Freeport McMoran’s Proposed Indonesian Smelter May Not Be Ready By 2017

-8.26%
Downside
44.48
Market
40.81
Trefis
FCX: Freeport logo
FCX
Freeport

Freeport McMoRan Copper (NYSE:FCX)’s joint venture partner Aneka Tambang (Antam), a diversified Indonesian miner, has said that the copper smelter which the two companies are building may not be ready by 2017. This is when the ban on Indonesian copper concentrate exports will come into effect and force Freeport McMoran to slash copper output drastically. This will cost the company billions of dollars in revenues. [1]

Freeport and Antam are right now conducting a feasibility study for the development of the copper smelter. Even if this study yields a favorable result, an Antam official says that construction cannot begin before 2015. It would take three years to build the smelter according to another official. There are two more smelters being constructed by PT Indosmelt and PT Nusantara Smelting which will take five years to build.

The coal and minerals director general of Indonesia stated that if the smelters are not ready by 2017, concentrate exports will be withheld as the ban would come into effect at the designated time. [2]

Relevant Articles
  1. Will Freeport Stock Recover To Pre-Inflation Shock Highs Of $52 Per Share?
  2. What To Expect From Freeport’s Q2 Results
  3. How Is Freeport Stock Faring Amid Volatile Copper Prices?
  4. Copper Prices Have Recovered A Bit. Is Freeport Stock Worth A Look?
  5. Lower Copper Prices Will Weigh On Freeport’s Q3 Results
  6. What’s Happening With Freeport-McMoRan Stock?

See our full analysis for Freeport McMoran here

What Is The Export Ban All About?

A mining law enacted in 2009 prohibited export of unprocessed minerals from Indonesia after January 12, 2014. The purpose was to increase the value of commodity exports and encourage development of the local processing industry. On the designated date, this ban came into effect but the government used its discretionary powers to provide selective relaxation for some minerals and metals. The copper content in the ore exported has to be greater than 15%. Both Freeport and Newmont export copper concentrates with a higher percentage of the metal than the designated minimum and account for nearly 97% of Indonesia’s total copper exports. [3]

The problem mining companies like Freeport faced with the original ban is that there is a shortage of smelters in Indonesia even if they were ready to process all of their ore before exporting it. In addition, Freeport said that it ships its minerals under long-term contracts to international smelters and wishes to honor these contracts. It said that it entered into these contracts in the first place because its initial agreement with the Indonesian government allowed it to export concentrates without placing any restrictions. However, Freeport already processes about 40% of its ore mined in Indonesia at a smelter in East Java which is the only copper smelter in the country. This is why Freeport is working with Indonesian partners to construct new smelters. [4]

Newmont Mining, another major copper producer, currently smelts less than a quarter of its ore in Indonesia it produces at the Batu Hijau mine.

Leniency Was Shown Towards Copper

Currently, Indonesia is struggling to cut a large current account deficit. As a result of the high deficit, confidence in its currency is being undermined which has been Asia’s weakest performing this year after falling around 20% relative to the U.S. dollar. Any cut in exports will results in bigger deficits and a further weakening of the currency. A weak currency makes imports costlier which in turn fuels inflation and angers the population. So far, the authorities have been deliberately slowing growth in an attempt to cut imports and the current account deficit but a reduction in exports may cause the deficit to widen to unmanageable proportions.

The exports of nickel and bauxite in 2012 amounted to a total of $2 billion which is relatively small so the Indonesian government has more room for acting tough there as compared to in the case of copper. [5]

Export Tax Already Making Things Difficult

While granting Freeport an exemption from the export ban, subject to smelting copper within Indonesia in the future, Indonesia nevertheless slapped a new export tax of 25% on copper concentrate exports. This is scheduled to rise progressively to 60% by the end of 2016. According to Freeport, this tax violates the original agreement between the government and the company. In a recent regulatory filing, the company said that it might invoke the force majeure clause that would allow it to renege on supply commitments without paying penalty as the event triggering a breach of commitment in this case was beyond its control. It also said that it may start laying off workers, defer capital expenditure plans and cut operating costs. The implication would be halting of copper concentrate exports which would impact the company’s revenues, keep the Indonesian government from realizing any expected income from taxes and royalties and job losses on a massive scale.

The government, perhaps realizing this, hinted at the beginning of last month that the export tax might be reduced. Freeport welcomed the statement but did not clarify if it would be ready to pay this reduced tax. However, the latest announcement about delays in smelter construction may harden the government’s stance. It may not be keen to be seen granting any concessions to mining companies when the companies are showing signs of reneging on their previous commitment. One needs to note that Freeport has still not received an export permit after the new rules came into effect in January. The fact that presidential elections are scheduled to take place in Indonesia in July this year may also factor into the government’s stance on the issue. ((Indonesia May Cut Mineral-Concentrate Export Duty as Standoff With Miners Persists, WSJ))

Failure to resume Indonesian exports will result in an estimated $5 billion loss in revenues for Freeport in 2014.

See More at TrefisView Interactive Institutional Research (Powered by Trefis)

Notes:
  1. Indonesia’s Antam-Freeport copper smelter set to miss deadline, Reuters []
  2. Smelters to miss deadline, Jakarta Post []
  3. Here Are the Winners of Indonesia’s Ore Ban, Daily Finance []
  4. Indonesia trying to skirt its own ban on mineral exports, Reuters []
  5. Indonesia bans mineral ore exports, but may allow Freeport shipments, Reuters []