Indonesia introduces new Law on Mineral and Coal Mining

After many years of debate (three years being the publicly acknowledged figure,
but in reality many more) Indonesia’s Parliament ratified a new Indonesian Law
on Mineral and Coal Mining - known as "Minerba" - on Tuesday, 16 December
2008 in Jakarta. The Minerba will replace the previous Law No. 11 of 1967 on
Basic Principles of Mining ("Law 11"). However, all implementing laws and
regulations under Law 11 will remain valid to the extent they are not contradictory
to, or replaced by, new regulations to be issued under Minerba.

The Minerba will come into force upon the President signing the Bill or after one month from Parliament’s
approval, whichever is earlier.

Despite the significance of Indonesia’s mineral and coal resources, major new investment in the sector in
recent years has been hindered by limitations in the legal regime and its operation in practice. Does the
Minerba herald the start of a new age of world class mining activity in Indonesia? This short article offers a
few thoughts on some of the salient aspects of the new legislation. Further more extensive information will
follow.

Whilst a positive development of sorts in that Minerba does provide more certainty on some of the long open
questions, in the short term the Minerba may not represent the new dawn hoped for by many and may
herald some new problems for operators of existing large mining undertakings in Indonesia.

Some of the most significant changes introduced in Minerba include:

• introduction of two new types of mining concession, namely: (i) Mining Business Licence (or in
Indonesian, ijin usaha pertambangan - "IUP"); and (ii) Special Mining Business Licence (or in
Indonesian, ijin usaha pertambangan khusus - "IUPK"). Looking forward both forms of licence will
replace the previous ‘mining authorisations’ (or kuasa pertambangan KPs) system granted by
regional or central governments to licence holders and the previous ‘Contracts of Work’ (or COWs)
entered into between private mining contractors and the central government of Indonesia
("Government");
• apparent opening of the IUP and IUPK systems to foreign owned Indonesian companies,
established in Indonesia as foreign capital investment companies (Penanaman Modal Asing);
• issuance of new IUPs to be on an auction basis (as in Indonesia’s Oil & Gas Law of 2001) or by
request depending on whether a mineral or coal is the subject of the mining activity and issuance of
an IUPK to be on an auction basis;
• domestic processing and refining obligations in respect of all mining products;
• tax and royalties are not fixed at the time of issue of the relevant IUP and IUPK (as under existing
COWs), and will be assessed in accordance with prevailing laws and regulations;
• a general share divestment obligation to local parties is imposed on the IUP and IUPK where the
holder is foreign owned; and
• transition period specifically mentioned for contracts of work but not for current KPs.
Consistent with Indonesian laws generally, Minerba is a framework law, expressed as general principles,
and much of the important detail remains to be completed by Government regulation(s). Without these
regulations being issued, it will be difficult for many parts of Minerba to be properly applied.
A brief summary of the principal features of Minerba is set out below.

IUP and IUPK

The biggest plus of the Minerba is a new licence system for mining concessions that, at least on the face of
the law, will now be open to direct ownership by foreign owned Indonesian (PMA) companies. Minerba
allows for IUPs and IUPK to be granted to a ''Business Entity'', a co-operative and/or an Indonesian
individual. A Business Entity is defined as every business enity in the mining sector established on the basis
of Indonesian Law and having its domicile within the Republic of Indonesia.

This is a significant change to the previous KP system, which was closed to foreign ownership, including
PMA companies. The existing 'KP' licences could only be granted to wholly owned Indonesian entities.
Foreign participation in KP based projects were therefore effected around a number of indirect contractual
structures that gave rise to many unnecessary risks and inefficiencies. Application of the provisions of
Minerba should enable simpler, more direct participation by foreign companies in mining activities under
IUPs. However, an obligation has been introduced to divest shares in companies held by foreign persons to
the Government, regional government, state owned enterprises etc. following five years from
commencement of the production stage.

IUPs will be granted by local or provincial or central governments in accordance with Indonesia’s current
regional autonomy system, depending on the location and extent of the proposed project area, as has been
applied for the previous KP system.

Minerba provides for two types of IUP: (i) “IUP Exploration” covering general survey, exploration and
feasibility study stages of the mining process; and (ii) “IUP Production Operation”, covering construction,
mining, processing and refining and sales and transportation of the mineral and or coal as relevant.

The term of an IUP Exploration varies, depending on the type of mineral (metal or non-metal) or coal to be
mined, with a maximum of eight years. As with the term of the IUP Exploration, the term for an IUP
Production Operation varies, depending on the type of mineral or coal to be mined and is available for up to
twenty years, subject to two extension periods of ten years each, with approval of the government.

Unlike the IUP (which may be granted by the local or provincial or central government), importantly the IUPK
is granted by the central Government (through the Minister). As with IUPs, there will be two types of IUPK,
namely: (i) IUPK Exploration; and (ii) IUPK Production Operation.

The maximum terms of an IUPK Exploration for metal and coal will be eight and seven years respectively.
The term of an IUPK Production Operation for metals and coal will be twenty years, subject to two
extensions provisions of ten years each, with approval of the Government. The working areas under the new
IUPs related to metal mineral and coal and IUPKs will, for the first time in Indonesian mining, be granted
through an auction process, although the form and manner in which the auction process will be conducted is
not included in the Minerba. The working areas for IUPs related to non-metal minerals and rocks are to be
granted through a mechanism based on request.

Further details of the procedure for applying for and granting IUP Exploration and IUP Production Operation
are expected to be provided through future Government regulation(s).

Domestic Processing

Importantly, under Minerba the holders of IUP and IUPK are obliged to increase value adding of mineral and
coal resources in their mining, processing and refining. Specifically IUP/IUPK holders are required to
process and refine extracted mineral products within Indonesia. Minerba states this as a general principle
only without specific details as to the type/level of mineral processing/refining required to satisfy this
requirement or as to when this must commence. Minerba also states that, holders existing COWs (not KPs)
in production are obliged to undertake refining within 5 years of Minerba coming into force. Further details of
the above processing and refining obligation are expected to be provided through future Government
regulation.
Minerba does however provide that for the purposes of processing and refining, the holders of IUP
Production Operation and IUPK Production Operation may cooperate with other business entities which hold
a special IUP Production Operation for Refining and Processing. Accordingly, Minerba suggests that special
licences can be issued for a company to undertake processing/refining of minerals only, as distinct from
exploration and extraction. Also, the holders of IUP and IUPK may process and refine extracted mineral
products of the other holders of IUP and IUPK.

Tax and Non-Tax Revenues

Minerba clearly states that the holders of an IUP and IUPK will pay tax and non-tax revenue in accordance
with prevailing laws and regulations from time to time. Therefore, the amount of tax and non-tax revenue
required to be paid throughout the term of an IUP or an IUPK will to be subject to change from time to time.
This is a key point of departure from the previous Contract of Work system in which the specific tax and
fiscal regime was generally fixed for the life of the project.

Non-tax state revenues are defined to consist of: (i) deadrent; (ii) exploration fees; (iii) production fees; and
(iv) information data compensation.

Regional revenues consist of: (i) regional tax; (ii) regional income benefit; and (iii) other income in
accordance with the prevailing laws and regulations.

As a significant new impost on mining companies, the holder of an IUPK will also be obliged to provide the
Government and regional government with a share of its net profits at the production stage - 4% to the
Government and 6% to the regional government.

Share Divestment (Localisation)

Minerba provides that the Business Entities, the shareholders of which are foreign, which hold IUPs and
IUPKs are required to divest shares to an Indonesian party (the Government or the regional government or
state owned enterprise or regional owned enterprise or a local business entity) after five years of
commencing production. Obligations to offer part of the foreign shares in Indonesian COW mining
companies have given rise to several major high profile disputes over the last decade. The Minerba retains
the general concept of localisation divestment but there is no clarification of what such divestment will
require. Implementation of this obligation, including details relating to: (i) the percentage of foreign shares to
be divested; and (ii) manner in which this obligation is to be fulfilled, will be clarified by further Government
regulation.

Restrictions on Transfer

An IUP and IUPK is non transferable. There are no clear provisions relating to the transfer of shares in
entities holding IUP and IUPK. In general, this does not seem to be regulated in Minerba. However, one
article provides that any transfer of shares on the Indonesian stock exchange may only occur after the
company has found at least 2 prospective areas in the exploration stage. Such transfer of shares on the
market must be notified to the government. This provision seems to be directed at the timing of floating
mining companies.

Transitional Provisions
• Current Contracts of Work and Coal Contract of Work

Minerba contains some potentially contradictory messages around transition. On the one hand it is
provided that existing Contracts of Work will be honoured for the remainder of their term. On the
other, this is stated to be subject to review within a one year time period allowed to align the terms
of existing COWs with the new system, with the “exception of State revenue”. The idea of forcing
changes to existing agreements signed between investors and the Indonesian Government is likely
 to be highly contentious and is contrary to the principle of agreements constituting binding law
between the parties at the center of Indonesian contract law. How this will play out is unclear and
instinctively it seems difficult to see the Government seeking to change the rules of existing COWs
wholesale given the negative message that would send to the foreign investor audience. Moreover,
a number of major COW projects are owned by very influential Indonesian owned groups.
Nevertheless, press stories have already been laced with rather meaningful observations from
foreign owned mining companies that they will ‘continue to observe’ their existing contract terms.
The Minister has been reported to say that the adjustment required to existing COWs will be minor
and that the Government recognises that it is not in the position to unilaterally amend existing
COWs.

Minerba seeks to put pressure on existing COW holders to utilise or lose the area under their
contracts. Specifically, it provides that if an existing COW has reached exploration, feasibility study,
construction or production operation, the contract holder must submit an activity plan for the entire
work area under the contract up to the expiry of its term in order to obtain approval from the
Government within 1 year of Minerba coming into force. If this requirement is not satisfied, the work
area under the COW will be adjusted in accordance with Minerba.
• KPs
Unlike for Contracts of Work, there are no specific provisions related to the status of
currently issued and unexpired KPs following enactment of Minerba. We expect that
existing KPs will continue to be honoured for the balance of their term but it is not clear
whether the Government will seek to force conversion of KPs to the new IUP/IUPK model.
Dispute resolution

Any dispute related to the implementation of IUPs or IUPKs will be referred to the Indonesian domestic
courts or domestic arbitration for resolution.

Final Note

Historically, major foreign backed mining projects in Indonesia have been developed under contract based
concessions - Contracts of Work - entered into directly with the Government. These contracts covered the
life of the project and larger areas than the new licence regime and were seen as a more secure regime for
world scale, long term mining projects having economic and fiscal terms agreed in a contract that formed a
"special law" between the Government and the mining company.

The Indonesian mining industry has lobbied for many years to retain agreements of this kind as a basis for
facilitating major mining development in Indonesia. Crucially, however, in the last days of deliberation of the
Minerba, the contract based concession system was suddenly dropped from the bill. Previous media reports
and drafts of Minerba had indicated that a replacement for the COW system - had been agreed with the
Government and a mining business agreement - would form part of the new regime. This had the backing of
major business groups in Indonesia. However, amidst strong nationalist sentiment (or even narrower local
interest voices) this important feature was lost in the last days of debate.

Two major issues stem from this. First, and rather obviously, no new contracts of work with the Government
will be possible, even for major mining development. Quite apart from the added legal certainty and
predictability seen as an advantage of the successful existing contract of work approach, area limitations on
IUPs and IUPKs under Minerba mean it may be difficult to use them to support projects of sufficient scale to
be on the radar of major international mining companies. Secondly, as mentioned above, there are even
issues surrounding transition under existing contracts of work.

As always with Indonesian reform, a period is likely before the new rules really start to play out. The Minerba
anticipates a myriad of new implementing regulations being issued and these regulations commonly lag
some way behind new laws being passed by Parliament. Furthermore, the disgruntled Indonesian mining
association, worried by the lack of attractiveness to major new projects, is already talking of possible court
challenge to Minerba. There is no doubt much more to follow.

We will be keeping clients up to date with key developments. More immediately, we are currently working on
a more detailed guide to the new legislation to be published as soon as practicable. This bulletin is a
summary of some important features of Minerba and is not intended to constitute legal advice. Clients
should seek advice on specific questions regarding Minerba and its impact.