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How the global aluminium market killed Tiwai Point

It's time to accept Tiwai Point really is dead, because Rio Tinto only wants a future involving its own power plants or where it can get rock bottom power prices secured for decades, says Rod Oram

Some people who should know better still keep calling on fellow New Zealanders to save the Tiwai Point aluminium smelter.

The latest is Winston Peters. He pledges that any future government New Zealand First is part of would support a worker/management buyout. It’s an idea he’s touted since 2011, he reminded us in an article under his name in the Herald on Thursday.

Similarly, Steven Joyce, the National Party’s chief economic strategist for nine years in the Key and English governments, was all for subsidising the smelter to keep it alive in his Herald column last week.

Here, though, is the case the smelter really is dead. The sooner we acknowledge that, celebrate its past and work on Southland’s future the better off we’ll all be - particularly the 1,000 people directly hit by the smelter’s planned closure next August.

Yes, aluminium is a versatile metal, essential in many industrial applications and infinitely recyclable and reusable. And, yes, our smelter makes very high purity aluminium with very low greenhouse gas emissions because of its hydroelectric power.

But Tiwai Point is likely in the top 20 percent of the most expensive smelters in the world to run. Aluminium is such an utter commodity, though. The small premiums for purity and low emissions are far less than Tiwai Point needs to be economically viable.

Moreover, Tiwai accounts for only 0.5 percent of global aluminium supply. It is a victim of massive market dynamics it can’t defy. There is no such thing as artisanal aluminium which people will pay heaps for because of who makes it, where and how. And anyway, only the electricity and workers are Kiwis.

At first glance, Tiwai Point would have a future if humankind was responding rationally to the climate crisis. We should all pay a steep carbon tax on aluminium smelted by fossil fuel power, which is two-thirds of global supply. Such a levy would instantly make most aluminium smelted by clean power more profitable.

But life is more complicated than that. First, the clean aluminium out of Tiwai Point comes with heavy carbon baggage. Copious fossil fuels are used to mine the bauxite and refine it into alumina in Australia before that raw material is shipped to Tiwai Point.

Second, only the lowest cost hydro-powered smelters can compete against highly efficient smelters powered by very low cost fossil fuels. For example, Middle East smelters use essentially free gas which is a by-product of their oil fields. The Chinese burn coal in high efficiency steam-driven electricity generators in the massive fleet of highly energy efficient smelters it has built over the past 15 years or so. So even if governments and consumers accepted a carbon tax it would only save clean smelters lower down the cost curve than Tiwai Point.

Next, it’s instructive to look at global supply chains. Three large aluminium smelting countries are also large miners of the bauxite raw material: China is number 1, accounting for nearly 60 percent of global aluminium supply; Canada is 4th, with 5 percent; and Australia is 6th with 2.5 percent.

The Chinese industry has a future because it goes from bauxite mines to large industrial customers for aluminium in the cars and myriad other products they make. Given the breadth the sector is less exposed to any adverse costs along the way, even, ultimately carbon charges.

Australia still has a future as a miner of bauxite. But downstream it is struggling with rising energy costs on its fossil fuels and eventually carbon charges. It has limited local industrial consumption of aluminium so it is vulnerable to the vicissitudes of the global commodity aluminium market. Thus its aluminium sector is under threat.

Canada has bauxite at one end of the supply chain, vast and cheap hydroelectric supplies in the middle and still some industrial consumption of the metal in, for example, its car industry, at the other end. Thus, its aluminium sector has a future.

For well over a decade, Rio Tinto has been responding logically to these global trends. It’s been trying to sell its Australasian assets -- which had a net loss of US$137m last year, about one-third from Tiwai and the rest from Australia-- while investing heavily in its Canadian assets.

Unable to find buyers for its three Australian smelters – two coal powered, and one hydro -- it is struggling yet again to reduce their electricity costs. At Rio’s annual results presentation in February, its chief executive Jean-Sebastien Jacques said the three were on "thin ice." Rio is in discussions with federal and state authorities on the issues. Reportedly, it is once again playing hard ball in Tasmania, seeking a 30 percent cut in prices of hydro-electricity to keep its Bell Bay smelter running for now.

In contrast, Rio Tinto made a huge bet on Canada in 2007 which almost killed the company. It made a friendly bid of US$38 billion for Alcan, the Canadian producer, to counter a hostile US$27 b bid from Alcoa of the US. By the time Rio completed the deal that November the Global Financial Crisis was ripping through the world.

Crucially, though, Rio Tinto bought smelters and hydro plants in Canada so it has very low cost electricity, with absolute certainty of supply and price into the future. Thus, for example, it is investing US$500 million on modernising its power plant and smelter at Kitimat in British Columbia, which is due for commissioning next year.

At the main concentration of its smelters and power plants in Quebec, it has formed a joint venture company with the federal and provincial governments to commercialise a new smelting technology which promises to have zero emissions. Alcoa began this research which solves the problem of emissions when carbon anodes are consumed in the smelting process. The company, Elysis, is also backed by Apple, a major customer for aluminium in its phones and computers, and the Canadian federal government which has chipped in C$60m.

So, Rio Tinto’s aluminium strategy is clear and rational: electricity accounts for roughly one-third of smelting costs. So it is securing guaranteed, very low cost supplies, preferably from its own power plants. Then it will work on reducing emissions where it is still using fossil fuels. If you want to dive deeper into this, Rio’s latest annual strategy report and sustainability report are useful reading.

Rio says its Canadian smelters are “in the first decile” on the global cost curve – that is they are among the lowest cost 10 percent in the world. It won’t say where Tiwai stands but industry evidence suggests it is around the eighth percentile, putting it among the 20 percent which are the most expensive in the world.

The difference in costs between the first and eighth percentiles is not huge – say, US$1,250 per tonne of aluminium versus US$1,650. Electricity is the biggest variable in that, given it accounts for roughly one-third of those costs, whereas the alumina raw material is a globally priced commodity accounting for roughly another third. Labour costs are also a factor, with rates far higher here, Australia and in other developed countries than in say the Middle East or China.

Rio was demanding a one-third cut in electricity costs here (generation and transmission combined). Our electricity sector worked very hard and met that demand. This is what Neal Barclay, chief executive of Meridian Energy, which owns the Manapouri hydro generator that supplies most of Tiwai’s electricity, told analysts shortly after Rio announced it was unable to reach a deal so it would close Tiwai next August:

“Recently, the industry came together and we were able to add in a transmission underwrite.

“The total value of the package was $50m [per year] from the get-go, and increasing to close to $60m, $70m over the next three years. We understand it met the US dollar energy-delivered cost target that they talked to us about mid-last year. We understand it got the smelter to the midpoint globally. So from our perspective, it still looked like a compelling smelter going forward.

“As recently as Tuesday, I was talking to [Rio’s] Managing Director of Pacific Operations and reiterating our message we had given them some time ago, that we could actually do better than that if there was a stronger commitment to New Zealand. What we were talking about there was a commitment for the full 10 years of the contract. If Rio Tinto had been willing to stump up for that, then we could have got them a long way, we think, towards their ask of a third off, which was introduced to us last December.”

But Rio wouldn’t even sign up for a few more years to see how global markets might revive. Clearly, Rio only wants a future involving its own power plants or where it can get rock bottom prices secured for decades. That’s why, for example, it is also playing very hard ball over its smelter in Iceland.

Rio is only prepared to accept drastically discounted electricity prices from established generating sources rather than bearing the true economic cost.

About 70 percent the size of Tiwai Point but employing only half the staff of Tiwai, the Iceland plant racked up losses of some US$85 m last year and has been loss-making for eight years. Rio Tinto Aluminium’s chief executive Alf Barrios said earlier this year that the smelter’s performance “is currently unprofitable and cannot compete in the challenging market conditions due to its high power costs.”

Rio is demanding hefty price cuts from Landsvirkjun, Iceland’s publicly-owned electricity company. The country is a world leader in hydro and geothermal power, generating 100 percent of its needs from these renewable sources.

Iceland has plenty more of such resources. But it seems that Rio is only prepared to accept drastically discounted electricity prices from established generating sources rather than bearing the true economic cost.

Establishing the true cost here is impossible because there’s nowhere we could build another hydro plant the size of Manapouri, which is by far our largest. But for the sake of comparison, in 2010 Mercury Energy invested $430 m to build the 132 MW Nga Awa Pura geothermal plant north of Taupo. Matching the capacity of Manapouri with such technology would cost the thick end of $3b.

.. that was eight years ago, time we've wasted. Now we have only a year to get our act together.

So, absolutely no. We should never subsidise Rio to that degree. The economic return we get from Tiwai Point is already ridiculously meagre, with all due respect to the 1,000 people who work there, as I reported in last week’s column.

Actually, the global aluminium industry’s been telling us all this since at least 2012, if we’d been listening rather than indulging in wishful thinking. As I wrote at the time:

“The Tiwai Point aluminium smelter has no future. We can deal with its demise in an orderly and economically positive way over the next few years; or chaotically and damagingly later.

“Logically, three big things need to happen over the next five years: Meridian and Rio must agree on an electricity pricing formula that would enable an orderly phase out of the smelter; generators and the government must work on helping the electricity market absorb Manapouri’s capacity; and Southland and the government must cooperate on the region’s economic development.”

But that was eight years ago, time we've wasted. Now we have only a year to get our act together.

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