The CAG has a lot of explaining to do on the methods used to reduce the loss it estimated in its draft report

Comptroller & Auditor General Vinod Rai, who has maintained a dignified silence despite being in the government’s line of fire for his controversial report on coal, now has no choice but to break his silence.

On Thursday, he appears before the Public Accounts Committee (PAC) where he is duty bound to answer questions and explain the working of his auditors. But contrary to the belief that Mr. Rai will be attacked for overestimating the loss, a whole new side could open up in the PAC discussion about whether the Rs.1.86-lakh-crore loss estimate on account of delaying coal auctions appropriately represent the situation or whether the CAG used a soft touch.

Tough questions could emerge from the wide gap between the initial Rs.10.67-lakh-crore revenue loss estimate presented in a draft report in March 2012 and the whittled-down Rs.1.86-lakh-crore figure presented in the final report.

The CAG can argue that the handling of the coal audit borders on conservative considering reports that the Madhya Pradesh State Mining Corporation auctioned six coal blocks in November 2008 at a minimum bid price set at 200 per cent of royalty, which currently ranges from Rs. 127 to Rs. 180 per tonne. Though the winning bids ranged from royalties of Rs. 700-Rs. 1,200 per tonne, the CAG, in its report has factored only a net gain of Rs. 295.41 per tonne of coal.

A closer look at the CAG’s calculation methodology is critical, as it could have a bearing on the values of coal blocks when they are finally auctioned and on the coal reserves extracted from a particular coal block. While auctioning is fraught with the risks of cartelisation and collusion (that risk is substantially higher when adopting the ‘first-come, first-served’ system or lottery), underestimating the extractable reserves allows allottees to extract surplus coal and also sterilise coal reserves by indulging in unscientific but more profitable mining. The latter gains further significance in the absence of a strict vigil over the coal mining process.

Excluding the public sector

The CAG report estimates windfall gains with respect to private parties alone, excluding coal blocks allocated to government companies and their joint ventures with private parties. This effectively shaves off gains of Rs. 5.88 lakh crore, reducing its Rs.10.67-lakh-crore draft report loss figure to Rs. 4.79 lakh crore.

Even in the case of a 100-per-cent government company, the mine developer and operators (MDOs) would mostly be private parties with whom the windfall gains would have to be shared. The CAG had objected to the lower price at which the Bhatgaon II Extension block was auctioned to a private company in Chhattisgarh. Similar controversy is brewing over the Pakri-Barwadih coal block allocated to NTPC where the winning MDO edged past a public sector company under the administrative control of the Coal Ministry. The family of the then Minister of State for coal reportedly had a 10-per-cent stake in the MDO that eventually won the contract.

Excluding underground mines

The CAG has further excluded 18 underground coal blocks allocated to private parties in its report, diminishing its revenue loss assessment by another Rs. 1.15 lakh crore to Rs. 3.64 lakh crore .

The propriety of this exclusion is questionable since the CAG report itself mentions that “underground mines have superior grades of coal and that private parties may have an advantage over the cost of production by introducing new mining technology”. Interestingly, all the six mines auctioned by the Madhya Pradesh government in November 2008 were underground mines.


Another deduction of Rs. 150 as financing cost per tonne of coal (Rs. 0.94 lakh crore) and in the change of methodology adopted for calculating the profit per tonne of coal and the extractable coal reserves, both at the behest of the Coal Ministry (Rs. 0.84 lakh crore) diminishes the loss estimate further.

However, this deduction of Rs. 150 per tonne of financing cost — a whopping difference of 25.73 percentage points over the 12 per cent of financing cost already included in Coal India Limited costs in the draft report — is very conservative. A 15-16 per cent of financing cost would have been far more realistic than the 37.73 per cent finally conceded by the CAG auditors.

This is the simple mathematical equation: Rs. 10.67 lakh crore (Draft Report) minus Rs. 5.88 lakh crore (gains to government companies) minus Rs. 1.15 lakh crore (underground mines) minus Rs. 0.94 lakh crore (impact of financing cost of Rs.150 per tonne stated by Coal Ministry) minus Rs. 0.84 lakh crore (change in methodology) = Rs. 1.86 lakh crore (Final CAG Report).

The Coal Ministry, as the custodian of this precious natural resource, clearly reneged on its responsibility of estimating extractable coal reserves before allocating them. The CAG report relied on the mining plans to work out the extractable reserves for each of the blocks as per the suggestions of the Ministry. It is probable that the mining plans did not work out the true potential extractable reserves, but were merely based on the peak rated capacity of the end-use project and were gross underestimations. Each block actually needs to be thoroughly investigated with the help of geological experts to rule out such possibilities.

CIL prices

Both the reports used CIL prices for comparison. As the coal blocks were for captive consumption, comparisons were to be made with prices at which the allottees could get coal. There were only three alternatives available from where the allottees could have got coal – CIL coal linkages at base prices, CIL auctions and imports — if not for the allocations. The most conservatively priced alternative, i.e. at the CIL base prices — which the report used — or even auction prices, were not available due to limited supply of coal by CIL. Some allowance should have been given in the CAG’s estimates for such ground realities.

Using NPV

The government is now attempting to discount the Rs. 1.86 lakh crore estimate of windfall gains further by applying the net present value (NPV) method of discounting future cash flows, without extrapolating the future sale prices and costs. Reports suggest that if a 10-per-cent discount rate is applied, this could bring Rs.1.86 lakh crore down to Rs. 74,000 crore.

If the NPV method is to be employed for calculating the windfall gains, the sale prices and correspondingly, costs of coal would have to be escalated for each of the future years. Given that the gap between the sale prices and costs of production has in all probability increased over the years, the escalation factor for future sale prices are going to be higher than that for future costs of production. Discounting both the cash flows for each of the years by the same discounting factor (10 per cent) may actually result in windfall gains being roughly closer to what has been calculated by the auditors.

The windfall gains in the CAG report and in the draft report have been calculated at current prices and would accrue to coal block-holders over a period of 25 years or so, i.e. during the life span of a mine. After all, all the coal cannot be extracted at one go.

Given these facts, in retrospect, it appears the CAG will now have to defend attacks on both fronts, from those who believe that the loss figures have been grossly exaggerated and others who may well accuse the CAG of adopting an excessively soft touch.

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