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SMM Exclusive: Aluminum Producers May Cut Production in 2H Amid Growing Costs
May 21,2010 17:29CST
smm insight

SHANGHAI, May 21 (SMM) -- China's National Development and Reform Commission officially halted with immediate effect the sale of electricity at discounts to high-consumption companies last week, and re-stressed to implement the different electricity price polices for aluminum producers. In this context, electricity costs at domestic aluminum producers will definitely increase in the future.

Henan Province Raises Electric Power Fees for Aluminum Smelters

On April 28th, Wen Jia Bao said in a State Council executive meeting that China will deepen price reforms for resources including water, electricity, fuel, and natural gas, and will move to cancel local preferential electricity prices. As a result, market rumors that Henan province raises the electricity prices for local aluminum smelters appeared. During the economic crisis period, Henan government took the lead in introducing the preferential electricity prices for local aluminum producers in an effort to enable them to resume production, with the electricity prices for aluminum producers at RMB 0.43/kwh before current adjustment.

According to a reasonable implementation program (official document is unreleased), the electricity prices will be lifted by RMB 0.025/kwh for five large aluminum producers in Henan province, while prices will be raised by RMB 0.07/kwh for other aluminum producers in this region. According to SMM statistics of aluminum capacity in Henan province, production costs will increase by RMB 460/mt after average electricity prices are lifted by RMB 0.033/kwh (excluding the impact from aluminum producers' own power plants).

As a major aluminum producing region in China, Henan province took the lead in lifting the electricity prices for aluminum producers, an indication of strong moves by Chinese Government to control the use of electricity in aluminum sector. SMM believes other provinces will also issue related policies to limit the electricity usage in energy-intensive sectors, and the electricity prices for aluminum producers will increase definitely in the future. 

Sharp Declines in Alumina Imports May Push up Alumina Prices in Short Term

According to the preliminary import and export data from China Customs, imports of alumina to China were only 150 kt during April, a new low since 2001. This 150 kt was much less than the average monthly import volume of 530.8 kt for the first three months of 2010, and compared to the average monthly volume of 428.4 kt during 2009. SMM believes higher international prices for spot alumina was the major reason behind the sharp decline in imports of alumina.

Domestic alumina markets have been stable since the beginning of 2010, and a relatively sufficient supply has helped keep alumina prices stable around RMB 2,800/mt. However, overseas alumina producers have experienced significant production cuts, tightening alumina supply in certain regions. In this context, alumina spot prices began to rise, also driven up by speculators and from rising sea freight charges, with prices for alumina from Australia reaching USD 350/mt FOB, and with the latest alumina tender prices offered by NALCO (National Aluminum Co., Ltd.) at USD 378/mt. International alumina prices are much higher than domestic prices, creating the opportunity for a number of domestic enterprises to sell their long-term alumina contracts in overseas markets and to purchase goods in China's domestic markets. As long-term alumina contracts require 2-3 months shipping, and since domestic enterprises have been selling long-term alumina contracts in international markets for 2-3 months, SMM predicts China's imports of alumina will be relatively low in May and June.

Most new alumina capacity will come online during 2H 2010, while a number of new aluminum projects will become operational at the end of 2Q, with purchasing of alumina for these new projects already begun. As a result, domestic alumina markets will be in short supply at the same time imports are down sharply. In addition, internal alumina inventories at aluminum producers are much lower than late 2009 levels, and in this context, any additional market news may push up alumina prices in the short term. However, SMM believes the available upward room for prices to move, as well as the sustainability of any alumina price increases given the new capacity to come online, will be limited.

Cost Spread Between Different Aluminum Producers Widens

Prices for electricity and alumina will likely move higher in the coming two months, which will in turn push up overall production costs at aluminum producers, coupled with the geographical difference and the development level of industrial chain, SMM believes cost spread between different aluminum producers will widen gradually.

As to electric power costs, the electricity price policy implemented in Henan province showed clear support for local large smelters. Small smelters were experiencing tight cash flow and high energy consumption, so they were facing strong pressure from growing costs. In the long term, more production suspension and M&A (mergers and acquisitions) may be reported. Meanwhile, some large aluminum producers own high-efficiency power plants, and some large producers may benefit from the direct-supply electricity program in the future. As a result, large aluminum producers enjoy electric power cost advantages compared with small producers. In other news, northwest and southwest China enjoys rich electric power resources, with the electricity prices much lower than that in central China and east China. In this context, SMM believes the electricity prices in central China and east China will likely report higher growth rate, with electricity price spread between different regions in China expected to widen in the future.

Although domestic alumina capacity is larger, aluminum producers can reduce losses if they own alumina plants. Meanwhile, if they own rich bauxite resources, they can manage to control aluminum costs, which will help aluminum producers to maintain normal operation amid lower aluminum prices.

Aluminum Producers May Cut Production in 2H Amid Oversupply and Lower Aluminum Prices

Downstream fabricators received relatively sufficient orders despite of the announcement of macro policies to curb overheated real estate market and negative automobile production and sales, and the growth in aluminum consumption will remain high throughout 2010. The continuous growth in domestic aluminum stocks was a result of relatively high aluminum supply. A new round of production increases will occur in May, and nearly 1 million mt new aluminum capacity will come online in the coming three years (most new projects are conducted by lower-cost aluminum producers), and domestic supply surplus will remain unchanged for the foreseeable future as a result. Domestic aluminum prices enjoy very weak upward momentum even if LME aluminum prices experience significant growth. In this context, SMM remains pessimistic toward domestic aluminum price trends in 2H 2010, with prices may falling below RMB 15,000/mt.

SMM predicts aluminum producers may cut or suspend production in 2H 2010 amid weak aluminum prices and growing costs, with small aluminum producers expected to take the lead in cutting production. As a result, China's higher-cost aluminum capacity will be gradually replaced by lower-cost capacity, which will help accelerate the process of industrial structure adjustment of aluminum sector to some extent. 


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