Aluminium prices: What should we expect?

72nd Annual Meeting of the Aluminum Association Naples, Florida October 3 - 4, 2005
LONDON | SEATTLE | PHILADELPHIA | BEIJING | SYDNEY | RIO DE JANEIRO
31 Mount Pleasant, London WC1X 0AD UK Tel. +44 20 7278 7788 Fax +44 20 7278 0003 PO Box 1269, Langley, WA 98260 USA Tel. +1 360 321 4707 Fax +1 360 3214709 PO Box 656, Kennett Square, PA 19348 USA Tel. +1 610 925 1860 Fax +1 610 925 1861

http://www.crustrategies.com

Structure of Presentation
Market Overview & Cycles Demand Supply & Costs
Carbon products Power market Alumina analysis

Summary Q&A

Snapshot
The issue: the aluminium world is split down the middle on how to react to changing input costs
Producers: are calling for a paradigm shift a quantum upward shift in long term pricing as cost pressures bite into margins
on the basis of present operating costs, capital charges and normal return on equity, investment in smelting/refining no longer attractive they argue in favour of shattering the glass ceiling, abandoning suggestions that long run costs are declining which exists from historical experience

Alternative: Cyclical nature of the cycle the bubble will burst, long run prices are in declinebut so are costs
The market is presently facing the longest period of high prices for alumina, along with strong carbon prices and high energy costs

Is there genuine upward pressure on long term prices?

Where is the new capacity going to come from? CRUs long term estimates are bottom up rather than simple price extrapolation
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$/tonne

Have prices stepped up?

1,200 LME 3m (nominal) 100 day MA

1,400

1,600

1,800

2,000

Ja nAp 0 1 r-0 Ju 1 l -0 O 1 ct Ja 01 nAp 0 2 r-0 Ju 2 lO 02 ct Ja 02 nAp 0 3 r-0 Ju 3 lO 03 ct Ja 03 nAp 04 r-0 Ju 4 lO 04 ct Ja 04 nAp 0 5 r-0 Ju 5 l -0 5
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Putting the record straight Aluminium price 1900-2003

(nominal)
2600 2400 2200 2000 1800 1600 1400 1200 1000 800 600 400 200 0
$/tonne

(2004 $/t)
22000 20000 18000 16000 14000 12000 10000 8000 6000 4000 2000 0
Exponential Trend Line

What will be the future real price trend? 1900-2003 2%pa decline 1960-2003 1% pa decline CRU View: Next 25 years prices still declining but rate of that decline much slower 0.5% pa

19 20

19 30

19 40

19 50

19 60

19 70

19 80

19 90

19 00 19 10 19 20 19 30 19 40 19 50 19 60 19 70 19 80 19 90 20 00

19 10

19 00

20 00

Reasons for the decline in long run prices

Technological advances ie. Higher amperages, magnetic compensation, next generation technologies Capital costs keep falling weighted average capital cost for all projects $3100/t. But smelter capacity creep is preferred form of expansion Labour productivity improvements Price of electricity remained constant in nominal terms, therefore has fallen in real terms ie 1980s average $19 mills/kWh. (However, this has jumped to around $24 mills/kWh in 2004.) Falling alumina prices as most new capacity comes on in the form of expansions and capacity creep to existing low cost plants

Structure of Presentation
Market Overview & Cycles Demand Supply & Costs
Carbon products Power market Alumina analysis

Summary Q&A

Primary aluminium consumption is linked to income through the S-curve relationship

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Canada
Korea
Germany
0.50 North America West Europe Japan Income elasticity of demand 0.70 0.90 1.10 1.30

20 kg/capita Al consumption

Taiwan

USA

China

15
Japan

Eastern Europe CIS

10
UK

France

Latin America SE Asia India

5
Brazil

China

0 0 10 20 30 GDP/capita (1995 000$) 40 50

8

which drives the rapid growth in Chinese primary aluminium demand to 2025
2003 demand 2025 demand CAGR
2.7% 5.2%

25000 20000 000 tonnes 15000 10000 5000 0 The Americas

2.4%

7.5%

1.1%

5.0%

Europe & CIS

Japan

China

Other Asia Middle East & Africa

CRUs Compass model projections

Projecting forward demand
000 t

100000 90000 80000 70000 60000 50000 40000 30000 20000 10000 0
5 202 3 202 1 202 9 201 7 201 5 201 3 201 1 201 9 200 7 200 5 200 3 200 1 200
Secondary demand Primary demand

Carmakers obligations to reduce weight, to comply with emissions and fuel consumption legislation, should favour aluminiums use in road transport applications Aluminium faces tough competition in construction, especially in developed markets
Packaging (principally beverage can stock) growth held back by consumer preferences for PET bottles

Industrialisation in developing markets supports rapid demand for aluminium in electrification programmes
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What are the long term demand risks?

Positive risks Transport

Negative risks

More frequent cyclical oil shortages enhance need for vehicle lightweighting Asian population embraces concept of supermarkets (selling packaged foods) over market produce Increasing urban density means more high-rise building, favouring lightweight materials Aluminium curtain walls, windows, doors used to refurbish post-war generation of steel-framed buildings

Alternative materials eg composites, magnesium meet the challenge Saturation of vehicle ownership in developed markets Beverages packaged in new formats, eg as fountain products to the home, not in cans or bottles Improved product quality substantially extends lifespans, delays replacement cycle Asian construction boom loses momentum; nothing to replace it

Packaging

Construction

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Structure of Presentation
Market Overview & Cycles Demand Supply & Costs
Carbon products Power market Alumina analysis

Summary Q&A

12

Carbon Products

Calcined petcoke accounts for 80% input material cost of carbon products at smelters
Integral to reduction process, used to manufacture of carbon anodes and cathode blocks Structural tightness developed in market, supply is responding with new projects but too little so far Double crisis may be looming : Green Coke quality/availability Calcining coke capacity

Coal tar pitch accounts for 20% input cost of carbon products at smelters
Used as a binder in carbon anodes and cathode blocks. In past two years supply suffered from reduced output of met.coke coming from blast furnaces. Temporary reprieve in tar shortages due to met. coke crisis. Suppliers looked for alternative coal tar streams, from hybrids & petroleum products.
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Carbon product cost schedules for 2004 and 2012f

Calcined Petroleum Coke
600

Coal Tar Pitch

400 350

(nominal US$/t delivered)

(nominal US$/t delivered)

500
Average CPC 2012: 327U$S/t

Average CTP 2012: 291U$S/t

300 250
US$/t

400
US$/t

300

200 150
Average CTP 2004: 242U$S/t

200 2004 100

Average CPC 2004: 220U$S/t

2004 100 2012

2012

50 0

0 0 10000 20000 30000 40000 50000

Cumulative aluminium production (000' tonnes)

10000

20000

30000

40000

50000
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Cumulative aluminium production (000' tonnes)

Trends in carbon product prices

000 tonnes 150
100 50 0 160 -50 -100 -150 140 120 100 U$S/t 240 220 200 180

Both pet.coke and coal tar pitch are ultimately by-products from other revenue streams ie. oil and steel
As an input prices into smelting, the aluminium market is not a key driver Therein lies a dilemma: Invest or die

Input prices of carbon products have risen recently, are they here to stay?

97

99

03

01

96

00

98

02

04

20

20

19

19

20

19

19

Change in stock

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Calcined coke price

20

20

05

15

Power use intensity by industry

(kWh/tonne) Chlor-alkali Calcium carbide Ferrochrome Zinc Silicomanganese Refined nickel Sodium chlorate Silicon carbide Ferrosilicon Silicon metal Aluminium 0
Source: CRU Strategies

2,000

4,000

6,000

8,000 10,000 12,000 14,000 16,000

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Primary aluminium input cost 2004

Net realisations costs
Average industry Business Operating Cost, 2004

Power

Labour

Other materials

Alumina

Other cash costs

-91.6

486.6

299.7

127.7

357.6

43.9

Total = $1224/t -100

100

200

300

400

500

600

700

800

900 1000 1100 1200 1300 1400

Labour 11% Power 29%

$/tonne

Power is by far the largest source of competitive advantage on the BOC curve
Alumina 38%

Carbon 10% Other costs 12%

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Nominal US mills/kWh 10 15 20 25 30 35 40 45 0 5

C an ad a

C IS

10.9 14

Af

Aluminium power tariffs by region - 2004

14.6 21.9 19.5 20.5 18.1 25.7 24.1 24.9

ric Au a st ra la La si ti n a Am er ic M a id dl e W Ea es st te rn w or ld W or Ea ld w st id er e n Eu ro pe W es U SA te rn Eu ro pe

27.5

As C hi

ia na

32.4 39.2

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Worldwide power tariffs and costs

US$ mills/kWh

25 24 23 22 21 20 19 18 17 16 15

US$/t

Avg smelter tariff Avg power cost

390 370 350 330 310 290 270

Power accounts for nearly a third of the costs of production at smelters

Efficiency gains have not been sufficient to cushion the rise in tariffs In recent years the weak US$ has not assisted non-US$ denominated producers Shortage of cheap power in N.Am, W.Eur and China

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Regions likely to offer long term economic power contracts

Region/Country Possible Contract Terms

Western Australia Queensland Oman Qatar Iran Malaysia Brunei Venezuela Russia

Long term, domestic currency, inflation adjusted Long term, domestic currency, inflation adjusted Long term, US dollar, first 10 years flat price then inflation adjusted Long term, US dollar, first 10 years flat price then inflation adjusted Long term, US dollar, first 10 years flat price then inflation adjusted N/A Long term, US dollar, metal linked Long term commodity price linkage Short term, local currency 20 All understood to offer long term power contracts at or below US$22 mills/kWh

Defragmenting CRUs Compass model projections

North America West Europe Oceania E Europe & CIS Middle East Africa Latin America Asia China 0 2000 4000 6000 000 tpy 8000 10000 2004 2009

Primary supply projections

000 t

80000 70000 60000 50000 40000 30000 20000 10000 0

4 2 00 2 2 00

Nearly 5 new 300tpy potlines per year

capacity required planned and creep Base Year

8 2 00 6 2 00

2 2 01 0 2 01

6 2 01 4 2 01

4 2 02 2 2 02
21

0 2 02 8 2 01

Aluminium smelting capacity

The Middle East

Over 3 million tpy of new aluminium capacity planned in the Middle East Current projects operating in Bahrain and Dubai Projects planned in Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, Iran & UAE All based on the regions extensive natural gas/oil reserves. All countries except Bahrain have >60 years of reserves based on current consumption rates. Qatars reserves ranked third in the world after Russia and Iran.

Investment in metal production seen as a way of diversifying countries revenue stream Project gas prices typically $0.75/mn BTU Equates to power price of $18.3/MWh All projects with the exception of the Oman & Qatar projects are based exclusively by Middle Eastern investors or governments. Oman project is 51% backed by Alcan. Qatar smelter project 49% Hydro On the whole, if the investment is not made in the Middle East, it will not be made at all
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Corporate operating cost schedules for Middle Eastern smelters in 2004 and 2009
COC for new MEast smelters
US$/tonne) US$/tonne)

Power tariffs at proposed aluminium projects

2500

2004 2009

35 30
Qatar project

2000

25 20 15 10

1500

1000

500

Sohar project

5 0
0 500 1000 1500 2000 2500 3000

0
Cumulative production (million tonnes)

2000

4000

6000

8000 10000 12000 14000

Cumulative production (000 tonnes)

Data: CRU Smelting Costs Report. Note: 2009 data CRU estimates

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China accounts for over 40% of new green and brownfield capacity to 2012
tonnes
2,000

tonnes
E. Europe

1,500 1,000 500 0

W. Europe North America

CIS

5,000 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0
China

Africa

Asia

Latin America Middle East

Australia/ New Zealand

Data: CRU Note: Scale all except China use North America scale

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Average Chinese power tariffs almost 70% higher than the world average
70 60
Nominal US $/MWh

50 40 30 20 10 0 0 2 4 6 8 10 12 14 16 18 20 22 24 26 28
25
Cumulative production (million tpy)

Source: CRU International

But Chinese FEC only 3% higher than world average

2000 1900 1800 1700
US$/tonne

Small scale smelters most at risk to closure Substantially lower capital cost keeps Chinese industry competitive

1600 1500 1400 1300 1200 1100 0

10

12

14

16

18

20

22

24

26

28
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Cumulative production (million tpy)

Source: CRU International

Alumina prices 1975-2004

2004US$/t

800 700 600 500 400 300 200 100 0 1975 1977
Spot alumina (2004$/t) Composite alumina (2004$/t) Operating cost (2004$/t)

Alumina accounts for around 38% of the input cost at smelters

Market size 58m tonnes - 45% of global alumina market is traded (approx. 25m tonnes) - 55% amongst integrated operators (approx. 33m tonnes) Of the traded market: - presently around 18% alumina production (10.5m tonnes is purchased under spot or one year annual contracts) - The remainder split between long term buyers/integrated shorts/tied buyers CRUs composite alumina price shows stable long term prices Operating costs continue to fall, though rose in 2004
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Data: CRU

1979

1981

1983

1985

1987

1989

1991

1993

1995

1997

1999

2001

2003

Alumina prices reflect longest period structural shortage

Has there been a quantum shift in long term alumina prices to reflect:
is there a genuine shortage of quality bauxite deposits? consolidation in the sector has affected investment cycles impact of strong demand from China

CRU view
CRU Bx study; new investment wave, various feasibility studies considerable scope for reduction of capital costs new Alumina capacity coming on-stream below $200/t the current upturn in prices reflects underinvestment the majors have maintained a tight grip on the best assets Alumina LRMC is still in decline the rate of decline is the question worth asking?
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Entry and deterrence a rare window of opportunity

Incumbent advantage has deterred new entry in bauxite-alumina

No major new third party bauxite supplier in over 20 years CAR is first greenfield refinery since Alunorte and Damanjodi (15 years)

Over-heated alumina market presents a rare window for a new

entrant or entrants

For the incumbents there is a conflict between:

Deterrence exploit their brownfield opportunities Excessive expansion

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Entry deterrence advantage of brownfield investment in bauxite-alumina

Brownfield refineriesInducement price

220 200 US$/tonne 180
US$/tonne 180 160 140 120 220 200

Greenfield refineriesInducement price

160 140 120 100 0 4 8 12 16 Cumulative production (million tonnes)

12

16

20

Cumulative production (million tonnes)

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Entry and deterrence: successful entry is not so easy

To be successful a new entrant needs to be:

Integrated between bauxite and alumina In possession of a large bauxite resource (>300 million tonnes) In possession of a good quality deposit
Ease of mining Low reactive silica Good logistics Preferably capable of low temp digestion

Low cost energy supply for the refinery Ability to expand to 3-4 million tpy refinery to achieve scale benefits
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New paradigm: super cycle or same old cycle

Historical average alumina pricing of 12.5-13.0% of LME Some claim that it has now shifted to 14% plus for structural reasons Bauxite is a key reason lack of new high quality deposits Other reasons:
Need to develop greenfield operations after long period of relying mostly
on brownfield

Freight higher incidence on bauxite and alumina than metal Energy higher oil and gas prices have a more direct impact on mining
and refining, than on smelting

Caustic soda prices are very high, is there something structural going
on

Exchange rates US $ weakness means higher alumina costs

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New paradigm: it is important to be clear about long run costs

Cost item Freight WAJapan (iron ore) Freight Panamax TC/day Caustic $/tonne Oil $/bbl Brent A$:US$ Steel HR Coil Alumina $/t spot Iron ore c/dltu 2002 $5.3/t $8,900 $60/t (H2) $25/bbl 1.84 $259/t (Jan) $146/t 28.3 c/dltu 2005 $17/t $34,000 $350/t (H1) $50/bbl 1.27 $722/t (Jan) $400/t 62.72 c/dltu Long run assumption $6-7/t $10-12,000 $170/t $35/bbl 1.4-1.5 $300/t $200/t 33-34c/dltu
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Structure of Presentation
Market Overview & Cycles Demand Supply & Costs
Carbon products Power market Alumina analysis

Summary Q&A

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The long run price, in real terms, will always tend towards long run costs
The historical price of aluminium and average Western world operating costs 19802003 (2003 $/t)
4400 4000 3600 3200 2800 2400 2000 1600 1200 800
19 60 19 62 19 64 19 66 19 68 19 70 19 72 19 74 19 76 19 78 19 80 19 82 19 84 19 86 19 88 19 90 19 92 19 94 19 96 19 98 20 00 20 02

Price
PriceTrend

Operating costs

FOC Trend

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Putting the record straight Aluminium price 1900-2003

(nominal)
2600 2400 2200 2000 1800 1600 1400 1200 1000 800 600 400 200 0
19 00 19 10 19 20 19 30 19 40 19 50 19 60 19 70 19 80 19 90 20 00
$/tonne

(2004 $/t)
22000 20000 18000 16000 14000 12000 10000 8000 6000 4000 2000 0
19 50 19 90 19 00 19 10 19 20 19 30 19 40 19 60 19 70 19 80 20 00
Exponential Trend Line

What will be the future real price trend? 1900-2003 2%pa decline 1960-2003 1% pa decline CRU View: Next 25 years prices still declining but rate of that decline much slower 0.5% pa

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Mark Fraser Managing Consultant mark.fraser@crugroup.com Tel: +44 (0)20 7903 2314 www.crugroup.com

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