Jokowi gives foreign miners a glimmer of hope

There are signs the incoming Indonesian government will work more closely with foreign groups who have been hit hard by taxes on mineral exports.

When Joko “Jokowi” Widodo, president-elect of Indonesia, takes office  on October 20, foreign investors will be paying attention to one policy issue above all others.

The punitive taxes levied on miners’ mineral exports by the outgoing government have hit foreign groups hardest — especially US firms Freeport-McMoRan and Newmont Mining — leading to pit closures, the threat of massive job cuts and paralysed shipments.

Now, at least, the current government appears set to ease some of the taxes while there are signs the incoming administration will take that further, with Widodo saying last week he would sit down with the miners.

“The penalties are too severe. I don’t think it is easy for mineral producers to maintain their business under these circumstances. High export taxes on top of high energy costs and low global commodity prices,” Wijayanto Samirin (Wija), a policy adviser to Widodo, told FinanceAsia.

Indonesia has typically been one of the world's largest exporters of raw materials and Samirin said the underlying problem was the conflict of interest between generating revenue and attracting more foreign direct investment. “It seems like the former wins,” he said.

The dispute can therefore be seen as a microcosm of the challenges facing Indonesia and foreign investors looking at the country going forward.

“If it gets really confrontational you will see implications for foreign direct investment. A lot of the negotiations are done behind closed doors, which can be important because publicity is key,” Xavier Jean, corporate ratings analysts at Standard and Poor’s, told FinanceAsia.

Based on the FDI confidence index by AT Kearney, Indonesia ranked 9th globally in 2012 but has plunged to 25th this year. The index ranks countries based on how changes in their political, economic and regulatory systems are likely to affect FDI inflows in the coming years.

“This is a worrying phenomenon since the role of investment, including FDI, is becoming more important for Indonesia’s economy,” said Samirin. “Not to mention the loss of jobs, the increase in trade deficit and, most importantly, the loss of investor confidence due to policy uncertainty,” he added.

That uncertainty has been ongoing since the announcement of the new rules in 2009 but the issue ignited in January this year when the rules became law.

Miners were then hit by the introduction of an escalating tax system for certain exports; some of which would then be subject to an outright ban in an effort to build a healthier domestic industry.

The taxes cover most unrefined mineral exports such as bauxite, copper concentrate and nickel ore but avoid thermal coal: Indonesia is the world’s biggest exporter and the industry is dominated by local groups.

It is hoped the rules will force miners to build smelters in Indonesia and process unrefined minerals on home soil rather than ship the stuff overseas; thereby creating jobs and keeping the profits in the country.

Miners' major problem

Miners cried foul and said the costs of building such smelters would be far too punishing, the taxes themselves too high and the whole thing amounted to an illegal redrawing of their contracts.  

"From a timing point of view, the law is also too tight. Five years [from 2009 to 2014] is certainly too short to build a smelter," said Samirin.

As such, the government last week said it would reduce the new taxes for miners that commit to building domestic smelters.

But Samirin would go further. He suggests the best solution is not to require all mineral producers to build a smelter but only for certain minerals in which having a domestic smelter would provide significant added value. For the others, tax and royalties should be sufficient.

“It is not too late. The government should involve business players in the policy making process to ensure a win-win solution for all parties," said Samirin. "The new government that will be sworn-in in October should put this issue on its list of priorities”.

Freeport-McMoRan, owner of the massive Grasberg gold and copper mine (pictured below), and Newmont Mining, which together are responsible for 97% of the country’s copper concentrate exports, are the highest profile casualties of the taxes. But local groups have been hit hard too.

“All the miners have been affected. The export ban and taxes have been applied indiscriminately,” said Jean. For example, PT Antam, a large diversified government-owned miner, cannot export nickel ore anymore, he added.

Things do appear to be moving, albeit at a pace that benefits the government rather than the miners.

Last week two local groups were allowed to resume exports of iron ore, lead and zinc concentrates, the first from the country this year, after they agreed to pay a 20% tax.

Freeport-McMoRan, meanwhile, has reached a deal that will see it pay a reduced 7.5%-10% tax and provide a $115 million bond towards the building of a smelter with a view to restarting copper concentrate exports in August. It will also hand the government a bigger stake in its local venture.

In Freeport-McMoRan’s latest earnings report, released last week, the group outlined the consequences of the delay in obtaining approvals for exports.

The milling rate has effectively halved, and 275 million pounds of copper and 380,000 ounces of gold have been deferred in the first half of the year.

“To the extent PT-FI [the local venture] is unable to resume exports in August 2014, this will result in a deferral of approximately 50 million pounds of copper and 80,000 ounces of gold per month,” Freeport said in the report.

Newmont, meanwhile, is digging in its heels. The US group’s local venture, PT Newmont Nusa Tenggara (PTNNT), took its case to an international arbitration tribunal in July and shuttered Batu Hijau, its flagship gold and copper mine, idling 8,000 employees and contractors.

The Indonesian government responded by warning the group it could terminate its mining contract and hand its mine to a domestic company.

“We welcome the opportunity to work with the incoming government to resolve this issue as quickly as possible,” Omar Jabara, Newmont Mining spokesman, told FinanceAsia. “PTNNT’s strong preference is for continued dialogue with the government to lead to a resolution outside of arbitration,” Jabara added.

Jabara said there had been meetings between PTNNT and the Indonesian government to define the outline of an agreement that would allow production to resume at the Batu Hijau mine “in an economically sustainable manner”.

Exports hit

According to the World Bank economic report in July, exports of Indonesia’s six main commodities declined by about $4.2 billion between the fourth quarter of 2013 and the first quarter of 2014.

With copper concentrate exports effectively halted since the rules came in, the export of raw nickel, bauxite, lead and zinc have declined by a factor of five, according to the report.

In year-on-year terms, commodity exports from the country fell 8.3% in the first quarter.

That the export ban avoids coal has added a layer of nationalistic fervour.

“There is no major foreign coal company that holds a concession, apart from ITM [a domestic company owned by a Thai group]. The rest are domestic and controlled by high-profile local owners with ties and connections to the government. The coal companies already contribute handsomely to government coffers, even at the current low prices,” S&P’s Jean said.

Over to you Widodo.

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