ANALYSIS-Rough ride ahead for Indonesia's coal railways

Published: 22 Jul 2010 00:07:37 PST

* Key rail project to face funding, regulatory challenges

* Central Kalimantan rail project already facing cost delays

* Slow progress to keep global coking coal supplies tight

PERTH/JAKARTA, July 22 - Indonesia's plans to unearth and export its vast coking coal resources could stumble over the need for large rail projects, meaning little relief for the tight global market for at least the next five years.

Central Kalimantan province holds 1.4 billion tonnes of mostly high quality metallurgical coal reserves, the government says, but these are buried deep in the rugged mountains and forests of Indonesian Borneo.

Despite the difficulties, soaring prices for the steel-making raw material mean the world's top miners, including BHP Billiton Ltd, are still interested.

But regardless of how much is mined, a lack of funds and uncertainty over government rules could stymy the infrastructure needed to get the coal to port and on board ship.

Low water levels in the key Barito river during the dry season from May to September can also limit coal barge trips to offshore loading facilities for up to five months a year.

"There's no shortage of investor interest in Indonesia's coal rail infrastructure, that much is clear," said Andreas Bokkenheuser, a commodities analyst at UBS in Singapore.

"But difficulties for firms in securing capital commitment, land acquisition issues and tough terrain are posing big obstacles to these projects. I wouldn't expect anything to materialise in the near term."

MISSING PIECE IN PUZZLE

Building a rail network is crucial to unlocking the reserves of mines in central Kalimantan, where the lack of infrastructure and high cost of trucking coal to ports are major impediments.

BHP wants to develop the 774 million tonne Maruwai deposit to produce 6 million tonnes of both thermal and coking coal by 2014, with a Citigroup research report saying the major plans to triple annual output to between 15 million and 20 million tonnes.

Local firm PT Marunda Graha Mineral, in which Japanese trading house Itochu Corp holds a 23.5 percent stake, plans to lift production at its MGM coking coal mine by 25 percent to about 2 million tonnes per year.

In a bid to boost coal exports, the government has kicked off a tender seeking firms to jointly build a 185-kilometre rail line to connect remote inland coal mines to a port.

But building such major projects is no easy task, especially in Indonesia, where corruption is endemic and decentralization has thrown up inconsistent regulations, particularly on laws concerning forestry protection and land acquisition.

In just one year, the estimated cost for the Puruk Cahu-Bangkuang railway line has blown out to $2.2 billion, compared with initial estimates of $1.5 billion, the Jakarta Globe reported in May, with completion seen delayed by at least a year to 2013.

Despite the government having signed a decree in March to allow mining to take place in protected forests, overlapping jurisdictions and poor coordination between agencies means firms are facing a tedious process in obtaining approvals.

Land rights are also a major issue, with producer sources saying that increasing claims for compensation are putting pressure on project costs.

"It may be slightly easier for the government to acquire the land needed for the rail project, but for a private company, it will take them forever," said Bill Graybeal, chief executive officer of Italian trading firm Coeclerici.

Raising the money is another hurdle for these multi-billion mega projects.

"With the slowdown in the economy in the past 24 months, we just haven't seen any capital commitments come in due to difficulties in securing project funding. Access to funds for these projects will not come easy," UBS' Bokkenheuser said.

TIGHT SUPPLIES TO CONTINUE

For steel mills being hit by the double whammy of slowing demand and sharply higher costs for their main inputs, coking coal and iron ore, the extra supply would be very welcome.

Prices of coking coal are up by 75 percent this year to $225 per tonne, hitting mills such as China's Baosteel, Japan's Nippon Steel, South Korea's POSCO and Luxembourg-based ArcelorMittal.

Analysts are predicting that global supply of coking coal, estimated at about 230 million tonnes, is likely to remain tight through to at least 2015 on the back of continuing increasing demand from China, India and Brazil.

Global research firm Wood MacKenzie said coking coal exports from Indonesia could jump more than 10-fold to some 20 million tonnes a year, equivalent to some nine percent of current global coking coal trade, if the proposed rail project in central Kalimantan gets off the ground.

"The rail project is clearly the only missing piece in the puzzle. They only need to find that piece to unlock the vast resources in the province," said Rudi Vann, lead analyst for Southeast Asia coal research at Wood Mackenzie.