An Indian PSU success story

The Indian PSU consortium International Coal Ventures Pvt Ltd’s (ICVL) agreement with Rio Tinto to acquire the latter’s coal assets in Mozambique for $50 million is a significant development. ICVL claims that production from the mines acquired will triple in three years to 13 million tonnes after a $300 million investment.  60% of this increased output would be shipped to India in a cost effective manner using a ‘secret recipe.

ICVL was set up in 2009 by the Indian steel ministry to secure metallurgical/coking coal and thermal coal assets abroad. A consortium of five PSU’s – SAIL, RINL, Coal India, NMDC and NTPC, this is ICVL’s first successful acquisition of an asset abroad since inception. ICVL’s assets are in  Mozambique’s Moatize basin and contain both prime coking c and thermal coal. Moatize is deemed the most prolific coal basin globally after  Australia’s  Bowen Basin.

Prima facie this is a good acquisition. ICVL gets 65% in the Benga mine – Tata Steel owns the remaining 35%.  Already operational, this mine produced 5 million tonnes of coal in 2013. It also gets the greenfield Zambeze and East Tete mines. Cyclically it is a good time to buy coal assets given that benchmark Australian thermal coal prices touched $136.30/tonne and coking coal prices peaked at $330/tonne in 2011. Corresponding prices today are $68 and $114 respectively. Mozambique’s geographical proximity to India and the cheap to mine Moatize coal, together with India’s voracious appetite that necessitated imports of 152 million tonnes of coal in 2013 mean that the coal produced from these mines will have a ready market across the Indian ocean.

However, what makes the price look especially attractive is the valuation of these assets when previous owner Rio Tinto,  the world’s second largest mining company  bought them. In June 2011 Rio Tinto acquired complete control of Riversdale Mining, a much sought after asset given the reserve estimates for its mines - 2.6 billion tonnes in total and 70% of those being coking coal reserves. These mines were projected to supply 10% of the global coking coal market over time and Rio valued Riversdale at $3.8 billion. In contrast, ICVL’s price of $50 million looks like a real steal.

The question that follows is intriguing - what did the executives at Rio miss when they valued Riversdale at almost $4 billion, and what did their ICVL counterparts sitting in leafy central Delhi scent when they bought the same assets for a fraction of that price three years later? One may infer that Rio was lured to pay a huge premium by high coal prices and the easy financing available during 2011. In the current environment where coal prices have fallen and miners globally are prioritising disciplined capital allocation over expensive greenfield projects, the Mozambique assets do not offer the same return as earlier envisaged. However, hindsight is 20/20 and a central element of Riversdale’s acquisition that likely got scant attention was the huge logistical challenges when operating in Mozambique. Those challenges still persist and could make ICVL’s task of unlocking value from these assets tricky.

Even though the Benga mine produced 5 million tonnes in 2013 and has a state of the art surface infrastructure, all of its coal cannot get to port Beira, some 600 kms. from Tete. Beira is accessed through rail by the colonial era single track Sena line that has been damaged by civil war and significant underinvestment. It is not a dedicated coal line and miners share it with passenger trains. The logistical constraints are so acute that over the last two years,  Rio was running out of space to stockpile coal produced from the Benga pit and production had to be halted to clear space as stockpiles exceeded 1 million tonnes. Similarly, the Brazilian miner Vale produced 11 million tonnes of coal in 2012, but could only export 2.6 million. Rio’s plans of barging coal down the Zambezi river have also come to nought. Frequent silting make the river difficult to navigate and its calmest stretches are inhabited by hippos and crocodiles. Jindal Steel and Power has opted to truck its coal 700 kms. from Tete to the port at Beira – an exercise that adds $60-$70 to the cost of moving a ton of coal to port, roughly four times the comparable figure in other coal exporting nations like Australia.

The early history of the project had a "habit" of re-stating reserves. This was endemic in 2008, a period when "Spreadsheet Mining" by investment bankers with limited understanding of the operational and logistical nuances of mining was prevalent and proved to be the source of many over-priced valuations on mining reserves. Buyers and sellers of mining assets were equally guilty though - valuing a 2 billion tonne resource that would be mined out over 50 years on a pro-rata basis to a 200 million tonne reserve with a mine life of 10 years became par for the course, projecting tantalizing profits and inflated valuations.

Clearly  ICVL has its work cut out and getting coal from mine to port, and producing in line with available transport infrastructure will be top priority. The Mozambique  government claims plans are afoot to increase the capacity of the Sena line from the present 6.5 million tonnes to 20 million by 2015 - ambitious, to say the least! Vale is taking the most proactive approach and building the Nacala corridor, a 900 km. rail line that will cross into Malawi before entering Mozambique and terminating at the deepwater port of Nacala. A partnership with Vale or Tata Steel to find alternative routes to port would be highly desirable, aggregating and optimizing the considerable wealth of reserves in the region.

ICVL’s acquisition is important in more ways than one. Having historically lost out to Chinese state owned groups in securing mineral resources abroad, this marks a credible  win for India’s state owned firms. The enormous discount to the 2011 Riversdale acquisition also demonstrates tactical buying – a trait sorely missing from India’s energy security strategy. Finally, it demonstrates ambition. ICVL, essentially an Indian government company is attempting to succeed where one of the world’s biggest mining conglomerates has failed. 

If ICVL is pragmatic in its strategy i.e. finds the right partner and produces in line with conservative estimates of infrastructure capabilities going forward, they could have bought a gem. But if they adopt the big mining company mentality - this will likely end in tears. 

Authors
Rod Savage has over 30 years extensive experience in the international coal and energy industries in both mature and developing countries and global markets. He can be contacted at rod.savage@savageresource.com

Ishan Bhaskar is a coal and energy commodities trader based in Asia and the founder of  a physical commodities brokerage. He can be contacted atibh@cubyira.com