Approach for Long Term Imported Coal Contract - A brief overview 20 November th Coal Summit 2012, New Delhi 1

20 November Approach 4 th Coal Summit 2012, New Delhi

Long Term is a relative term. In International Coal market, 2 to 3 years is considered long term but requirement of IPPs is different due to funding by Financial Institutions/Banks. They require 15 years Fuel Supply Agreement if not more 20 November Long Term 4 th Coal Summit 2012, New Delhi

Indonesia South Africa / Mozambique Australia United States/Canada/Columbia 20 November Likely Sources of Imported Coal 4 th Coal Summit 2012, New Delhi

Are we short of Coal Reserves ?NO Are we short of Production ?YES Did we know about it 10 years back?YES Are we Myopic ?NO (We have Coal Vision 2025) Are our Bureaucrats who are Policy makers not aware OR just plain Incapable ?WRONG QUESTION 20 November Question is Why Imported Coal 4 th Coal Summit 2012, New Delhi

Is Political Class capable of sorting out this issue of shortage of domestic coal in National interest ? If YES, then is there a vested interest in not doing it ? If NO, then isn’t it time for Bureaucrats and Technocrats to rein in their hands and be counted so that our Nation can prosper ? 20 November Which brings into the Question 4 th Coal Summit 2012, New Delhi

Domestic Production figure in Million MT Year INDIA CHINA9503,522 (3.5 Billion MT) 20 November Food for thought 4 th Coal Summit 2012, New Delhi

What difference does it make ? Do you still believe in it ? What happened to Coal Vision 2025 ? Are we just visionary on paper ? 20 November Supply / Demand Gap by Planning Commission 4 th Coal Summit 2012, New Delhi

Instead of Exporting washed coal and earning foreign exchange we are Importing coal Even after 65 years of Independence, 46% of Indian population is not covered by Electricity We need to correct this situation and only way forward is to prudently plan our Coal Import Strategy 20 November Import instead of Export ? 4 th Coal Summit 2012, New Delhi

Simply going by figures of Ministry of Coal, projected Supply Demand Gap of Coal is as follows: 120 MT in MT in MT in November Lets work on Bridging the Gap 4 th Coal Summit 2012, New Delhi

At present only Option to meet the gap is to Import the Coal, for at least next 10 years Unless and until we open up our Coal Mining Sector to foreign participants with condition to develop mine of 50 Million MT / annum capacity in 5 years time frame At least 5 such foreign ventures should be allowed which will bring in capital and latest mining technology 20 November Imported Coal – Mid Term Option 4 th Coal Summit 2012, New Delhi

 Global Economy is wobbly and China is growing at a Slower rate and so does India. Miner is feeling the pinch and this is the time to strike and reach for that long term Contract which till now was not easy to forge  Even Shipping Freights are at bottom and industry is tottering  Flexibility and Understanding of International Work Culture and Macro scenario is the KEY 20 November Its all about TIMING…….you sure know your CRICKET 4 th Coal Summit 2012, New Delhi

Miners were riding on a high wave and were not interested in Long Term Contract of 15 years. They wanted to sell on Spot or at the most Annual Qty Contract i.e. 1 year with price based on Quarterly Index if not Monthly. In some rare cases where Miner agreed to sign 20 years Contract with delivery starting 4 years from Contract date, the Power Plant approvals in India took so much time that in 4 years, construction did not even start, forget commissioning. So now many miners are cautious of dealing with Indian IPPs 20 November Timing………… 4 th Coal Summit 2012, New Delhi

Instead of 15 years Contract, try to work on 5 years Contract with Options for another 5 + 5….. ………Yes, I hear you. We all know that Financial Closure requires 15 years CSA (Coal Supply Agreement) BUT Think Out of Box. There is massive liquidity in International market waiting to be tapped 20 November Take Baby Step instead of leap to No-where 4 th Coal Summit 2012, New Delhi

5 Year Horizon is easy to work with and this will open the dialogue with miner that can be explored further for 10 years or 15 years Contract This will also give time for IPPs to understand the working in International market and take corrective steps if required or entering into Contract with other Suppliers OR Joint Venture Partnership to leverage its position in the market 20 November Baby step to Adult-hood is all I ask 4 th Coal Summit 2012, New Delhi

Customer is important but like ups and down in the global economy, we also have Seller’s market. So its important that Buyers/IPPs when negotiating a Contract should not look at it from a higher pedestal and should equally recognize the view points of Seller Remember Contracts are supposedly ‘MUTUALLY AGREED’ and not shoved into the throat like it is being done presently by some of the Buyers. 20 November It has to be WIN-WIN 4 th Coal Summit 2012, New Delhi

Buyer maybe happy negotiating a One sided Contract (also called Strong contract) by showing its position of Strength but this will definitely give rise to discontent over a period of time and either the miner will default or will supply sub-standard material. It has to be a collaborative efforts and hence demands understanding on both sides. Once the Contract has been signed, it has to be backed by creating a coordination team for day to day Operations. 20 November Win – Win…….. 4 th Coal Summit 2012, New Delhi

Security of Supply Consistency in quality adhering to the Contractual specification Reliability of Delivery Best price and minimal price risk Ideally a fixed price for term of the Contract Back-up supply for emergencies or in case of Force Majeure with that particular mine 20 November Let us see what is Buyer looking at ? 4 th Coal Summit 2012, New Delhi

Country Counterparty Price (including Shipping freight) Volume & Quality Credit Operational Legal Political Force Majeure (Weather, Labour, Riots etc) 20 November What Risk does a Buyer face ? 4 th Coal Summit 2012, New Delhi

Buyer can define, manage and mitigate the Risk while meeting its objective to procure the coal in an efficient manner so as to maximize the returns 20 November Mitigate your Risk 4 th Coal Summit 2012, New Delhi

First and foremost risk to evaluate on macro level in buying imported coal is to consider Country Risk and Political Risk Basic Fundamental – Never put all your eggs in one basket. One should always consider multiple coal supply source to spread the risk. This should be from at least 2 countries if possible Political Risk can be in the form of Policy changes by the government or change in government. In an environment where every country wants to protect its Natural Resources we have to be cautious 20 November Country and Political Risk 4 th Coal Summit 2012, New Delhi

If above is not workable, then it is imperative that you should have at least 2 sources of supply within the same country but preferably different regions.  This is very important especially in case of coal supply from Indonesia due to variables not under the control of mankind. One simple example being Rain which are incessant and due to poor infrastructure it leads to multiple problems like mine flooding, cargo movement, loading operations (which is mainly anchorage), increasing the Total Moisture in Coal and hence reducing the Calorific Value etc. 20 November Multiple Supply Source 4 th Coal Summit 2012, New Delhi

If we are signing a 15 yrs Contract for Coal which we know is paramount to run the Power Plant then why don’t we bring our long term supplier(s) into the fold as our Partner or stakeholder? Bring in the miner/supplier as a Partner and concentrate on Generating and Selling the Power which is the core competence of IPPs This will also mitigate Counter Party Risk 20 November Are Long Term Contract Supplier not actually a Partner ? 4 th Coal Summit 2012, New Delhi

Current Capacity and Capability to raise the production Past Performance and Reputation in the market Reserves – Life of Mine Ability to meet the Specifications consistently Current Infrastructures including equipment's like loaders, excavators etc., ownership of Jetty in case of Barge loading, Loading by conveyor, barge ownership and so on. 20 November Evaluation of Suppliers 4 th Coal Summit 2012, New Delhi

Operational Capability Further Exploration potential of current tenement Contract Mining or Owner Mining Relationship of Mine Owner with locals and if any CSR project implemented Financial capability to manage production on sustained basis Current markets being served 20 November Evaluation of Suppliers…… 4 th Coal Summit 2012, New Delhi

Terms of Import is important as it allocates the Risk, Responsibilities and Cost. ICC Incoterms 2010 is Standard for the Industry Two most common Delivery terms are  - FOB (Free on Board) & CIF (Cost Insurance and Freight) Or CFR (Cost and Freight) 20 November Delivery Terms 4 th Coal Summit 2012, New Delhi

In case of FOB  - Seller’s responsibilities ends at Loading  - Buyer takes risk of Shipping  - Buyer will require a Logistic team to oversee the operations and coordinate with Vessel Owner starting with Vessel Nomination to loading and till the time the Vessel has discharged at Disport  - Buyer takes freight market volatility risk but may hedge thru Long Term COA or thru FFA 20 November FOB Term…… 4 th Coal Summit 2012, New Delhi

In case of CIF  Seller takes risk of Shipping  Seller’s responsibility is up to Disport  Buyer’s logistics needs are reduced and hence the cost overheads goes down  Buyer does not face any Shipping freight volatility risk as it is transferred to Seller  No Ugly Surprises on the Contractual price 20 November CIF Terms…… 4 th Coal Summit 2012, New Delhi

Miners’ in general (except for big boys) are interested in selling on FOB basis IPPs would like the coal to be delivered at their doorstep or at least at Discharge Port (CIF or CFR Basis) To bridge this Gap, IPPs should consider outsourcing this services to specialized Trading Companies who are willing to own the risk and responsibilities that comes with it. It can be done at a fixed fee and comprehensive Term Contract should be signed to make it binding. 20 November How to manage the Gap ? 4 th Coal Summit 2012, New Delhi

The Trading Company or Outsourced Company will not only finalize the Shipping Terms with Vessel Owners but also oversee the Operations right from stage of Vessel Nomination to coordinating with Miner for Loading operations up to Discharge The scope of Trading Company can be further increased so as to serve as Buyer’s Protecting Arm and supervise the loading and sampling operations to ensure that quality, quantity and other Contractual terms are not compromised 20 November Mind the Gap 4 th Coal Summit 2012, New Delhi

Clearly define the Specifications and its governing Standard (ISO or ASTM) in the Contract The Sampling Analysis Report by Inspection Agencies generally provides for Proximate Analysis but you can ask for Ultimate Analysis, Ash Analysis and others like AFT, Size and HGI 20 November Quality and Quantity 4 th Coal Summit 2012, New Delhi

Independent Inspection Agencies to be mutually agreed and preferably same Agencies to be used for both Load Port and Disport for purpose of consistency Sampling at Load port shall be at Supplier’s cost 20 November Inspection agencies to be mutually agreed 4 th Coal Summit 2012, New Delhi

Sample to be divided in 3 parts.  1 st part for testing by laboratory  2 nd part retained by Supplier  3 rd part to be retained by Laboratory for 60 days and marked Umpire Sample and sealed in presence of Buyer (preferably) This is a mined product not manufactured product so expect variations but within limits 20 November Remember..Umpire is always the key 4 th Coal Summit 2012, New Delhi

The Sampling Report at Load port is usually generated by 5 th day of Vessel Sailing and hence Buyer gets the result of the cargo before Vessel reaches destination port Buyer has the right to reject the cargo falling under Rejection Limit Analysis Buyer and Supplier may negotiate reduced price for rejected cargo 20 November Right to reject the cargo 4 th Coal Summit 2012, New Delhi

Buyer has the right to appoint Inspection Agencies at the Disport to check for quality If Calorific Value of Discharge Port and Calorific Value of Load Port varies by amount greater than allowed by International Standard or an agreed tolerance, then Umpire Sample to be tested by another Independent laboratory or in 3 rd country If Umpire Sample confirms the difference then Umpire Analysis result is final and binding for Payment purpose. 20 November Disport Sampling 4 th Coal Summit 2012, New Delhi

The weight of Coal as determined by Independent Inspection Agency at the Load Port through the process of Draft Survey Report is Final and Binding for the purpose of Invoice Draft Survey are very accurate and we don’t find much variation from Load port to Discharge Port 20 November Quantity 4 th Coal Summit 2012, New Delhi

 Now we come to the most crucial part of the Contract i.e. Price. Buyer has to keep 3 important things in mind while looking at the price.  Firstly, Landed cost of coal consist of FOB + Shipping Freight. So apart from FOB price SHIPPING FREIGHT is equally important. Today the Shipping Industry may be soft but even couple of years back upto 40% price of CIF coal consisted of freight price. It does not take much for market to change so book freight on 5 yrs Buyer’s Option COAs. (Contract of Affreightment) 20 November Price Price Price 4 th Coal Summit 2012, New Delhi

 The Freight negotiated for COA will be Base Price with provision for Bunker movement linked to index. This is the standard industry norms  Second component is FOB Price. Forward Coal prices are extremely difficult to predict in today’s situation and volatility is high. Days of annual Contract at Fixed Price is over  Stake Holders prefer companies that perform as planned without giving hiccups. 20 November Shipping + FOB Price 4 th Coal Summit 2012, New Delhi

 Secure company’s objective by locking in the required quantity at an Indexed Price or at a Fixed Price  We have reputed Index in the market like Platts, ARGUS, API4, RB1, RB3, NEWC, globalCOAL etc.  These indices are being used for sale and purchase of Billions of Tonne of Coal per annum globally and hence liquidity is very high 20 November Index Pricing 4 th Coal Summit 2012, New Delhi

 Buyer can enter into a Quantity Contract of say 5 or 10 to 15 years with price to be fixed quarterly based on mutually agreed Index or basket of Index. This should be fair to both the parties (remember WIN-WIN)  Problem faced by IPPs is that they have to sell the electricity at a Fixed Tariff and it is not linked to Fuel Cost variation proportionately  This anomaly need to be sorted out by Policy makers 20 November Index Pricing 4 th Coal Summit 2012, New Delhi

 To obtain Fixed price, Buyer can buy the underlying SWAPS linked to Index going forward 3 years and on other side have a normal Quantity Contract with Miner with price based on Spot  However, the market presently only supports SWAPS of 2 to 3 years going forward and its not a Perfect Hedge 20 November Fixed Price using SWAPS 4 th Coal Summit 2012, New Delhi

 The Third component of Pricing that hits the costing is Currency Fluctuation  We can only hope that Indian economy will strengthen going forward and so cost of Imported Coal will be cheaper  Hedging is one way of tackling it but one has to take informed decision because market can turn against you in a short time 20 November Currency Fluctuation 4 th Coal Summit 2012, New Delhi

My personal belief is that in Asian way of Trading, relationships are very important and even the most difficult situations can be sorted out across the table However things can go wrong and it DOES especially in a Long Term Contract Please ensure that Contract is governed by Laws that are workable, fair and delivers quick justice My view is that there is nothing better than Singapore Law to govern the Contract and its also based in Neutral country so neither supplier or buyer should have objections 20 November Governing Law 4 th Coal Summit 2012, New Delhi

For a Power Plant, coal cost represents 80 to 90% of variable operating cost Without the coal, the plant cannot operate and revenue is Zero Coal Price and availability is important but Buyer is not in the Coal business The Buyer does not want Coal procurement matters to distract from real business of generating Power 20 November Conclusion 4 th Coal Summit 2012, New Delhi

Therefore its important to conduct due diligence on miner and to source coal from reliable supplier with consistent quality and reserves If the situation demands then please outsource the procurement, logistics and quality control process to a Trading Company or Fuel Management Company who have core competence in this field (Bridging the Gap) 20 November Conclusion 4 th Coal Summit 2012, New Delhi

Thank you for your time 20 Collyer Quay # Tung Centre Singapore T: F: E: 20 November Till we meet again….. 4 th Coal Summit 2012, New Delhi