Fitch: Indonesian coal miners may get more time on royalties

(Fitch Ratings-Singapore-04 September 2014): Fitch Ratings says that coal miners in Indonesia are likely to get more time to repay the government the royalties that were set off against value-added taxes (VAT) since 2001 because of complexities associated with the settlement, and the prospect that key policy decisions for such an important sector may have to wait until Indonesia's new president is inaugurated.

The Ministry of Energy and Mineral Resources had set a deadline of end-October 2014 for the repayments. This applies to coal miners operating under first- and second-generation coal contracts of work (CCoW) who started netting off input VAT against royalties when the central government classified mining as a VAT-exempt sector in 2001.

The amount of royalties owed is substantial for large CCoW concession holders - for example, PT Adaro Indonesia (BB+/Stable) reported about USD750m as at June 2014. The complications associated with the implementation of this directive include the requirement to pay interest retrospectively on unpaid royalties to-date and the return of VAT from the government. While the exercise will likely result in a 'zero-sum' outcome for the state as well as coal producers in terms of net cash flows eventually, many coal producers will find a large upfront payment challenging under current poor market conditions, which have weakened their cash generation and liquidity.

Indonesia has a track record of introducing numerous changes to its mining regulations, but has also demonstrated some pragmatism when implementing them, often revising them based on consultations with industry participants. Given the cash flow challenges faced by many coal miners in the country, we expect a rational outcome for the settlement of royalties. We also believe there is a strong possibility of a final outcome being delayed until after the inauguration of the new president on 22 October 2014, given the importance of mining to the economy, employment and state revenues of Indonesia.

Another potential challenge for the coal miners is a new proposal by the state requiring coal exporters to pay royalties prior to shipping their cargoes. At present, miners pay royalties one to three months after shipment, once cash is collected from their customers. Given the cash flow challenges and curtailed access to funding for the sector in general, we feel that this shift too could be challenging to implement. (ends)