In fiscal 2019, India is estimated to have produced 207 million tonne of iron ore, 65-70% of which was by merchant miners and the rest by captive steelmakers. Odisha alone is estimated to have produced 114 million tonne, or more than half of India’s iron ore production. Of this, 70% was produced by merchant miners and the rest by captive steelmakers.
In March 2020, leases on over 30 iron ore mining leases which account for 50-55% of Odisha’s and 10% of other states’ production, is expiring. That could lead to a 30% reduction in iron ore output. Importantly, all these leases are held by merchant miners.
With the expiry of iron ore mining leases nearing, there is quite some uncertainty about the completion and scheduling of auctions for G2 exploration licenses. Further, based on our interactions with market participants, two sets of arguments posed by merchant and captive steelmakers in the supply chain bring us to three possible scenarios: (1) base case; (2) optimistic scenario; and (3) pessimistic scenario.
The base case assumes that the auctions would be conducted in a phased manner from the third quarter of fiscal 2020, with leases being opened largely for merchant miners. This case stems from two facts. First, the vintage factor given that these mines have been previously owned by merchant miners since more than a decade and two that the entire ecosystem of secondary steel making in the eastern region feeds from these mines. Around 40-45% of Odisha’s merchant iron ore production is consumed within the state and the rest is outbound to other states.
In this scenario, the supply disruption shall be limited, as the auction process will be phased. While the rise in iron ore prices will depend largely on the auction premium, under the base case, we believe the premium will be more rational, keeping the long-term landed prices in mind. This shall translate into a price hike of 15-20% in fiscal 2021 over the current fiscal. Domestic iron ore prices were half of the landed prices in last year, giving enough comfort to merchant miners. Further, the healthy profitability of merchant miners at 30-35% lends room for a 15-20% hike in prices.