Metals & Mining - Coal gate: CAG castigates government - Edelweiss

The Comptroller and Auditor General's (CAG) final report on coal block allocations has reaffirmed its view that the Government of India (GoI) should have adopted the auction route post 2004. The report lists 57 coal blocks with "windfall gains" estimated to be INR1.86tn. More than the issue of "windfall gains", we are concerned about further delays in mining approvals due to policy freeze and/or imposition of conditions which could dilute returns from mines. In such an event, while most metal & mining companies could be impacted, the effect may be more pronounced on Hindalco, JSPL and Sterlite-BALCO. On the positive side, allocations to Coal India (CIL) may increase as recommended by CAG.

CAG indicts GoI for faulty coal allocation methodology post 2004

The CAG report has indicted the GoI for not following the auction mechanism for allotting captive coal blocks post 2004 as per its own internal recommendation, and adopting a non-transparent, screening committee-based mechanism without comparative evaluation. The report lists 57 coal blocks as benefiting from likely "windfall gains" of INR1.85tn (draft report figure: INR2.93tn). Ironically, all of these mines, except one, are non-producing and are awaiting approvals for 3+ years. We view the "windfall gain" estimate as overstated considering no application of the present value/DCF concept, use of back-of-the envelope calculations and the significant uncertainties in obtaining mining approvals.

Proposes single window clearance for granting mining approvals

CAG has proposed a joint committee of Coal Ministry, MOEF, Mines Ministry and state governments for speedy approvals for coal mines. The report also indicates setback to CIL due to de-allocation of 48 blocks, none of which have commenced production and hence the need to allocate blocks to the company to boost coal production. Other recommendations include: (i) incentive mechanism for speedy production; and (ii) encashment/tightening of bank guarantees.

Outlook: Potential adverse impact across the board

Companies holding the 57 coal blocks with potential adverse impact include: (i) metals & mining: Bhushan Steel, Hindalco, JSPL, JSW, Tata Steel, HZL, BALCO, Sterlite Energy, Usha Martin, Monnet Ispat, Jai Balaji, Electrosteel Castings, Adhunik Metallics, Tata Sponge; (ii) cement: UltraTech Cement, Grasim, Birla Corp, Ambuja Cement; (iii) power: Tata Power, CESC, Adani Power, Lanco, NavBharat. Within this list, companies with advanced/completed projects include Hindalco-Mahan and BALCOCPP. While JSPL's Utkal-B1 coal is not named, it may also face approval delays. On the positive side, we could see more coal block allocation to PSU companies, including CIL. The final CAG report, compared to CAG's draft report, has trimmed the number of mines with "windfall gains" from 66 to 57 with ~55% reduction in coal reserves. As a result, the "windfall gain" estimate is reduced to INR1.85tn from INR2.93tn earlier. In calculating this estimate, CAG has used the extractable reserve (ER) of each mine and multiplied the same by the loss per tonne of INR 295/t. This loss figure in turn is derived from subtracting the average cost of coal production for FY11 for CIL (INR 583/t) and the cost of financing (INR 150/t) from the average selling price of CIL for FY11 (INR 1,028/t).

Source : Equity Bulls

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