Propelled by a wave of nationalist sentiment and political pressure, the Indonesian government appears to be still coming to terms with the fact that assuming ownership of its once-largest gas-field and richest copper and gold mine comes at a significant price.
Production at East Kalimantan’s fast-maturing Mahakam gas-field, once the country’s biggest, has plunged since state oil company Pertamina took over from French oil giant Total E & S when its 30-year production sharing contract (PSC) expired last December.
At the other end of the archipelago, there has been a puzzling silence over the extra costs associated with the government’s pending majority takeover of US-based Freeport McMoRan Copper & Gold’s (FCX) Grasberg mine now that it’s in the throes of conversion to a more complex underground operation.
While fully supported by politicians and the public alike, the rising cost of resource nationalism is becoming more keenly felt with Indonesia under increasing financial pressure as a result of a fall in the value of the rupiah, a growing current account deficit and mounting concerns about the state of the global economy.
The two cases are different – up to a point. The Mahakam block was acquired for free, but demands plenty of working capital to keep the gas flowing at acceptable levels. While the Grasberg does have a price tag, further billions of dollars are needed to develop the mine and meet a host of other obligations.
Only this week, Deputy Mines and Energy Minister Arcandra Tahar specifically mentioned the Mahakam in acknowledging that oil and gas exports had dropped due to a transfer of ownership in several hydrocarbon blocks formerly operated by foreign companies.
Recently relegated to second best after BP’s Tangguh field in West Papua, the Mahakam is reportedly producing only 916 million cubic feet of (mmcf) of gas a day, well short of the 1,255 mmcf realized in 2017 – the last year of Total’s involvement — and Tangguh’s current 1,400 mmcf.
It could slide a lot more. Amien Sunaryadi, upstream director of oil and gas regulator SKKMigas, was quoted in early July as saying that year-end production from the Mahakam could be as low as 844 mmcf, apparently the result of a less intensive drilling program.
Ida Yusmiati, director of subsidiary PT Pertamina Hulu Mahakam (PHM), revealed last month that the company had drilled only 18 of the 69 wells planned for this year, which along with interventions in existing wells was expected to cost US$1.7 billion.
Industry sources claim Pertamina doesn’t have the expertise or the working capital to get the job done. “Operating a field in sharp decline is an art form that needs years or decades of experience,” says one consultant. “They say they have a plan to reverse or halt the decline, but I don’t see it.”
Pertamina recently underwent its third leadership change in four years and, with last year’s net profit down 23% to US$2.4 billion, government officials deny reports that the company is actively looking for partners to help its development projects.
In a recent presentation, new PT PHM general manager John Anis, Total’s former vice-president for field operations, detailed a long list of problems ranging from reservoir uncertainty to ageing surface facilities and high long-term capital investment.
Another former Total executive Henricus Herwin, now head of geosciences and reservoir development for PT PHM, wrote in a technical paper last month: “Maintaining the continuously maturing Mahakam assets requires tremendous efforts and investment.”
Similar costs and problems await the government when it finally concludes talks with Freeport to acquire a 51% of the Grasberg, whose massive open pit is now expected to be closed in the first half of next year, nearly four decades after it went into production.
While progress has been made on some fronts, the two sides still can’t agree on managerial control, financial and legal issues, tougher new rules for the disposal of the mine’s rock waste, or tailings, and a US$13.2 billion bill belatedly assessed for past environmental damage.
The latter may have been a negotiating ploy, but Freeport’s long-term modeling shows that over the next 23 years about 45% of the tailings will eventually push out of the seaward end of the Ajkwa River deposition area and onto coastal mudflats, compared to the current 24%.
State-owned holding company PT Inalum is raising US$3.8 billion from a consortium of foreign banks to pay for the 51% stake. But at least US$10 billion is still needed – on top of the US$8 billion Freeport has already spent — to expand the underground mine, currently contributing 40% of overall production.
As the majority owner, Inalum will presumably be liable for half of those development costs, or US$800 million a year, mostly in the initial five years as PT Freeport Indonesia (PTFI) extends the infrastructure needed to tap into three new underground deposits.
Apart from future loan repayments and half of the US$2.7 billion required for a new smelter under the 2009 Mining Law, part of Inalum’s revenue stream will routinely go towards its share of the operating costs. At 4,200 meters up in Papua’s mist-covered Central Highlands, Grasberg is not cheap to run.
Grasberg produced US$4.4 billion, or a quarter of parent FCX’s total revenues last year, with a gross operating income of US$2 billion; the government collected $756 million in taxes, dividends and non-tax benefits, bringing the state’s total income from the mine between 1992 and 2017 to US$17.2 billion.
But analysts well-versed in Freeport’s operations say new development projects have no history on which to base future cash flows, and note that profitability is highly sensitive to copper prices, currently lingering at US$2.72 a pound.
Freeport’s future access to capital may also be limited, with a large chunk of the parent company’s debt maturing in the next five years. That raises the interesting question of how much of the Indonesian subsidiary’s assets are pledged for that debt.
With 10% of the state’s 51% already committed to the district and provincial governments, Inalum will have the additional problem presented by the One Percent Fund, under which US$100 million a year is channeled to the seven indigenous tribes in the area.
Sources familiar with the workings of the foundation that receives and administers the money say local Papuan tribal leaders and their political backers have habitually divided up the spoils, leaving little to reinvest or to benefit the community.
Inalum will also have to involve itself in security operations around the mine. Despite the presence of a police-army task force, a prolonged series of shooting incidents, going back to a deadly ambush in 2002, means workers can only be moved in armored convoys up the precipitous road to the high-altitude mining town of Tembagapura.
If the underground development timetable remains on course, it will still take about three or more years to bring production – and profits — at the world’s biggest gold mine and third biggest copper mine up to previous levels.
Still, mining the 145 million tonne Deep Ore Zone (DOZ) and the 54 million tonne Big Gossan deposits, Freeport is now preparing to open up the Grasberg Underground, the prized one million tonne ore body lying directly below the pit.
Engineers have already completed a 3.5-kilometer-long access tunnel, part of a wider ore-flow and rail haulage system, that will accommodate two electric trains pulling wagon-loads of ore at speeds of up to 60 kilometers per hour.
Production from that deposit alone is targeted to reach 130,000 tonnes a year by 2023, yielding 1% copper and 75 grams of gold per ton, even higher than the average grades that have made the Grasberg one of the world’s most profitable mines.
Mid-2019 will also see the start-up of the Deep Mill Level Zone (DMLZ), a third 471 million tonne deposit, lying below the DOZ at an elevation of 2,590 meters, which is planned to reach full production by 2022, provided the mining operations don’t continue to cause seismic activity.
Overall, the amount of ore processed through the mill will drop initially from 230,000 to about 130,000 tonnes, but that should ramp back up to current levels by 2022-2023 when much of the underground infrastructure will be in place.
For the moment, Kucing Liar, a 402 million tonne discovery south of the open pit, will remain untouched because of the high iron pyrite content of the ore, a sulphide commonly known as Fools’ Gold which oxidizes in contact with air or water.
Such dangerous levels of acidity means Kucing Liar’s tailings will have to be treated separately and piped to large encapsulated pits in the northeast corner of the deposition zone, something that will only add to future operating costs.
Most of the mine’s rock waste is discharged into the river and carried downstream, where 20,000 indigenous miners pan for the 18% of the gold that escapes during the process of refining the ore into sand-like concentrate.
This year the Grasberg is expected to produce 2.4 million ounces of gold and 1.2 million pounds of copper, compared to the collective 2.6 million pounds that come from the parent company’s other copper mines in North and South America.
With bankable reserves of 2.2 billion tonnes and the outcome of the current talks notwithstanding, Grasberg is still likely to be in full production when Freeport’s extended contract is due to run out in 2041, leaving the mine entirely in Indonesian hands.
Add in the 1.4 billion tons in probable reserves and the mine life could extend out to 2060 or 2070 – eight decades after it was first discovered. Even then, according to some geologists, it may still be producing at the turn of the century if the government has the money and know-how to keep it running.