Aggressive Bidding: Coal block auctions

Coal block auctions

The coal sector has seen significant reform measures in the past year. These have been targeted at augmenting coal production, improving coal availability to end-users and improving mining efficiency. A key policy development was the reallocation of coal blocks via the auction route. Following the deallocation of 204 coal blocks in September 2014, the Ministry of Coal (MoC) has subsequently awarded 31 coal blocks to private players and another 38 blocks to public sector undertakings.

In April 2015, the Ministry of Power (MoP) issued a directive to the Central Electricity Regulatory Commission (CERC) directing the latter to ensure that tariff for the power produced from the blocks awarded in the auction does not exceed the tariff concluded in the power purchase agreement. Thus, the directive restricted the CERC from allowing a pass-through of higher energy charges. The move was aimed at ensuring that end-consumers benefit from the price discovered in the auction.

cover (Page 1)However, following this, the winners of the coal blocks for the power sector petitioned against the MoP’s directive in the Delhi High Court.  Subsequently, the MoC stated that no coal blocks would be offered to the power sector until the issue was resolved.

Coal Mines (Special Provisions) Bill, 2015

Following the deallocation of coal blocks in September 2014, a key legislation – the Coal Mines (Special Provisions) Act, 2015 – was enacted in March 2015. This act replaces two ordinances promulgated by the government in October and December 2014 respectively. The main purpose of the act is to facilitate the allocation of coal mines by means of a transparent process and thus enable private companies to mine coal for sale in the open market.

The act creates three categories of mines for the purpose of allotment:

  • Schedule I mines comprise all the 204 coal mines cancelled by the Supreme Court in September 2014, any land acquired by the previous allottee in or around the coal mines, and infrastructure at the mines.
  • Schedule II mines comprise 42 Schedule I mines that are currently under production or about to start production.
  •  Schedule III mines comprise 32 Schedule I mines that have been earmarked for a specific end-use.

Allocation process

Schedule I mines can be allocated either by way of a public auction or by government allotment. Schedule II and III mines can only be allocated by way of a public auction. The public auctions will be conducted by way of e-auctions where bidders will quote their final price offers.

For the government allotment process, blocks will be allocated based on criteria such as preparedness of end-use plants and their proximity to the mine, progress of development of coal blocks by the company in the past, financial and technical capabilities of the applicant, the technology proposed to be used for mining, and the demand-supply gap of coal in states that host the blocks. So far, the government has allotted 38 mines through this route.

All prior allottees are also eligible to participate in the auction process, subject to the payment of an additional levy, and provided they have not been convicted of any offence with regard to the previous allocation.

Under the Coal Mines (Special Provisions) Act, 2015 and the rules under it, 38 coal mines were allocated to government organisations through the allotment process. The West Bengal Power Development Corporation got the maximum number of blocks (seven), followed by NTPC (five).

Bid price analysis

Power sector

For the power sector, a reverse bidding methodology was followed in the e-auctions in which the bidder who quoted the lowest bid was adjudged the winner, in order to lower the energy charge component of electricity tariffs. As the e-auctions progressed, all the blocks witnessed negative bidding where power producers relinquished their right to pass on the fuel costs to consumers. Instead, they agreed to bear the cost of mining themselves as well as pay the government an additional premium. The aggressive bidding can be attributed to the bidders’ focus on ensuring fuel security for their power projects rather than on profitability. The MoP has also recently released the draft Case 1 bidding documents for projects on a design-build-finance-own-operate basis. The draft guidelines propose to cap the fixed charge of power projects. As a result, cost recovery by new allottees will become more challenging.

Owing to these developments, Monnet Power Company Limited, which had bagged the Utkal-C block with a bid quote of Rs 770 per tonne, offered to surrender the block. Industry experts believe that aggressive bidding has led to enhanced risks in the associated power projects and the chance of under-recoveries has increased. In the long term, efficient mining practices and cost management strategies would be instrumental in the success of these bids. Besides this, power producers have the option to sell up to 15 per cent of the power generated in the merchant market, and this can be used to recover fuel costs to some extent.

cover (Page 1)Non-regulated sectors

For the allocation of coal to non-regulated sectors including steel, sponge iron, captive power plants, aluminium smelters, and cement, an ascending auction methodology was followed. This auction, too, witnessed aggressive bidding and intense competition. Companies were expected to have factored in the level of investment in the end-use project and current source and cost of coal while bidding. The high-level floor price capping of most coal blocks resulted in a high final award price. Unlike the power sector, where the winners were a mix of old and new allottees, in the non-regulated sector most of the winners were new allottees. Hindalco and the Jaypee Group bagged the maximum number of blocks at four and three respectively. In this auction, too, bidders placed a high premium on fuel security.

Current status

The MoC has notified milestones for the development of Schedule II and Schedule III mines, according to which statutory clearances must be transferred to the winner of the bid within three months of the vesting order. However, progress on the ground has not been satisfactory so far. Reportedly, as of October 2015, only seven auctioned blocks had begun production since reallocation, and produced 6 million tonnes (mt) cumulatively. Blocks which have not yet begun production are facing delays in obtaining statutory clearances from state governments including grant of the mining lease, transfer of land, etc. In fact, in some states, the land owned by the prior allottee and vested in favour of the new bidder was being valued afresh prior to the transfer. In a notification to coal-bearing states (Chhattisgarh, Maharashtra, Madhya Pradesh, Odisha, West Bengal and Jharkhand), the MoC has clarified that there is no scope for fresh evaluation of the land. State authorities have been directed to expedite the transfer/grant of the necessary clearances to the successful allottees, so that mining can commence. Subsequent to this, 10 more mines are likely to commence operations by March 2016.

Coal block auction Round 4

The MoC had invited bids for the fourth round of coal block auctions in December 2015. This round comprised eight Schedule III coal blocks earmarked for the unregulated sector. These blocks aggregate 1,143 mt of reserves, and are located in Madhya Pradesh, Jharkhand, Maharashtra and West Bengal (two blocks each). However, the fourth auction round was annulled owing to a weak response from bidders. The auction process witnessed poor participation and the bid amount was low. This is attributed to an increased supply of steel along with declining demand, as well as to depressed prices for various other end-use products. The fourth round of auctions is now likely to take place once market conditions improve.

Future production expected from captive coal blocks

In the central government’s target of 1.5 billion tonnes of indigenous coal production by 2019-20, production from captive coal blocks is expected to be 250 mt-300 mt. However, given the current pace of production from captive blocks and the delays in operationalisation of recently allocated blocks, this target is unlikely to be met. India Infrastructure Research estimates that captive production will decline in 2015-16 as only seven Schedule II blocks have commenced production so far. By March 2016, their output is expected to be around 10 mt, up from the current 6 mt.

All allocated Schedule II blocks are expected to begin production by 2016-17. These have a peak rated capacity of 60 mt, which is likely to be achieved in 2016-17 given the strict monitoring measures being followed by the central government. The remaining auctioned/allocated Schedule III mines with production capacity aggregating over 150 mt are expected take two-three years (2017-20) to commence production.