We are now more convinced than ever we made the right choice to move downstream into power ... The outlook suggests our "three engines of growth" approach to value creation will deliver sustainable value for many years to come.
Despite the backdrop of macro-economic volatility and chronic oversupply in the coal market, your company has been able to deliver solid operational and financial results in 2015.
The cyclical downturn continued throughout the year. The oversupply has not been resolved nor the necessary cuts made to bring the market back into balance. During another difficult year for coal, however, Adaro Energy made valuable progress in its transformation into a vertically integrated energy producer in Indonesia
Transformation of the Company
With consistent development of each of Adaro’s business subsidiaries, we have increased the portion of EBITDA that comes from our non-coal mining operations. In 2015, non-coal mining contributed 42% of Adaro’s EBITDA compared to just 16% in 2009.
This transformation does not happen overnight. We laid out the plan to become an integrated energy producer before our IPO in 2008. We looked at two distinct business models from global coal mining companies – one solely focusing on coal and another diversifying business along the supply chain to include logistics and power. At that time, we decided that having an integrated business model would create the most value for Adaro and our stakeholders.
Our main motivation is that we want to build a great Indonesian company and participate in building the nation. Through what we do, we create maximum sustainable value along the pit-to-power value chains to provide reliable energy and help build Indonesia.
Downturn is Painful but Normal
The year 2015 saw a volatile global macro-economy shadowed by uncertainty over a US interest rate increase. Global economic growth slowed and affected demand for commodities. In China, the largest consumer of global commodities, the GDP growth of 6.8% was the weakest in 25 years. Other emerging economies also struggled, with ASEAN growth stalling at 4.5%, the lowest since 2009, although India and the US strengthened during the year. India even outpaced China, with a 7.5% growth.
Macro-economic headwinds and coal oversupply coupled with slower demand led to further price declines during the year. The benchmark Newcastle coal price decreased 18% to an average of US$59 per tonne. These developments present substantial challenges for Adaro and the coal industry in general. The industry has responded with improved productivity and efficiency. Global average seaborne thermal coal cash costs declined 12% to US$50.46 per tonne, driven by weaker currencies in major coal export countries among other factors.
Coal supply from Indonesia in 2015 contracted by a further 89Mt to 395Mt, as Indonesian coal producers bore the brunt from global macro headwinds. While painful, this type of downturn is normal in a cyclical industry such as coal. Several years of over-investment during the upward cycle resulted in supply overcapacity across the board. This downturn will determine those who will be able to emerge as survivors.Once reduction in supply and demand growth eliminates overcapacity, the market will rebalance and the downturn will reverse.
Our view remains that long-term fundamentals for the coal and energy sectors remain strong. The key is that we must not waver. This is a marathon, not a sprint. Like a supertanker cutting through rough seas, we weather bad times and keep going, consistently delivering positive energy.
Adding to the coal industry’s challenges is growing negative sentiment over coal’s environmental impact. At Adaro, however, we know that through efficient use of our low- pollutant coal and harnessing green technologies we can help Indonesia to achieve its climate action plan to limit greenhouse gas emissions while also helping to meet the nation’s expanding electricity needs.
Supporting Indonesia’s Growth
Although global demand for coal dropped during the year, Indonesian demand rose by 8Mt to 87Mt as several coal-fired power plants were commissioned. Demand from some Southeast Asian countries also increased: Malaysia, Vietnam and the Philippines each by 2Mt, and Thailand by 1Mt.
Our home country Indonesia is one of the world’s most populous countries and has tremendous potential for growth, which requires support from adequate infrastructure. Indonesia’s economy achieved 4.79% growth in 2015, but its electrification rate stood at 84%. This figure is below neighbouring Southeast Asian countries – Indonesia betters only Myanmar and Cambodia in terms of the percentage of population with access to electricity.
The Indonesian Government has a target to push the country’s electrification rate up to 99.4% by 2024. As an Indonesian company, we want to support Indonesia to reach its potential.We recognize that the needs and the means are there. A government program is under way to add 35GW of electricity- generating capacity into the national grid by 2019. Of this, 20GW is due to come from ccoal-fired power plants. The opportunity for Adaro is now or never. The 35GW program is the largest in the 70-year history of Indonesian independence. There may never be any other project this big. So this is a rare, extraordinary opportunity that we must take right at this moment.
Our track record of operational excellence at our core subsidiary, PT Adaro Indonesia, enables PT Adaro Power to bid on coal-fired power plant projects in Indonesia. Participating in power projects will create captive demand for our coal, propel the growth of our logistics arm and create value for Adaro and our stakeholders.
Riding out the Downturn
Despite the coal market difficulties, our business is on track. While the outlook for coal has not improved as expected, we can take comfort that we made the correct strategic decision to diversify our business several years ago. We understand that coal is cyclical, that vertical integration brings many benefits and that Indonesia requires huge amount of electricity.
Our integrated business modelis proven to be resilient and we can maintain our performance and operational excellence. Our goal is to provide reliable supply to our long-term customers, most of which are power plants.
In 2015, we produced 51.46Mt of coal, 8% less than in 2014 and slightly below our production guidance of 52Mt to 54Mt. Adaro Indonesia, our main coal producer, has been performing well, while our concession at Balangan improved production by 25% to 1.1Mt in 2015.We produced a blended product from PT Adaro Indonesia’s Wara pit and Balangan, called the Wara Balangan Blend, which improves the quality of Wara’s E4000 product and opens up a market in the lower heat value coal category. This product has been well received by our customers in China and India.
In 2015, we sold 22% of our coal inside Indonesia. We continued to be a leading supplier to the domestic market andare committed to meeting Indonesia’s growing coal demand and fulfilling our Domestic Market Obligation. Despite China trying to reduce coal consumption, our exports there held up quite well in 2015, accounting for 16%of the coal we sold. This was our second- largest annual export to China, thanks to a tremendous effort from our marketing team maintaining our good relations with customers there.
Growing Our Non-coal Mining Business
Our integrated business model gives us strategic involvement in each segment of our coal supply chain. This long-held strategy not only contributes to keeping our costs down but also to our growth potential. Our mining services company PT Saptaindra Sejati (SIS) and our barging company PT Maritim Barito Perkasa (MBP) have been performing well. They currently handle most of their volume for Adaro Indonesia and our Balangan operations, but they also cater for and generate revenue from third-party customers.
EBITDA contribution from our non-coal business was substantial in 2015 at 42%, a proportion that has grown steadily from 16% in 2009, the first year after our IPO. As the industry recovers from its downturn, we expect more earnings contribution from our non-coal mining business.
One highlight from our logistic business in 2015 was forming a strategic alliance for national energy security with the state oil and gas utility PT Pertamina (Persero) (Pertamina). We entered into an agreement with Pertamina on fuel supply and optimization of the fuel infrastructure owned by Adaro.
Our extensive fuel storage facility on Pulau Laut is an important part of our integrated operations. We believe that our logistics infrastructure is more than ready to support initiatives for national energy security, while at the same time securing fuel supply for our group’s operational activities. We were proud to be able to create synergy between Pertamina and the private sector in strengthening national energy security.
Moving Downstream to Power
We are excited about moving downstream into the power business. Given our experience, our learning phase in recent years and the discipline and focus of our owners and management, we believe we are well placed to take advantage of favorable conditions in the Indonesian power sector.
We reached a milestone in 2015 with our Central Java Power Project when President Joko Widodo in August inaugurated construction of this 2x1,000MW coal-fired power plant, owned by PT Bhimasena Power Indonesia, in which we are a partner. This was a concrete demonstration of the government’s support for the plant and other infrastructure development projects. The project will deliver significant benefits to the local community, providing employment opportunities and helping prevent power shortages in Java and Bali.
Our 2x100MW power plant project in South Kalimantan under PT Tanjung Power Indonesia is also in the pipeline. With this project, we will contribute to the generation of a ordable electricity in the province. We expect to have financial closures for these projects soon, and we remain on track to be a leading Indonesian mining and energy group, as well as continuing our contribution to national development.
Resilient Financial Perormance
We delivered on our 2015 financial performance targets despite the coal market challenges and volatility in the global economy. We continue to deliver operational excellence with strong performance from our core business.
Solid Operational EBITDA: In 2015, we booked 19% lower revenue at US$2,684 million due to a 7% lower sales volume and 14% lower average selling price (ASP) for our coal. We lowered our coal cash cost (excluding royalty) by 16% to US$27.98 per tonne, mainly due to a lower strip ratio and lower-than-budgeted fuel costs, and beat our guidance of US$31 to US$33 per tonne. Our Operational EBITDA, which excludes non-operational accounting items, decreased by 18% to US$730 million. We delivered on our guidance of US$550 million to US$800 million, demonstrating the high quality of our earnings and the sustainability of our business model.
Robust Core Business: Our net income declined by 17% to US$151 million due to lower revenue from a softer ASP and a one-time, non-cash, non-operational impairment charge, but we recorded resilient core earnings of US$293 million, a measure that we feel better respects the Company’s core earning power and the sustainability of our business model.
Healthy Financial Position: Cash preservation is one of our strategies to ride out the downturn. In 2015, we maintained strong liquidity with a cash balance of US$702 million. We continued to lower our net debt position, reduced it by 25% to US$865 million, resulting in ratios of net debt to last 12 months operational EBITDA of 1.18x and net debt to equity of 0.26x. We will continue to preserve cash and strengthen our capital structure. We are being prudent on our capital spending. Our capital expenditure declined by 41% to US$98 million in line with our guidance of US$75 million to US$125 million. We are making sure that we are free cash ow positive every year. We recorded free cash flow of US$458 million in 2015.
Successful Refinancing: During 2015 we refinanced the remaining balance of loan facility agreements for SIS of US$400 million and MBP of US$160 million with a more competitive rate and longer loan period. We used some of our internal cash to pay down a portion of the loan, hence reducing our level of interest- bearing debts. This refinanced will lower interest expenses in the coming year and provide more flexibility for Adaro.
Consistent Returns to Shareholders:
Our resilient performance has enabled us to continue to provide returns to our shareholders. We will continue to pay regular cash dividends. We paid US$75 million in cash dividends to our shareholders in the year 2015. This year on January 15 we also paid an interim cash dividend of US$35 million.
Changes to the Board of Directors
In April 2015, one of our Directors, Sandiaga Salahuddin Uno, resigned. He served at Adaro for almost 15 years, and we thank him for his dedicated contribution and long service. His resignation was approved at an Extraordinary General Meeting of Shareholders on June 3, 2015.
One of the key success factors for our business is that we are committed to upholding the principles of transparency, accountability, responsibility, independence and fairness to protect the interests of all stakeholders.
We ensure that our standard operating procedures are aligned with good corporate governance (GCG) best practices. We conduct periodic reviews and evaluations. We believe that consistent adherence to GCG practices will help tremendously in value creation. It also helps us to achieve our vision to be a leading Indonesian mining and energy group.
We anticipate that 2016 may also prove challenging for the coal industry. We are still experiencing chronic oversupply of coal. Slower demand growth in China and mixed economic performance globally has put more pressure on coal prices. We have seen coal miners trimming production, meaning that a response to the supply overcapacity is under way.
We are also excited about future demand from Indonesia and other ASEAN countries with more coal-fired power plants soon to come online. Coal is a reliable and increasingly efficient source of energy that is instrumental to developing countries for their electri cation plans to support economic growth.
We are now more convinced than ever we made the right choice to move downstream into power, as the current conditions and outlook prove. The outlook suggests our “three engines of growth” approach to value creation will deliver sustainable value for many years to come.
Further, the conditions encourage us to continue to improve productivity and operational excellence. We continue to lower costs, be prudent in capital spending and reduce our debts. We are consistent with our strategy while also being nimble given the dynamics of the coal industry. We continue to stay the course, improve our productivity and efficiency as well as maintain operational excellence.
Through our vertically integrated business model, we have established our three engines of growth: coal mining, mining services and logistics, and power. The challenging conditions further encourage us to develop our non-coal businesses and improve their contributions to Adaro.
We will continue to improve cost efficiencies along our coal supply chain, strengthening our logistics unit and moving further downstream into power. We will continue to pay an annual cash dividend.
In 2016, we are guiding the market for at production of 52Mt to 54Mt. We are adjusting our mining activities by planning a strip ratio of 4.71x while also making sure we are not harming our long-term reserves.
Coupled with our efficiency endeavors, we are guiding coal cash cost at US$26 to US$28 per tonne this year re ecting Operational EBITDA of US$450 million to US$700 million.
We will also make sure that our capital spending commitments remain strategic and selective. Thus, we are guiding capital expenditure of US$75 million to US$100 million in 2016.
We wish to thank all of our stakeholders for their continuous support. To our dedicated key shareholders, our communities, our loyal customers, our governments and regulators, our suppliers and contractors, our public investors, and especially to our loyal and hard-working employees, we thank you for your continued support and trust.
None of our achievements in 2015 would have been possible had we not enjoyed the privilege of your support. As we progress into 2016, we are con dent that we remain showered with high spirits and support.
We cannot achieve any of our success without having the right people and the right organization. We find the best people and ensure that they are in the right place, so that both the company and the individual can thrive and succeed.
We are devoted to building a great company. Each one of us is passionate about Adaro and thoroughly convinced of its bright future.
Together with our stakeholders, we will continue to deliver positive energy for many years to come.
On behalf of the Board of directors
President Director & Chief Executive Officer