The market remains in the habit of springing surprises, occasionally brutal. Otherwise, who could have thought as late as September that aluminium, the metal next only to steel in production and use, would sink below $2,000 a tonne in the third week of November to come close to its lowest since July 2010? This is a shocker, as in the first nine months of 2011, aluminium realised an average price of $2,498 a tonne, about 18 per cent up year-on-year. At close to $2,500 a tonne, this industry across the board, irrespective of smelters being high or low cost, makes money.
No doubt at prevailing prices, a large swathe of capacity has become unprofitable to run. Estimates of loss making capacity range from 25 per cent, according to Russia’s Rusal, to RBS banking group saying nearly half the world’s aluminium producers are not able to recover costs. What is going to save the day for Hindalco, in the midst of major capacity expansion of both alumina and aluminium and the largely government-owned National Aluminium Company (Nalco), through with its second phase of expansion, is that they remain in the lowest cost quartile of global aluminium production costs. In recent periods, however, Nalco has come under pressure because Mahanadi Coalfields, with which it has mines linkage, has repeatedly tripped in redeeming supply commitments. When Nalco buys coal through e-auction to bridge supply shortfall, it pays up to three times more than what is charged by Mahanadi Coalfields.
Cost effectiveness of a smelter depends largely on what price it gets electricity and also whether it has ownership of bauxite mines. The average share of electricity in aluminium production costs across the world is 25 per cent, with the high of 40 per cent in China, where power bill is rising faster than in most other places and the low of 10 to 15 per cent in Russia. No wonder, the world’s leading aluminium producer, Rusal, aided by a six per cent fall in energy rates and also benefiting from refinancing of a $11.4-billion debt, earned better-than-expected 2011 third quarter profit. Incidentally, about 35 per cent of the world aluminium industry is power self-reliant. Even while Nalco’s electricity capacity of 1,200 Mw is in excess of power requirements of its 460,000 tonne smelter, intermittent shortfall in coal supply from the designated agency is not allowing the company to reap full benefits of captive power.
This is happening at a time when aluminium prices are found to be well below the world industry’s marginal cost of production. Tom Albanese, CEO of Rio Tinto, which got its portfolio hugely expanded on its takeover of Alcan in 2007, says “For the near term, I am concerned about general softening of prices when we continue to see cost escalation.” Rio’s problem got compounded by appreciating currencies in Canada and Australia, where it has a majority of its operations. Unlike company vacillations that we are familiar with here, Rio is to permanently shut its Lynemouth smelter in the UK, as it has announced plans to sell other aluminium assets worth around $8 billion. The closure and asset disposal decision, no doubt, has been triggered more by rising energy costs than the recent cracks in industrial metals market. A secular decline in commodity prices is unavoidable when European leaders are desperate to save the euro. The Economist writes that “a euro break-up would cause a global bust worse even than the one in 2008-09.”
Beyond Europe, the US GDP growth of 1.7 per cent this year is hurting market sentiment. The only saving grace for aluminium in the US is the five per cent growth in the automobile industry, among largest sectoral users of the metal. Those tracking the Chinese market say even while aluminium demand there will grow 15 per cent to 19 million tonnes (mt) this year principally riding on the back of strong requisitions from automobile, aerospace and defence sectors, the recent slowdown in smelter capacity use more recently will see production rising 14 per cent to 18 mt. This is causing rising Chinese imports of aluminium. China is a country of paradoxes. To give one example, while the Chinese Nonferrous Industry Association wants aluminium capacity capped at 20 mt, the industry is already bigger than that. In fact, China is forecast to lift its aluminium output to 25.3 mt by 2015.
As economies in the West are sputtering, the growth in aluminium demand is happening mainly in China, India and Brazil. European aluminium orders sank 20 per cent in October, with remote chances of any immediate improvement in the situation considering the worsening credit situation. Barclays Capital base metals analyst says, European demand is contracting and “we expect it to get worse, with North American demand looking fragile, while Chinese consumer sentiment is weakening.” Housing is one area where Chinese aluminium use growth forecast will be moderated, as Beijing has taken a slew of measures to cool the real estate market that has become a hotbed of speculation.
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