Decision time: Aluminium heads downstream with help from a dedicated fund

As the country’s first heavy industry to be developed, aluminium remains a cornerstone of the Kingdom’s industrial base. The GCC industrial landscape has changed dramatically since 1968, when the Kingdom established Aluminium Bahrain (Alba) and began developing the aluminium sector. At the time, the region was emerging as a major contender for aluminium smelting thanks to its proximity to a ready supply of natural gas that could be used to fuel the energy-intensive processes.

Indeed, global aluminium production has increasingly shifted toward the developing world, and in particular regions that have the raw materials or abundant energy resources, such as the GCC, are best placed to take advantage. World production of aluminium stands at around 41m tonnes per annum (tpa). The GCC’s share of this production has steadily increased from 4.9% in 2005 to around 8.5% in 2011. Over the next 10 years, this share is expected to leap further to 10% of the global market, according to the Gulf Aluminium Council. This is thanks to the construction of a number of new smelters in the region, as well as the expansion of existing facilities. This all points to increased competition for the well established Alba.

INCREASED COMPETITION: In Saudi Arabia, the UAE, Oman and Qatar, policymakers took note of Bahrain’s success and sought to replicate it. These countries are also looking to form their own aluminium clusters of midstream manufacturing firms built around a smelter, once again using proximity, this time to the production site, as a means of reducing costs. Examples include the 720,000-tpa smelter at Ras Al Zour in Saudi Arabia, as well as the 1m-tpa facility operated by the UAE’s Dubai Aluminium Company. Also in the UAE, Emirates Aluminium manages a smelter that at present has a capacity of 750,000 tpa but will be expanded to 1.3m tpa.

According to Alba’s CEO, Laurent Schmitt, 3m tonnes of additional capacity will be needed every year over the next decade to compensate for rising global demand (estimated at an average of 6% per annum) as well as the closure of obsolete smelters. “Because of this growing demand, Alba welcomes the newcomers in this industry, especially our GCC colleagues, who will, together with Alba, contribute to supporting international demand for competitive and high-quality primary aluminium,” he told OBG.

NATURAL GAS: Despite the positive outlook for demand, Bahrain’s aluminium sector now faces constraints in the form of securing affordable supplies of natural gas. The practice of using state-subsidised gas to support industrial development is widespread in the GCC region. However, it is becoming increasingly difficult to maintain for Bahrain. Previously it could rely on sufficient volumes of associated gas, a by-product of the oil extraction process, from its production fields. Now the cost of producing gas from the country’s non-associated gas reserves is increasing, while the price paid by industrial consumers until recently had remained low.

However, in response to the rising cost of production, the National Oil & Gas Authority changed the gas pricing structure for Alba and other industrial manufacturers in Bahrain. As of January 2012 the aluminium manufacturer will pay $2.25 per million British thermal units (MBTUs) for gas, while in the past Alba paid $1.50 per MBTU. According to Schmitt, the gas price increase will result in an drop of $85m in Alba’s earnings before interest, taxes, depreciation and amortisation for 2012. “We are partially mitigating the long-term effect of this increase through the continuous improvement of our operational performance: the Albastar programme and energy-saving initiatives have been and will be launched during the next few months,” he told OBG.

MANUFACTURING COSTS: Energy and raw materials combined account for 70% of the total costs of smelting. Securing a steady supply of alumina is also vital to the sector’s future. Alba currently imports all its alumina from Alcoa’s bauxite mines in Western Australia. The 10-year supply contract is due for renewal shortly. But it is energy supply that is the biggest concern. Alba’s smelter and midstream manufacturing facilities all use gas-fired plants. However, gas availability is limited, increasing costs. This affects the sector’s competitiveness, as ultimately these costs will be passed onto the buyer.

The sector stands at a crossroads. The main question is whether to continue to support the current model, which faces growing competition from other Gulf states with larger reserves of natural gas, or to carve out a niche for itself as a downstream, high-tech manufacturer of aluminium-based products.

As the first country to develop an aluminium sector, Bahrain is well-placed to build on its existing knowledge, expertise and reputation. The midstream sector is highly developed, consisting of firms like Gulf Aluminium Rolling Mill Company, Bahrain Aluminium Extrusion Company (BALEXCO), Midal and Bahrain Alloys Manufacturing Company (BAMCO). These firms export a wide variety of products across the world, such as aluminium rods, conductors, cold rolled coil, aluminium circles, alloys, and extrusion products used for doors and window frames.

MOVING DOWNSTREAM: Analysts point to the expansion and further development of the nascent downstream sector as key to future success. In April 2010 a market gaps study was commissioned by government employment agency Tamkeen and carried out by consultancy Dun & Bradstreet. The aluminium sector was identified as a key growth area.

One of the threats to the sector identified by the report was the danger of the existing midstream industry moving away from Bahrain and basing itself elsewhere such as in Oman or the UAE. Pressure from gas prices was the main reason identified. On a more positive note the report also highlighted Bahrain’s advantage of being able to build on its existing aluminium industry and develop new segments of a market, namely the manufacturing of downstream products, which is at present largely neglected in the GCC region. The development of Alba’s sixth production line, aimed at adding 400,000 tonnes of capacity and due to be completed by early 2015, may help in this regard. “This expansion could attract many foreign international aluminium investments to Bahrain and accordingly contribute to the development of the aluminium downstream semi- and end-use industries,” Schmitt told OBG.

Aluminium-based auto components is one segment that could be more fully exploited. Powder metallurgy products for aluminium alloys, high-pressure die casting, strip casting, gravity die casting and die forging are all technological processes required in automotive manufacturing. At present many of these products are imported from Asia, while the potential for this market has only recently begun to come into focus in the GCC region.

In the Kingdom there are already midstream firms such as Aluwheel, which makes truck and trailer wheel castings, and Bahrain Atomisers International, a producer of aluminium powder and pellets. More companies, focused on areas such as auto parts manufacturing, would add to this existing base.

The report also identified other areas of the market with potential, such as wire cabling. Midstream player Midal Cables produces wire rods and overhead wire conductors. But these thick rods are merely the feedstock used to make wire and cables by other firms. Midal could expand its facilities to manufacture wire and cables and sell these to firms in the rapidly growing GCC power and telecoms sectors.

EXPANDING INTO NEW AREAS: But the most exciting area of downstream potential is in recycling. Taking scrap aluminium and melting it down for reuse in manufacturing new products is a promising area for development. Crucially the aluminium does not lose any of its properties during this process. Currently, in the region only Dubai-based firms do this.

Above all, the recycling process is attractive because it saves energy costs. Energy consumption for recycling scrap accounts for only 5% of the cost of production, compared to 30% for processing alumina. Given the cost advantages, certain markets, including the EU, the US and Japan, are already favouring scrap aluminium over alumina.

LOOKING AHEAD: To address the report’s findings, the Ministry of Finance has established a BD100m ($264m) Aluminium Fund, tasked with developing a downstream aluminium sector and providing technical and financial support. Indeed, Bahrain is well aware that developing its downstream businesses and investing in aluminium recycling appear to be the best ways to maintain its leading position in the aluminium sector. Significantly reducing its energy costs is an obvious attraction. Located midway between developed Western markets and Asia’s booming economies, geography and long-term experience of producing and manufacturing aluminium offer Bahrain a good chance to build on its success so far.