It’s out there

Written by Paul Adkins

Finally someone has run the story.

Today’s Australian newspaper has a story  about a possible merger between Alcoa and Rio Tinto, where the two company’s aluminium smelters would be spun off into a new company.

I first heard the rumour in November, leading me to write this cryptic post. There’s been circumstantial evidence, but no smoking gun.

  • Alcoa CFO William Oplinger told a Goldman Sachs conference last month “There’s no such thing as a core asset.” And he was quoting Alcoa President Klaus Kleinfeld. Was this a clue?
  • Alcoa is reorganising its internal structure, creating separate departments along divisional lines.
  • Rio has been making some internal changes as well. Perhaps a wise move to keep certain key people to yourself, and to make the transition to a new entity a little cleaner.

This story has been widely discussed, and it’s been a surprise that it hasn’t appeared in the press before now. I have had people from all corners talking to me about it – USA, Moscow, Sydney, London and Europe.  I decided not to run it, given the implications for shareholders and employees.

Of course, all this is not to say that it is true.   One source told me that the story doing the rounds in London was that the merger was between Rio and BHPB.

The Australian article says that Rio has said it is simply not correct.   Time will tell.  The article also says that it’s only smelters in Europe and North America, but that makes no sense, since it would leave RT holding the Australian assets that it tried to spin off just 3 years ago under the Pacific Aluminium brand.  All or nothing, surely.

The article also says it’s about countering China, but this makes even less sense. Alcoa has been positioning itself as a provider of engineering solutions, and any spare capital it has is going downstream, not into maintaining expensive smelters. Divesting itself of the burden of primary metal would free it to pursue its target markets in auto and aero. Besides, China is not a great threat to the rest of the world in the long term, despite the recent flurry of semis exports.

Would such a play help RT in the war against Glencore?   Glencore would certainly be interested in RT’s aluminium assets, primarily for the trading and premiums available. But I am not sure that spinning them off into a JV with Alcoa is enough of a defensive play, though it is probably not the only arrow in Sam Walsh’s quiver.

I am told the new entity would come pre-equipped with long-term supply contracts for alumina, and long-term sales contracts for the metal. After all, the last thing Alcoa would want to do in its exciting new world is lose supply of metal.

Here’s the transcript of the story. I can’t find a hot link to the newspaper, as I am not a subscriber, and I thank MK for sending this to me. Now that it’s out there, we will get a lot more information.


SPECULATION about the defensive manoeuvring possibilities of Rio Tinto ahead of Ivan Glasenberg’s Glencore being able to step up its takeover stalking of the mega-miner has gone in to overdrive.

A phoney war exists between the pair because under British takeover laws, Glencore is banned until April from saying anything about its ambitions after its initial approach for a “merger’’ with Rio was rejected last July. That has not stopped chatter around the next move by either party, notwithstanding the developing theme that the ambitions of the smaller and more leveraged Glencore no longer match its capability because of the severe crash in commodity prices.

The latest talk has been of a planned aluminium metal merger between Rio’s Alcan and US major Alcoa. Industry gossip has been that the pair are planning to combine their aluminium smelting assets in Europe and North America in an attempt to counter the rise of the Chinese aluminium industry, as well as blindsiding Glencore. China has come to dominate the global aluminium industry in the space of 15 years, so there is a requirement for a pushback by Western producers, so the chatter goes.

Given antitrust regulators forced the separation of the Canadian focused Alcan from its US parent Alcoa in the 1940s, there is some irony to the speculation. Such is the dominance of the Chinese industry in the lightweight metal that antitrust concerns no longer matter, or so they say.

The second theme goes directly to the stalking of Rio by Glencore, with a pre-emptive aluminium metal merger (the talk has been that bauxite and alumina operations would be excluded) seen as something of a poison pill to Glasenberg’s ambitions. Like much of the chatter around what will happen come April, the Alcan-Alcoa smelting merger is a bit of phoney war. So much so that Rio this week went beyond the standard “We don’t comment on speculation’’ to say that the rumours on the smelting merger were simply “not correct’’.

Promoters of the talk nevertheless point to Alcoa’s interest in bidding for Alcan before Rio knocked out all-comers with its over-the-top $US38 billion takeover of Alcan in 2007. Along with its Comalco aluminium interests, the Alcan acquisition propelled Rio in to the top four of the world’s biggest aluminium producers along with Chinalco (its biggest shareholder with 9.8 per cent), RUSAL and Alcoa. The Alcan acquisition was horribly timed and prompted massive writedowns since it was made.

Rio also recently planned to rid itself of the underperforming parts of the business in Australia and New Zealand through the float or trade sale of Pacific Aluminium. That fell victim to poor market appetite for the assets caused by high labour and energy costs plaguing the local operations, and weakness in metal prices. The sale was abandoned in August 2013.

The now-rejected speculation that Rio and Alcoa are planning a merger of their North American and European interests goes to the Australian/NZ operations continuing to be a slog at current metal prices. In recent Rio briefings, it has become clear the company is increasingly comfortable with its broader aluminium exposure, to the point at which it would argue that merging the smelting assets with those of Alcoa would be going backwards in terms of quality.

While the theme of the US chatter is that Alcoa alone could knock the Alcan smelters in to shape, Rio would strongly argue that a smelting combination would make no sense at all. Apart from anything else, a painful restructuring of its aluminium interests now has 80 per cent of its smelters in the first cost quartile of the global cost curve, with the remaining 20 per cent in the second quartile.

Meanwhile, Glencore is an aluminium producer itself, if not to the same scale. While Rio’s iron ore, copper, aluminium, mineral sands and coal are all of interest, the trading opportunities in aluminium metal would have particular appeal to Glencore. So it can be said that a Rio minus its aluminium smelting interests would be less appealing to Glencore with its marketing arm.

Increasingly, there are doubts Glencore will be able to return with anything meaningful come April. In a January 23 note, JPMorgan said Glencore looked to face the “most painful choices’’ of the mining heavyweights in dealing with the crash in commodity prices. It said because Glencore’s credit rating was crucial to supporting the trading business, capital expenditure cuts, assets sales and a cut in its dividend were all possible

BDI at 29 year low

Written by Paul Adkins

Reuters is reporting that the Baltic Dry Index (BDI), the main measure for dry bulk shipping, has now plunged to a level not seen since 1986.

The overall index is down to 632 points, while the Capesize index is at 725 points.   The Handysize index is at 348.   Handy size vessels are often used for cargoes such as calcined coke. Bauxite would ideally be carried in a Capesize vessel, although this size vessel is most often associated with coal and iron ore shipments.

While the lower index and therefore lower shipping costs are good news for buyers, it is a concern for the macro economic picture, especially in China.    The world’s business press has been reporting the fall in iron ore prices, but this fall to 1986 levels for the BDI is a major concern for miners and of course for the shipping companies themselves.

The only relief to this picture is that we are now rapidly approaching Chinese New Year. It is a reasonable assumption that shipping volumes will fall and stay low until we get past the middle of February. But if the BDI stays this low going into March, then we have a whole new paradigm unfolding.


Written by Paul Adkins

London-based analysts and reporters Fastmarkets Ltd are now very kindly posting some of our blog items onto their website. Be sure to keep an eye on their site, which you can find at

They are also sharing their views on the physical metal premiums, and I will post them on here from time to time.




What about regional power grids?

Written by Richard Lu

China Hongqiao (also known as Weiqiao) is one of the most profitable companies in China’s aluminium industry. Even when aluminium prices were in the doldrums in the first half of 2014 and most of its peers were suffering losses, Hongqiao still gained more than 2 billion RMB at that period. There are several factors leading to Hongqiao’s great success, but the core competitiveness is the conspicuously low power costs.

Hongqiao generates electricity by its captive power generators and transmits through its own grid. In contrast, most other companies who also have captive power generators must transmit the electricity through national grids or at least have the national grids as backups to prevent power outage. Our research tells us that the difference between Hongqiao and other smelting companies in Shandong Province who have captive power generators is about 0.07 RMB/Kwh. Theoretically, the difference derives from the use of their own grid.

What would happen if smelters in other provinces built up their own regional networks. If regional grids were built, members connected to those networks would only pay for fuel costs and small managing costs on a cash basis. Additional costs of transmission and backup could be saved and savings would be substantial. If we conservatively assume 0.05 RMB/Kwh could be saved in Henan Province, the savings would reach over 550 RMB per tonne aluminium on average, which drives average cash cost down by 4%. Other areas like Gansu, Qinghai, and Inner Mongolia, which are rich in smelting capacity could also benefit from such networks, and the savings could range from 3.5% to 5% based on the current cash costs.

Conclusively, regional power grids could shift China’s cash cost curve entirely down by 3%. It seems an excellent deal for smelting companies, but such regional grids are obviously challenging the monopolized electricity market. However, nothing is impossible under the “New Normal”.

2014 production figures released

Written by Paul Adkins

The International Aluminium Institute (IAI) has published the figures for aluminium production for December and 2014.

China came in at 2.48 million tonnes, for a daily production rate of 80,000t.   The monthly figure includes “unreported production” of 300,000t, which is a proxy for Hongqiao’s production, which isn’t in the official figures.

Several commentators forget to add the unreported production, and even worse, some forget that smelting is a continuous process, and spend more time talking about monthly rates instead of daily rates. December’s figure is an all-time record for China, but it’s actually slightly down on November (81kt per day.)

We had been saying that the final figure for China will be somewhere between 27.5 million tonnes and 27.7 million tonnes.   The range comes down to Hongqiao’s production figures.   Since we had them at 3.7 million tonnes, and the IAI uses a straight 300kt per month for Hongqiao, we are pretty close.   According to the IAI, the final 2014 figure for China is 27.54 million tonnes.

The IAI will need to tweak its unreported figure.   Hongqiao is still adding more capacity, and will soon be at 4.4 million tonnes output, or an average of 367kt per month.   And we hear that Hongqiao isn’t stopping there.   Their final capacity target is to grow to 8 million tonnes.   Consider that the world’s leading producers – Rusal and Alcoa – both sit at about 3.7 million tonnes. Even if those two companies re-opened all their idled capacity, the best they will be able to do is match Hongqiao in 2015.

Zoo news – Eric Johnson promoted

Written by Paul Adkins

Oxbow has issued a press release announcing the appointment of Eric Johnson to the position of President of the company.

Bill Koch remains CEO and Chairman of the Board.

According to the press release, Eric has been with Oxbow since it took over Aimcor in 2003.

Congratulations Eric!


Breaking news – SHFE under threat

Written by Paul Adkins

Our sources inside the China aluminium industry tell us that Chalco has formed a coalition of 13 companies in a plan to sell metal direct to the market, outside the SHFE.   The coalition of companies will be offering direct metal sales in 4 regions – East, south, southwest and central China.

It’s not known at this stage how the metal pricing structure will work, but the combined capacity of the 13 companies represents about 80% of the Chinese aluminium output.   The union allegedly includes companies such as Qintongxia, East Hope and Shenhuo, but we understand others such as Hongqiao and Qiya have not joined.   We do not have the full list of names at present.

This is a major threat to the SHFE’s aluminium trading business.   Chalco has stood outside the market for many years, offering its own pricing structure, which usually sits a few points above SHFE.   But taking 80% of the metal out of play will be a blow to the SHFE.

We understand that at least 100,000 tonnes of metal is already being positioned into this new market.   The market itself is barely aware of the move, as it only came to us in the last couple of days, and originally just as a rumour.  We are still gathering information on the move, and will report more as we hear more.

Late update: The amount of metal being assembled for the new market is 1 million tonnes, not 100,000t.  I missed a zero.

Shandong – curtailing or growing?

Written by Paul Adkins

A news item did the rounds of the aluminium industry a few weeks ago that illustrates how little we as outsiders really understand how things happen in China.

The news article reported that Shandong province will “curtail approximately 9 million metric tonnes of aluminium capacity” in the coming years.  It was picked up and repeated by several news organisations, showing they know more about cutting and pasting than they do about China.

Shandong province doesn’t have 9 million tonnes of capacity to curtail.   Total operating capacity there is 6.3 million tonnes.

In fact, the Shandong government’s blueprint calls for the industry to limit itself to 9 million tonnes.   So the real intent of the document seems to be to promote expansion, not curtailment.   The government is actually calling for another 2.7 million tonnes of capacity to be added.   But hang on, even that is not the full story.

We believe the reason why Shandong put out this announcement was to act as a subtle brake to the expansion plans of Shandong province’s most famous and most profitable aluminium company – Hongqiao.   Hongqiao is doing very nicely at present with about 3.7 million tonnes capacity, and will be at 4.4 million tonnes by the end of this year. But we understand that the long term plan could see them grow to as much as 8 million tonnes. That would put Shandong province north of 12 million tonnes capacity.

Could it be that the local government was simply saying, “Hold your horses”? Are they really saying “Make sure you talk with us and get our approval.”  We are not suggesting there is any bad blood between the local government and any of the players, but since Hongqiao is the largest and most important player, the announcement is relevant to them above all.

Cut and paste stories about China at your peril.   There’s usually more to the story than we realise.


Defying the laws of market gravity

Written by Richard Lu

It’s a fact that about 70% of China’s aluminium capacity is now under water. Our latest Cash Cost Curve analysis (see below) shows only 30% of capacity is at break even or better, with almost 2 dozen plants in the top quartile and losing at least 2000 RMB per tonne. Economic theory tells us that businesses whose revenue cannot even cover variable cost will eventually die, a Darwinian self-healing process for the market. If the laws of market economics were to  apply in China’s aluminium market, that 70% capacity should quit the market.

But they don’t close and won’t, and here’s why.

First, let us look at the balance sheet of the entire aluminium industry in China as of the end of 2014. Our data shows the total assets of China’s aluminium industry run to about 1.5 trillion RMB, while total liabilities are about 1 trillion RMB. The net profit of all upstream sectors including bauxite mining, alumina refining and aluminium smelting was about -6 billion RMB in 2014, while net profit of all downstream sector is about 20 billion RMB. Those two numbers together leads to a net profit of the entire industry at 14 billion RMB. It means it will take a minimum 70 years to pay back all the debts. If we take the accrued interest and inflated downstream profits (inflated to reduce financing costs) into consideration, the time span would be much longer, perhaps 100 years.

China’s aluminium industry is living on debt.

As most of the loans are provided by local banks who are backed by local governments, bad debts are simply taboo. Bad debts are not allowed to appear on the books at all. Considering smelters may borrow millions or billions of RMB, one bad debt write-off may trigger a collapse of a small bank, leading to a spiralling situation and a run on the whole banking system.  History has shown in the past how quickly these situations can escalate once triggered.

Here comes the second question – given the smelters cannot close but lose money if they keep running, how do the local governments, banks and companies manage this dilemma? There are two major approaches to deal with that problem.

One way is that banks stop charging interest on the loans but keep the debts on the book. They expect price rally to earn profit and return the loan gradually. That approach is actually another kind of subsidy, but the effect may be far less than enough. If the first way doesn’t work as the price further drops, a debt-to-equity swap will be ultimate approach to avoid immediate bankruptcy. If it happens, those assets will become state-owned assets again which allows for a longer period to amortize the bad debts. Therefore, government doesn’t worry about the industry at all if the facilities are not dismantled, even without running.

For this reason, any plants which throw up their hands and declare defeat will not be dismantled.   They will be declared to be idling awaiting a price recovery.   economic We think the overall slowdown may lead to closures of businesses in 2015, but not in the aluminium industry. We estimate that there will be approximately 0.5-1 Mtpa shutdown in 2015 if the price doesn’t move up. Transfers of ownership from private to state-owned will not be publicised, and will be difficult to track, but we will be watching closely.

For this reason, if any smelters in the “dog” quartile do close, they are likely to be privately-owned companies. State-owned companies will enjoy somewhat more protection.

I mentioned before that 70% of smelter capacity is presently under water.   That figure comes from our latest Cash Cost Curve analysis.   We will be issuing a Client Briefing Note in a few days time, which will examine that number in much more detail.   Make sure you are on the mailing list, by completing this simple form.


Please add me to your mailing list:

The unmentionable

Written by Paul Adkins

Here’s a subject that even we don’t talk about very much.   SPL.

Spent Pot Lining (SPL) is the waste that comes out of the bottom of the pot at the end of its life.   A typical pot, the reduction cell in which raw aluminium is produced, can last for up to 10 years.  But eventually the carbon lining on the bottom of the pot wears away to a point where the steel bar in the bottom of the lining can be exposed.  That carbon lining, or cathode, is held in place by several layers of bricks. Once the pot dies, all that carbon and brickwork needs to be dug out and replaced.

A typical modern pot can generate about 10 tonnes of SPL.  The two portions – carbon and bricks – need very different treatments and disposition.   Any steel in the SPL can be easily removed using industrial magnets, and the bricks can be crushed and used for road-making fill or other similar uses.   But the carbon portion can contain nasty hazardous substances, including cyanide, fluorides. SPL is classed as a Dangerous Good for this reason. It is eactive with water in a way that produces inflammable, toxic and explosive gases, and can release hydrogen, methane and ammonia.

Now here’s a frightening calculation.   Based on China’s total metal production in 2014 of 27.5 million tonnes, and using a reasonable rate for tonnes per day per pot and pot life, it means that China produced something around 35-40,000 tonnes of SPL in 2014 alone.

Fortunately companies such as Australia’s Regain are bringing technology solutions to the Chinese industry, but for many companies, SPL is dealt with by burying it.   That puts the cyanide and other nasties in a position where it can leach into water supply.

China isn’t the only country where SPL is not talked about, but since China is the fastest growing and now the largest single producer of aluminium, let’s hope the industry takes a responsible, mature and enlightened approach to dealing with the waste.