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The metal mining industry, one of the key drivers of Indonesia's emerging economy, is undergoing a profound change in reaction to a harsher legal environment. Caps on foreign equity and curbs on ore exports make business as usual a thing of the past. The global market environment, meanwhile, offers little support. Base metal prices have failed to attempt a convincing recovery ever since tumbling from the highs they had reached in early 2011; they continue to hover just slightly above the multi-year lows hit in 2013. Yet the state of affairs in Indonesian metal mining is not uniformly bleak. The government's push to add value to the industry by pushing companies to develop the downstream business is producing results, if investment plans for smelters and other facilities are anything to go by. Building Indonesia's metal industries requires immense capital, much of which will come from abroad. The ore export ban, therefore, should be seen by foreign investors as an opportunity rather than a threat. For mining companies and investors willing to play by the new rules, it's far from game over.
According to Statistics Indonesia (BPS), annual growth in non-oil and gas mining slowed from a stellar 24% in 2011, to 15.8% in 2012, 5% in 2013 and to a puny 0.4% in 2014. Over the same period, the industry's contribution to Indonesia's economy shrank from 3.2% of GDP to 2.4%. The slowdown reflects a challenging and highly changeable regulatory environment, which makes companies hesitant to commit to long-term projects. For foreign investors, two of Indonesia's new mining rules are particularly concerning. Both are based on Law No 4/2009 on Mineral and Coal Mining, also known as the Mining Law.
The first is a requirement for foreign mining companies to divest equity stakes in projects to local entities. Government Regulation No 24/2012 and the implementing Ministerial Regulation No 27/2013 mandate that at least 20% of a project must be held by Indonesian entities in the sixth year of production. Local ownership should then increase stepwise to no less than 51% ten years into the production phase. The regulation applies to mining operations with a Mining Business License (IUP) based on the Mining Law. The stakes to divest will be offered first to the government, then to state-owned enterprises, and if they reject, finally to private Indonesian companies at prices that depend mainly on costs incurred during the exploration and production phase. Stock market sales do not count as divestment in this context. Multiple Indonesian holders could effectively gain control of operations if they work together, which obviously is a concern for foreign investors planning a long-term engagement.
No less controversial is a ban on the export of raw minerals from Indonesia, which went into effect five years after the Mining Law, on 12th January 2014 (See Metal Mining – Foreign Investment More Necessary Than Ever). It was implemented just a day earlier through Government Regulation No 1/2014 and Ministry of Energy and Mineral Resources Regulation No 1/2014. The ban applies to most mineral ores, but was relaxed to grant a grace period for the continued shipment of just lightly processed copper, iron, lead, zinc and manganese ores until 2017 – contingent on assurances by mining firms to refine their product in the future and subject to an escalating export tax. The policy is intended to add value to the mining sector by having metal minerals refined domestically instead of shipping them abroad in their raw state, with a specific degree of concentration or beneficiation required for each commodity. The expectation is that the new rules would compel mining companies to build smelters or cooperate with smelting companies. Indonesia has rather successfully nurtured the growth of downstream industries for agricultural resources such as crude palm oil, but the situation in the metal industries is quite different due to the high costs of smelters and their demanding infrastructure and energy needs.
The immediate result of the ban was a stark decline in mineral exports, since the country had far too little smelting capacity to process all mining output. Bauxite exports almost came to a complete standstill, plummeting from more than 55 million tonnes in 2013 to half a million the following year, according to estimates from the US Geological Survey. There was some discussion in the government in early 2015 about easing export restrictions for bauxite, where smelting is particularly costly, and about possibly pushing back the 2017 deadline for an unconditional export ban.
Indonesian Mine Output (tonnes)
Source: US Geological Survey, Mineral Commodity Summaries
While many mining companies decided to take a wait-and-see approach when the new export rules were announced, the time for waiting is coming to an end as the remaining exceptions become unviable with the increasing export duty. None of the existing (and possible additional) exemptions change the general policy direction. The new administration of President Joko Widodo has made it clear that Indonesia remains intent on enforcing onshore processing of metal minerals across the board; that is a fact the industry has to face.
Indeed, the new rules are showing some of the desired effect, albeit slower than the government had hoped. Investors are planning to build six alumina refineries and 30 nickel smelters through 2017, according to the Ministry of Energy and Mineral Resources, Bloomberg reported in December 2014. Four months earlier, ministry officials said the curbs had attracted about $18 billion USD in investment commitments to build processing plants, mostly from China. The government obviously has an interest in talking up investor interest, while the situation on the ground might look less rosy. The Jakarta Post reported in March 2015 that state-owned diversified miner PT Aneka Tambang (Antam) was struggling to find partners for a planned bauxite smelter, with the only partner thus far being another state-owned enterprise, PT Inalum. Nevertheless, even critics will concede that the ore export ban is definitely directing business activity downstream, and investors have little choice but to embrace this.
One recent policy trend that has been welcomed by mining industry participants is a more assertive stance of the central government on licensing issues. The Mining Law empowers regional and local authorities to issue mining licenses, which has added to bureaucratic complexity and in some cases caused disruptions and overlapping concessions. Possibly in response to these problems, Government Regulation No 23/2010 and Ministry Regulation No 27/2013 hand the central government the exclusive right to issue and renew mining licenses for foreign investment companies (PMA).
Since 2011, the central government's Ministry of Energy and Mineral Resources is also conducting a verification of existing licenses. Approved projects are issued a “clean and clear” status. Even though the licensing power still rests with regional and local authorities, the clean and clear requirement in practice recoups some central power over the process. It is also intended to improve legal certainty. Moreover, the new administration in Jakarta has given provincial authorities twelve months to provide a one-stop service for investment projects (not just in the mining sector) in a bid to ease the paperwork load (See Reforms at BKPM; Jokowi’s Administration Aims to Woo Investors).
Both the government and the mining industry have an interest in Indonesia successfully building a downstream mining industry and the adjacent metal and steel industries. While state-owned enterprises can be directed to pursue investments for political reasons, private companies will only do so where it makes economic sense. The government is aware of this, as it has indicated by softening up the export ban in the last minute. Despite rather uncompromising political rhetoric, there is considerable scope for negotiation when it comes to detailing the terms of a specific project, including tax incentives. For investors willing to work their way through the bureaucratic processes, engaging in Indonesia's burgeoning metal industries can be a rewarding experience.
It is also important to note that not all metals are equally affected by the new processing requirements. Purifying precious metals to the required degree for export, for instance, is less costly than the processing of some base metals, and given the country's rich gold deposits and some silver as well, this provides investment opportunities both upstream and downstream. As national demand for all metals increases, mineral processing is increasingly the missing link in the domestic production chain, which should drive demand for processing over the coming years and decades. President Widodo has promised to raise Indonesia's GDP growth in 2015, and he knows that delivering on this promise will be almost impossible without strong exports and investment in the mining sector.
Global Business Guide Indonesia - 2015
Contribution to GDP: 3.44% (2016)
Oil & Gas Imports: $1.22 billion USD (Jan 2016)
Proven Oil Reserves: 3.69 billion barrels (2016)
Proven Gas Reserves: 2.85 trillion cubic metre (2016)
Proven Coal Reserves: 28 billion tonnes total reserves (2015)
Proven Potential in Geothermal Energy: 27 GW
Proven Potential in Hydropower: 75 GW
Other Energy Sources: Coal Bed Methane, Biomass, Waste, Ocean Current, Solar, Wind.
Current Energy Mix: Petroleum 41%, Coal 30%, Natural Gas 23%, Renewables 6% (2014).
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