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Whisper in a Tempest, reflections on the CAG report on captive coal blocks (Update: Whisper)

New Delhi, Sep.14 (ANI): The Report of the Comptroller and Auditor General of India (CAG) on “Allocation of Captive Coal Blocks and Augmentation of Coal Production” for the year ending March 2012 has, among other things, observed that the delay in the introduction of competitive bidding for coal blocks to captive users of coal in the power, cement and steel sectors had rendered the existing process of allocating coal blocks beneficial to private coal block allottees.

Based on average cost of production and average sale price of Coal India from opencast mines in the year 2010-11, the CAG has estimated that likely gains to the tune of Rs 1.86 lakh crores could accrue over 25 years to private sector allottees of 57 blocks who were allotted between May 2005 and June 2009. And that a part of that could have accrued to the exchequer, if allocation was done through competitive bidding.

The disclosure of CAG Report in the Parliament and in the media has, however, crowded out legitimate concerns raised over the growing gap between the production and consumption of coal and instead focused exclusively on the above mentioned notional figure of Rs 1.86 lakh crores. There are a number of commendable recommendations in the report by the CAG that are worthy of serious consideration

The CAG has recommended in the report that the drilling capacity of CMDIL should be enhanced to at least 15 lakh metre per annum by the Ministry of Coal and that ‘incentives’ should be given to encourage production performance and “disincentives” to discourage non/ poor performances such as encashment of bank guarantees of non-serious players.

The report of the CAG has also recommended the setting up of an empowered group along the lines of Foreign Investment Promotion Board (FIPB) as a single window mechanism with representatives from Central Government and the States Government to grant the necessary clearances.. The CAG has suggested that coal wateriest should be set up early as the washing capacity of coal is inadequate in CIL in view of the fact that Indian coal contains higher percentage of ash and washing of coal is of utmost importance.

The controversy that followed the publicationof the report and the debate that followed in the country, reflects either a bias or lack of understanding of many important related issues such as demand and supply of coal, in a transparent and fair mechanism for allocation of blocks only to those who can or will consume the coal for their own project.

There is certainly need for a very sound and transparent policy which requires a study of implications of alternative policies keeping in view balance between gain to exchequer and price of end products of use by common man like power, cement and steel.

Some aspects of CAG Report, particularly computation of profit/loss have also been questioned by leading newspapers either in their editorials or in critical analysis by respectable economic journalists. Having been involved intimately for long in Energy sector, I also participated in not a very extensive debate through emails among former bureaucrats. Complimenting on my views expressed as a “Professional Manager” one of the former colleague wrote and circulated as follows:”very rational, very objective but it is like a whisper in a tempest. Who will listen? BUT ULTIMATELY TRUTH WILL PREVAIL AFTER THE HEAT IS OVER”.

Perhaps he is correct but at the same time it still led me to elaborate my views Some of the key issues, as I see them, are the following: Whether across the board cancellation of allocated coal blocks being suggested as a remedial measure will serve the ultimate goal of increasing coal production to meet the growing demand for power and infrastructure, and if not what should be the approach? Was it necessary to allocate larger number of coal blocks during 2006 to 2009? What aspects need to be considered in formulating the policy for allocation of captive coal mining blocks? Also their implications

It is important to consider whether describing likely gain of Rs. 1.86 lac crores to allottees estimated by CAG, presumptive ‘loss to the exchequer’ is reasonable? And how this loss needs to be estimated?

It cannot be denied that right from 1993 onward till 2009 some coal blocks were allocated to parties not strictly fulfilling the required criteria. Some had no justifiable grounds for allocation of a coal mine on captive considerations and their intentions to undertaking development of those blocks were doubtful. An independent scrutiny in each case is therefore, fully justified. Allottees who did not meet the ‘criteria’ for allocation or those who post allocation have not started operations, need to be identified and stern action should be taken against them by cancelling their blocks as well as by imposing penalties.

Further, those in governments, state and centre responsible for pushing the unjustifiable cases, should also be booked.

Likely profit made by a mining company allocated a block under the very same policy will also make similar profit whether the allocation was done in 1993 or 2000 or 2006. As such all allocations made from 1993 till 2009 need to be investigated.

Cancellation of all blocks across the board allocated prior to or after 2003 may neither be desirable for country’s reputation as opined by Deepak Parikh nor in the interest of economy at large. It will only aggravate shortage of coal because cancellation of all allottees will also eliminate genuine allottees who met the criteria, may have made reasonable progress and are awaiting environmental and other clearances.

Allocation of Mine Blocks and Policy Implications

Despite some criticism made by many consumers of CIL, a monopoly entity for coal production, it was able to meet the demand to a reasonable extent of the power and other coal consuming sectors till 1990s. As confirmed by those who served in the Ministry of Coal in the 1990s, CIL was asked to prepare a list of coal blocks which it is not likely to need in the next 50 years and it was only these blocks with relatively more difficult conditions for mining and poorer infrastructure that were set aside for allocation.

The Steering Committees set up for allocating coal blocks comprised of State and Central ministries and CIL. In the early years about half a dozen blocks were allotted to the applicants who were all associated with well-known independent power projects (IPPs). It was a time when ‘blocks were chasing projects rather than projects chasing blocks’ as the IPPs preferred coal supplied by CIL rather divert their attention to an extraneous activity like mining. Therefore the question of auction never arose. It was naturally assumed that IPPs would mine coal and pay royalty to the concerned state much as CIL has done and continues to do now.

It was, however, obvious even before the year 2000 that demand for coal for power generation and other major consumers would rise manyfold during 20/30 years and that CIL would not be able to fulfill that. Further it was known that the process of land acquisition, obtaining necessary environmental and forest clearances and creating required infrastructure etc. before starting production could take as much as five years or more. Successive Governments should have, therefore, allocated far more number of blocks especially on captive basis to those with suitable organizational strengths and required financial resources.

Since timely action in this regard was not taken all along, India’s coal import dependence has increased from 6 percent to 13 percent in last 5-6 years at more than two times the cost compared to price of indigenous coal affecting the growth of the power sector on the one hand and less than optimum utilization of existing generating capacity on the other. Till 2005-06, coking coal was used to form major portion of the imports (about 50 percent) but now its share has declined to 33 percent.

The CAGR of non-coking coal import has been very high at around 30 percent in the last few years and its share in total imports climbed to 59 percent for the years 2009-10. The demand-supply gap for coal is expected to grow from current level of about 50 Million tonnes (MT) to more than 250 MT by 2025.

Meeting much greater demand for power during the coming years under the constraint of high escalation in import prices for coal on the one hand and the constraint in increasing tariff levels on the other, it may be absolutely necessary to continue with much larger coal allocations in the coming years. Allocations must be done on rational and transparent criteria including laying down clear criteria and qualifications for applicants, transferability of the allocation, system of using bank guarantees to ensure that production commitments are met may also be implanted strictly.

As pointed out in the CAG report, the delay in introducing the system of bank guarantee to ensure timely production from coal blocks meant that it could not be applied to 46 coal blocks allocated prior to 2005. 118 blocks allotted prior to 2007 were not linked to bank guarantee and therefore penalty for non-compliance of production milestones could not be imposed (page 39, para 5.7).

The delay in starting production may be for justifiable reasons in some cases as also in blocks allotted to various public sector allottees including reputed companies like NTPC. There are genuine reasons to believe that in many blocks the delay in starting the production process is on account of the extended delays running into several years to acquire land and to obtain forest, environmental and other clearances. The CAG report observes that out of 28 producing blocks as on 30 June 2011, there was time overrun ranging from one to ten years from the normative production schedules in 13 blocks.

Out of 68 non-producing blocks there was time overrun of one to five years in 47 blocks and five to ten years in 4 blocks (page 37 para 5.5). The CAG report notes that ‘abnormal time taken for obtaining mining leases, surface rights, land acquisition, resettlement and rehabilitation, environmental clearances from Central and State Governments had severely hindered commencement of production from captive blocks’ (page 37 para 5.5).

Most of the well located blocks with better extractable reserves having been linked to CIL already, allottees of the remaining new blocks, be it PSUs or private companies, are therefore expected to create more extensive infrastructure before starting operations. In this light, across the board cancellation of allocations may further delay production by genuine allottees both in public and private sectors.

Despite acute power shortage in the country, a number of power plants are not able to utilize their capacity optimally due to non-availability of coal. As for power plants linked to imported coal, despite their record good performance are incurring heavy losses because coal exporting countries have imposed additional export duty of 20 percent overnight which is being resisted for passing to the consumers through tariff.

The 12th five year plan target for adding 1,00,000 MW power generation capacity has also been reduced to 75,000 MW because a number of financially healthy private companies have put their projects with capacity of over 30,000 MW on hold. It is therefore important that allocation of new blocks are expedited to both private and public sector treating them at par on same considerations for a common power tariff.

As per Electricity Act 2003 and Tariff Policy, both public and private sector power plants are treated at par in fixing the tariff either through competitive bidding or with approval of statutorily appointed Power Regulator. Fuel being the most important input, allocation of mines must, therefore, be on the same considerations and through similar route to CIL or other PSUs and private companies.

It is also relevant to explain that current coal debate is not in the context of an open sale price of coal but of its use as a “pass through item” and that too from captive coal blocks. Further the production cost of coal being a major component of power rate, it can impact industrial growth adversely and may also not be in the interest of common man, aspects of which should not be ignored in formulation of new coal mining policy.

The very people who, in order to increase the accrued benefits to exchequer support much higher price of coal will in all probability criticize power utilities demanding higher tariff. For fixing the power tariff the regulatory authorities also treat public and private sector power utilities at par. Correspondingly the allocation of captive coal blocks to CIL, PSUs and private sector companies should be on the same terms and through a common route which does not seem to be the approach in the CAG report.

Calculating the ‘loss’ to the exchequer

For any rational and healthy debate it is only proper to compute a reasonable and as far as possible correct estimate of loss to exchequer. CAG’s estimate of financial gains to the tune of Rs. 1.86 lakh crores is presumed to accrue over 25 years. The Report rightly state that “a part of this financial gain could have accrued to the national exchequer …………” It is that “Part” which could be nearer to likely loss (page 31, para 4.3). The CAG Report, however, does not estimate the same.

Since the quantum of the “Part” depends on correct valuation of likely profit, it is reasonable to rework the same after considering all possible deductibles questioned by leading journalists and also as per standard accounting principles and norms adopted by Financial Institutions. These are summarized below:

1.Net Present Value of aggregate profits accrued over 25 years will have to be arrived by discounting it at a rate of 10 percent concurred by CAG. On this basis, the NPV of the figure 1.86 lakh crore could be 64 percent lower over 25 years.

2.An argument that entire ‘profit’ made by the private sector is ‘loss’ to the exchequer will be perverse and would defy economic logic. Private capital also creates employment, pays taxes and very often also invests in technology, training and in infrastructure. A private party should, of course, be mandated to mine coal for making a reasonable ‘profit’ say at a rate of return on equity of 15-16 or so.

3.Corporate tax rate which currently stands at 30 percent is a standard deductible and which consequently goes to exchequer.

4.Sale revenue and corresponding profit from coal mining have been computed on the basis of 100 percent extractable reserves in blocks where mining plan is available and 73 percent of gross reserves in blocks where mining plan is not available. Actual extractable reserves in open cast mines developed by CIL are, however, much lower. An average figure actually achieved by CIL over the years may, therefore, be assumed for computing sale revenue and profit.

5.Depreciation is a deductible item for computing the net profit. In this regard using CIL as bench mark is questionable because the rate of annual depreciation in any new company with newly acquired capital equipment is bound to be higher than that of an established company like CIL.

6.Provision may have to be made for an expenditure of 26 percent of net profit on local area development under the Mines and Minerals Development and Regulation Bill 2011 (MMDR Bill 2011) which is likely to be passed by the Parliament in the near future. It is, however, not clear if required expenditure for doing this will be out of profits of past allottees.

7.A reasonable profit at the rate of 15% of Return on Equity which is also a legitimately deduction.

It is also for consideration that for a fair assessment of loss to the exchequer so calculated, an expert body which is not a party to the case and commands a reputation for integrity could be asked by some concerned Authority or may be by PAC to undertake a detailed accounting exercise to arrive at a rational figure for the likely loss to exchequer.

Estimated figure of Net Present Value of Rs 1.86 lakh crore discounted at 10 percent annually along with above deductions would, therefore, reduce to anything like less than 10% of the figure of likely gain.

What could have accrued to the Government through bidding process is the amount quoted with the bid. The same will definitely be a part of extra profit i.e. an amount “lower than 10% of Rs. 1.86 lac crores” as estimated above. In other words that loss part to the exchequer will be a smaller part of that so called extra profit.

In all the debate which drowned the monsoon session of the Parliament, this aspect was not heard even as a whisper..(ANI)

Attn: News Editors/News Desks: Mr. D.V.Kapur is a former chairman and managing director of NTPC and Secretary to the Government of India. The views expressed in the above article are is own.