Aluminium Sector

 The most commercially mined aluminium ore is bauxite, as it has the highest content of the
base metal. The primary aluminium production process consists of three stages. First is
mining of bauxite, followed by refining of bauxite to alumina and finally smelting of alumina
to aluminium. India has the fifth largest bauxite reserves with deposits of about 3 bn tonnes
or 5% of world deposits. India's share in world aluminium capacity rests at about 3%.
Production of 1 tonne of aluminium requires 2 tonnes of alumina while production of 1
tonne of alumina requires 2 to 3 tonnes of bauxite.
 The aluminium production process can be categorised into upstream and downstream
activities. The upstream process involves mining and refining while the downstream process
involves smelting and casting & fabricating. Downstream-fabricated products consist of rods,
sheets, extrusions and foils.
 Power is amongst the largest cost component in manufacturing of aluminium, as the
production involves electrolysis. Consequently, manufacturers are located near cheap and
abundant sources of electricity such as hydroelectric power plants. Alternatively, they could
set up captive power plants, which is the pattern in India. Indian manufacturers are the
lowest cost producers of the base metal due to access to captive power, cheap labour and
proximity to abundant supply of raw material, i.e., bauxite.
 The Indian aluminium sector is characterised by large integrated players like Hindalco and
National Aluminium Company (Nalco). The other producers of primary aluminium include
Indian Aluminium (Indal), now merged with Hindalco, and Sterlite Industries.
 The per capita consumption of aluminium in India continues to remain abysmally low at1.2
kg as against nearly 15 to 18 kgs in the western world and 10 kgs in China. This offers
significant upside potential. The key consumer industries in India are power, transportation,
consumer durables, packaging and construction. Of this, power is the biggest consumer
(about 48% of total) followed by infrastructure (20%) and transportation (about 10% to
15%). However, internationally, the pattern of consumption is in favour of transportation,
primarily due to large-scale aluminium consumption by the aviation space.
 The metal has a long working life due to its propensity for recycling. Recycled metal requires
significantly less amounts of energy for manufacturing of primary aluminium. Just to put
things in perspective, the recycling of aluminium scrap requires 5% of the energy required
for primary smelting, which is astoundingly lower, considering that power is such a high cost
component.

Aluminium - Structure

 The aluminium industry in India can be classified as:

 The primary producers who produce ingots and billets (primary form of aluminium) using
bauxite.
 The secondary producers who add value to the ingots and billets to produce semi-fabricated
products
 At present there are only five companies in the primary aluminium market viz. Hindalco,
Indian Aluminum (Indal), Madras Aluminum (Malco), National Aluminum (Nalco) and Bharat
 Aluminum (Balco). The former three are private sector companies while the latter two are
government owned.
 All the primary producers have integrated forward into the manufacture of high value semi-
fabricated products like rods, rolled products, extrusions and foils.
 Regulated till 1989
Until 1989, the Aluminum Control Order (ACO) required all domestic manufacturers to
ensure that atleast 50% of their ingot production was electrical grade, for use by the
transmission power industry. The government fixed ingot prices on the basis of a Retention
Pricing Mechanism, taking into consideration the average retention prices of all producers
and a minimum return on equity.
 The above control resulted in a skewed product mix and shortages of aluminum for other
sectors. The problem was further compounded by the vulnerable financial position of State
Electricity Boards (the main users of electrical grade aluminum) and high import and excise
duties. The producers resorted to inflated prices for other types of aluminium to
compensate for the disadvantages they suffered because of this regulation.
 The ACO was scrapped in 1989 and in 1991 the government lifted restrictions on capacity
additions resulting in a free market environment.

Aluminium - Inputs

The aluminium industry in India can be classified as: Captive power, ample bauxite reserves, coupled
with cheap labour costs make Indian companies amongst the most competitive aluminium
producers globally.

The main raw materials for the manufacture of aluminium include bauxite, caustic soda, calcined
petroleum coke, coal tar pitch, and LS/FS furnace oil. The production process for manufacture of
aluminium is briefly outlined below.

The mined bauxite ore is mixed with caustic liquor and is refined to produce alumina. This is then
smelted (through electrolysis in a smelter) to obtain aluminium. Depending on the quality of bauxite,
2.5 – 3 tonnes are required for manufacture of 1 tonne of alumina. In turn, 2 tonnes of alumina are
required for manufacture of 1 tonne of aluminium.

Bauxite

Indian bauxite reserves at 3 bn tonnes, are the 5th largest in the world, and account for 6% of total
world reserves. Most alumina refineries are designed around the bauxite reserves to reduce
transportation costs. Cost per tonne of bauxite varies for players depending on the location of the
refinery and bauxite mines.

For example, Nalco has an estimated 1,600 m tonnes of bauxite reserves only 20 kms from its
alumina refinery, enabling it to become one of the most economical bauxite producers in the world.

Although domestic producers are self sufficient in alumina, the setting up of independent aluminium
smelters all over the world and cut backs in European and American alumina production have
resulted in alumina gaining importance as an internationally traded commodity. This has also been
helped by the relocation of smelters based on the availability of cheap power. About 40% of alumina
production is traded between unrelated parties. Alumina prices generally depend on the
demand/supply and on the prices of aluminium. Bauxite is the single largest cost item for the
manufacture of alumina giving India a competitive advantage. With this in mind, MoUs are being
signed by companies to set up alumina plants in bauxite-rich states like Orissa.

Power

Power constitutes the single largest cost component for aluminium manufacturers (35–40% of
operating costs). Almost all the major Indian companies have captive power plants thus giving them
access to cheap power. This makes India one of the most competitive low cost aluminium producers
in the world.

Hindalco and Nalco’s production costs are amongst the lowest in the world. Both companies have
the advantage of 100% captive power, vital in a power intensive industry and in a power deficit
country like India.

Key Points

 Supply: Supply of aluminium is in excess and any deficit can be imported at low rates of
duty. Currently, domestic production comfortably meets domestic requirements.
 Demand: Demand for aluminium is estimated to grow at 6%-8% per annum in view of the
low per capita consumption in India. Also, demand for the metal is expected to pick up as
the scenario improves for user industries, like power, infrastructure and transportation.
 Barriers to entry: Large economies of scale. Consequently, high capital costs.
 Bargaining power of suppliers: Most domestic players operate integrated plants. Bargaining
power is limited in case of power purchase, as Government is the only supplier. However,
increasing usage of captive power plants (CPP) will help to rationalise power costs to a
certain extent in the long-term.
 Bargaining power of customers: Being a commodity, customers enjoy relatively high
bargaining power, as prices are determined on demand and supply.
 Competition: Competition is primarily on quality and price, as being a commodity,
differentiation is difficult. However, the recent spate of consolidation has reduced the
competitive pressure in the industry. Further, increasing value addition to aluminium
products has helped some companies protect themselves from the high volatilities
witnessed in this industry.
Financial Year '11

In CY 2010, the world aluminium consumption stood at around 41 Million tonnes (MT), a sharp
increase of over 20% over 34 m tonnes consumption in CY 2009. The CY10 production stood
marginally higher at 42 m tonnes against production of 38 m tonnes in CY 09. The sharp rise in
demand was the result of strong recovery in the emerging market demand and primarily restocking
led growth in developed markets. A sharp turnaround in the end user segments such as
automobiles, industrial and infrastructure and thrust on power sector growth propelled the
aluminium industry growth.

In FY11, LME average aluminium prices remained strong at around USD $2,250 an increase of over
21% over previous year's average prices. The appreciating rupee though negated some of the LME
price gains for domestic aluminium producers as the prices are dollar denominated. The prices
continued to rise even as inventory levels remained at their historic highs. This was the result of
tightness in the physical market, with most inventories tied up at various warehouses under
financing deals.

Across the globe, the cost of production of aluminium increased sharply as input costs such as
alumina and power surged.

Prospects

In CY11, the global aluminium demand is expected to remain strong and is expected to increase by
around 9% reaching to almost 45 m tonnes. The Chinese demand is expected to rise by a healthy
11%. In India, the demand is expected to increase at almost 14% with an improvement in industrial
activity and automobile growth. Over the medium term, thrust on power sector spending will spur
the aluminium demand.

Aluminium production is expected to increase in line with the demand. The market surplus is going
to continue for a while. Strong prices have led many smelters to restart their production in last one
year.

The greatest challenge facing the industry is the continuous increase in raw material prices which are
showing no signs of going down. Most input costs such as fuel oil, coal tar pitch, and caustic soda
have increased along with the freight costs. Alumina costs for non integrated smelters have gone up
and may increase further.

Aluminium inventories across the globe are near all time high. But most of these inventories are
reportedly bound in financing deals and are not expected to flood the market. The long term
fundamentals are strong and the surplus is expected to reduce significantly in the near future.