable risk allocation and a time-consuming dispute resolution process makes them nervous. They want cost certainty and a well-designed institutional framework. As the commercial mining auction would be based on revenue sharing model, it would be interesting to see how the bidding authority finally benchmark the base price of coal year-on-year for calculating yearly revenue share percentage. Bidders expect clarity and certainty.
- Sanctity of Contract: The last thing any foreign mining player (or even a domestic one!) would expect are surprises once they have made financial commitments. Nullifying bidding rounds, cancelling contracts, termination/expropriation after the bid award once they have already invested in India, does not instil confidence. We have seen such surprises (read shocks) in the power sector courtesy of the coal block cancellation of 2014. All of a sudden several power projects got stranded as there was no fuel supply. One cannot forget the woes in the telecom sector following telecom license cancellations, marking the exodus of foreign players. Recent cancellation/renegotiations of PPAs in Telangana's solar projects also does not inspire investors to find India a safe bet for capital allocation.
- Inequitable Risk Allocation/Poor Contract Designing: Faulty bid design/contract structures passing on inequitable risks to the developers have wreaked havoc. There have been several such stories in the Indian infrastructure, energy and resources sectors. We have seen developers taking unmanageable project risks. They have in the past given not just an arm and a leg but all four limbs to capture a larger market share! Inequitable risk allocation of overseas coal supply risk on to the private developer in the ultra-mega power projects of Tata (Mundra) and Adani (Mundra) took years for electricity regulators and Supreme Court of India to allow the international coal risk as a pass-through to the end-user/distribution companies (Discoms). It was something that could have been thought through and addressed at the bid/contract designing stage itself. We have also seen States, starting with Gujarat, attempting cancellations of solar projects PPAs because the State/Discom realized that the ensuing renewable energy bids/tariffs were way too lower than the long-term PPAs they have already entered in the initial phase of solar projects. Highway sector traversed full circle from EPC to BOT/PPP project to HAM, finally to settle back on EPC model. Commercially unviable bids winning the BOT/HAM projects with the little inclination of lenders to fund and the developers to complete them got the sector back to government funded EPC model. Public-private partnerships (PPPs) in the water, solid waste and sanitation (WSS) sector never took off on a scalable model. The complex web of issues around ability/willingness to pay and the sheer lack of political will to charge for services/utilities of the governments killed the PPPs in WSS sector in its nascent stage. Inequitable risk allocation should rather be an aberration than the norm for a developing economy like India, where the sovereign relies heavily on private enterprise for bringing in capital and technical prowess. The government must not repeat the same mistakes while designing the commercial coal mining bid and contract architecture.
- Economies of Scale: Foreign mining operators, and thus FDI and technological excellence, will only come if government auctions decent coal mines with large reserves which after paying the revenue share, upfront payments, royalties, taxes and other levies, offer a decent internal rate of return. Therefore, it is imperative that authorities provide transparent and proven data/details of the coal blocks on offer, quality of coal and their estimated/proven reserves, upfront.
- Race to the Bottom: Over the years in the Indian energy and infrastructure sectors, we have seen unprecedented price war/predatory bidding. It started with the conventional thermal coal-fired power sector, on to the road projects and then with the wind and solar power projects, just to horde a large portfolio of projects. The lowest cost/highest premium model of bidding has virtually killed the public-private partnership model in India. A proper disincentive mechanism process should be in place to weed out the opportunistic project proponents. That will help to create a level playing field for ensuring a healthy and sustainable competition.
- License, Permits and Approvals: Coal mining is a highly specialised job. It has typical developmental risks: including environmental, forest, rehabilitation and resettlement, and land acquisition issues/risks amongst others. It is difficult if not impossible for a private mine developer to get all such licenses, permits, and approvals in a time-bound manner leading to time and cost overruns. We should think of a Plug-and-Play model of projects with all the required permits, approvals and clearances put in place before awarding the coal mines, something like what India attempted with its ultra-mega power projects.
- Logistics and Evacuation: Then there are issues around poor logistics and transportation connectivity for coal evacuation, which on the face of it does not make the coal sector a viable option to invest for the foreign players.
- Coal Regulator - Contract Management Issues: Further, for a long term 30 years coal mining contract, given the uncertainties of future energy markets, it is difficult to reasonably foresee demand and supply trends. It would give rise to myriad operational issues. History of PPP/Concession/long term contracts in India show that they are bereft of provisions to allow the flexibility of adjusting tariff/premium/revenue sharing percentage. Tightly worded contracts do not afford any flexibility of a mid-course correction to the contract design. For an effective and fair contract management/resolution, perhaps the time has come for an independent and competent regulator's oversight over the life-cycle of coal mining.
- Coal Development and Production Contract (CDPC) Design: The following issues need to be dealt pragmatically (read: not with the myopic view of revenue maximization alone) while designing the Coal Development and Production Contract, so that it can withstand the test of time:
10.1 upward and downward revision of final offer price (revenue sharing percentage) paid to the State on account of any change in coal demand caused by a windfall or market-disrupting event, respectively; flexibility to change coal production schedule keeping in mind the changing dynamics of energy markets; who will be the deciding authority for allowing the reworking of premium/revenue sharing percentage, should there be a flexibility; 10.2 ease of exits/dilution by the coal miner's (lead member of the consortium) equity/economic interests over a 30 years contract tenure; 10.3 implementation and effect of a change in law/force majeure clauses in the coal development and production contracts/fuel supply contracts; 10.4 how would termination clause work; issues around mandatory buy-out by the State (or the lack any such provision) if an unmanageable change-in-law/force majeure event or Government's expropriation takes place; pricing of (adjusted) equity and responsibility of taking over the debt obligations of that coal block in such scenarios -these are the clauses that would determine how enthusiastic the foreign players would be in bidding for commercial coal mining; and 10.5 last but not the least, how are we going to resolve disputes especially on the quality, quantity, pricing, and changes in the coal production schedule offered by the miner in view of changing energy market dynamics; would it be through (i) an Indian court, or (ii) arbitration or (iii) a specialised sector regulator - which we do not have at the moment.
- These are some key factors which the foreign mining players would evaluate before they get the approvals from their investment committees/boardrooms for investing in India's commercial coal mining sector.
What Ought to be Done – For bringing FDI in the Commercial Coal Mining Sector: What the government ought to do? What are the confidence boosting measures that government must use to bring that elusive dollar money and the state-of-the-art technology to the Indian coal mining landscape? The third part of this article shall deliberate on these recommendations.
...to be continued...
September 23, 2019
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