pwc carbon pricing mining sector implications aug11

7/30/2019 PWC Carbon Pricing Mining Sector Implications Aug11

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Carbon pricingImplications forthe Mining sector

pwc.com.au

August 2011


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2 | Carbon pricing | Implications for the Mining sector

Reductiontargets

The Australian Governments Clean Energy Future Plan (The Plan) commits Australia

to a reduction target of at least 5 per cent from 2000 levels by 2020 and 80 per cent

below by 2050.

Meeting this target will require abatement of at least 159 million tonnes CO 2-e by 2020Who is liable? Any entities with facilities with covered emissions above 25,000 tonnes CO2-e will have

a liability to surrender carbon units. The government estimates that approximately 500

heavy emitters will be obligated to surrender units under the scheme.

Around 100 of these are expected to be miners.

Carbon pricestarting pointsand evolution

to a exible price

The starting carbon price for each tonne of CO2, to be introduced on 1 July 2012, is $23.

This will rise (in real terms) to $24.15 in 2013 and to $25.40 in 2014.

Asof1July2015,aexiblecarbonpricewillbeintroduced.Thiswillinclude

atransitionalpricecapandoor.

Fuel excise Fuel Tax Credit Scheme reduction:

Transitional

assistancefor emissions-intensive trade-exposed (EITE)sectors

Organisations conducting emissions-intensive trade-exposed (EITE) activities will receive

anestimated$9.2billionintransitionalassistanceovertherstthreeyearsoftheJobsandCompetitiveness Program. The initial rates of transitional assistance have been set at two

levels, these are intended to reduce by 1.3% each year. The average industry rates are:

94.5% For highly emissions intensive activities (e.g. aluminium smelting, integrated iron

andsteelproductionandatglassproduction)

66% For moderately emission intensive activities (e.g. polyethylene production and tissue

paper production)

Theoperation,theimpactandtheeconomicandenvironmentalefciencyoftheJobs

and Competitiveness package will be reviewed. Productivity Commission inquiries are to be

conductedintheleaduptoexibleprice(12monthsto30June2015)withfurtherreviews

duringtherstsixmonthsand18monthsofexiblepricing.Followingthis,therewillbe

regularveyearreviews.Thesereviewswillconsideranextensiverangeoffactorsincludingif windfall gains have occurred and what future rates of EITE assistance should be provided.

Changes that will have a negative effect on the assistance rates will not come into effect for

three years from the announcement.

Importantly, activities directly associated with mining are not eligible for transitional assistance.

Fugitiveemissions

Fugitive emissions refers to the emission of greenhouse gases, most commonly methane,

which occurs during coal mining. In some instances technology exists to assist in limiting

thereleaseofthesegases.GassyminesalreadyinoperationwillbenetfromtheCoal

Sector Jobs Package, but such assistance will not be available for mines not already in

operation.

Therearesignicantissuesinrelationtothedataaccuracyoffugitiveemissionsforcoal

mines, with the range of uncertainty in the National Greenhouse and Energy Reporting(NGER) default factors being 50%. Liable entities are likely to focus effort on achieving

improved measures.

1 July 2012 30 June 2013:

6.21 cpl for diesel, fuel oil

5.52 cpl for petrol

3.68 cpl for LPG acquired inclusive of excise

1 July 2013 30 June 2014


5.796 cpl for petrol


1 July 2014 30 June 2015


6.096 cpl for petrol


1 July 2015 30 June 2016

(move to exible price period)

Fuel Tax Credit changes determined

six-monthly based on average carbon

price over previous six months

Key features and impacts of The Plan on the Mining sector:


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PwC | 3

Michael Happell

Partner

Energy, Utilities & Mining Leader

[email protected]

(03) 8603 6016

For more information,please contact:

Over the course of the last year, global economic andpolitical trends have changed the mining industry.In Australia miners are grappling with a loomingMinerals Resource Rent Tax (MRRT), skill shortagesand a high Australian dollar, which all serve toincrease operational costs. In this document weexplore the potential impacts the mining industry

faces in Australia following the release of the CleanEnergy Future Plan and Exposure Draft of the CleanEnergy Bill 2011.

Firstly, we have outlined industry reactions followingthe announcement. This is followed by an in depthQ&A with PwCs Energy, Utilities & Mining Leader,Michael Happell, which provides insight into howThe Plan could actually affect Australian miningoperations. You can also fnd the accountingimplications of the introduction of a price on carbon

and key next steps to ensure you and your organisationcan be proactive in your response. Indeed, respondingnow will help to ensure you are well placed with thetransition to a carbon price economy.

If you have any questions or would like assistanceworking through the carbon price response strategiesfor your organisation, please contact any of thePwC representatives in this document.


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Industry reactioncomments from across the sector

Despite enjoying record profts in 2010, Australian mining is an industry that has come under

increasing cost pressure in recent years. Following the announcement of the Federal Governments

10 July 2011 climate change plan, Securing a Clean Energy Future, market reactions throughout

the mining sector have echoed a common sentiment relating to the industry absorbing an additional

cost burden. Indeed many have argued that the result of the introduction of a price on carbon will

endanger the competitive advantage currently enjoyed by the major miners courtesy of Australias

proximity to emerging Asian markets most notably China.

Rio Tinto has been one of the mostvocal of the major miners, calling the

carbon price mechanism an unfair

tax on Australian exporters. BHP

Billiton has historically supported

action on climate change, however,CEO Marius Kloppers also noted

concern that Australias international

competitiveness could be harmed,

potentially affecting investment in

Australia moving forward.AngloAmericans Head of Metallurgical Coal,

Seamus French also voiced concern overthe future of Australian coal investment

projects, arguing that the tax bill on

fugitive emissions alone will accountfor more than 75 per cent of revenues

to be raised from the coal industry.

The Minerals Council of Australia (MCA)

has argued that the introduction of this

legislation is a dangerous experiment

with the Australian economy. In fact,

many across the industry are concerned

that the carbon price puts jobs at risk,

future investment in exploration in

jeopardy and erases a global competitive

advantage, which has underpinned

the Australian economy for years. If thiswas the case, Australians would not see

the real impact of mining investmentgoing offshore for 5-10 years. The

industry is also concerned about the

uncertaintyaroundtheeconomicow

through effects from suppliers. Some

have argued that 1 July 2012 start datefor The Plan is in fact too early and a

softer approach is needed to ensure a

smooth transition to a carbon economy.

In this document, Michael Happell,

PwCs Energy, Utilities & Mining sector

leader, outlines the key issues faced by

the mining industry if a carbon price issuccessfully introduced into the market.


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PwC | 5

Steel

The sector is characterized by capital intensive

infrastructure, high energy consumption and exposure

to international trade. Analysts have kept a close eyeon the sector in relation to the previous incarnations

of the Carbon Pollution Reduction Scheme (CPRS)

and related proposals.

Under the plan the steel sector is to receive two assistance

packages in addition to the EITE transitional assistance

availableforotherdenedactivities:

Steel Transformation Plan (STP) $300m over four

years for investment and innovation. Based on a self

assessment applicable to entities that meet qualifying

threshold of >500,000 tonnes of production of crude

steel in FY2009-10 (Bluescope, OneSteel) A 10% increase in the allocative baseline for EITE

assistancefrom2016/17forspeciedsteelmaking

activities. The result of this is that in 2016/17 entities

conducting these activities will receive >98% of their

permits at zero cost.

Year% of Permits provided as

assistance (Steel)

2012/13 94.5

2013/14 93.3

2014/15 92.1

2015/16 90.9

2016/17 98.6

2017/18 97.4

2018/19 87.4

2019/20 86.2

These packages will shield the sector from the high

potential imposts of the carbon price. Deutsch BankAG estimates the impact at -3.3% NPAT for OneSteel in

FY13 and -9.3% NPAT for Bluescope in the same period.

Coal

Government analysis concludes that an average non-gassy mine will incur

additional costs of around $1.40 per tonne of production. For gassy minesthat release of fugitive emissions, this cost will rise to between $7.4 and

$25 per tonne of saleable coal.

As gassy mines have limited abatement options, the government is proposing

the Coal sector jobs package. This will provide $1.264bn over six years for

gassy mines, based on historic emissions intensity per tonne of saleable coal.

Threshold of 0.1tCO2-e/tonne of production

18 mines in NSW, 7 in Queensland are expected to be eligible

Rate of assistance up to 80%

Existing mines only, expansion projects are excluded

Scheme to be administered by Department of Resources, Energy & Tourism

A further package of $70m is provided for the Coal Mining Abatement

technology Support. This is to be on a co-contribution basis.


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Q&Awith Michael Happell, PwCs Energy, Utilities & Mining Leader

Q: The MCA has said The Planwill impose massive costsfor no material environmentaldividend. How exactly areminers being hit so hard

with the introduction ofa carbon price?

Wehaveidentiedanumberof

additional costs that miners are mostconcerned about:

1. fugitive emissions from coal mines

2. rising energy costs

3. a lack of transitional assistance

for mining activities, despite

being predominantly an export

focussed sector

4. the reduction of the fuel tax

credit scheme

5. the accumulation impact, taking

into account the proposed MineralsResource Rent Tax (MRRT) andthe strong Australian dollar.

Q: What are the features of thePlan for the mining sector

versus the original CPRS?

Under the original CPRS proposal,

activitiesthatweredenedas

emissions-intensive and trade-exposed

(EITE) were in line for transitional

assistance in the form of free carbon

units. This continues to be the caseunder the recent legislation, however

most mining activities do not meet the

criteria of an EITE activity which leaves

miners open to considerable additional

liabilities, despite most of their

production being exported.

The CPRS lacked detail on dealing with

fugitive emissions from gassy coal mines

the new Plan provides more detail and

an assistance package of $1.264bn over

six years for the 25 gassy coal mines that

meet the eligibility threshold.

Q: How will the reduction inthe Fuel Tax Credit Schemeimpact the industry?

Theplanfeaturessignicantchanges

to the existing fuel tax credit and

excise regimes, which are a core part

ofthecarbonpriceproposals.Specic

to mining, fuel tax credits previously

available for non-gaseous fuels (such

as petrol and diesel), which are usedoff-road for burning/generating heat

or in internal combustion engines for

off-road activities, will be reduced by an

amount equal to the carbon price. More

simply, mining has not been excludedfrom the discounting of fuel tax credit

(FTC)rates.Theagriculture,shingand

forestry sectors, in comparison, have been

excluded from the discounted rates and

therefore retain the full value of the FTC.

In preparation for these changes,

impacted businesses may need to

implementsignicantsystemschanges

to capture the revised excise and fueltax claiming rates, in order to report

and recover the correct amount to/from

theAustralianTaxationOfce.When

Australiamovestoaexiblecarbonprice

in 2015, the fuel tax rates will change

every six months, placing an added

burden on systems. The changes in the

fuel tax/excise claiming rates should

also be factored into the projected costs

of fuel in feasibility studies.

Q: How will the carbon priceinteract with the MRRT?

The deductibility of units under the

proposed Minerals Resource Rent Tax

and existing Petroleum Resource RentTax will depend on whether the Units

are used to abate emissions resulting

from activities that occur within the

taxing point/ring fence under the

applicable resource tax. For vertically

integrated operations, there will needto be apportionment where both the

upstream and downstream operations

produce emissions.

Q: How are increases in energyprices likely to impact miningbusinesses? With this inmind, what should minersbe thinking about to preparefor this cost?

The increased cost of electricity anddiesel is renewing the sectors focus

onenergyefciency.Identifyingwhere

an operation consumes energy and

what steps can be taken to reduce

consumption are an immediate step

that businesses can take.

Prioritising reduction efforts is a real

challenge, especially for long lived,complex operations. With limited

capital available the key is to develop

aconsistentnancialmodelwhich

willenableefciencysavingstobe

identied,quantied,evaluatedand

prioritised. Our experience workingwith global mining organisations has

shown that using Marginal Abatement

Cost Curves (MACCs) is valuable and

can provide the rigour needed for the

CFO to make informed decisions and

deliver tangible cost savings.

Q: Will this affect Australiascompetitive advantageinternationally?

The carbon price will add cost to existing

and potential future operations. This costwill be factored in to decision making

when considering the economics of, for

example, expanding an Australian mine

again or expanding a mine elsewhere in

the world. While the mines themselves

are unable to be moved, capital is mobile

and mining companies will invest their

money on the projects that generate the

best return. The carbon price, including

its impact on input prices, will make

Australian projects more expensivethan they otherwise would be and

will decrease the return generated.

Of course, if these projects remain the

best options available to a company, they

are likely to continue to go ahead, so long

as they still meet internal return hurdles.


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Q: Will investment in futureGreeneld projectssuffer as a result?

As mentioned, the carbon price willadd to the cost of constructing and

operating a mine in Australia, therefore

reducing operating margins and

increasing capital costs. As a result,

thoseGreeneldprojectswhichare

more marginal may struggle to generatesufcientreturntosupportthecapital

investment. Combined with the MRRT,

the changing tax environment for

a miner in Australia may also lead

companies to look elsewhere in their

exploration efforts. We know themining industry is global and miners

are already investing more of their

exploration funds in emerging countries.

This may encourage Australian miners to

continue focus offshore.

Q: Will the owners of mines bedirectly liable?

The liable entity will generally be the

person with operational control over

the mine facility (that is, authority to

introduce and implement any or all of

the operating, health and safety, and

environmental policies for that mine).

Therefore liability may not reside with

theentitythathasnancialcontrol

over the mine but rather with:

Joint venture operators for minesheld by unincorporated joint ventures

Mining contractors

Natural gas retailers, who are initially

responsible for the emissions from the

use of natural gas by their customers

Q: What impact does thecarbon price have onunincorporated joint

venture interest/s?

The operator of a facility held by an

unincorporated joint venture (UJV)

has the ability to transfer liability for

surrender of carbon units to the UJVparticipants in proportion to their

respective interests. Since a carbon

price liability arises on facilities thatproduce 25,000 tonnes or more of

CO2-e for covered emissions, the legal

entity holding the UJV interest may

be responsible for surrendering carbon

units to cover their emissions. Besides

creating an obligation to comply with

the carbon pricing mechanism this

creates a number of other issues.

Those issues include how the UJV

participant ensures that the operators

calculation of liability is accurate,

howtheUJVparticipantcaninuence

the operator with respect to business

decisions to reduce emissions (such

as changing the fuel mix or using lower

emissions technology) and whether the

UJV participant can pass on the further

cost (or renegotiate its contracts).

It is important to highlight that whereliability is transferred, the fact the UJV

participant may have a small interest

(say 5%) does not negate the need to

comply as it is the facilitys emissions

that determine whether it is covered

by the carbon price. Therefore, it

will be appropriate to agree with the

operator in advance whether (or not)

the liability is going to be transferred.


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Q: With the introduction of acarbon price into the market,

what are the potential owthrough effects in terms ofkey mining suppliers? Willthis result in an additionalcost for miners to absorb?

Additional costs expected to be

incurred by mining suppliers and

passed down the supply chain include:

increased energy costs

increased transportation costs,

in particular for rail transportation

increased contractor costs, in

particular where the carbon unit

liability resides with the mining

contractor

increased capital expenditure costs

(steel, cement, fuels)

The ability to pass on these costs by

mining companies will be constrained

by both the terms of existing long term

contracts and the characteristics of the

market in which the mine production

is sold.

Q: How will this affectM&A activity?

Wherever there is strong strategic

imperative M&A activity will continueunabated. We have already seen this

after the governments carbon pricingannouncement with the Peabody/

Arcelor bid for Macarthur in the

coal sector and in the Upstream gas

sector with Origin and ConocoPhillips

announcing FID for the APLNG project.

Carbon pricing presents all miningcompanies with an opportunity to

make changes to their asset portfolio

and operations to manage their

carbon exposure and to pursue

M&A opportunities to enhance

their competitive position.

A key impact on M&A will be seen inthe pricing of companies or assets that

are liable (or likely to be liable) in a

carbon priced world. For many smaller

producers or explorers this is not likely

to be an issue. For those mines that are

caught, sellers will need to understand

the impact carbon has on their own

valuation through:

cost and tax imposts;

the ability, or inability, to pass thosecosts on to end users;

workingcapitalandcashow

implications; and

changes in their cost of capital.

Buyers of those assets will need to

understand the same for the targets

they seek to pursue. For buyers thisunderstanding will prove to be more

elusive as they will need to rely on

due diligence to accumulate their

knowledge. Uncertainty in the minds

of buyers over the quantum of the

carbon impacts will most likely mean

that in the near term they will seekeven lower acquisition values as a

cushion or safety net against the risk

of lower returns post acquisition.

This initial uncertainty over appropriate

valuations in a carbon priced worldmay well see some sale or bid processes

delayed or not able to reach completion,at least over the next 18-24 months.

Acquisition or project debt is unlikely

to be too heavily impacted as banks

have been focusing on the expected

introduction of carbon pricing for

a number of years. Once the new

landscape is understood, banks arelikely to work with miners to establish

sustainable capital structures.


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PwC | 99 | Carbon pricing | Implications for the Power and Utilities sector

How do you account for the

carbon price?Accounting for thecarbon price will

vary depending onthe nature of theunderlying business,the emissionsintensity of the

operations, and thelevel of governmentassistance received.

There is currently no prescribed accounting guidance for companies to apply in recognisingtheimpactoftheschemeintheirnancialstatements.

Consequently, there is expected to be a diverse range of accounting approaches applied inthemarketplace(ashasbeentheEuropeanexperience)whichcanresultinsignicantlydifferent outcomes in the income statement and balance sheet. This may impact a number ofkey metrics, for example, bank covenants, employee incentive schemes and regulatory licencecompliance measures (e.g. AFSLs).

Companies will also have to disclose their accounting policies in respect of the schemesouserscanunderstandtheimpactwithinthenancialstatements.

What do I needto consider tomaximise value tomy organisation?

Where choice exists, companies should invest time understanding which accountingpolicy most appropriately aligns with the underlying economics of the transactionand also meets their strategic business objectives. Companies should consider:

Impact of the scheme on asset impairment calculations

Accounting for free permits received

Accounting for cash received as part of the government assistance package

Accounting for payments / contractual arrangements for early closure of generation facilities

Impact of government assistance on asset impairment assessments

Where permits should be recognised on the balance sheet

How permits should be accounted for on an on-going basis

Accounting for forward contracts to purchase or sell permits

Accounting for carbon clauses within sales/purchases/derivative contracts

Accounting for liability to surrender permits over generation period.

Want to know more? Visitwww.pwc.com.au/carbonprice

PwC | 9


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Actions

Assess whether youare directly liable

Determine the facilities over which you have operational control

Determine the quantity of covered emissions for each facility

Assess whether each facility is liable

Setupacarbonpriceprojectofcetomanagecarbonworkstreams

Manage the costimplicationsfor your business

Identifyemissionsabatementopportunitiesandassessthenancialviabilityof each using marginal abatement cost curves

Investigate your ability to access Government funding for abatement and

energy opportunities Review existing supply contracts and assess the potential carbon price pass

through impacts

Develop a carbon procurement/trading strategy

internationally linked units

via the local auction process

Carbon Farming Initiative projects

Consider liability transfer options to enable you to manage your owncarbon price risk

from gas retailers

within joint ventures

within corporate groups from contractors

Consider thepotentialrevenue impact

Assess your ability to pass on additional costs to customers

review existing and future customer contracts for pass through clauses

assess your market characteristics (local vs international prices/competitors)

consider product pricing changes

consider potential product substitution impacts

Manage your balancesheets impacts

Develop accounting policies for the treatment of carbon units

Assessyouroverallfuturecashowimpactsanddevelopcashowmanagementstrategies to maintain working capital

Update relevant asset NPVs and assess potential asset impairments

Consider the impacts on your current and future investment decisions

Next steps


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PwC | 11

Further reading

You can read more about the carbon price and how it may affect your business

atwww.pwc.com.au/carbonprice

Tax implications forbusinesses impacted bythe carbon price and itscomplementary measures

Contacts:

Michael Davidson

Partner

Tel: +61 2 8266 8803

Liza Maimone

Sustainability & Climate Change

LeaderTel: +61 3 8603 4150

What does the ClimateChange Plan mean forthe Australian M&Aenvironment?

Contacts:

Jock OCallaghan

Partner

Tel: +61 3 8603 6137

Peter Munns

Partner

Tel: +61 3 8603 4464

CarbonPrice

Mechanism

Tax implications for businesses impacted by thecarbon price and its complementary measures

1 August 2011

pwc.com.au

What does theClimate ChangePlan mean for theAustralian M&Aenvironment?

Dealspoint of view

August2011

Impact onM&Aactivity 2

Accessingfunding 5

Complexityfordue diligence

6

Conclusion 7

Australias Carbon Price What Does it Meanfor your Business?

Contacts:

Liza MaimoneSustainability & Climate Change Leader

Tel: +61 3 8603 4150

John Tomac

Partner

Tel: +61 2 8266 1330

Carbon pricing Implications for thePower & Utilities Sector

Contacts:

Mike ShewanPower & Utilities Industry Leader

Tel: +61 3 8603 6446

Liza Maimone

Sustainability & Climate Change Leader

Tel: +61 3 8603 4150

The AustralianGovernmentsClimate Change PlanWhat should business consider?

whatwouldyouliketogrow.com.au

19th July2011

Carbon pricingImplications forthe Power andUtilities sector

pwc.com.au

August2011


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pwc.com.au

South Australia

Andrew [email protected]+61 (8) 8218 7401

Victoria

Michael HappellPartnerEnergy, Utilities and Mining [email protected]+61 (3) 8603 6016

Liza MaimonePartnerSustainability and Climate Change [email protected]+61 (3) 8603 4150

Western Australia

Darren SmithPartner

[email protected]+61 (8) 9238 3240

New South Wales

Marc [email protected]+61 (2) 8266 1333

John TomacPartner

[email protected]+61 (2) 8266 1330

Queensland

Brian GillespiePartnerEnergy, Utilities & Mining Consulting [email protected]+61 (7) 3257 5656

Wim [email protected]+61 (7) 3257 5236

Contacts

2011 PricewaterhouseCoopers. All rights reserved. In this document, PwC refers to PricewaterhouseCoopers a partnership formed in Australia,which is a member rm of PricewaterhouseCoopers International Limited each member rm ofwhich is a separate legal entity

pwc carbon pricing mining sector implications aug11

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