China¡¯s new smelters set to swamp effort to dam aluminium flood

Aluminium smelters are set to open in China at a faster pace than producers there and worldwide shut loss-making plants to tackle a glut that keeps the metal’s prices weak.

So far this year, analysts estimate cutbacks in aluminium production have totalled as much as 700,000 tonnes in China, the world’s biggest consumer and producer, after prices shed more than 10 per cent since January.

That alone could bring an over-supplied market into balance – the global market surplus is forecast at 687,455 tonnes this year and 747,000 tonnes in 2014, according to analysts polled by Reuters.

Action has also been taken by Russia’s United Company RUSAL, the world’s largest aluminium producer, which said last month it would cut output this year by 300,000 tonnes after posting a net loss.

But China is on course to add around 4 million tonnes of new capacity this year, much of it with lower cash costs by using cheap energy sources, according to Janet Kong, managing director of research at China International Capital in Hong Kong.

Analysts say there could be years more of market surpluses, although the industry is clearly under strain.

In late March, for example, China’s top aluminium producer Chalco posted a worse than expected net annual loss of 8.2 billion yuan (HK$10.19 billion), hit by low aluminium prices and rising costs.

“The pain is definitely there,” said Metals Strategist Michael Widmer at Bank of America/Merrill Lynch in London.

“You’re looking at companies like Chalco booking huge losses in the last quarter and the full year, so ultimately, something has to give. The industry is not in good shape.”

Benchmark three-month aluminium on the London Metal Exchange has given up about a third of its value since touching a high of US$2,803 (HK$21,757) a tonne in May 2011 and is the weakest performing base metal on the exchange over the past four years.

Cutbacks in China are estimated at 500,000 tonnes of annual capacity, mostly among small and mid-sized smelters in Henan and South China, according Kong at China International Capital Corp.

Paul Adkins of Beijing-based aluminium consultancy AZ-China pegs the Chinese cutbacks higher, at 700,000 tonnes.

“Going forward we do expect more cutbacks ... and delays in new capacity construction if prices remain low. That said, we don’t expect the market to tighten as there is no lack of (new) capacities,” Kong said.

China may cut an additional 500,000 tonnes this year, but this would be cancelled out by the 4 million tonnes of new capacity, she added.

This will allow large Chinese producers to keep some older loss-making smelters in business because their new operations lower their average costs nationwide, she added.

Other loss-making smelters will continue to operate due to worries about unemployment and high shutdown costs.

“The net reality is that China’s productive aluminium capacity continues to increase quite substantially, well beyond the rise in demand that the market requires,” said analyst Duncan Hobbs at Macquarie in London.

Global producers are trying to work with Chinese firms on output cuts and some major ones held a meeting with large Chinese smelters in China two weeks ago, but failed to reach any agreement, a source with direct knowledge of the meeting said.

In the longer run, China’s environmental protection efforts may help reduce capacity.

China plans to publish a list of aluminium smelters that meet its environmental standards, with firms selected receiving help in cutting costs, while those left off could be forced to curb output as they become less competitive, according to sources with direct knowledge of a separate closed-door meeting.

Some high-cost capacity may also be vulnerable in Europe, but operations in the United States are likely to benefit from lower energy costs due to the boom in shale gas production there, said analyst David Wilson at Citigroup in London.

“I suspect going forward that the US smelters will not be facing the same kind of pressure that smelters in Europe are facing.”

Last year, US producer Alcoa announced plans to reduce operations at two Spanish smelters and one in Italy by a total of 240,000 tonnes.

Also propping up smelters globally are high premiums that consumers are forced to pay for metal for immediate delivery, above the LME cash price.

Even though LME aluminium stocks are hovering at record highs above 5 million tonnes, most of it is not accessible, tied up in financing deals or stuck in depot queues, sending premiums soaring in recent years.

In Europe, premiums for duty-paid aluminium surged to record highs of around US$300 a tonne last year, although they have dipped this year to around US$280-US$295.

Wilson estimates that about three-quarters of European Union smelters are loss-making based on the LME price alone, but after adding in premiums, only a quarter are in the red.

“As long as you’ve got the financing deals and the high physical premiums in place, the smelters and the companies can at least survive, barely, but they can survive,” said Widmer.

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