Aluminium companies looking at acute margin compression on higher input cost

Mumbai: Despite robust demand, aluminium makers are staring at intense compression in operating margins to the tune of 1,200 basis points to 22-24 percent this fiscal due to lower realisation and higher production cost, said a report. However, aluminium companies are expected to maintain robust operating profits due to healthy domestic demand, said a report by CRISIL.

Operating margin of primary aluminium producers is expected to decline more than 1,200 basis points (bps) this fiscal to 22-24 percent from a decadal high of 36 percent last fiscal, due to lower realisations and higher cost of production, mainly power, CRISIL said in a report on Monday.

Aluminium producers' operating margin to retreat closer to past levels

Aluminium producers saw record earnings last fiscal on the back of strong realisations — prices reached a historical high amid post-Covid economic recovery, with the global aluminium market turning supply-deficit.

In the current fiscal, however, operating margin is seen retreating closer to past levels, but will still be higher than the average of 17 percent over fiscals 2017-21, said the report based on the analysis of three companies which account for the entire domestic capacity of 4.1 million tonnes.

In spite of the moderation in margins, operating profit may remain better than the past five-year average, partly due to strong demand growth of 6-7 percent on-year mainly from the power and construction sectors. The two sectors comprise 70 percent of the total sales volume.

For primary aluminium makers, profitability is a function of global and domestic factors that affect prices and costs. London Metal Exchange (LME) prices for aluminium have fallen 40 percent from its March 2022 peak to USD 2,300/tonne now primarily because of the extended lockdowns in China and the growing recessionary pressures impacting global demand.

On the other hand, global supply remained robust driven by production increases in China which controls 55 percent of global capacity, amid relaxation of power restrictions.

Prices are expected to remain range-bound

According to Ankit Hakhu, a director at the agency, prices are expected to remain range-bound around current levels in the second half, supported by low inventory levels at LME and recent production cuts in Europe, which may partly offset the impact of higher Chinese production.

Overall, global demand is expected to contract 1-2 percent this year after growing over 5 percent in 2021, against an expectation of a moderate growth in global supply this year. As a result, LME prices will average USD 2,300-2,500/ tonne in 2023, down from USD 2,774/tonne in 2022, and the domestic realisations are also expected to dip in sync, as they are driven by the landed cost of imports.

Production cost may rise due to rising coal prices

However, the production cost for domestic producers may rise 10 percent due to rising coal prices. The cost of power, constituting 30-35 percent of production cost, is projected to increase the most among all costs (by 40-50 percent), fuelled by an increase in energy demand and disruption in global supply chains brought on by the Ukraine war.

Producers rely on market purchases for 30 percent of their coal demand. Further, for linkage coal, materialisation will be lower this fiscal as priority is being accorded to the power sector.

Greenko to develop 400 MW RE capacity for Hindalco's aluminium smelter

Despite the increase in input cost, the cost for domestic producers is still among the lowest in the world, driven by highly integrated operations with 70-75 percent backward integration, on average. As a result, domestic producers currently export over 60 percent of their annual output, and average of 50 percent over the past five fiscals.

According to Ankush Tyagi, an associate director at the agency, producers are increasing their smelter capacity by 30 percent and alumina refinery capacity by over 100 percent along with increase in value-added capacities over the next five fiscals, at a total capital outlay of Rs 70,000 crore to meet the growing export demand along with healthy domestic demand from auto and renewable energy sectors.

(With PTI inputs)

(PSU Watch– India's Business News centre that places the spotlight on PSUs, Bureaucracy, Defence and Public Policy is now on Google News. Click here to follow. Also, join PSU Watch Channel in your Telegram. You may also follow us on Twitter here and stay updated.)