Economic Forces Shaping the Aluminum Industry

John Garen Christopher Jepsen Frank Scott Department of Economics University of Kentucky Lexington, KY 40508-0034

July 2009

Report Prepared for the Sloan Center for a Sustainable Aluminum Industry

I. Introduction and Executive Summary This study provides an economic analysis and overview of the aluminum industry with two major goals in mind. One is to develop an overall picture of the industry today and the forces that have led it to where it is. Accomplishment of this goal provides information for the second goal: inform us of likely trends in the future and how the industry will need to adapt. Achieving these goals can enable the development of more in-depth research projects focusing on critical issues in the aluminum industry. The aluminum industry is quite varied and has many unique features. It encompasses a large portion of the vertical chain of production, beginning with raw material extraction and processing (mining bauxite and processing to alumina), to producing a commodity metal (aluminum ingot), to semi-fabricated products, to fully fabricated goods. It also involves a secondary market for scrap and recycled aluminum. The products produced differ widely in their nature, their production processes, and their level of technology. Aluminum plants include smelters, producers of rolled sheet stock, tubing, die castings, ingots, extrusions, billets, foil, die-cast automotive parts, coils, containers, gutters, windows, and a variety of products for automobiles. An industry with this degree of heterogeneity is likely to display disparate patterns, trends, and prognoses. This indeed seems to be the case for the aluminum industry. Section II of the report focuses on the upstream aspects of the industry. By upstream, we refer to bauxite mining, alumina refining, and primary aluminum production. A subsection is included on each of these segments, followed by a discussion of important trends and the future outlook. Section III of the report concentrates on downstream segments of the industry, dealing with the fabrication of aluminum subsequent to its primary production. This is a natural breaking point in the industry since aluminum ingot is essentially a commodity and connections between the upstream and downstream segments are often via simple market transactions. Subsections discuss major downstream segments, including secondary aluminum which straddles upstream and downstream and major types of fabrication. Trends in production, employment, productivity, and imports and exports are examined, as well as locational patterns in the U.S. and the future prognosis. A summary of major points is as follows. Bauxite and Alumina Bauxite mining naturally takes place where bauxite reserves are located. Over half of world output is in Australia, Brazil, Guinea, and Jamaica. The U.S. has virtually no presence in this market. Mine output is dominated by large companies with operations across several counties and in other metals. This helps diversify risk and takes advantage of economies of scope. Alumina refining often is physically close to bauxite mines. One reason for this is that bauxite is heavy and bulky and therefore costly to transport.

Alumina and bauxite frequently have close contractual connections or there is joint ownership. An alumina refinery may be specifically designed to handle one mines output, may be located adjacent to the mine, and be dedicated to that mine. These conditions typically call for detailed contracts or joint ownership. Large mining companies were flush with cash in the early 2000s and made many acquisitions to embrace these goals.

Primary Aluminum Alumina is a commodity and it travels, so aluminum smelters do not need to be located cheek-to-jowl with bauxite mines and alumina refineries. Since electricity accounts for roughly 30% of costs, access to cheap energy is a primary driver of aluminum smelting plant location decisions. Significant economies of scale in production exist: MES is now estimated to be 300,000 metric tons per year or larger. Because aluminum production is continuous, assurance of alumina supply is important. Long-term contracts or vertical integration are solutions. The energy cost advantage of other locations has induced a relative decline in aluminum production in the U.S. Political as well as economic factors influence decision-making: e.g. Russia, China, and the Middle East. Political forces are present to create economic champions. Russia: much outdated equipment; very cheap energy; nontrivial transportation costs; downstream processing is not their strong point. China: easy to open a new plant; labor is cheap; alumina must be imported; energy costs are starting to limit capabilities. Middle East: cheap energy; labor must be imported; no entrepreneurial tradition to facilitate development of downstream industries. Secondary Aluminum Worldwide production of secondary aluminum has grown substantially since 1970. U.S. production grew dramatically during this time until the early 2000s. Recovery of scrap aluminum also increased during this time period. During the 2000s, the recovery of old scrap peaked in the U.S. while it has continued to rise for new scrap. The production of secondary aluminum involves much smaller economies of scale than primary aluminum, has much lower electricity requirements, but depends critically on convenient sources of scrap. Downstream Aluminum The primary segments downstream are rolling mills (sheet, plate, and foil), extrusion, and casting. This is a heterogeneous group of products involving different levels of technology, economies of scale, and product differentiation. These segments account for most aluminum industry employment in the U.S. Each of these segments in the U.S. has experienced substantial output growth and productivity growth in the past thirty years, but modest changes in employment.

Imports and exports in the downstream segments have grown significantly over the past two decades and are a sizable fraction of domestic production for sheet, plate, and foil and for extruded products. Extruded products and castings generally exhibit minimal economies of scale and are a mix of generic products (e.g., ladders, grills) and differentiated products. Some of the latter involve high degrees of customer service and some are hightech, engineered products requiring close cooperation with customers. Rolling mills usually involve greater economies of scale, require large amount of sometimes advanced equipment, and often produce commodity-like, standardized products. The minimal economies of scale and need for close contact with customers lead to a large number of extruders and casters whose locations are within large commercial and industrial areas. Most secondary smelters are located in these same areas since downstream fabricators are major sources of scrap for secondary producers. Rolling mills exhibit greater economies of scale whose products usually are easily shipped. As a result, they are fewer in number. The containers and packaging, transportation equipment, and building and construction industries are the major customers for fabricated aluminum products. The latter two are growing in importance and this is likely to continue.

Issues in the Long Run Viability of the U.S. Aluminum Industry Much of the location of the downstream segment seems tied to the location of the final customer. This is increasingly dominated by transportation equipment and building and construction. Major growth in the customer base probably will come from these two industries for the foreseeable future. Areas of growth in the downstream customer base will come in areas and regions that are populous and wealthy or where economies are growing in population and wealth. While this portends for growth in rapidly developing economies, a large domestic presence will continue as long as the U.S. maintains its wealth and strong economy. Location in the U.S. for much of the upstream segments of the industry will continue to be unattractive. Sources of bauxite and cheaper electricity are elsewhere. Also, governments elsewhere are likely to continue to subsidize large aluminum producers in order to create economic champions. Location in the U.S. is still advantageous for firms that must be market oriented, innovative, and responsive to customers. Government run or influenced firms do not function well in this setting. Environmental factors are growing in importance in public policy. This favors the secondary and downstream aluminum industry segments. Neither uses energy any more intensely that other manufacturing unlike primary production and has the potential for lowering its waste stream by more use of scrap.

II. Upstream Segments of the Aluminum Industry We use the term upstream to refer to the stages of production prior to any fabrication of aluminum products. Essentially, these are the steps to produce aluminum ingot. The production of aluminum ingot has three stages. Bauxite ore is mined from the earths surface. It is refined through a chemical process known as the Bayer Process into alumina, which is a white powdery substance. Alumina is dissolved in an electrolytic bath of molten cryolite within a large carbon or graphite lined steel container. An electric current is passed through the electrolyte at low voltage, but very high current, to produce aluminum. The molten aluminum is then cast into ingots. The smelting process is electricity intensive, requiring 14-15 kilowatt-hours to produce a kilogram of aluminum. A. Mining Bauxite Ore Bauxite ore extraction naturally takes place where bauxite reserves are located. Bauxite is plentiful around the world, but the richest sources occur in the tropical zones. In the U.S., bauxite mining was centered in Arkansas from the inception of the industry at the beginning of the twentieth century until the late 1980s, when domestic production of bauxite for metallurgical purposes essentially came to an end. World production has grown steadily since WWII, from 8.2 million metric tons in 1950 to 74.8 million metric tons in 1975 to 136.0 million metric tons in 2000. Figure 2.1 illustrates U.S. and World bauxite output since 1970. Total world production was estimated to be 199.0 million metric tons in 2007. 1

U.S. Geological Survey Minerals Yearbook, various years.

Figure 2.1: U.S. and World Bauxite Production since 1970

160,000,000

140,000,000

120,000,000

Metric Tons

100,000,000

80,000,000

60,000,000

40,000,000

20,000,000

0 1970 1975 1980 1985 1990 1995 2000 2005

Year U.S. World

Source: U.S. Geological Survey Minerals Yearbook

Australia has been the worlds largest producer of bauxite for almost four decades, surpassing Jamaica in the early 1970s. In 2000, the top four producing countries, Australia, Brazil, Guinea, and Jamaica, accounted for roughly 60 percent of world output. Figure 2.2 illustrates the output of these four countries along with the rest of the world from 1998 going forward. In the past several years, however, bauxite production has increased dramatically in both China and India. China is now the worlds second largest producer and India is the fourth largest. In 2007 Australia, China, Brazil, and India accounted for 67 percent of world output. Table 2.1 shows world bauxite production by country from 1998 through 2007.

Figure 2.2: Major Bauxite Producing Countries

60,000 50,000 40,000 30,000 20,000 10,000 0 1998 1999 2000 2001 2002 Year Guinea 2003 2004 2005 2006

Australia

Brazil

Jamaica

Other

Source: U.S. Geological Survey

The changing economics of mining have had a large impact on the bauxite mining sector, with a commensurate impact on downstream alumina refining and primary aluminum smelting. In recent years mining has become increasingly multiproduct and multinational, and so the industry is now dominated by very large firms that mine a variety of metals and ores around the world. 2 Diversification into different products allows a company to take advantage of economies of scope (synergies) as well as reducing financial risk that occurs when one specializes in one or a few metals or ores. Diversification into different locations allows companies to take advantage of firm-level economies of scale as well as reducing financial and political risk that occurs when operations are restricted to one country. 3 It is also the case that fairly tight vertical connections exist between bauxite mining, alumina refining, and aluminum smelting. Some companies are completely vertically integrated, while in other cases joint ownership of assets or long-term contracts are employed. So it is unsurprising that the largest producers of primary aluminum are also heavily involved in mining bauxite. 4 Alcoa, Rio Tinto Alcan, UC Rusal, BHP Billiton, Chinalco, and Vale account for roughly sixty percent of the world output of
2 3

See, for example, Miners Seek to Cash in on Steel Industry Demand, Wall Street Journal, 9/2/08. Violent protests and political unrest shut down Alcoas and Alcans bauxite mining operations in Guinea in early 2007, causing significant supply disruptions and sharp short-run increases in world aluminum prices. See Guinea Unrest Hits Aluminum; Producers Shut Plants amid Violent Protests, Lifting Metals Price, Wall Street Journal, 2/16/07. 4 For example, Alcoa recently announced the development of a large new bauxite mine in the Amazon region to supply its jointly owned alumina refinery and aluminum smelting operations downstream at Sao Luis on the eastern coast of Brazil. See Bauxite Mining Reaches into Brazilian Hinterland, Wall Street Journal, 4/2/08.

bauxite. The top two, Alcoa and Rio Tinto Alcan, by themselves account for more than thirty percent. 5 Mine production of bauxite was reported in 26 countries in 2007, so there are a sizeable number of nonintegrated bauxite producers, albeit none who produce on the scale of the integrated aluminum firms. Alcoa has mining capacity of approximately 31 million metric tons of bauxite per year. It has major bauxite mines in Australia (Huntley, Willowdale), Jamaica (Jamalco), Brazil (Juruti), Guinea (Boke), and Surinam (Moengo, Paramaribo). Rio Tinto has mining capacity of roughly 32 million metric tons per year. It has major bauxite mines in Australia (Gove, Weipa), Ghana (Awaso), Guinea (Sangaredi), and Brazil (Porto Trombetas). UC Rusal has mining capacity of approximately 19 million tons of bauxite per year. It has major mines in the former U.S.S.R. (N. Ural, Middle Timan, CBK), Jamaica (Windalco), and Guyana. BHP Billiton has mining capacity of approximately 16 million metric tons per year. It has major mines in Australia (Worsley), Brazil (MRN), Guinea (Guinea Aluminum), and Suriname (Parinam). Vale has mining capacity of roughly 9 million metric tons of bauxite per year. Its major mines are in Brazil (MRN, Paragominas). Chinalco has mining capacity of at least 10 million metric tons per year in seven bauxite mines in China. B. Refining Bauxite Ore into Alumina The next stage in the production of aluminum is refining bauxite ore into alumina. It takes from four to six tons of bauxite to produce two tons of alumina, which can then be smelted to make one ton of aluminum. The technology is well known and the production process for refining bauxite is fairly standard. Considerable machinery and equipment are involved, and so alumina refineries require substantial investment. Since bauxite is chemically and physically heterogeneous, the design of a particular refinery is determined by the bauxite reserves that it processes. 6 The refining of bauxite into alumina is not nearly as energy intensive as the next stage of smelting alumina into aluminum, so cheap energy is not a large factor in the location of alumina refineries. But bauxite is bulky and heavy, hence there are natural economies in locating alumina refineries close to bauxite mines. The tendency in the industry thus is to construct alumina refineries dedicated to and located close to sources of bauxite. As such, alumina refineries located in close proximity to bauxite mines represent assets specific to the mine. Typically the capacity and design of the refinery is determined by the capacity of the mine and the chemical and physical characteristics of the bauxite. So the assets associated with alumina refineries are specific to the site of the mine and are dedicated to that mine. Bauxite mines and alumina refineries, once constructed, also are largely irreversible, so the costs of the initial investment are sunk. Since very specific assets that are largely irreversible are involved in the mining of bauxite and refining it into alumina, vertical integration or

5 6

Bauxite mine ownership and output figures are taken from various company websites. M. Donnan and J. Comer, Insights into Relationship Structures: The Australian Aluminum Industry, Industrial Marketing Management 30, 2001, 255-269.

some other close long-term relationship is an efficient organizational response for these two stages of production. 7 As can be seen in Figure 2.3, from 1970 to the present world output of alumina has grown from 20 million metric tons per year to over 70 million metric tons. In 1980 the United States, with 21 percent of the worlds output of alumina, was the second largest producing country in the world behind Australia. By 1990 the U.S. had fallen to third place behind Australia and Russia, and had a world market share of 12.3%. In 2000 the U.S.s market share was 9.7%, but by 2007 it had fallen further to 5.1%. 8 As of 2007 only four alumina refineries were still operating in the U.S. Given the industry trend toward dedicated alumina refining facilities located in close proximity to bauxite mines, further declines in domestic alumina refining are likely. Figure 2.3: U.S. and World Alumina Production since 1970
70,000,000

60,000,000

50,000,000

Metric Tons

40,000,000

30,000,000

20,000,000

10,000,000

0 1970 1975 1980 1985 1990 1995 2000 2005

Year
U.S. World

Source: U.S. Geological Survey

Table 2.2 contains the amount of alumina produced in each of the major areas of the world since 1980. The growing importance of locating alumina refineries close to bauxite reserves, coupled with the growth in bauxite mines in places like Australia,
7

See, for example, R. Cottrell, Icy weather and isolation, but rich in energy resources: New rail links may be the key to developing a large bauxite and aluminum industry in the landlocked republic, Financial Times, 10/21/2002. Industry updates included in annual issues of the U.S.G.S. Minerals Yearbook that discuss new bauxite mines invariably include the associated alumina refinery that will process the bauxite and vice versa. 8 U.S. Geological Survey, Minerals Yearbook, various years.

Brazil, Guinea, Jamaica, China, and Russia, are reflected in the changing geographic patterns of alumina production. North Americas alumina output has actually fallen since 1980, while Oceanias output has almost tripled and Latin Americas has almost quadrupled. The largest producers of alumina in 2007, in decreasing order, were Australia, China, Brazil, India, Guinea, Jamaica, and Russia. 9 The market shares of companies producing alumina reflect the same patterns evident in bauxite mining. The three largest, Alcoa, UC Rusal, and Rio Tinto Alcan, accounted for roughly 46 percent of world output in 2007. The top six, which also includes BHP Billiton, Chalco, and Vale, accounted for almost 64 percent of the world total. Alumina production was reported in thirty different countries in 2007, so there clearly is a large competitive fringe of alumina refiners around the world. But alumina refining is clearly dominated by large vertically integrated primary aluminum producers. Alcoa has the capacity to refine 15.9 million metric tons of alumina per year. It has major refineries in Australia (Kwinana, Pinjarra, and Wagerup), Brazil (Pocas de Caldas and Alumar), Jamaica (Jamalco), Spain (San Ciprian), Surinam (Suralco), and the U.S. (Point Comfort). UC Rusal has the capacity to refine 10.6 million metric tons per year. It has major refineries in Ireland (Auginish), Italy (Eurallumina), Jamaica (Windalco and Alpart), Australia (Queensland), Guinea (Friguia), Ukraine (Nikolaev), and Russia (Achinsk and Boksitogorsk). Rio Tinto Alcan has the capacity to refine 8.5 million metric tons per year. It has major refineries in Australia (Gove, Queensland, and Yarwin), Canada (Jonquiere), Brazil (Sao Luis), and France (Gardanne). BHP Billiton has the capacity to refine 4.5 million metric tons per year. It has major refineries in Australia (Worsley), Suriname (Pariname), and Brazil (Alumar). Chalco has the capacity to refine 4.5 million metric tons per year, with its major refineries in China. Vale has the capacity to refine 4.3 million metric tons per year, with two major refineries in Brazil (Alunorte and MRN). 10 C. Smelting Alumina into Aluminum Aluminum is produced from alumina by an electrolytic process that is very energy-intensive. While the location of bauxite reserves and the cost of transporting bauxite to refining sites drive the location of bauxite mines and alumina refineries, access to cheap electricity is the dominant factor in locating aluminum smelters. 11 Alumina is a commodity, and its value-to-weight ratio makes it economical to transport in bulk carriers over long distances. As a result, alumina economically travels from refineries to aluminum smelting plants located all over the globe. Aluminum smelting also requires a large investment in plant and equipment. The technology is well known and fairly standardized. The production process is continuous, which makes it critical to have a reliable source of alumina. There are significant
U.S. Geological Survey, Minerals Yearbook, 2007. Alumina refinery ownership and capacity information comes from various company websites. 11 The migration of aluminum smelting to low-cost electricity sources is described in Aluminums Power Shift; Access to Cheap Electricity, Plentiful Natural Resources Fuels Rise of New Producers, Wall Street Journal, 9/11/06 and Aluminum Industry Puts Focus on Energy Sources; Global Production Shifts as Companies Seek Cheaper Power, Wall Street Journal, 9/13/07.
10 9

economies of scale in modern aluminum smelters. Minimum efficient scale for a modern aluminum smelter is 300,000 metric tons per year or larger. 12 Since energy costs typically represent thirty percent or more of total costs, access to cheap electricity is critical for a smelter to be competitive. The output of this production process, aluminum cast in ingots or billets, is a commodity with high value relative to weight. As such, it is a commodity and the geographic scope of the market is worldwide. Aluminum is traded on the London Metals Exchange, so aluminum transactions are highly transparent and prices are determined by world supply and demand forces. 13 This aspect has important ramifications for the vertical connections between primary aluminum producers and downstream fabricators, because it facilitates arms-length transactions between unrelated parties at this stage in the vertical chain of production. The U.S. led the world in aluminum production for most of the twentieth century. World output of aluminum surpassed twenty million metric tons in 1996, and by 2006 had increased to well past thirty million metric tons. In 1996 the U.S. produced over 17 percent of the worlds output. Russia (13.8%), Canada (11.0%), China (8.5%), Australia (6.6%), and Brazil (5.7%) were the next largest producing countries. Between 2000 and 2001 the U.S. fell from first to third, as total U.S. production fell from 3.7 million metric tons to 2.6 million metric tons with the shutdown of several smelters in the Pacific northwest. As of 2006 the U.S. ranked fourth behind China, Russia, and Canada, producing only 6.8 percent of the world output of 33.7 million metric tons. Figure 2.4 illustrates these trends in U.S. and world output of primary aluminum. Table 2.3 contains annual output for the major aluminum producing countries from 1998-2007.

See Hydros AnnualReport 2007, p. 11, for example. The London Metals Exchange added primary aluminum to its list of commodities traded in December 1978, and the current high-grade contract began trading in August 1987.
13

12

10

Figure 2.4: U.S. and World Aluminum Production since 1900

30,000,000

25,000,000

Metric Tons

20,000,000

15,000,000

10,000,000

5,000,000

Year U.S. World

Source: U.S. Geological Survey

Until 2006, Alcoa was the worlds largest producer of primary aluminum. In late 2006 a three-way merger between two Russian producers, Rusal and Sual, and the aluminum assets of Swiss-based Glencore created United Company Rusal, which displaced Alcoa at the top. 14 Less than a year later, Rio Tinto, one of the worlds largest mining companies, acquired Alcan, which had been the second largest aluminum producer in the world only a few years earlier. The merged company, Rio Tinto Alcan, replaced UC Rusal as the largest aluminum producer in the world. 15 Rapid growth of demand in developing markets like China and India has opened up opportunities for newcomers like Chalco and Hindalco to expand their shares of the world market for aluminum. And Middle Eastern producers like Dubal and Alba have expanded capacity rapidly, elevating themselves to major player status in world markets. Rio Tinto Alcan has 24 smelters in 11 countries. Most of its smelting capacity is located in Canada, but it also operates in Australia, Cameroon, China, France, Iceland, New Zealand, Norway, the United Kingdom, the U.S., and the Netherlands. It produced 4.179 million metric tons of aluminum in 2007. UC Rusal has fourteen smelters, primarily in Russia but also in Sweden and Nigeria. It produces 4.4 million metric tons of aluminum per year. Alcoa has primary aluminum smelters located around the world, in Australia, Brazil, Canada, Iceland, Italy, Norway, Spain, and the U.S. While it has 4.8

14 15

See Russian Merger Creates Top Aluminum Maker, Global Finance, November 2006. See Gimme smelter; Aluminum, The Economist, 7/21/07.

11

million metric tons of capacity, most of its U.S. capacity is currently idled. These three largest producers account for roughly one-third of the world output. 16 Chalco has 3.0 million metric tons of capacity and produced over 2 million tons of aluminum in 2007. It operates 15 smelters in China. Hydro has an annual output of 1.8 million metric tons, producing primary aluminum from five smelters in Norway, two in Australia, and one each in Slovakia, Germany, and Canada. The sixth largest primary aluminum producer is BHP Billiton, with annual production of 1.3 million metric tons. BHP has two smelters in South Africa and one each in Mozambique and Brazil. Next are two Middle Eastern companies, Dubal of the U.A.E. and Alba of Bahrain. Dubal produces roughly 950,000 tons of aluminum per year, and Alba produces roughly 830,000 tons. The ninth largest primary aluminum producer is Century, with 785,000 tons output per year. Century has three smelters in the U.S. and one in Iceland. 17 D. Important Trends in Bauxite, Alumina, and Aluminum There are a variety of business models evident in the upstream portion of the vertical chain of production in aluminum. Some producers are fully integrated, from bauxite mining, alumina refining, and aluminum smelting into downstream fabrication and customer service. Rio Tinto Alcan, Alcoa, and Hydro exemplify this approach. Other companies focus on upstream operations, and do not venture into downstream extruding, casting, and rolling fabrication processes. UC Rusal, BHP Billiton, and Century exemplify this business model. Still other producers focus on primary aluminum smelting, acquiring alumina and selling ingot via arms length market transactions. Middle Eastern smelters like Dubal and Alba follow this model. Economic forces at work in upstream markets have shaped different firms choice of a business model. The role of energy costs in primary aluminum production has led to the relocation of aluminum smelters from places like Germany and the Pacific Northwest in the U.S. to Iceland and Bahrain. Securing a low-cost source of electricity is a necessary condition for the survival of an aluminum smelter. Some smelters accomplish this via long-term contractual supply agreements, while in other cases smelting companies have actually vertically integrated upstream and acquired or built their own electricity generation capacity. 18 The importance of electricity costs in primary aluminum production creates a counterbalance to the impact that growth in demand has had on the location of smelting facilities. Table 2.4 contains per capita aluminum consumption per year for selected countries from 1980 to 2006. The greatest prospects for growth in aluminum demand exist in populous rapidly developing economies like China and India. Indeed China has been the biggest change agent in aluminum markets for the past decade, on both demand and supply sides. The costs of building new smelting capacity in China are very low by
Hydro, Annual Report, 2007 p. 26. Smelter ownership and capacity and output information for individual producers is taken from various company websites. 18 UC Rusal, Alcoa, and Norsk Hydro are all following this approach with both existing capacity and newly built smelting operations. See Aluminum Industry Puts Focus on Energy Sources, Wall Street Journal, 9/13/07.
17 16

12

world standards. But electricity is not cheap in China, and perhaps more importantly, overall growth in economic activity and in the real incomes of Chinese households is straining the nations capacity to satisfy all the competing demands for electricity.19 Asset specificity also has a large influence on firms choice of a business model. While transportation costs make it efficient to locate alumina refineries close to bauxite mines, relationship-specific assets make it efficient for there to be a close organizational connection between bauxite mining and alumina refining. Most typically, this is accomplished by vertical integration. In recent years, almost all new bauxite mines and alumina refineries have been developed jointly, usually with common ownership. BHP Billitons operations in Australia, Brazil, and Suriname provide a good exampleeach bauxite mine is tightly connected in location, capacity, and design to an affiliated alumina refinery. 20 Alumina is a commodity with relatively high value to weight, so the economic rationale for a tight organizational connection between alumina refining and aluminum smelting is not as strong as that between bauxite mining and alumina refining. Aluminum smelting is, however, a continuous production process wherein temporary shutdowns are extremely costly, so assurance of a steady and reliable source of alumina is critical. Some firms accomplish this via vertical integration. 21 In fact, five of the six largest primary aluminum producers worldwide run a positive alumina balance in their alumina refining operations relative to their aluminum smelting operations. 22 Only Norsk Hydro runs a deficit, and they explicitly state as a corporate goal that they are increasing their vertical integration in alumina refining to guarantee the supply of alumina to their smelters. 23 Other primary aluminum producers like Dubal and Alba accomplish alumina supply assurance by joint ventures and long-term supply contracts. Another major factor in the business models adopted by producers in the upstream portion of the vertical chain of aluminum production is politics. Political goals influence primary aluminum producers in different ways. UC Rusal has benefitted from the Russian model of creating national champions, i.e. granting favors to companies so that they are well-positioned to compete favorably in world markets. 24 Middle-eastern producers such as Dubal (Dubai), Alba (Bahrain), Quatalum (Qatar), Sohar (Oman), and several joint ventures in Saudi Arabia have been developed to take advantage of cheap energy sources as well as to provide jobs for local citizens of each of these countries. 25
See Gimme smelter; Aluminum, The Economist, 7/21/07, Aluminums Predicament, Metal Center News, January 2005, and China Boom Boosts Aluminum Makers; Countrys Demand Surges amid Tight Global Supplies, Lifting Alcoa, Alcan Profits, The Wall Street Journal, 8/11/04. 20 BHP Billiton Business Review, 2008. 21 The merger of Rusal, Sual, and Glencore to create UC Rusal was in part motivated by the goal of acquiring bauxite and alumina reserves, solving shortages historically faced by Russian aluminum smelters. See G. Platt, Russian Merger Creates Top Aluminum Maker, Global Finance, November 2006, p. 51. 22 See UC Rusal and China in the global aluminium industry: potential for cooperation, UC Rusal internal publication, 9/22/08. 23 Hydro, Annual Report, 2007, p. 12. 24 Rusal goes global, Business Europe, 10/1-10/15, 2006, p. 8, and G. Platt, Russian Merger Creates Top Aluminum Maker, Global Finance, November 2006, p. 51. 25 Albas website, for example, states that the aim was to establish a suitable industry which would provide valuable export earnings, develop the countrys resources, and create training and employment opportunities for a large number of Bahrainis.
19

13

But while primary aluminum production may be reasonably managed and operated by a politicized organization, especially if the organization is granted implicit or explicit subsidies that privately owned for-profit companies do not enjoy, downstream activities that involve less standardized production processes and more interaction with customers do not lend themselves to government owned or influenced organizations. 26

26

See, for example, D. Markham, Aluminum Processing for the Hole Family, Metal Center News, January 2006, C. Petry, Aluminums Predicament, Metal Center News, January 2005, H. Byrne, Hot Metal, Barrons, 12/22/03, and T. Vinas, Mavericks see niche in aluminum extrusion, Industry Week, July 2003.

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Table 2.1: Bauxite: World Production, by Country, 2

(Thousand metric tons) Country Australia Brazil China Guinea India Jamaica Other Total
1 2

1998 44,553 11,961 15,570 12,646 38,270 123,000

1999 48,416 14,372 15,590 11,688 38,934 129,000

2000 53,802 13,866 15,700 11,127 41,505 136,000

2001 53,799 13,032 15,100 12,370 42,699 137,000

2002 54,135 13,260 12,000 15,300 9,647 13,120 48,185 144,000

2003 55,602 17,363 13,000 15,000 10,414 13,444 51,591 153,000

2004 56,593 20,950 17,000 15,254 11,285 13,296 57,907 164,000

2005 59,959 22,034 22,000 16,817 12,385 14,116 66,074 179,000

2006 61,780 22,055 27,000 16,956 13,940 14,865 74,344 190,000

2007 62,428 22,100 30,000 18,000 19,221 14,568 81,904 199,000

World totals and estimated data are rounded to no more than three significant digits; may not add to totals shown. Table includes data available through August 3, 2008.

Source: U.S. Geological Survey Minerals Yearbook

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Table 2.2: Alumina Production: Reported Total Alumina Production (Thousands of Metric Tons)

Period

Area 1: Africa 708 577 642 630 541 675 698 731 779 736 530 526 595

Area 2: North America 8,094 4,560 6,082 5,748 5,476 5,469 5,486 6,094 6,887 6,928 6,799 6,076 6,160

Area 3: Latin America 4,597 4,734 7,405 8,504 11,503 10,847 11,190 12,477 13,076 13,188 14,872 15,111 15,768

Area 4: East Asia 2,298 1,316

Area 5: South Asia 648 684 2,401 2,587 4,261 4,284 4,884 5,178 5,397 5,395 5,364 5,564 5,993

Area 6A: West Europe

Area 6B: Area 7: East/Central Oceania Europe 4,507 4,868 5,167 7,814 7,254 8,804 11,197 13,174 15,715 16,346 16,387 16,792 16,975 17,920 18,607 19,249 19,728

Total 28,106 25,543 32,894 38,457 48,119 48,488 49,785 52,591 54,872 56,157 58,395 58,863 60,496

Year 1980 Year 1985 Year 1990 Year 1995 Year 2000 Year 2001 Year 2002 Year 2003 Year 2004 Year 2005 Year 2006 Year 2007 Year 2008

5,854 5,927 6,101 6,120 6,377 6,560 6,748 6,809 6,951

4,769 4,940 5,039 5,199 5,381 5,430 5,475 5,528 5,301

Source: International Aluminum Institute

16

Notes: Area Area 1 Area 2 Area 3 Area 4 Area 5 Area 6A Area 6B Africa North America Latin America East Asia South Asia West Europe East/Central Europe Countries Guinea Canada, United States of America, US Virgin Islands (1/1974-12/1988), US Virgin Islands* (1/1989-9/1995) Brazil, Guyana (1/1974-12/1997), Jamaica, Suriname, US Virgin Islands (10/1995-6/2001), Venezuela (4/1983-Present) China*, Japan, South Korea* (1/1996-Present), Taiwan (1/1974-6/1981) Azerbaijan* (1/1974-12/1996), Azerbaijan (1/1997-12/1999), Azerbaijan* (1/2000-Present), India, Iran* (1/2002Present), Kazakhstan* (1/1974-12/1996), Kazakhstan (1/1997-Present), Turkey France, Germany, Greece, Ireland (7/1983-Present), Italy, Spain (10/1980-Present), United Kingdom (1/1974-12/2002) Bosnia and Herzegovina*, German Democratic Republic* (1/1974-6/1990), Hungary* (1/1974-6/1991), Hungary (7/1991-Present), Montenegro (6/2006-Present), Romania*, Russian Federation* (1/1974-9/1994), Russian Federation (10/1994-Present), Serbia and Montenegro* (1/1974-12/1996), Serbia and Montenegro (1/1997-5/2006), Slovakia* (1/1974-12/1997), Slovenia* (1/1974-9/1990), Ukraine* (1/1974-12/1995), Ukraine (1/1996-Present) Australia

Area 7

Oceania

17

Table 2.3: Aluminum, Primary: World Production, by Country1, 2

(Thousand metric tons) Country 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 Australia 1,627 1,718 1,769 1,797 1,836 1,857 1,894 1,903 1,932 1,960 Brazil 1,208 1,250 1,277 1,140 1,318 1,381 1,457 1,499 1,604 1,610 Canada 2,374 2,390 2,373 2,583 2,709 2,792 2,592 2,894 3,051 3,083 Chinae 2,340 2,530 2,800 3,250 4,300 5,450 6,670 7,800 9,360 12,600 6 India 542 614 644 624 671 799 862 942 1,104 1,223 Norway 996 1,020 1,026 1,068 1,096 1,192 1,322 1,372 1,331 1,304 Russia 3,005 3,146 3,245 3,300 3,347 3,478 3,592 3,647 3,718 3,955 United 3,713 3,779 3,668 2,637 2,707 2,703 2,516 2,481 2,284 2,554 States World 22,600 23,600 24,300 24,300 26,000 28,000 29,900 31,900 33,900 37,900 Total 1 World totals and estimated data are rounded to no more than three significant digits; may not add to totals shown. 2 Primary aluminum is defined as "The weight of liquid aluminum as tapped from pots, excluding the weight of any alloying materials as well that of any metal produced from either returned scrap or remelted materials."
Source: U.S. Geological Survey Minerals Yearbook

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Table 2.4: Per Capita Aluminum Consumption of Selected Countries Pounds per Person per Year
1980 38.9 6.5 35.5 n/a 31.5 54.8 13.0 2.2 32.3 42.9 4.2 5.6 9.9 18.0 56.7 15.3 1990 40.9 4.7 47.9 n/a 38.3 65.3 12.8 2.2 42.6 69.1 n/a 4.8 6.2 26.4 59.2 18.3 1994 43.7 6.7 55.3 3.1 38.0 54.9 15.0 n/a 46.1 64.0 n/a 5.7 7.7 30.9 67.9 12.5 1998 40.1 9.4 66.5 4.7 43.7 60.0 27.6 1.3 52.5 61.2 n/a 11.1 10.8 33.6 72.7 12.2 2000 42.7 8.6 73.7 7.8 50.4 63.5 30.9 1.4 61.5 67.3 n/a 11.9 9.8 27.1 76.0 11.2 2002 45.0 9.0 63.3 8.8 48.9 67.4 32.0 1.4 62.6 61.7 46.1 11.0 10.3 40.3 64.2 11.0 2003 50.9 8.3 64.4 10.9 48.1 66.9 33.1 n/a 66.7 67.9 46.9 16.3 9.2 40.2 64.5 11.8 2004 51.3 9.1 68.4 13.0 48.1 60.5 37.3 n/a 66.7 71.1 51.5 17.4 8.2 31.7 65.6 12.0 2005 45.3 9.8 66.5 15.2 46.6 57.7 35.8 n/a 65.4 75.5 55.0 16.8 9.5 23.9 69.1 11.6 2006 46.3 10.1 69.5 17.2 n/a 59.9 35.2 n/a 67.9 73.3 57.8 17.1 10.0 n/a 65.6 15.0

Australia Brazil Canada China France Germany Greece India Italy Japan Korea, Republic of Mexico South Africa, Republic of United Kingdom United States Venezuela

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III. Downstream Segments of the Aluminum Industry Aluminum is fabricated into ingots, billet, and bars for the next stage of processing. It is transported to rolling mills, where it is rolled into plate, sheet, and foil. It is shipped to extruding plants, where it is formed into various shapes. It is transported to foundries, where it is cast into various forms. Thus, rolling, extrusion, and casting are the three major segments of the downstream part of the aluminum industry. A part of the industry that straddles upstream and downstream elements of the industry is secondary aluminum production. Aluminum ingots can also be produced from recycled aluminum by secondary aluminum smelters. These smelters combine recycled aluminum with primary aluminum to produce ingots and billets of aluminum. This recycled aluminum comes from both pre-consumer scrap, called new scrap, and postconsumer scrap, called old scrap. Pre-consumer scrap is the waste from downstream aluminum fabricators, thus the close link between this segment and the fabricators. A. Secondary Aluminum Figure 3.1 shows the production of secondary aluminum in the United States, as well as the value of shipments (in 2007 dollars). The production of secondary aluminum increased steadily from less than one million metric tons in 1970 to a peak of 3.7 million metric tons in 1999. Between 2001 and 2006, production has been around 3 million metric tons. As expected, the value of shipments has followed roughly the same trajectory (since the value is the product of price and quantity), although the value of shipments has fluctuated more dramatically due to changes in the price of aluminum. For example, the increase in aluminum prices in the early part of this decade resulted in an increase in the value of shipments since 2002 despite little if any increase in production during that same time period. The Global Aluminum Recycling Committee (2006) documents a sizable, although less dramatic, increase in global production of secondary aluminum since 1970. Total global production increased from around 10 million tons in 1970 to more than 15 million tons in 2004. In addition to the United States, Europe has a large secondary aluminum industry, followed by China, and Japan. Figure 3.2 shows employment trends in the U.S. secondary aluminum industry over the last 10 years (earlier years are not available). The chart shows that employment increased from around 6,600 employees in 1997 to over 7,600 employees in 2000. Employment dipped in 2002 to less than 6,000, but has since climbed to 6,700. The relatively small changes in output and employment over the past decade indicate that there has been little change in labor force productivity during this time period. As we will see below, this is in sharp contrast to the rapid increase in labor productivity experienced by downstream fabricators. This perhaps is due to the mature and stable technology use by secondary aluminum producers as opposed to the technical advance in many aspects of downstream fabrication.

20

Figure 3.1: U.S. Production of Secondary Aluminum, 1961 to 2006

Thousands of metric tons

Year Secondary production Value of Shipments

Source: U.S. Geological Service

Figure 3.2: Employment in the U.S. Secondary Aluminum Industry

Employment

5,000 4,000 3,000 2,000 1,000 0 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Year
Source: Annual Survey of Manufactures, U.S Department of Commerce.

21

Millions of dollars

Figure 3.3: Recovery of U.S. Aluminum, 1961 to 2006

Year
Source: The Aluminum Association

Figure 3.4: U.S. Aluminum Beverage Can Recycling Amounts and Percent
2,500 80 70 2,000 Millions of Pounds 60 1,500 50 40 1,000 30 20 Pounds 0
19 72 19 75 19 81 19 78 19 84 19 90 19 87 19 93 19 99 19 96 20 02 20 05

500 Percent

10 0

Year

Sources: The Aluminum Association, Can Manufacturers Institute, and Institute of Scrap Recycling Industries

22

Percent of Cans

Recycling is naturally an important aspect of the secondary aluminum market. Figure 3.3 shows the breakdown of production between old scrap (post-consumer waste) and new scrap. Consistent with Figure 3.1, Figure 3.3 documents a tremendous increase in both new scrap and old scrap over this time period. Use of new scrap increased dramatically in the 1990s, so that in 1994 use of new scrap surpassed old scrap. By 2006, approximately 65 percent of aluminum recovery was from new scrap and 35 percent was from old scrap. Recovery of new scrap peaked in 2000, at 2 million metric tons. New scrap declined somewhat between 2000 and 2003 but has risen steadily between 2003 and 2006. In 2006, recovery of new scrap had almost reached the 2000 level of 2 million metric tons. Recovery of old scrap began to decline in 1999, when recovery was at 1.6 million tons. However, recovery of old scrap increased only moderately during this decade; current levels as of 2006 are around 1 million metric tons. Regarding old scrap, the classic example of aluminum recycling is the case of beverage cans. In Figure 3.4, we plot trends in recycling rates for aluminum beverage cans in the United States. The recycling of aluminum cans increased from 53 million pounds in 1972 to 2 billion pounds in 1997 (shown on the left-side scale). During the same period, the percentage of cans recycled increased from 15 percent in 1972 to 67 percent in 1997 (shown on the right-side scale). However, both the amount (in pounds) and the percentage of cans recycled have decreased in the last ten years. By 2006, only 1.5 billion pounds of cans were recycled, and just over 50 percent of cans were recycled. In Europe, the percentage of aluminum cans being recycled has steadily increased since 1990, including during the last ten years (Bertram et al., 2006). However, only in 2005 did the percentage in Europe exceed 50 percent. Thus, a sizable amount of aluminum is produced but not recycled, particularly for beverage cans. However, aluminum recycling occurs for many products other than beverage cans, such as cars, airplanes, and consumer durables. The construction industry is a large user of aluminum, both domestically and internationally. Buildings contain a sizable amount of aluminum, and this aluminum can be recycled when buildings are demolished. The global recycling rate for aluminum in the building industry is estimated at 85 percent; the rate is estimated around 96 percent for six Western European countries (Global Aluminum Recycling Committee, 2006).

B. An Overview of Downstream Processing Once primary and secondary aluminum is fabricated into ingots, billet, and bars, it is shipped for downstream fabrication to be rolled into sheet, plate, and foil, to extruders, and to casters. The following three figures give an overview of the relative importance of these downstream segments in the U.S. Figure 3.5 shows production by weight for the years 1988 to 2006. Sheet, plate, and foil producers manufacture around 10,000 million pounds of output per year. This is roughly twice the quantity of output casters and of extruders.

23

Figure 3.5: U.S. Shipments of Aluminum Castings, Extrusions, and Sheet, Plate, and Foil, by Weight
12,000 10,000 Millions of Pounds 8,000 6,000 4,000 2,000 Castings 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 Year
Sources: U.S. Department of Commerce (Bureau of the Census) and The Aluminum Association

Extrusions

Sheet, Plate, and Foil

Figure 3.6: Value of Shipments of U.S. Aluminum Castings, Extrusions, and Sheet, Plate, and Foil
20,000 16,000 12,000 8,000 4,000 Castings 0 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 Year
Source: U.S. Department of Commerce (Bureau of the Census)

Millions of 2006 Dollars

Extrusions

Sheet, Plate, Foil

24

Figure 3.6 shows a similar chart only with regard to the dollar value of shipments rather than weight. As above, the dollar value of shipments of sheet, plate, and foil is the largest of these three segments. However, the amount above the other two segments is smaller. In 2002 (the last year the sheet, plate, and foil data are available), the value of shipments of sheet, plate, and foil is about 1.4 times that of casters and 1.75 times that of extruders. Figure 3.7 shows the relative importance of employment in these segments. In contrast to shipments, sheet, plate, and foil has the lowest employment with approximately 20,000 workers in 2002. In that same year, extruders employed roughly 30,000 workers and casters over 50,000. Thus, among the downstream segments, casters are more important regarding employment, followed by extruders and rolling mills. Regarding production, rolling mills is the largest, then casters and extruders. Figure 3.7: U.S. Employment for Aluminum Castings, Extrusions, and Sheet, Plate, and Foil
70 Employment (Thousands) 60 50 40 30 20 10 0 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 Year
Source: U.S. Department of Commerce (Bureau of the Census)

Castings

Extrusions

Sheet, Plate, Foil

1. Rolling Mills Figure 3.8 shows the time path of production of sheet, plate, and foil in the U.S. from 1970 forward. Though there are some peaks and valleys in production that tend to track recessions and recoveries, there has been a fairly steady increase so that production in recent years, by weight, is over twice what is was in the mid-1970s. Real GDP for the U.S. economy grew by a factor of 2.4 over the 1975-2005 time period, so production in this part of the aluminum industry kept approximate pace with the rest of the economy.

25

Figure 3.8: U.S. Production of Sheet, Plate, & Foil Manufacturing

10,000

8,000

Millions of pounds

6,000

4,000

2,000

Source: Aluminum Association

20000 18000 16000

Millions of dollars .

14000 12000

25000 20000 8000 6000 4000 2000 0 15000 10000 5000 0

10000

Year Value of Shipments Employment

Source: Annual Survey of Manufactures, U.S. Department of Commerce

26

Employment .

1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Year U.S

Figure 3.9: Value of Shipments and Employment

Figure 3.9 shows the time trend for the dollar value of shipments and of employment. The pattern for the value of shipments is much more jagged than for output by weight. This is because it reflects both variations in quantity produced and in the price of the goods sold. The price and quantity produced move up and down together, making variations over time in sales wider than for just quantity. Nevertheless, there is a general pattern of an increase in the value of shipments (measured on the left-side scale on the diagram), though the increase is not as marked as with quantity produced. In contrast, there is a clear and substantial downward trend in employment (measured on the right-side scale), falling from over 30,000 to around 20,000 in the past three decades. While the decline in employment may seem disappointing, the growth in labor productivity that the above numbers entail is quite remarkable. In the mid-1970s, labor productivity was approximately 150 thousand pounds per worker. By the mid-2000s this had increased to over 500 thousand pounds per worker. Additionally, producers were receiving less revenue per pound of output, falling from roughly $2 per pound to about $1.50 per pound over this time period. Figure 3.10: U.S. Aluminum Production, Exports, and Imports by Weight
12,000

10,000

8,000

Millions of pounds

6,000

4,000

2,000

Year Imports
Source: Aluminum Association

Exports

U.S Supply

Figure 3.10 illustrates the importance of international trade regarding rolled products for the U.S. In the decade of the 2000s, imports and exports are about equal at around 2,000 million pounds. The volume of international trade in this segment has grown substantially, approximately doubling since the early 1990s. Presently, imports 27

and exports are quite substantial relative to domestic production at about 20 percent of the total of the latter. However, when dollar values are assigned, the share of imports and exports relative to domestic production is smaller, indicating that lower valued products are being traded internationally. 2. Aluminum Extruded Products Figure 3.11 shows the trend in production of extruded products by U.S. producers. Through the 1970s and 1980s, production was highly variable with very little trend. However, since the early 1990s, production has risen rapidly, increasing from about 2,500 million pounds to around 4,000 million pounds in the early 2000s.

Figure 3.11: Domestic Production of Aluminum Extruded Products, by Weight

Millions of pounds .

3,000 2,500 2,000 1,500 1,000 500 -

Source: Aluminum Association

Figure 3.12 presents charts of the value of shipments produced by this segment of the industry as well as employment. Value of shipments shows a very ragged pattern, though a general increase in the 1970s and 1980s. This was followed by a large decline in the early 1990s, followed by further spells of increase and decrease such that by the mid-2000s, the value of shipments was near its earlier peaks in the early-1990s and late1990s. Given the steady increase in tonnage produced since 1990, the variability in value of shipments is attributable to variations in the market value of the goods manufactured.

1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Year U.S

28

Figure 3.12: Value of Aluminum Shipments and Employment

35000 30000 25000 20000 15000 10000 5000 0 Year Value of Shipments
Number of employees .

Millions of dollars .

6000 5000 4000 3000 2000 1000 0

Employment

Source: Annual Survey of Manufactures, U.S. Department of Commerce.

Employment displays a somewhat variable pattern, though generally rising through the 1970s and 1980s, but showing a decided downward trend since the mid1990s. The increase in tonnage produced combined with a fall in employment again illustrates a marked increase in labor productivity. Productivity rose from around 83 thousand pounds per worker in 1990 to about 160 by the early-2000s. Figure 3.13 shows the trend regarding international trade in this segment. Not surprisingly, the trendlines in both imports and exports are up. Since the early-1990s, the quantity of exports has doubled and that of imports has increased by a factor of five. However, using the value of shipments rather than weight, the extent of these increases is not as dramatic. As a share of total output produced (by weight) by the domestic industry, exports are about 10 percent and imports are almost 30%.

29

Figure 3.13: Imports and Exports of U.S. Aluminum Extrusions, by Weight

Imports Exports

3. Aluminum Foundry Castings The production of aluminum foundry castings increased sharply during the 1990s and 2000s. This is true of both value of shipments shown in Figure 3.14 and production by weight shown in Figure 3.15. As with the other segments of the aluminum industry, value of shipments is more volatile that the quantity of production due to price variability. Employment, shown on the right-side scale in Figure 3.14, rose through the mid 1990s, but has been in decline since then. The increase in output combined with a decline in employment is a characteristic shared with the other segments of the industry, illustrating a sizable increase in labor productivity. Output per worker rose from 37 thousand pounds in the early 1990s to 88 thousand pounds by the early 2000s. Figure 3.15 also shows the time trend in imports and exports for castings. The scale for these numbers is on the right-hand side and is a different order of magnitude than for total U.S. production (show by the left-side scale). Imports and exports of castings have risen dramatically from the 1990s, showing an approximate fourfold increase. Despite this dramatic increase, imports and exports are still small, amounting to less than one percent of total U.S. production of castings.

30

Figure 3.14: Value of Aluminum Castings Shipments and Employment

60000 20000 50000

15000

40000

10000

30000

20000 5000 10000

Year Value of Shipments Employment

Source: Annual Survey of Manufactures, U.S. Department of Commerce.

Figure 3.15: U.S. Aluminum Castings Production, Imports, and Export, by Weight
6000 50 45 5000 40 35 4000

Millions of pounds

30 3000 25 20 2000 15 10 1000 5 0 1970 1975 1980 1985 1990 1995 2000 2005 -

U.S Supply

Year Imports

Exports

Source: Aluminum Association

31

Number of employees

Millions of dollars

C. Location and the Viability of Downstream Production in the U.S. This section discusses the location of aluminum fabrication in the U.S., what factors are important for location, and how they matter in the different downstream segments. The factors we consider in this regard are economies of scale, transportation costs, product differentiation and specialty products, and relationships to customers. Economies of scale means lower unit costs for facilities with a larger production capacity. This, by itself, argues for few plants that ship long distances. The location of those few plants depends on transportation costs, the location of customers, and perhaps other factors. High transportation costs reduce the advantage of the economies of scale in high-output facilities. Thus, there is an interplay between these two factors. Economies of scale indicates a few large facilities. If transportation costs are high, these facilities may be smaller, greater in number and located with the transportation costs of materials and of the final product in mind. Minimal scale economies argue for a multitude of smaller facilities. Location depends on the cost of getting the resources to the plant relative to transporting the final good to the customer. These facilities will follow one or the other depending on the cost of each. Makers of highly differentiated products or specialty goods often have a more limited market and so economies of scale are less important. Smaller facilities are implied. Relationships with customers are also important and may be intertwined with this factor. Specialty product makers may have a close working relationship to customers and a nearby location is advantageous. Also, customer service relationships generally are much easier when clients are nearby. Relationships that require just-in-time (JIT) inventory will locate in close proximity to customers. These factors play out in somewhat different ways for each of the three downstream segments regarding the advantages of locating in the U.S. 1. Secondary Aluminum Secondary aluminum is a commodity that can be shipped at low cost nearly anywhere in the world. Naturally, aluminum scrap is a key input and the source of scrap is important. Because of transportation costs in acquiring scrap, most scrap does not travel far. The exceptions to this are labor-intense scrap and can scrap. Labor-intense scrap is aluminum scrap mixed with other things. This is often shipped to low-wage countries for separation. Can scrap is a homogeneous, near-commodity form of aluminum scrap that can be compressed and shipped at low cost. Much of the source of scrap for secondary smelters, though, is the wasted aluminum from downstream fabricators. This scrap is collected, melted, and reformed into ingots and bars, and sold back to the marketplace. The transportation costs of scrap collection make it sensible to locate secondary smelters near the downstream fabricators that are the major sources of scrap.

32

Economies of scale in secondary smelting are not very large and energy costs are low relative to primary production, so an industry composed of relatively small, geographically diffused plants does not sacrifice having low unit costs of production. Taken together, it is sensible that secondary production facilities locate close to their sources of scrap, i.e., in a cluster of downstream fabricators. Consistent with this is that it is not uncommon for secondary smelters to locate adjacent to their best customer. In fact, contractual arrangements often exist creating dedicated customers, where the smelter collects all of a fabricators scrap and supplies a given amount of ingot in return. 2. Rolling Mills Of the major downstream segments, facilities in this segment typically require large amounts of sophisticated capital equipment. As a result, it exhibits the greatest economies of scale. Consequently, there are a limited number of rolling mills, and each has a large capacity. Compared with hundreds of extruders and hundreds of foundries, fewer than 50 rolling mills in the United States are currently in operation. Though there is some product differentiation in this segment, many products can essentially be viewed as a commodity. Can sheet is an example; there are many grades and types of can sheet, but each type is quite homogeneous. Despite the commodity-like aspects, many of the products made by rolling mills are quite technologically advanced. For example, suppliers of can sheet maintain a competitive advantage by making technically sophisticated advances such as producing stronger and lighter sheet material. Transportation is not a major issue in this segment of the industry. Naturally, an important input to aluminum rolling is ingot, though some facilities melt some scrap for their own use. As noted above, transportation costs are not that important for aluminum ingot. Also, sheet and foil are easily shipped in coil form, making transportation costs of the product to the customer not a major issue. As a result, this segment of the industry consists of very large plants that serve a regional market. Whether firms in this segment are likely to consolidate to serve a national or global market will be discussed below. 3. Extruded Products Extrusion is a diverse segment of the aluminum industry, where many extruded products are commodity-like but some are high-tech, specialty products. Among the many commodity-like extruded products technology has not been important. Door frames are an example of such a product. Regarding the high-tech products, an example is the hard alloys (2000 and 7000 series) that are used in aerospace and have stringent quality standards. Another example is in mass transit, where some manufacturers produce a single sheet for manufacture of a mass transit car. Economies of scale generally are modest. As a result, there are hundreds of extruders in the U.S. With some exceptions, technological advances have not been substantial, therefore extruders focus on areas like customer service to differentiate themselves from their competitors. This implies small facilities dispersed across the U.S. that mirrors the dispersion of users of extruded products. An important example of this is window frames 33

and other construction supplies. Responsive service to construction companies and builders is important, implying location near construction activity. While there are exceptions to this for some extruded products (e.g., aluminum ladders), the above is quite common. 4. Cast Products Like extrusion, casting involves a heterogeneous set of products. Cast products are used in a variety of industries, examples of which include automobiles, lawn and garden equipment, and appliances. Cast products vary from the very basic (e.g., patio grills) to carefully engineered products developed in cooperation with customers (e.g., specialty auto parts). Thus, foundries have substantial diversity in their size and technical sophistication. There are hundreds of foundries spread throughout in the U.S. The large number of casters in the U.S. is not surprising. Economies of scale typically are not important in this segment of the industry. Products are differentiated, implying smaller batches. Sales to the automobile industry are growing importance for this segment. Some of the products involved are highly engineered castings made in close cooperation with the customer. In some cases, the cooperation is so close that contracts are devised regarding ownership of the dies, e.g., the customer owns the die or the shape the fabricator makes as their intellectual or physical property. Additionally, some of the parts produced are for just-in-time inventory production systems. These imply a steady working relationship with the customer and an importance of locating near the customer. 5. Locational Patterns in the U.S. The Appendix provides maps of each state of the U.S. where the location of aluminum production and fabrication facilities are plotted. These maps were created from a list of primary and secondary aluminum production sites from the U.S. Environmental Protection Agency. 27 The current status of each facility was investigated via the internet, and plants that were closed as of the summer of 2008 were excluded from the list. Still, it is possible that the list does not include a small number of aluminum plants in the United States. Examining a select group of states illustrates the points made above. Consider first the location of aluminum facilities in Ohio (page 69). The large number of casting foundries in Ohio is easily seen. Though large in number, they are concentrated in major commercial/industrial locations in Ohio. One major cluster is in the Cleveland area and northeast Ohio around Akron and Youngstown. The other cluster is along Interstate 75 from Cincinnati and continuing northward until just north of Dayton. Both of these regions are known for their substantial manufacturing base. There is a large population base in these areas, too.

Specifically, the facilities were in one of two listings: (1) facilities potentially subject to the secondary aluminum National Emissions Standards for Hazardous Air Pollutants (NESHAP) or (2) facilities listed in the Toxic Release Inventory (TRI).

27

34

There are many extruders in Ohio, though fewer in number than casting facilities. Their general location pattern is similar to that of casters; concentrations in northeast Ohio and along Interstate 75. This pattern of location for extruders and casters is consistent with the discussion above. Because of the lack of scale economies and the differentiated products firms in these two segments often produce, we expect there to be a large number of small facilities. We also noted above the importance of customer service for many extruders and casters and the increasingly common, close working relationship between casters and their customers. Both imply locations near the customers. Thus, the concentrations in the commercial/industrial areas of northeast Ohio and the Interstate 75 corridor. We were able to locate ten secondary aluminum production facilities in Ohio. The relatively large number in just one state is consistent with the minimal economies of scale in this segment of the industry. Also, of these ten facilities, nine are located in northeast Ohio, clustering with the large number of extruders and casters. The latter are potential sources of scrap and customers. Recall that close location for sources of scrap is important for secondary smelters due to the high cost of transporting scrap. The map of locations in Indiana (page 51) shows a similar pattern. There are a large number of casting foundries and extruders located in northeast Indiana. This large number is, as noted previously, due to the minimal economies of scale in these segments of the industry. Northeast Indiana is an area encompassing the small cities of Fort Wayne, Anderson, Kokomo, and Muncie. This region has a long history of manufacturing and still maintains a significant manufacturing base. Location of extruders and casters in this area indicates location of these facilities near customers. Also, there are a several secondary smelters clustered with the casters and extruders in northeast Indiana. This is similar to the pattern found in Ohio and reflects the need of secondary smelters to locate near sources of scrap. Consistent with this, there are secondary smelters in the Gary, Indiana area to access the sources of scrap from the large number of aluminum fabricators in the Chicago area (shown on the Illinois map). The locational pattern in Kentucky differs from Ohio and Indiana, but is still consistent with the previous discussion. Kentucky has a large number of secondary smelters relative to casters and extruders when compared to Ohio and Indiana. However, the locations of these smelters are almost invariably on an important transportation link: Interstate 75, Interstate 64, the Kentucky Parkway, or the Ohio River. Thus, sources of scrap are easily accessible. There are rolling mills located in Ohio, Indiana, and Kentucky. They are much fewer in number than casters, extruders, and secondary smelters and are not always clustered with the aluminum fabricators. This is as expected from the above reasoning. There are substantial economies of scale in rolling mills, implying fewer, but larger capacity facilities. Many rolled products are readily transportable and the commoditylike aspect of many rolled products does not necessitate close, everyday relationships with customers. Thus, clustering near users of rolled products is not critical. As another example from a different region of the U.S., consider the location of aluminum plants in California (see page 44). There is an extraordinarily large cluster of

35

foundries, extruders, and secondary smelters in the Los Angeles area. This area has a large manufacturing base and a very large population base. A smaller cluster is in the Bay Area. The large number of extruders and casters in large, commercial/industrial areas is similar to the previous examples. Likewise is the co-location of secondary smelters with the cluster of the fabricators. 6. Offshoring, Clustering, and the Downstream Customer Base The above discussion shows the clear pattern of the location of aluminum foundries and extruders in commercial/industrial and population centers. Secondary smelters tend to cluster with these processors. This underscores the importance of the location of the processors customers. The minimal economies of scale and frequent need for customer service and interaction in these segments of the industry make location near their customers sensible. Secondary smelting operations will follow in order to be near sources of scrap. Thus, to assess prospects for continued location of this part of the industry in the U.S., it is important to examine the customer base for this subsector. Figures 3.16 and 3.17 present some data in this regard. Figure 3.16 shows shipment of all aluminum mill products by the industry of the buyer, from the 1960s to the mid 2000s. From the earliest part of this period to the early 1990s, the biggest growth of customers for aluminum mills was the containers and packaging industry. In the 1980s it became the largest buyer of aluminum mill products (by weight) and remains so today. However, the production sold to this industry reached 5,000 million pounds per year in the early 1990s and has not changed much since then. In contrast, there has been a large growth in the amount of aluminum products sold to the building and construction and the transportation equipment industries. The dramatic growth in sales to these industries began in the early 1990s and continues today. (There was considerable above-trend growth in exports in the 1990s, but this has since returned to its trend.) In 2006, containers and packaging accounted for 28.5% of mill products sales, building and construction 19.8%, and transportation equipment 22.1%. The latter two together comprised 41.9% of shipments and are growing. Figure 3.17 presents a chart similar to that of Figure 3.16, but for extruded products only. While the construction and building and the transportation equipment industries have been important customers for extruders for a long time, the dramatic growth in these two industrial sectors began in the early 1990s and still continues. As of 2006, these two sectors accounted for 69% of all extruded product shipments by U.S. suppliers.

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Figure 3.16: Total Mill Shipments by Industry

Building & Construction Transportation Consumer Durables Electrical Machinery & Equipment Containers & Packaging Other Exports

4,000

Millions of Lbs.

3,000

2,000

1,000

1960 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000 2004

Year

Source: Aluminum Association

Figure 3.17: Total Extruded Shapes Shipments by Industry

Building & Construction Transportation Consumer Durables Electrical Machinery & Equipment Containers & Packaging Other Exports

Millions of Lbs.

1,400 1,200 1,000 800 600 400 200 1960 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000 2004r

Year

Source: Aluminum Association

Given the above trends, it seems clear that the viability and growth of extruders and foundries depends heavily on the continued presence and growth of the building and construction and the transportation equipment industries in the U.S. To put this another way, the susceptibility of extruding and casting to offshoring depends on whether the final manufacturer can go offshore. The final manufacturers that use these products are increasingly becoming building and transportation. Much of the aluminum-based construction equipment (such as window frames) consumed in the U.S. is also produced here and their supply evidently is localized or 37

regionalized. The continued growth of aluminum fabrication in the U.S. depends, to some extent, on growing building and construction activity in the U.S. This, in turn, depends on a strong and growing U.S. economy. Generally speaking, the location of the construction industry will be in large population centers, growing in wealth and/or numbers. Aluminum fabrication will tend to follow this, both in the U.S. and worldwide. A substantial amount of fabrication for the transportation equipment industry also is dependent on its location. For example, high value added casting facilities, such as the type for automotive plants, are located near automotive plants. Likewise for plants producing for just-in-time inventory systems. Offshoring will only occur if the customer moves offshore. Transportation equipment makers, to some extent, follow the retail consumer. Auto assembly is important in the U.S. because of the large customer base here. A growing transportation sector in the U.S. will imply growth in the U.S. presence of aluminum fabricators. Some extrusion and casting is not particularly dependent on customer location, though. For example, most aluminum ladders are produced offshore. Low-tech casters, such as the case of aluminum grills, have already been offshored. The offshoring possibilities for sheet, plate, and foil are mixed. There are large economies of scale and high capital requirements that can make it difficult to simply move large, existing operations offshore. A major customer of rolling mills is the containers and packaging industry, though transportation and construction are growing in importance. The importance of being located near this customer base probably is less crucial than for extrusion and casting, however, even if manufacturers of these final goods wish to be near their customers, U.S. households. The ease of transport of sheet, plate, and foil suggests that the possibility of moving offshore is more realistic. D. Vertical Relationships and Other Issues 1. Vertical Connections As discussed above, there may be reasons for vertical integration among parts of the upstream production of primary aluminum. Since aluminum ingot is a commodity that is widely traded on well-established markets, there generally are not compelling reasons for vertical integration from primary aluminum smelting forward into downstream fabrication. Thus, the fully-integrated aluminum company has become increasingly less common. Within downstream segments of the industry, independently-owned firms are often the case, though not universal. Many casters are independent firms, but some are integrated with other firms. For example, Toyota is backward integrating, partly in an attempt to appear more green by not letting any scrap escape the loop. In contrast, General Motors used to own their own casting plants, but they have subsequently sold them to third-party buyers. Other casters have close contractual connections to customers. One large caster has dedicated facilities for Ford. As noted above, some casters have relationships with customers involving design and manufacture of parts and dies that may involve contractual terms of ownership of the product. This is not actual

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ownership of one firm by another, but a clear and close vertical connection quite distinct from commodity-type transactions. Another exception to the separate ownership of casters involves the process of continuous strip casting. This technique takes molten aluminum and creates coil, a semifabricated product. This technique adds considerable value and some primary producers have integrated forward to produce this product. However, continuous strip casting accounts for only a small percentage of the market for primary aluminum. Regarding extruders, many are independent firms. Alcoas presence in extrusion is diminishing as it has sold many of its extruders. There has been a lot of consolidation among extruders recently. Older extruders, which have lower efficiency and higher pollution, are going off line. Secondary aluminum smelting operations often are stand alone, independentlyowned operations. Even if this is the case, these operations may be closely tied to fabricators with contracts to take their scrap and supply them with ingot. Also, some larger aluminum fabricators also do some secondary smelting since they have a large quantity of scrap at hand. 2. Other Issues Several other issues relating to downstream aluminum markets are worthy of discussion. Above, we noted the importance of location of the customers of aluminum fabricators in the U.S. is linked to the viability of the continued presence of the domestic aluminum industry. This is likely to be predicated on the strength of the U.S. economy. While the U.S. economy may continue to grow, it seems clear that much of worldwide economic growth will occur overseas. A continuation of the economic liberalization in China and India will endanger further economic growth there. Likewise for Brazil, Chile, and possibly other Latin American countries. Other parts of the world also may experience significant growth. This suggests a growing presence of manufacturing of final products that use aluminum, and the following of aluminum fabricators to those parts of the world. Thus, while aluminum fabrication may increase its presence in the U.S., it may grow even faster in other parts of the world. One factor that may temper this conclusion is that there remain some country risk factors in many parts of the world that indicate there will remain advantages of locating in the U.S. Some countries that have a substantial presence in upstream markets, such as Russia, China, and Middle Eastern countries, have advantages regarding raw materials and/or labor availability and political factors favoring upstream production. The latter can take the form of governments subsidizing (explicitly or implicitly) large capacity facilities and retaining a significant measure of control over these enterprises. While this may function well enough for survival of alumina production and primary smelting, it is unlikely to work in many downstream fabrication markets. The former types of enterprises tend to be low-tech, high-volume, with well-known production processes that are straightforward to implement. This type of production process can be tolerably controlled via bureaucratic methods that come with government involvement. The converse is true for many downstream aluminum fabrication markets.

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To be competitive, firms often must emphasize customer service, be ready to adapt to changing customer needs, and adjust to changing technologies. This entails nimble, market-oriented firms that only the private sector can provide. Governmentally supported and controlled enterprises simply cannot survive in a setting like this. Thus, countries whose governments try to retain control of their aluminum industry will be at a decided disadvantage regarding the location of most aluminum fabricators. A final point is with regards to environmental and energy concerns. These issues are growing in importance and can have a significant effect on the aluminum industry. The fact that aluminum is recyclable puts it in a favorable light regarding environmental issues. The aluminum industry will fare well under any policy initiatives that encourage recycling. Also, electricity and fuel consumption of the downstream aluminum segments, including secondary aluminum, is about the same and the rest of manufacturing industry. Thus, downstream aluminum will not be at any disadvantage relative to other manufacturing if policies are implemented that penalize power consumption. Primary aluminum production, which requires a lot of electricity usage, will be disadvantaged by any such policy.

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IV. Appendix: State Maps with Aluminum Production and Fabrication Facilities

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