economic forces

8/3/2019 Economic Forces

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Economic Forces Shaping the Aluminum Industry

John GarenChristopher Jepsen

Frank ScottDepartment of Economics

University of KentuckyLexington, KY 40508-0034

July 2009

Report Prepared for the Sloan Center for a Sustainable Aluminum Industry


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I. Introduction and Executive Summary

This study provides an economic analysis and overview of the aluminum industrywith two major goals in mind. One is to develop an overall picture of the industry todayand 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 theindustry will need to adapt. Achieving these goals can enable the development of morein-depth research projects focusing on critical issues in the aluminum industry.

The aluminum industry is quite varied and has many unique features. Itencompasses a large portion of the vertical chain of production, beginning with rawmaterial extraction and processing (mining bauxite and processing to alumina), toproducing a commodity metal (aluminum ingot), to semi-fabricated products, to fullyfabricated goods. It also involves a secondary market for scrap and recycled aluminum.The products produced differ widely in their nature, their production processes, and theirlevel 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 withthis 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. Byupstream, we refer to bauxite mining, alumina refining, and primary aluminumproduction. A subsection is included on each of these segments, followed by a discussionof 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 anatural breaking point in the industry since aluminum ingot is essentially a commodityand connections between the upstream and downstream segments are often via simplemarket transactions. Subsections discuss major downstream segments, includingsecondary aluminum which straddles upstream and downstream and major types of fabrication. Trends in production, employment, productivity, and imports and exports areexamined, 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. hasvirtually no presence in this market.

Mine output is dominated by large companies with operations across severalcounties 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 isthat bauxite is heavy and bulky and therefore costly to transport.

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Alumina and bauxite frequently have close contractual connections or there is joint ownership. An alumina refinery may be specifically designed to handle onemines 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 inaluminum 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 economicchampions.

Russia: much outdated equipment; very cheap energy; nontrivial transportationcosts; 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 traditionto 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 risefor new scrap.

The production of secondary aluminum involves much smaller economies of scalethan primary aluminum, has much lower electricity requirements, but dependscritically 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 involvingdifferent 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 andproductivity growth in the past thirty years, but modest changes in employment.

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Imports and exports in the downstream segments have grown significantly overthe 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 andare 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 high-tech, 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, standardizedproducts.

The minimal economies of scale and need for close contact with customers lead toa large number of extruders and casters whose locations are within largecommercial and industrial areas.

Most secondary smelters are located in these same areas since downstreamfabricators are major sources of scrap for secondary producers.

Rolling mills exhibit greater economies of scale whose products usually are easilyshipped. As a result, they are fewer in number. The containers and packaging, transportation equipment, and building andconstruction 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 andbuilding and construction. Major growth in the customer base probably will comefrom these two industries for the foreseeable future.

Areas of growth in the downstream customer base will come in areas and regionsthat are populous and wealthy or where economies are growing in population andwealth. While this portends for growth in rapidly developing economies, a largedomestic presence will continue as long as the U.S. maintains its wealth andstrong economy.

Location in the U.S. for much of the upstream segments of the industry willcontinue to be unattractive. Sources of bauxite and cheaper electricity areelsewhere. Also, governments elsewhere are likely to continue to subsidize largealuminum 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 donot function well in this setting.

Environmental factors are growing in importance in public policy. This favorsthe secondary and downstream aluminum industry segments. Neither uses energyany more intensely that other manufacturing unlike primary production andhas the potential for lowering its waste stream by more use of scrap.

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II. Upstream Segments of the Aluminum Industry

We use the term upstream to refer to the stages of production prior to anyfabrication of aluminum products. Essentially, these are the steps to produce aluminumingot. The production of aluminum ingot has three stages. Bauxite ore is mined from theearths surface. It is refined through a chemical process known as the Bayer Process intoalumina, which is a white powdery substance. Alumina is dissolved in an electrolyticbath of molten cryolite within a large carbon or graphite lined steel container. Anelectric current is passed through the electrolyte at low voltage, but very high current, toproduce aluminum. The molten aluminum is then cast into ingots. The smelting processis 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 atthe beginning of the twentieth century until the late 1980s, when domestic production of bauxite for metallurgical purposes essentially came to an end. World production hasgrown steadily since WWII, from 8.2 million metric tons in 1950 to 74.8 million metrictons in 1975 to 136.0 million metric tons in 2000. Figure 2.1 illustrates U.S. and Worldbauxite output since 1970. Total world production was estimated to be 199.0 millionmetric tons in 2007. 1

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

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

0

20,000,000

40,000,000

60,000,000

80,000,000

100,000,000

120,000,000

140,000,000

160,000,000

180,000,000

1970 1975 1980 1985 1990 1995 2000 2005

M e t r i c

T o n s

Year

U.S. World

Source: U.S. Geological Survey Minerals Yearbook

Australia has been the worlds largest producer of bauxite for almost fourdecades, surpassing Jamaica in the early 1970s. In 2000, the top four producingcountries, 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 restof the world from 1998 going forward. In the past several years, however, bauxiteproduction has increased dramatically in both China and India. China is now the worldssecond 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 bauxiteproduction by country from 1998 through 2007.

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Figure 2.2: Major Bauxite Producing Countries

0

10,000

20,000

30,000

40,000

50,000

60,000

70,000

80,000

1998 1999 2000 2001 2002 2003 2004 2005 2006

T h o u s a n

d m e t r i c

t o n s

Year

Australia Brazil Guinea Jamaica Other

Source: U.S. Geological Survey

The changing economics of mining have had a large impact on the bauxite miningsector, with a commensurate impact on downstream alumina refining and primaryaluminum smelting. In recent years mining has become increasingly multiproduct andmultinational, and so the industry is now do minated by very large firms that mine avariety 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 asreducing 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-leveleconomies of scale as well as reducing f inancial and political risk that occurs whenoperations are restricted to one country. 3

It is also the case that fairly tight vertical connections exist between bauxitemining, alumina refining, and aluminum smelting. Some companies are completelyvertically integrated, while in other cases joint ownership of assets or long-term contractsare employed. So it is unsurprising that the largest producers of primary aluminum arealso heavily involved in mining bauxite. 4 Alcoa, Rio Tinto Alcan, UC Rusal, BHPBilliton, Chinalco, and Vale account for roughly sixty percent of the world output of

2 See, for example, Miners Seek to Cash in on Steel Industry Demand, Wall Street Journal , 9/2/08.3 Violent protests and political unrest shut down Alcoas and Alcans bauxite mining operations in Guineain early 2007, causing significant supply disruptions and sharp short-run increases in world aluminumprices. See Guinea Unrest Hits Aluminum; Producers Shut Plants amid Violent Protests, Lifting MetalsPrice, Wall Street Journal , 2/16/07.4 For example, Alcoa recently announced the development of a large new bauxite mine in the Amazonregion to supply its jointly owned alumina refinery and aluminum smelting operations downstream at SaoLuis on the eastern coast of Brazil. See Bauxite Mining Reaches into Brazilian Hinterland, Wall Street

Journal , 4/2/08.

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bauxite. The top two, Alcoa and Rio Tinto Alcan, by themselves account for more thanthirty percent. 5 Mine production of bauxite was reported in 26 countries in 2007, so thereare a sizeable number of nonintegrated bauxite producers, albeit none who produce on thescale of the integrated aluminum firms.

Alcoa has mining capacity of approximately 31 million metric tons of bauxite peryear. It has major bauxite mines in Australia (Huntley, Willowdale), Jamaica (Jamalco),Brazil (Juruti), Guinea (Boke), and Surinam (Moengo, Paramaribo). Rio Tinto hasmining capacity of roughly 32 million metric tons per year. It has major bauxite mines inAustralia (Gove, Weipa), Ghana (Awaso), Guinea (Sangaredi), and Brazil (PortoTrombetas). UC Rusal has mining capacity of approximately 19 million tons of bauxiteper 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 16million 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 thenbe smelted to make one ton of aluminum. The technology is well known and theproduction process for refining bauxite is fairly standard. Considerable machinery andequipment are involved, and so alumina refineries require substantial investment. Sincebauxite is chemically and physically heterogeneous, the design of a particular refinery isdetermined by the bauxite reserves that it processes. 6 The refining of bauxite intoalumina is not nearly as energy intensive as the next stage of smelting alumina intoaluminum, so cheap energy is not a large factor in the location of alumina refineries. Butbauxite is bulky and heavy, hence there are natural economies in locating aluminarefineries close to bauxite mines.

The tendency in the industry thus is to construct alumina refineries dedicated toand located close to sources of bauxite. As such, alumina refineries located in closeproximity to bauxite mines represent assets specific to the mine. Typically the capacityand design of the refinery is determined by the capacity of the mine and the chemical andphysical characteristics of the bauxite. So the assets associated with alumina refineriesare 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 theinitial investment are sunk. Since very specific assets that are largely irreversible areinvolved in the mining of bauxite and refining it into alumina, vertical integration or

5 Bauxite mine ownership and output figures are taken from various company websites.6 M. Donnan and J. Comer, Insights into Relationship Structures: The Australian Aluminum Industry,

Industrial Marketing Management 30, 2001, 255-269.

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some other close long-ter m relationship is an efficient organizational response for thesetwo stages of production. 7

As can be seen in Figure 2.3, from 1970 to the present world output of aluminahas grown from 20 million metric tons per year to over 70 million metric tons. In 1980the United States, with 21 percent of the worlds output of alumina, was the secondlargest producing country in the world behind Australia. By 1990 the U.S. had fallen tothird place behind Australia and Russia, and had a world market share of 12.3%. In 2000the U.S.s market share was 9.7%, but by 2007 it had fallen further to 5.1%. 8 As of 2007only four alumina refineries were still operating in the U.S. Given the industry trendtoward 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

0

10,000,000

20,000,000

30,000,000

40,000,000

50,000,000

60,000,000

70,000,000

1970 1975 1980 1985 1990 1995 2000 2005

M e t r i c

T o n s

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 tobauxite 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 maybe the key to developing a large bauxite and aluminum industry in the landlocked republic, FinancialTimes , 10/21/2002. Industry updates included in annual issues of the U.S.G.S. Minerals Yearbook thatdiscuss new bauxite mines invariably include the associated alumina refinery that will process the bauxiteand vice versa.8 U.S. Geological Survey, Minerals Yearbook , various years.

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Brazil, Guinea, Jamaica, China, and Russia, are reflected in the changing geographicpatterns of alumina production. North Americas alumina output has actually fallen since1980, while Oceanias output has almost tripled and Latin Americas has almostquadrupled. The largest producers of alumina in 2007, in de creasing order, wereAustralia, China, Brazil, India, Guinea, Jamaica, and Russia. 9

The market shares of companies producing alumina reflect the same patternsevident 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 alsoincludes BHP Billiton, Chalco, and Vale, accounted for almost 64 percent of the worldtotal. Alumina production was reported in thirty different countries in 2007, so thereclearly is a large competitive fringe of alumina refiners around the world. But aluminarefining 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. Ithas major refineries in Australia (Kwinana, Pinjarra, and Wagerup), Brazil (Pocas deCaldas and Alumar), Jamaica (Jamalco), Spain (San Ciprian), Surinam (Suralco), and theU.S. (Point Comfort). UC Rusal has the capacity to refine 10.6 million metric tons peryear. 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 8.5million metric tons per year. It has major refineries in Australia (Gove, Queensland, andYarwin), Canada (Jonquiere), Brazil (Sao Luis), and France (Gardanne). BHP Billitonhas the capacity to refine 4.5 million metric tons per year. It has major refineries inAustralia (Worsley), Suriname (Pariname), and Brazil (Alumar). Chalco has the capacityto refine 4.5 million metric tons per year, with its major refineries in China. Vale has thecapacity 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 veryenergy-intensive. While the location of bauxite reserves and the cost of transportingbauxite to refining sites drive the location of bauxite mines and alumina refineries, accessto cheap electricity is the dominant factor in locating aluminum smelters. 11 Alumina is acommodity, and its value-to-weight ratio makes it economical to transport in bulk carriersover long distances. As a result, alumina economically travels from refineries toaluminum smelting plants located all over the globe.

Aluminum smelting also requires a large investment in plant and equipment. Thetechnology 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

9 U.S. Geological Survey, Minerals Yearbook, 2007 .10 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 PowerShift; 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 asCompanies Seek Cheaper Power, Wall Street Journal , 9/13/07.

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economies of scale in modern aluminum smelters. Minimu m efficient scale for a modernaluminum smelter is 300,000 metric tons per year or larger. 12 Since energy coststypically represent thirty percent or more of total costs, access to cheap electricity iscritical for a smelter to be competitive.

The output of this production process, aluminum cast in ingots or billets, is acommodity with high value relative to weight. As such, it is a commodity and thegeographic scope of the market is worldwide. Aluminum is traded on the London MetalsExchange, so aluminum transacti ons are highly transparent and prices are determined byworld supply and demand forces. 13 This aspect has important ramifications for thevertical connections between primary aluminum producers and downstream fabricators,because it facilitates arms-length transactions between unrelated parties at this stage inthe 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 2006had increased to well past thirty million metric tons. In 1996 the U.S. produced over 17percent 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 and2001 the U.S. fell from first to third, as total U.S. production fell from 3.7 million metrictons to 2.6 million metric tons with the shutdown of several smelters in the Pacificnorthwest. 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 2.4illustrates these trends in U.S. and world output of primary aluminum. Table 2.3 containsannual output for the major aluminum producing countries from 1998-2007.

12 See Hydros AnnualReport 2007 , p. 11, for example.13 The London Metals Exchange added primary aluminum to its list of commodities traded in December1978, and the current high-grade contract began trading in August 1987.

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million metric tons of capacity, most of its U.S. capacity is currentl y idled. These threelargest 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 tonsof 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, twoin Australia, and one each in Slovakia, Germany, and Canada. The sixth largest primaryaluminum 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 aretwo Middle Eastern companies, Dubal of the U.A.E. and Alba of Bahrain. Dubalproduces roughly 950,000 tons of aluminum per year, and Alba produces roughly830,000 tons. The ninth largest primary aluminum producer is Century, with 7 85,000tons 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 thevertical chain of production in aluminum. Some producers are fully integrated, frombauxite mining, alumina refining, and aluminum smelting into downstream fabricationand customer service. Rio Tinto Alcan, Alcoa, and Hydro exemplify this approach.Other companies focus on upstream operations, and do not venture into downstreamextruding, casting, and rolling fabrication processes. UC Rusal, BHP Billiton, andCentury exemplify this business model. Still other producers focus on primary aluminumsmelting, 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 choiceof 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 Northwestin the U.S. to Iceland and Bahrain. Securing a low-cost source of electricity is anecessary condition for the survival of an aluminum smelter. Some smelters accomplishthis via long-term contractual supply agreements, while in other cases smeltingcompanies have actually vertically integrated upstream and acquired or built their ownelectricity generation capacity. 18

The importance of electricity costs in primary aluminum production creates acounterbalance to the impact that growth in demand has had on the location of smeltingfacilities. Table 2.4 contains per capita aluminum consumption per year for selectedcountries from 1980 to 2006. The greatest prospects for growth in aluminum demandexist in populous rapidly developing economies like China and India. Indeed China hasbeen the biggest change agent in aluminum markets for the past decade, on both demandand supply sides. The costs of building new smelting capacity in China are very low by

16 Hydro, Annual Report , 2007 p. 26.17 Smelter ownership and capacity and output information for individual producers is taken from variouscompany websites.18 UC Rusal, Alcoa, and Norsk Hydro are all following this approach with both existing capacity and newlybuilt smelting operations. See Aluminum Industry Puts Focus on Energy Sources, Wall Street Journal ,9/13/07.

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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 isstraining 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 bauxitemines, relationship-specific assets make it efficient for there to be a close organizationalconnection between bauxite mining and alumina refining. Most typically, this isaccomplished by vertical integration. In recent years, almost all new bauxite mines andalumina refineries have been developed jointly, usually with common ownership. BHPBillitons operations in Australia, Brazil, and Suriname provide a good exampleeachbauxite mine is tightly connected in location, capacity, and design to an affiliated aluminarefinery. 20

Alumina is a commodity with relatively high value to weight, so the economicrationale for a tight organizational connection between alumina refining and aluminumsmelting is not as strong as that between bauxite mining and alumina refining.Aluminum smelting is, however, a continuous production process wherein temporaryshutdowns are extremely costly, so assurance of a steady and reliable source of aluminais critical. Some firms accomplish this via vertical integration. 21 In fact, five of the sixlargest primary aluminum producers worldwide run a positive alumina bala nce in theiralumina refining operations relative to their aluminum smelting operations. 22 OnlyNorsk Hydro runs a deficit, and they explicitly state as a corporate goal that they areincreasing their vertical integration in alumina refining to guarantee the supply of alumina to their smelters. 23 Other primary aluminum producers like Dubal and Albaaccomplish alumina supply assurance by joint ventures and long-term supply contracts.

Another major factor in the business models adopted by producers in the upstreamportion of the vertical chain of aluminum production is politics. Political goals influence

primary aluminum producers in different ways. UC Rusal has benefitted from theRussian model of creating national champions, i.e. granting fa vors to companies so thatthey are well-positioned to compete favorably in world markets. 24 Middle-easternproducers such as Dubal (Dubai), Alba (Bahrain), Quatalum (Qatar), Sohar (Oman), andseveral joint ventures in Saudi Arabia have been developed to take advantage of cheapenergy sources as well as to provide jobs for local citizens of each of these countries. 25

19 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 TightGlobal 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 Rusalinternal 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 TopAluminum Maker, Global Finance , November 2006, p. 51.25 Albas website, for example, states that the aim was to establish a suitable industry which wouldprovide valuable export earnings, develop the countrys resources, and create training and employmentopportunities for a large number of Bahrainis.

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14

But while primary aluminum production may be reasonably managed and operated by apoliticized organization, especially if the organization is granted implicit or explicitsubsidies that privately owned for-profit companies do not enjoy, downstream activitiesthat involve less standardized production processes and more interaction with customersdo 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, HotMetal, 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 1998 1999 2000 2001 2002 2003 2004 2005Australia 44,553 48,416 53,802 53,799 54,135 55,602 56,593 59,959 61Brazil 11,961 14,372 13,866 13,032 13,260 17,363 20,950 22,034 22China 12,000 13,000 17,000 22,000 2Guinea 15,570 15,590 15,700 15,100 15,300 15,000 15,254 16,817 16India 9,647 10,414 11,285 12,385 1Jamaica 12,646 11,688 11,127 12,370 13,120 13,444 13,296 14,116 14Other 38,270 38,934 41,505 42,699 48,185 51,591 57,907 66,074 74

Total 123,000 129,000 136,000 137,000 144,000 153,000 164,000 179,000 190,

1World totals and estimated data are rounded to no more than three significant digits; may not add to totals shown.2Table 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 T

Period Area 1:Africa

Area 2:NorthAmerica

Area 3:LatinAmerica

Area 4:EastAsia

Area 5:SouthAsia

Area 6A:WestEurope

Area 6B:East/CentralEurope

AO

Year 1980 708 8,094 4,597 2,298 648 4,507

Year 1985 577 4,560 4,734 1,316 684 4,868

Year 1990 642 6,082 7,405 2,401 5,167

Year 1995 630 5,748 8,504 2,587 7,814

Year 2000 541 5,476 11,503 4,261 5,854 4,769

Year 2001 675 5,469 10,847 4,284 5,927 4,940 1

Year 2002 698 5,486 11,190 4,884 6,101 5,039 1

Year 2003 731 6,094 12,477 5,178 6,120 5,199 1

Year 2004 779 6,887 13,076 5,397 6,377 5,381 1

Year 2005 736 6,928 13,188 5,395 6,560 5,430 1

Year 2006 530 6,799 14,872 5,364 6,748 5,475 1

Year 2007 526 6,076 15,111 5,564 6,809 5,528 1

Year 2008 595 6,160 15,768 5,993 6,951 5,301 1

Source: International Aluminum Institute

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Notes:

Area Countries

Area 1 Africa GuineaArea 2 North America Canada, United States of America, US Virgin Islands (1/1974-12/1988), US Virgin Islands

Area 3 Latin America Brazil, Guyana (1/1974-12/1997), Jamaica, Suriname, US Virgin Islands (10/1995-6/2001

Area 4 East Asia China*, Japan, South Korea* (1/1996-Present), Taiwan (1/1974-6/1981)

Area 5 South Asia Azerbaijan* (1/1974-12/1996), Azerbaijan (1/1997-12/1999), Azerbaijan* (1/2000-PresenPresent), Kazakhstan* (1/1974-12/1996), Kazakhstan (1/1997-Present), Turkey

Area 6A West Europe France, Germany, Greece, Ireland (7/1983-Present), Italy, Spain (10/1980-Present), United

Area 6B East/Central Europe Bosnia and Herzegovina*, German Democratic Republic* (1/1974-6/1990), Hungary* (1/1(7/1991-Present), Montenegro (6/2006-Present), Romania*, Russian Federation* (1/1974(10/1994-Present), Serbia and Montenegro* (1/1974-12/1996), Serbia and Montenegro ((1/1974-12/1997), Slovenia* (1/1974-9/1990), Ukraine* (1/1974-12/1995), Ukraine (1/1

Area 7 Oceania Australia

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Table 2.3: Aluminum, Primary: World Production, by Country 1, 2

(Thousand metric tons)

Country 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007Australia 1,627 1,718 1,769 1,797 1,836 1,857 1,894 1,903 1,932 1,96Brazil 1,208 1,250 1,277 1,140 1,318 1,381 1,457 1,499 1,604 1,61Canada 2,374 2,390 2,373 2,583 2,709 2,792 2,592 2,894 3,051 3,08China e 2,340 2,530 2,800 3,250 4,300 5,450 6,670 7,800 9,360 12,60India 6 542 614 644 624 671 799 862 942 1,104 1,2Norway 996 1,020 1,026 1,068 1,096 1,192 1,322 1,372 1,331 1,30Russia 3,005 3,146 3,245 3,300 3,347 3,478 3,592 3,647 3,718 3,95UnitedStates 3,713 3,779 3,668 2,637 2,707 2,703 2,516 2,481 2,284 2,55

WorldTotal 22,600 23,600 24,300 24,300 26,000 28,000 29,900 31,900 33,900 37,901World totals and estimated data are rounded to no more than three significant digits; may not add to totals shown.2Primary aluminum is defined as "The weight of liquid aluminum as tapped from pots, excluding the weight of any alloymaterials 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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19

Table 2.4: Per Capita Aluminum Consumption of Selected Countries Pounds per Person per Year

1980 1990 1994 1998 2000 2002 2003 2004

Australia 38.9 40.9 43.7 40.1 42.7 45.0 50.9 51.3 Brazil 6.5 4.7 6.7 9.4 8.6 9.0 8.3 9.1 Canada 35.5 47.9 55.3 66.5 73.7 63.3 64.4 68.4 China n/a n/a 3.1 4.7 7.8 8.8 10.9 13.0 France 31.5 38.3 38.0 43.7 50.4 48.9 48.1 48.1 Germany 54.8 65.3 54.9 60.0 63.5 67.4 66.9 60.5 Greece 13.0 12.8 15.0 27.6 30.9 32.0 33.1 37.3 India 2.2 2.2 n/a 1.3 1.4 1.4 n/a n/a Italy 32.3 42.6 46.1 52.5 61.5 62.6 66.7 66.7 Japan 42.9 69.1 64.0 61.2 67.3 61.7 67.9 71.1 Korea, Republic of 4.2 n/a n/a n/a n/a 46.1 46.9 51.5 Mexico 5.6 4.8 5.7 11.1 11.9 11.0 16.3 17.4

South Africa, Republic of 9.9 6.2 7.7 10.8 9.8 10.3 9.2 8.2 United Kingdom 18.0 26.4 30.9 33.6 27.1 40.3 40.2 31.7 United States 56.7 59.2 67.9 72.7 76.0 64.2 64.5 65.6 Venezuela 15.3 18.3 12.5 12.2 11.2 11.0 11.8 12.0


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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 arethe three major segments of the downstream part of the aluminum industry.

A part of the industry that straddles upstream and downstream elements of theindustry is secondary aluminum production. Aluminum ingots can also be produced fromrecycled aluminum by secondary aluminum smelters. These smelters combine recycledaluminum with primary aluminum to produce ingots and billets of aluminum. Thisrecycled aluminum comes from both pre-consumer scrap, called new scrap, and post-consumer scrap, called old scrap. Pre-consumer scrap is the waste from downstreamaluminum 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, aswell as the value of shipments (in 2007 dollars). The production of secondary aluminumincreased steadily from less than one million metric tons in 1970 to a peak of 3.7 millionmetric tons in 1999. Between 2001 and 2006, production has been around 3 millionmetric tons. As expected, the value of shipments has followed roughly the sametrajectory (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. Forexample, the increase in aluminum prices in the early part of this decade resulted in anincrease in the value of shipments since 2002 despite little if any increase in productionduring 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 15million tons in 2004. In addition to the United States, Europe has a large secondaryaluminum industry, followed by China, and Japan.

Figure 3.2 shows employment trends in the U.S. secondary aluminum industryover the last 10 years (earlier years are not available). The chart shows that employmentincreased 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 decadeindicate that there has been little change in labor force productivity during this timeperiod. As we will see below, this is in sharp contrast to the rapid increase in laborproductivity experienced by downstream fabricators. This perhaps is due to the matureand stable technology use by secondary aluminum producers as opposed to the technicaladvance in many aspects of downstream fabrication.

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

0

1,000

2,000

3,000

4,000

5,000

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7,000

8,000

9,000

0

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M i l l i o n s o f

d o l

l a r s

T h o u s a n

d s o f m e t r i c

t o n s

YearSecondary production Value of Shipments

Source: U.S. Geological Service

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

0

1,000

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9,000

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

E m p l o y m e n

t

Year

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

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

0

500,000

1,000,000

1,500,000

2,000,000

2,500,000

1 9 7 0

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2 0 0 0

2 0 0 3

2 0 0 6

Year

M e t r i c

T o n s

Old Scrap

New Scrap

Source: The Aluminum Association

Figure 3.4: U.S. Aluminum Beverage Can Recycling Amounts and Percent

0

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1,000

1,500

2,000

2,500

1 9 7

2

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5

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1

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P o u n d

0

10

20

30

40

50

60

70

80

P e r c e n

t o f C a n s

Pounds Percent

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

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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 increasein both new scrap and old scrap over this time period. Use of new scrap increaseddramatically 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 wasfrom old scrap. Recovery of new scrap peaked in 2000, at 2 million metric tons. Newscrap declined somewhat between 2000 and 2003 but has risen steadily between 2003and 2006. In 2006, recovery of new scrap had almost reached the 2000 level of 2 millionmetric tons. Recovery of old scrap began to decline in 1999, when recovery was at 1.6million tons. However, recovery of old scrap increased only moderately during thisdecade; 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 beveragecans in the United States. The recycling of aluminum cans increased from 53 millionpounds 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 67percent 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, only1.5 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 since1990, including during the last ten years (Bertram et al., 2006). However, only in 2005did the percentage in Europe exceed 50 percent. Thus, a sizable amount of aluminum isproduced but not recycled, particularly for beverage cans.

However, aluminum recycling occurs for many products other than beveragecans, such as cars, airplanes, and consumer durables. The construction industry is a largeuser of aluminum, both domestically and internationally. Buildings contain a sizableamount 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 85percent; 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, itis 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 isroughly twice the quantity of output casters and of extruders.

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Figure 3.5: U.S. Shipments of Aluminum Castings, Extrusions, and Sheet,Plate, and Foil, by Weight

-

2,000

4,000

6,000

8,000

10,000

12,000

1988 1990 1992 1994 1996 1998 2000 2002 2004 2006

Year

M i l l i o n s o f

P o u n

d s

Castings Extrusions Sheet, Plate, and Foil

Sources: U.S. Department of Commerce (Bureau of the Census) and The Aluminum Association

Figure 3.6: Value of Shipments of U.S. Aluminum Castings, Extrusions, andSheet, Plate, and Foil

0

4,000

8,000

12,000

16,000

20,000

1988 1990 1992 1994 1996 1998 2000 2002 2004 2006

Year

M i l l i o n s o f

2 0 0 6 D o l

l a r s

Castings Extrusions Sheet, Plate , Foil

Source: U.S. Department of Commerce (Bureau of the Census)

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Figure 3.6 shows a similar chart only with regard to the dollar value of shipmentsrather than weight. As above, the dollar value of shipments of sheet, plate, and foil is thelargest of these three segments. However, the amount above the other two segments issmaller. 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 withapproximately 20,000 workers in 2002. In that same year, extruders employed roughly30,000 workers and casters over 50,000.

Thus, among the downstream segments, casters are more important regardingemployment, followed by extruders and rolling mills. Regarding production, rollingmills is the largest, then casters and extruders.

Figure 3.7: U.S. Employment for Aluminum Castings, Extrusions, andSheet, Plate, and Foil

0

1020

30

40

50

60

70

1988 1990 1992 1994 1996 1998 2000 2002 2004 2006

Year

E m p

l o y m e n

t ( T h o u s a n

d s )

Castings Extrusions Sheet, Plate, Foil

Source: U.S. Department of Commerce (Bureau of the Census)

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 totrack recessions and recoveries, there has been a fairly steady increase so that productionin recent years, by weight, is over twice what is was in the mid-1970s. Real GDP for theU.S. economy grew by a factor of 2.4 over the 1975-2005 time period, so production inthis part of the aluminum industry kept approximate pace with the rest of the economy.

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

-

2,000

4,000

6,000

8,000

10,000

12,000

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1 9 9 8

1 9 9 9

2 0 0 0

M i l l i o n s o f p o u n

d s

YearU.S

Source: Aluminum Association

Figure 3.9: Value of Shipments and Employment

0

5000

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15000

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0

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E m p l o y m e n

t .

M i l l i o n s o f

d o l l a r s .

Year

Value of Shipments Employment

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

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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 outputby weight. This is because it reflects both variations in quantity produced and in theprice 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 aswith quantity produced. In contrast, there is a clear and substantial downward trend inemployment (measured on the right-side scale), falling from over 30,000 to around20,000 in the past three decades.

While the decline in employment may seem disappointing, the growth in laborproductivity that the above numbers entail is quite remarkable. In the mid-1970s, laborproductivity was approximately 150 thousand pounds per worker. By the mid-2000s thishad increased to over 500 thousand pounds per worker. Additionally, producers werereceiving 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

-

2,000

4,000

6,000

8,000

10,000

12,000


d s

Year

Imports Exports U.S Supply


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

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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 andexports relative to domestic production is smaller, indicating that lower valued productsare 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 about2,500 million pounds to around 4,000 million pounds in the early 2000s.

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

-

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

4,500

1 9 7 0

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1 9 9 9

2 0 0 0


d s .

Year

U.S


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 declinein the early 1990s, followed by further spells of increase and decrease such that by themid-2000s, the value of shipments was near its earlier peaks in the early-1990s and late-1990s. Given the steady increase in tonnage produced since 1990, the variability in valueof shipments is attributable to variations in the market value of the goods manufactured.

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Figure 3.12: Value of Aluminum Shipments and Employment

0

5000

10000

15000

20000

25000

30000

35000

0

1000

2000

3000

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5000

6000

7000

8000

9000

N u m

b e r o

f e m p l o y e e s .

M i l l i o n s o f

d o l

l a r s .

YearValue of Shi ments Em lo ment

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

Employment displays a somewhat variable pattern, though generally risingthrough the 1970s and 1980s, but showing a decided downward trend since the mid-1990s. The increase in tonnage produced combined with a fall in employment againillustrates a marked increase in labor productivity. Productivity rose from around 83thousand pounds per worker in 1990 to about 160 by the early-2000s.

Figure 3.13 shows the trend regarding international trade in this segment. Notsurprisingly, the trendlines in both imports and exports are up. Since the early-1990s, thequantity 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 isnot as dramatic. As a share of total output produced (by weight) by the domesticindustry, exports are about 10 percent and imports are almost 30%.

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

-

200

400

600

800

1,000

1,200

1988 1990 1992 1994 1996 1998 2000 2002 2004 2006

Year

M i l l i o n s o f

P o u n

d s

ImportsExports

Source: The Aluminum Association

3. Aluminum Foundry Castings

The production of aluminum foundry castings increased sharply during the 1990sand 2000s. This is true of both value of shipments shown in Figure 3.14 and productionby 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 pricevariability.

Employment, shown on the right-side scale in Figure 3.14, rose through the mid1990s, but has been in decline since then. The increase in output combined with adecline 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 37thousand 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. Thescale for these numbers is on the right-hand side and is a different order of magnitudethan 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 fourfoldincrease. Despite this dramatic increase, imports and exports are still small, amounting toless than one percent of total U.S. production of castings.

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Figure 3.14: Value of Aluminum Castings Shipments and Employment

0

10000

20000

30000

40000

50000

60000

70000

0

5000

10000

15000

20000

25000

N u m

b e r o

f e m p l o y e e s

M i l l i o n s o f

d o l

l a r s

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

-

5

10

15

20

25

30

35

40

45

50

0

1000

2000

3000

4000

5000

6000

1970 1975 1980 1985 1990 1995 2000 2005


d s

Year

U.S Supply Import s Export s


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C. Location and the Viability of Downstream Production in the U.S.

This section discusses the location of aluminum fabrication in the U.S., whatfactors are important for location, and how they matter in the different downstream

segments. The factors we consider in this regard are economies of scale, transportationcosts, product differentiation and specialty products, and relationships to customers.

Economies of scale means lower unit costs for facilities with a larger productioncapacity. 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 perhapsother factors. High transportation costs reduce the advantage of the economies of scale inhigh-output facilities. Thus, there is an interplay between these two factors. Economiesof scale indicates a few large facilities. If transportation costs are high, these facilitiesmay be smaller, greater in number and located with the transportation costs of materialsand of the final product in mind.

Minimal scale economies argue for a multitude of smaller facilities. Locationdepends on the cost of getting the resources to the plant relative to transporting the finalgood to the customer. These facilities will follow one or the other depending on the costof each.

Makers of highly differentiated products or specialty goods often have a morelimited market and so economies of scale are less important. Smaller facilities areimplied. Relationships with customers are also important and may be intertwined withthis factor. Specialty product makers may have a close working relationship to customersand a nearby location is advantageous. Also, customer service relationships generally aremuch 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 threedownstream 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 anywherein the world. Naturally, aluminum scrap is a key input and the source of scrap isimportant. Because of transportation costs in acquiring scrap, most scrap does not travelfar. The exceptions to this are labor-intense scrap and can scrap. Labor-intense scrapis aluminum scrap mixed with other things. This is often shipped to low-wage countriesfor separation. Can scrap is a homogeneous, near-commodity form of aluminum scrapthat can be compressed and shipped at low cost.

Much of the source of scrap for secondary smelters, though, is the wastedaluminum from downstream fabricators. This scrap is collected, melted, and reformedinto ingots and bars, and sold back to the marketplace. The transportation costs of scrapcollection make it sensible to locate secondary smelters near the downstream fabricatorsthat are the major sources of scrap.

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Economies of scale in secondary smelting are not very large and energy costs are lowrelative 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 theirsources of scrap, i.e., in a cluster of downstream fabricators.

Consistent with this is that it is not uncommon for secondary smelters to locateadjacent to their best customer. In fact, contractual arrangements often exist creatingdedicated customers, where the smelter collects all of a fabricators scrap and supplies agiven amount of ingot in return.

2. Rolling Mills

Of the major downstream segments, facilities in this segment typically requirelarge amounts of sophisticated capital equipment. As a result, it exhibits the greatesteconomies of scale. Consequently, there are a limited number of rolling mills, and eachhas 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 gradesand types of can sheet, but each type is quite homogeneous. Despite the commodity-likeaspects, many of the products made by rolling mills are quite technologically advanced.For example, suppliers of can sheet maintain a competitive advantage by makingtechnically sophisticated advances such as producing stronger and lighter sheet material.

Transportation is not a major issue in this segment of the industry. Naturally, animportant input to aluminum rolling is ingot, though some facilities melt some scrap fortheir 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 industryconsists of very large plants that serve a regional market. Whether firms in this segmentare 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 extrudedproducts are commodity-like but some are high-tech, specialty products. Among themany commodity-like extruded products technology has not been important. Doorframes 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 stringentquality standards. Another example is in mass transit, where some manufacturersproduce a single sheet for manufacture of a mass transit car.

Economies of scale generally are modest. As a result, there are hundreds of extrudersin the U.S. With some exceptions, technological advances have not been substantial,therefore extruders focus on areas like customer service to differentiate themselves fromtheir competitors. This implies small facilities dispersed across the U.S. that mirrors thedispersion of users of extruded products. An important example of this is window frames

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and other construction supplies. Responsive service to construction companies andbuilders is important, implying location near construction activity. While there areexceptions to this for some extruded products (e.g., aluminum ladders), the above is quitecommon.

4.

Cast Products

Like extrusion, casting involves a heterogeneous set of products. Cast products areused in a variety of industries, examples of which include automobiles, lawn and gardenequipment, and appliances. Cast products vary from the very basic (e.g., patio grills) tocarefully engineered products developed in cooperation with customers (e.g., specialtyauto parts). Thus, foundries have substantial diversity in their size and technicalsophistication. 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 scaletypically 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 thecustomer. In some cases, the cooperation is so close that contracts are devised regardingownership of the dies, e.g., the customer owns the die or the shape the fabricator makesas their intellectual or physical property. Additionally, some of the parts produced arefor just-in-time inventory production systems. These imply a steady working relationshipwith 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 createdfrom a list of primary and seconda ry aluminum production sites from the U.S.Environmental Protection Agency. 27 The current status of each facility was investigatedvia the internet, and plants that were closed as of the summer of 2008 were excludedfrom 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 thepoints made above.

Consider first the location of aluminum facilities in Ohio (page 69). The largenumber of casting foundries in Ohio is easily seen. Though large in number, they areconcentrated in major commercial/industrial locations in Ohio. One major cluster is in

the Cleveland area and northeast Ohio around Akron and Youngstown. The other clusteris along Interstate 75 from Cincinnati and continuing northward until just north of Dayton. Both of these regions are known for their substantial manufacturing base. Thereis a large population base in these areas, too.

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

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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 northeastOhio and along Interstate 75. This pattern of location for extruders and casters isconsistent with the discussion above. Because of the lack of scale economies and thedifferentiated 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 andtheir customers. Both imply locations near the customers. Thus, the concentrations inthe 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 innortheast Ohio, clustering with the large number of extruders and casters. The latter arepotential sources of scrap and customers. Recall that close location for sources of scrapis 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 alarge number of casting foundries and extruders located in northeast Indiana. This largenumber is, as noted previously, due to the minimal economies of scale in these segmentsof the industry. Northeast Indiana is an area encompassing the small cities of FortWayne, 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 andextruders in northeast Indiana. This is similar to the pattern found in Ohio and reflectsthe need of secondary smelters to locate near sources of scrap. Consistent with this, thereare secondary smelters in the Gary, Indiana area to access the sources of scrap from thelarge 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 stillconsistent with the previous discussion. Kentucky has a large number of secondarysmelters 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 muchfewer in number than casters, extruders, and secondary smelters and are not alwaysclustered with the aluminum fabricators. This is as expected from the above reasoning.There are substantial economies of scale in rolling mills, implying fewer, but largercapacity facilities. Many rolled products are readily transportable and the commodity-like aspect of many rolled products does not necessitate close, everyday relationshipswith 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

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foundries, extruders, and secondary smelters in the Los Angeles area. This area has alarge manufacturing base and a very large population base. A smaller cluster is in theBay Area. The large number of extruders and casters in large, commercial/industrialareas is similar to the previous examples. Likewise is the co-location of secondarysmelters 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 aluminumfoundries and extruders in commercial/industrial and population centers. Secondarysmelters tend to cluster with these processors. This underscores the importance of thelocation of the processors customers. The minimal economies of scale and frequentneed for customer service and interaction in these segments of the industry make locationnear their customers sensible. Secondary smelting operations will follow in order to benear 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 and3.17 present some data in this regard.

Figure 3.16 shows shipment of all aluminum mill products by the industry of thebuyer, from the 1960s to the mid 2000s. From the earliest part of this period to the early1990s, the biggest growth of customers for aluminum mills was the containers andpackaging 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 reached5,000 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 productssold 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 sincereturned to its trend.) In 2006, containers and packaging accounted for 28.5% of millproducts 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 extrudedproducts only. While the construction and building and the transportation equipmentindustries have been important customers for extruders for a long time, the dramaticgrowth 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

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1,000

2,000

3,000

4,000

5,000

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

Year

M i l l i o n s o f

L b s

.

Building &

ConstructionTransportation

ConsumerDurablesElectrical

Machinery &EquipmentContainers &PackagingOther

Exports


Figure 3.17: Total Extruded Shapes Shipments by Industry

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200

400

600

800

1,000

1,200

1,400

1,600

1,800

2,000

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

Year

M i l l i o n s o f

L b s

.

Building &ConstructionTransportation

ConsumerDurablesElectrical

Machinery &EquipmentContainers &PackagingOther

Exports


Given the above trends, it seems clear that the viability and growth of extrudersand foundries depends heavily on the continued presence and growth of the building andconstruction and the transportation equipment industries in the U.S. To put this anotherway, the susceptibility of extruding and casting to offshoring depends on whether thefinal manufacturer can go offshore. The final manufacturers that use these products areincreasingly 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

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regionalized. The continued growth of aluminum fabrication in the U.S. depends, tosome 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 theconstruction industry will be in large population centers, growing in wealth and/ornumbers. Aluminum fabrication will tend to follow this, both in the U.S. and worldwide.

A substantial amount of fabrication for the transportation equipment industry alsois dependent on its location. For example, high value added casting facilities, such as thetype for automotive plants, are located near automotive plants. Likewise for plantsproducing for just-in-time inventory systems. Offshoring will only occur if the customermoves offshore. Transportation equipment makers, to some extent, follow the retailconsumer. Auto assembly is important in the U.S. because of the large customer basehere. A growing transportation sector in the U.S. will imply growth in the U.S. presenceof 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 largeeconomies of scale and high capital requirements that can make it difficult to simplymove large, existing operations offshore. A major customer of rolling mills is thecontainers and packaging industry, though transportation and construction are growing inimportance. The importance of being located near this customer base probably is lesscrucial than for extrusion and casting, however, even if manufacturers of these finalgoods 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 commoditythat is widely traded on well-established markets, there generally are not compellingreasons for vertical integration from primary aluminum smelting forward intodownstream fabrication. Thus, the fully-integrated aluminum company has becomeincreasingly less common.

Within downstream segments of the industry, independently-owned firms areoften the case, though not universal. Many casters are independent firms, but some areintegrated with other firms. For example, Toyota is backward integrating, partly in anattempt 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 soldthem to third-party buyers. Other casters have close contractual connections tocustomers. One large caster has dedicated facilities for Ford. As noted above, somecasters have relationships with customers involving design and manufacture of parts anddies 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 distinctfrom 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 semi-fabricated product. This technique adds considerable value and some primary producershave integrated forward to produce this product. However, continuous strip castingaccounts for only a small percentage of the market for primary aluminum.

Regarding extruders, many are independent firms. Alcoas presence in extrusionis diminishing as it has sold many of its extruders. There has been a lot of consolidationamong extruders recently. Older extruders, which have lower efficiency and higherpollution, are going off line.

Secondary aluminum smelting operations often are stand alone, independently-owned operations. Even if this is the case, these operations may be closely tied tofabricators with contracts to take their scrap and supply them with ingot. Also, somelarger 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 aluminumfabricators in the U.S. is linked to the viability of the continued presence of the domesticaluminum 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 worldwideeconomic growth will occur overseas. A continuation of the economic liberalization inChina and India will endanger further economic growth there. Likewise for Brazil, Chile,and possibly other Latin American countries. Other parts of the world also mayexperience significant growth. This suggests a growing presence of manufacturing of final products that use aluminum, and the following of aluminum fabricators to thoseparts of the world. Thus, while aluminum fabrication may increase its presence in theU.S., it may grow even faster in other parts of the world.

One factor that may temper this conclusion is that there remain some countryrisk 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 rawmaterials and/or labor availability and political factors favoring upstream production.

The latter can take the form of governments subsidizing (explicitly or implicitly) largecapacity facilities and retaining a significant measure of control over these enterprises.

While this may function well enough for survival of alumina production andprimary smelting, it is unlikely to work in many downstream fabrication markets. Theformer types of enterprises tend to be low-tech, high-volume, with well-knownproduction processes that are straightforward to implement. This type of productionprocess can be tolerably controlled via bureaucratic methods that come with governmentinvolvement. 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 tochanging customer needs, and adjust to changing technologies. This entails nimble,market-oriented firms that only the private sector can provide. Governmentallysupported 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 environmentalissues. The aluminum industry will fare well under any policy initiatives that encouragerecycling. 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 othermanufacturing if policies are implemented that penalize power consumption. Primaryaluminum production, which requires a lot of electricity usage, will be disadvantaged byany such policy.


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

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economic forces

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