New Indonesian Mining Law

July 2, 2010

Indonesia’s  Law No. 4 of 2009 on Minerals and Coal Mining (the ‘New Mining Law‘) replaces Law No. 11 of 1967 (the ‘Old Mining Law‘).  The New Mining law was approved by the President on 12 January 2009 and is now the prevailing law of Indonesia.

As is commonplace in Indonesia, the legislation is augmented by implementing regulations, which provide details of the new regulatory regime. Issued regulations (already in force) cover subjects such as:

• Mining Area Determination;
• Mineral and Coal Mining Business Activities; 
• Mining Services for Minerals and Coal (i.e. who may provide mining services and their licensing requirements);
• Post-Mining and Reclamation Activities;
• Prioritization of Coal and Mineral Supply for Domestic Interest;
• Investment changes pursuant to the old ‘Contracts of Work’ and ‘Coal Contracts of Work’;
• Transparency of state and regional income generated from extractive industries; and
• Administrative sanctions in the event of non-compliance.

Further regulations are expected dealing with Post-Mining and Reclamation Activities and Administration and Supervision of Mining Activities.

Generally, the new law and regulations clarify some aspects of foreign investment; yet uncertainties still remain in some areas.  For example, the licensing regime overall has been simplified. Mining Business Licenses (‘Ijin Usaha Pertambangan’, ‘IUP‘s) are now equally available to foreign and domestic investors. Previously foreign investors could only act as operators of  mining projects unless they happened to hold one of a strictly limited number of no longer issued ‘Contracts of Work’ (‘Kontrak Karya’, ‘KK‘), or a ‘Coal Contracts of Work’ (‘Perjanjian Karya Pengusahaan Pertambangan Batubara’, ‘PKP2B‘) that were originally intended for large scale mining projects.  Only Indonesian national parties could hold the previous form of Mining Business Licenses (‘Kuasa Pertambangan’, ‘KP‘).  Although not clear from the legislation or regulations, it appears that IUPs will be routinely granted for small and medium size mining projects, while larger scale mining projects, with national strategic importance, will need a ‘Special Mining Business License’ (Ijin Usaha Pertambangan Khusus, ‘IUPK‘).

Under the New Mining Law, the Government will designate areas of land as Mining Business Areas (for which IUPs may be issued), Smallholder Mining Areas (for which Community Business Licenses or ‘IPR‘s may be issued) or State Reservation Areas (within which Special Mining Business Areas may be designated and for which IUPKs may be issued). IUPs may be issued for (i) coal, (ii) metal minerals, (ii) non-metal minerals, and (iv) rock minerals to a business entity, a cooperative or an individual, whilst an IUPK may be issued for coal and metal minerals to (i) a state owned enterprise (‘Badan Usaha Milik Negara’, ‘BUMN‘), or (ii) a Regional Government-owned enterprise (‘Badan Usaha Milik Daerah’, ‘BUMD‘), in the first instance, by way of priority rights, or (iii) subsequently, to a privately owned enterprise (‘Badan Usaha Milik Swasta’, ‘BUMS‘) by way of tender.

They are issued in two stages corresponding to exploration and production operations activities: ‘Exploration IUP/IUPK‘ and ‘Production Operation IUP/IUPK‘.  Exploration IUPs/IUPKs are issued on the basis of application (for non-metal minerals and rock minerals IUP) and/or tender (for (i) coal and metal minerals IUP or (ii) IUPK issued to BUMS) and/or priority rights (for IUPK issued to BUMN or BUMD). Production Operation IUPs/IUPKs are issued as an upgrade of Exploration IUPs/IUPKs or, in the case of a Production Operation IUPs/IUPKs, on the basis of tender to a business entity (including a foreign investment company), a cooperative or an individual which/who has obtained feasibility study report data from the Government.  

The following aspects of the New Mining Law may be of concern to foreign investors:

• Divestment obligation: After 5 years of production, the holder of an IUP/IUPK must divest its foreign shareholding so that a minimum of 20% of the shares are locally owned. The Government, Regional Governments and Government entities have a first right of refusal over such shares ahead of 100% locally owned private companies, and the local shareholding after such divestment may not be diluted below 20%. The divestment requirement applies to ‘Foreign Capital holders’, who are defined as foreign entities and Indonesian entities whose capital is entirely owned by foreigners. Therefore, strictly speaking, a 99% foreign owned PT PMA company (a PT being a privately owned limited liability company, and a PMA being a foreign investment company) would not be subject to the requirement. However, the intent of the lawmakers appears here to be a maximum of 80% of foreign ownership after 5 years. It is also unclear from the regulations as to how the purchase price for the divestiture shares will be determined, and how the anti-dilution protection will work in practice (e.g. what happens if the 20% local shareholder is unable/unwilling to meet capital calls for an expansion). In light of these uncertainties and the Government rights of first refusal on divestiture shares, foreign investors may wish to consider 20% local holding structuring at the outset, or to divest before the 5th year of production. Although as yet untested, group structuring could possibly circumvent this apparent requirement of 20% beneficial local ownership of mining proceeds.
• Requirement to conduct certain in-country processing and refining: An IUP/IUPK holder is obliged to carry out processing and refining activities related to the mining products produced by it in Indonesia. In support of this obligation investors may make an application for ancillary areas to a WIUP (for non-mining use such as associated facilities). However, the level of processing and refining required in Indonesia for minerals, rocks and coal remains unclear.
• Special Production Operation IUP: A party that wishes to only carry out processing and refining business activities and/or trading of coal/minerals must first obtain a Special Production Operation IUP from the relevant Government authorities. The procedures for obtaining the Special Production Operation IUP, however, will be provided in a subsequent implementing regulation.
• Domestic Market Obligation (‘DMO’): IUP holders who export minerals or coal are required to refer to the benchmark price set by the minister in charge of minerals and coal mining affairs (the ‘Minister‘). Increased production is permitted to meet DMO obligations where mining companies have entered into export offtake contracts. However, increasing production may not be practical or commercial for the IUP holder, so parties to offtake contracts may wish to specify in their contracts that a waiver of the production limitation (or other such regulatory constraints) constitute a force majeure.
• Restrictions on use of non-local Mining Services Providers: Mining services consist of consultancy, planning, implementation and equipment testing in defined fields. IUP/IUPK holders are required to give preference to local mining services providers and national mining services providers, and may engage a foreign services provider only in certain defined circumstances (e.g. after public announcement by the IUP/IUPK holder that there is no local or national services provider available to carry out the required work, or the holder wants to use a local affiliate and conducts a tender process). A foreign services provider may only be engaged in the form of an Indonesian incorporated company (i.e. a PT PMA company).
• Approvals required for importing goods and employing expatriates: Ministerial approval is required before IUP holders employ expatriates and in respect of plans for importation of goods (although it appears that these approvals have been delegated to the Capital Investment Advisory Board (‘BKPM‘)).
• Minimum pricing limitations: Minimum prices for coal and metallic minerals are set by the Minister, and minimum prices for non-metals and rocks are set by the relevant governor or regent/mayor. A Standard Price is fixed monthly and adjusted back for non FOB vessel sales. The coal Standard Price is fixed by reference to a number of indices. IUP/IUPK holders that sell mining materials below the Standard Prices may be subjected to administrative sanctions including (i) written warnings, (ii) suspension of part or all of the activities of exploration or production operation, and/or (iii) revocation of the IUP/IUPK. All contracts (term and spot) must be submitted to the Minister and there are substantial reporting obligations in relation to price, volume, quality and point of sale, including invoice, bill of lading and certificate of quality.  There are also mandatory rules for use of letters of credit, which are likely to affect existing financing structures and require parties to renegotiate their terms of payment for offtake contracts. Significant uncertainties still remain regarding imposition of minimum prices for sale.
• Limitation on transfer: IUPs and IUPKs are not transferrable. An investor may only transfer ownership and/or shares in the entity holding an IUP/IUPK and which is listed on the Indonesia Stock Exchange after executing the Exploration phase and once the IUP/IUPK holder has found at least two prospective mining sites in its IUP/IUPK area during such Exploration phase. Any such transfer must be in accordance with the prevailing laws and regulations. This regulation is intended to prevent speculative trading of exploration interests.
• Taxation: An IUP/IUPK holder is obliged to contribute to state and local government revenue by way of taxes on its net profit. For holders of Production Operation IUPK, these amount to 10% of the net profit during production operations. The level of taxation is subject to the provisions of legislation from time to time.
• Additional actual and potential costs: Guarantees in form of a time deposit, bank guarantee, insurance policy and/or accounting reserve are required in relation to reclamation and post mining activities plans. Where, after such plans are carried out, the guarantees are found not to have been sufficient to cover the actual expenses of such activities, the shortfall must be met by the relevant IUP/IUPK holder. The IUP/IUPK holder may also, indirectly, suffer the expenses incurred by the mining services providers they engage (e.g. compliance with quarterly and monthly reporting obligations to the relevant Government authority, community development obligations, etc). An IUP/IUPK holder is required to manage its finances in accordance with the Indonesian accounting system. This would require an additional set of accounting reports for a foreign investor who may use a different accounting system in its business.
• Community development obligations: IUP and IUPK holders are obliged to formulate community development and empowerment programs in consultation with the Government, regional Government and communities. Provisions on implementation of community development and empowerment program are to be set out in future regulations.
• Other obligations: In the course of mining operations and after such operations are partially or totally completed, the holder of an IUP/IUPK is required to re-organize, restore and repair the quality of the environment and the ecosystem, to return the local natural and social environments, throughout the mining area, to their original state in accordance with the approved reclamation and post-mining plans.
• Surface land rights/clearance hurdles still applicable: Winning a tender does not guarantee an investor clear acreage free from other interests. The investor may still need to secure land rights’ permits or agreements, for example with plantation concession holders.
• Information reporting for transparency: The Presidential Regulation on Transparency of State and Regional Income Derived from Extractive Industries (enacted 23 April 2010) was intended to provide more certainty, accountability and to reduce corruption in Indonesia’s mining, oil and gas industries. It provides for the establishment of an Extractive Industries Transparency Working Committee directly reporting to the President, aiming to ensure that the income generated from these industries is disclosed transparently. The Presidential Regulation also imposes a reporting obligation on all Central, Provincial and Regional Governments, Upstream Business Activities Implementation Board for Oil and Gas (BPMIGAS) and extractive industry companies. However there are currently no details on the format and substance of the reporting obligation, or sanctions for failure to report, and therefore its practical application remains uncertain.
• Transitional provisions: Existing KKs will remain effective until they expire and, when due for extension, are converted to Production IUPs without needing tender. Existing KPs were to be converted to IUPs by 1 May 2010. Conversion of KPs to IUPs has been handled on a Regency by Regency basis.

(1)  WP/’Wilayah Pertambangan‘ is an area determined by the Government to have mineral and/or coal.

(2)  WUP/’Wilayah Usaha Pertambangan‘ is part of the mining area (WP) with identified mineral potentials and/or available geological data.

(3)  WIUP/’Wilayah Ijin Usaha Pertambangan‘ is the area within WUP which is granted to the IUP license holder.

(4)  IUP/’Ijin Usaha Pertambangan‘ is a Mining Business License, which is a license to conduct mining business. 

(5)  WPN/‘Wilayah Pencadangan Negara’ is a State Reservation Area, part of the mining area (WP) reserved for National strategic interests.

(6)  WUPK/’Wilayah Usaha Pertambangan Khusus‘ is part of the WPN which may be exploited.

(7)  WIUPK/’Wilayah Ijin Usaha Pertambangan Khusus‘ is the area within WUPK which is granted to the IUPK license holder.

(8)  IUPK/’Ijin Usaha Pertambangan Khusus‘ is a Specific Mining Business License, which is a license to undertake mining business in a WIUPK.

(9)  WPR/’Wilayah Pertambangan Rakyat‘ is a community mining area (part of  a WP), where smallholder mining business activity is executed.

(10)  IPR/’Ijin Pertambagan Rakayt’ is a mining business granted to Indonesian citizens, community groups and cooperatives with limited area and capital.

How to obtain a new IUP

Before applying for an Exploration or Production/Operation IUP, the applicant must first obtain the relevant work area (a ‘WIUP‘). An application for a WIUP must come from an entity established in Indonesia (which may be foreign owned).  A company may only be granted one WIUP, though listed companies may hold multiple WIUPs (and therefore IUPs). A non-listed company holding a single WIUP may have several different subsidiaries apply for several different IUPs in relation to that WIUP.

A WIUP for coal and metal-based minerals is granted by tender while a WIUP for non metal-based minerals and rocks is by direct application.  The tender or application is made to the relevant authority (generally either the regent or governor) as set out in Regulation 23. The tender process must be repeated if there is only one bid, but on re-tender a sole bidder will be the winner as long as their price is above or equal to the price they initially tendered. Regulation 23 provides for appeal rights against the tender result, but not in detail, and the process lacks certainty.

Having obtained a WIUP, as long as the investor submits its IUP application on time with the required documents, obtaining the IUP should be largely a formality.  In the case of a tender, the application must be submitted within 5 working days of the announcement of the winner or the applicant is deemed to have retired from the tender process and the IUP offered to other tenderers. The applicant will also forfeit its perseverance guarantee (which is 10% of either the bid price or the expected investment cost — Regulation 23 is unclear on this). Given the relatively short timeframes for submitting applications and documents, it will be important for investors to have reliable local advisors to ensure the timeframes and documentary requirements are met.

Regulation 23 also makes provisions for extensions to Production Operation IUPs, voluntary and mandatory relinquishments of WIUPs, and set out when IUPs may be suspended.

Final recommendation

Companies with current Indonesian mining assets or looking to invest in Indonesia’s mining sector should be aware of the key aspects and uncertainties of the New Mining Law, in particular the requirements as to local holdings after 5 years, local refinery/processing, use of local services providers/contractors and minimum pricing. Good group structuring and careful drafting of offtake agreements and financing packages will be important.

Prepared by Gibson Dunn & Crutcher in conjunction with Christian Teo & Associates.

Gibson, Dunn & Crutcher lawyers are available to assist in addressing any questions you may have regarding these issues. For further details please contact the Gibson Dunn attorney with whom you work or Emad Khalil (+65 6507 3682, [email protected]) or Charlie Grover (+65 6507 3654, [email protected]) in the firm’s Singapore office.

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.