Breaking up Coal India is good, but it is only a second-best solution

Is Narendra Modi planning to split Coal India Ltd (CIL) in order to improve production and profits? The media has been abuzz with talk of a potential split, but the story is sourced to some BJP sources and thus one cannot assume this is what Modi has in mind.

If the reports are true, it would mean the government would be opting for a second-best solution, not the optimal one. We say second-best because the real problems faced by Coal India relate to the lack of pricing freedom and competitive pressures. One investor, The Children’s Investment Fund of the UK, has sued Coal India’s board precisely because of this. Indian coal is sold at a huge discount to world prices, and this is a key economic factor - apart from slow forest and environmental clearances - holding back output and efficiency.

Three years ago, Firstpost did some back-of-the-envelope calculations on how profitable Coal India would be if it were to sell its product at world prices. We found that if Coal India were to price its coal at import-parity prices for the relevant grades it produced, it would have earned around Rs 62,500 crore more in 2010-11, Rs 62,500 crore in 2009-10, Rs 79,500 crore in 2008-09 and Rs 40,500 crore in 2007-08. This comes to a whopping Rs 2,45,000 crore (or thereabouts) for the four years taken together. This means Coal India is subsidising Indian consumers to the tune of over Rs 60,000 crore on an average every year.

More from Corporate

Maha: Court orders Rs 30L compensation for parents after youth dies in road accident Ashleigh Barty comes from set down to beat Coco Gauff in Australian Open lead-up

In theory, lower coal prices should mean lower energy costs, since the bulk of the coal is used in thermal power plants. But, in practice, low prices act as a brake on raising output faster, and necessitate huge imports. An Economic Times report quotes Ore Team as saying that India imported 158.8 million tonnes of coal in 2013-14 - at prices much higher than domestic prices - even though we have the third largest coal reserves in the world. In the year to March 2014, Coal India is believed to have missed its 482 million tonne production target by around 20 million tonnes. We are importing a quarter of our requirements from costlier sources.

Put another way, India is facing the same dilemmas in coal as it does in offshore gas pricing, where the price paid to Reliance has become such a contentious issue. With government fixing prices low, operators find it less profitable to raise production.

The real solution to the issue of raising coal production is thus pricing freedom, with subsidies being given out directly from the exchequer - where needed. This may not be necessary later, when competition forces coal producers to bring prices down by improving efficiencies. Which is why we said that breaking up CIL into several units is only a second-best solution,

However, one thing is clear: short of privatisation and pricing freedom, breaking up is a good thing to do for Coal India, which is the world’s largest coal company and probably one of its most inefficient - as evidenced by our rising coal import bills.

While a large part of Coal India’s production problems relate to its inability to obtain forest and environmental clearances for new mines, breaking up will ensure greater focus and managerial autonomy, apart from competitive pressures to perform.

The broad structure for a break-up already exists today as Coal India is merely a holding company. It has seven operating companies under its belt. An eighth subsidiary, the Central Mine Planning and Design Institute, is a kind of research and consulting arm.

The seven operating subsidiaries are broadly located in central and eastern India, with each subsidiary roughly mapping into one state or region.

Thus, Bharat Coking Coal Ltd and Central Coalfields are based in Jharkhand, South-Eastern Coalfields in Chhattisgarh, Eastern Coalfields in West Bengal, Mahanadi Coalfields in Odisha, Northern Coalfields in Madhya Pradesh, and Western Coalfields in Maharashtra.

In order to break up Coal India, all Modi has to do is abolish the holding company and ask each operating company to improve its performance. He could even invite private equity or partial ownership.

What could go wrong? The biggest opposition to any break-up of Coal India will come from three sources: the mining mafia in Dhanbad (Jharkhand) and elsewhere, the unions, and the state governments where these subsidiaries are headquartered, which will want a say in how they are governed.

Of the three, the mafia and the unions will be tough to handle, because states can be bought off with promises of equity stakes and also representation on boards. The unions, which tend to be Left-dominated in some parts, will see this as an opportunity to embarrass what they see as Modi’s right-wing government - but this may be true more in the eastern parts than in Madhya Pradesh, Chhattisgarh and Maharashtra. But for the most part, the unions could be bought off with promises of underpriced shares and special work incentives.

Dealing with the mafia, though, is a law and order issue, and the only way to deal with it is managerial firmness and police help. The mafia is often hand-in-glove with employees within CIL, and this is why the internal resistance to break-up may be as large as what may come from the unions or state governments.

As we said before, the optimal solution is pricing freedom, private participation (even under 49 percent), breaking-up of Coal India, and small subsidies for coal users during a transition period. If Modi manages this, more power to his elbow.