Tight squeeze: secondary aluminum smelters struggle with tight scrap supply and higher pricing brought on by foreign competition.

It's difficult to be a secondary aluminum smelter in the U.S. Their margins are dwindling in light of foreign demand for obsolete aluminum scrap, which has served to escalate prices and constrict supply of this vital raw material.

However, stone secondary smelters noted improvements within the marker during the third quarter of 2003 and predicted those improvements would continue throughout the fourth quarter. Certainly, 2004 brings renewed hope for a stronger market for secondary aluminum.

THE DEMAND SITUATION. "The margins are very slim," says a deox manufacturer based in the Midwest. "We are facing a tightness in the scrap supply that is partly due to all of the metal being exported, mainly to China. Also, the run-up in the price of the scrap is due to the tightness," he says.

A Midwestern secondary smelter whose finished products are going to the auto industry agrees with this assessment. "I think certainly the cost of raw material procurement has gotten very difficult," he says.

"Certainly the volume of scrap going to China right now is phenomenal. It's just basic supply and demand," the secondary smelter says. "We're our there trying to find metal units when there are a lot of them leaving the shores. Once they axe gone from here, they are never going to return."

Richard Kerr, president of aluminum operations for Imco Recycling, Irving, Texas, said in the company's third quarter conference call, 'Perhaps we should not be surprised by [China's] aggressive purchasing activity, which has been enhanced by the very inexpensive freight rates in China and also the decline in import duties and the under-valuation of their currency.

"Until this situation improves, scrap prices more than likely will remain high," he continued. "However, we think we can manage our way through it by working more closely with our major scrap suppliers and by continuing to improve our recovery of metal units that are available to us with our technology."

Despite the amount of aluminum scrap going overseas to China, it appears that little finished aluminum is being exported from China. "It's mainly a factor of taking away our scrap supply mad pushing up the price," the deox manufacturers says. "I don't see any finished aluminum coming in that would affect the volume of sales," he says. "The effect is all on the supply side."

THE COST OF BUSINESS. The increasing cost of metal units is eating away at the profitability of secondary aluminum smelters. "The price becomes very important because in our business as a secondary smelter, 85 percent of our sales dollar is tied up in raw material costs," the Midwest secondary smelter says. "If you are not able to control those raw material costs, not much else matters."

He continues, "Natural gas is also another key factor. Natural gas costs are up 30 to 40 percent from what they were a couple of years ago."

Imco's CFO and Executive Vice President Patti Defour also noted escalating natural gas prices in the company's third quarter conference call, saying costs increased 20 percent in the third quarter of 2003 compared to the same period in 2002.

China's demand for aluminum scrap is not the sole reason behind the tightness in scrap supply. The weak generation of industrial scrap is also a factor. "The sluggish industrial economy is not generating the scrap supply, the scrap flow, that we would like to see," the deox manufacturer says.

"The volume and income at Imco's aluminum recycling plant has generally been in decline for about three years due to the unprecedented decrease in U.S. industrial activity that has prevailed du ring this period," Kerr said in the conference call. "Also, the drop in the can recycling rate has taken over 400 million pounds of scrap per year out of the U.S. scrap recycling system."

To address these circumstances, Imco has consolidated available volume at its most efficient facilities to strengthen productivity al those plants, Kerr says.

The secondary smelter adds that competition for aluminum scrap "up the food chain" is also affecting the tightness ill supply. "For those companies to remain competitive and generate a profit, they are looking for ways to cut their costs," he says of major global aluminum producers such as Alcoa and Alcan. "If they drop down and use more raw material that is made from obsolete scrap, they can buy less primary aluminum, and, typically, it's cheaper to use scrap than it is to go out mad buy primary aluminum."

Secondary smelters who are selling finished products to automobile manufacturers are also feeling pricing pressure from their consumers, which is further diminishing profitability.

"I think the purchasing power of automobile companies has made our business very rough," the Midwest secondary smelter says. "They are always looking for lower and lower prices."

The secondary smelter says a longstanding customer from the auto-manufacturing sector approached him with a particular price for finished product. If he was unable to sell the material at the dictated price, the auto manufacturer said he would go elsewhere to buy the product. "There is no loyalty," he says.

While the various costs associated with business are affecting the profitability of secondary aluminum smelters, is overcapacity also a contributing factor?

THE CAPACITY QUESTION. The deox maker says the U.S. has excessive secondary smelter capacity. "It seems like every few months or every year there seems to be new furnaces being built and new smelters popping up," he says. "Whether the smelters pop up as deox guys or as automotive alloy guys, it [has the same effect.] There may be more new deox players showing up than the other, proportion-wise," he adds.

However, the secondary smelter who supplies the auto industry sees things differently.

"I'm going to tell you an answer that is probably contrary to what other people would say, and that is, no; I don't feel there is excess secondary capacity," he says. "However, what has happened is there have been several people in the casting industry who have become self-alloyers or PSI (re-melt secondary ingot) consumers. In effect, the customer base has shrank because these people are out doing it for themselves.

"In doing so, they are circumventing environmental standards," the secondary aluminum smelter says. "If they truly had to stand up to the new MACT (Maximum Achievable Control Technology) air standards, they would not be able to do it. But because they are considered to be a casting company and only charging plain scrap, they are circumventing the environmental standards."

The secondary smelter says that he feels 15 percent to 20 percent of the typical consumers of specification secondary alloy or ingot have become self alloyers in the last eight to 10 years.

When will the situation alleviate for secondary aluminum smelters? Some already point co improvements, while others speculate that the second quarter of 2004 will bring relief to secondary aluminum smelters.

THE OUTLOOK. "While identifying major turns in the economy is always difficult, I am convinced that we saw the beginnings of an improvement in the aluminum industry market condition," Kerr said of Imco's third quarter performance. "The major producers have reported increased shipments to customers in the building, construction and transportation sectors. The Aluminum Association said that net orders of new aluminum products were nearly 9 percent higher than they were a year ago," he said. "It's the first year-to-year increase sincc January."

Don Ingrain, Imco's chairman and CEO, is also bullish about signs of improvement in the industry. "I agree that we have now seen signs of improvement both in the general economy and in the fundamental aluminum industry. I'm confident that Imco will be operating in a stronger market in 2004," he said in the conference call. "The most important question we face is what strategies will we pursue to take full advantage o four better environment.

For Imco, these strategies include allocating processing volumes among its facilities according to performance and location and seeking more long-term contractual arrangements. "Another important part o four strategy," Ingram said, "is to leverage existing customer relationships in order to drive international expansion [by] following our customer."

However, the deox manufacturer has yet to see signs of economic improvement in the Midwest. "But if the economy picks up, mad the demand picks up, that could certainly improve the manufacturing conditions," he says.

The deox maker expects the situation to ease somewhat in the second half of 2004. "I would hope that the demand for the secondary finished products will increase when the economy gets better. If that demand increases, than that means the industrial scrap [generation] will pick up, and the supply will also increase," he says.

The secondary smelter says he thinks obsolete scrap generation will improve in the coming years. "One of the things that will help is that in another year or two a lot of the automobiles that will be coming in for recycling are aluminum intensive," he says.

In terms of China's hunger for aluminum scrap, he says the situation will likely ease in 18 months to two years. At that point, he says he thinks the country will have its own aluminum recycling infrastructure in place.

"Since their infrastructure is not in place now, they have no place to go but out of their own country to buy this aluminum scrap," the secondary aluminum smetlter says. "The Chinese are building primary aluminum capacity at a quick rare. As that occurs, that will generate more aluminum availability."

RELATED ARTICLE: Company shares ESM practices.

Jonas Kriauciunas, a representative of DeConsus, is working several shifts at Good Point Recycling, the TV and computer recycling division of American Retroworks Inc., Middlebury, Vt., taking notes and translating the company's environmental and safety management (ESM) policies for the DeConsus BalticAl aluminum smelter in Kaunas, Lithuania.

Robin Ingenthron, founder of Good Point Recycling, says, "I learned a lot about due diligence by trucking, testing and separating. I think Jonas's volunteering to work in the trenches in the U.S.A. is a great start for a Lithuanian company interested in best environmental practices." Ingenthron and Kriauciunas will travel to Lithuania in the summer to see how environmentally safe management has been translated.

DeConsus controls major aluminum refining and smelting operations in Lithuania that sell primarily to Mercedes Benz in Germany. A new European Union member state, Lithuania has a population of 3.5 million and a tradition in mining, quarrying and manufacturing in Eastern Europe.

"DeConsus wants to recycle more," Kriauciunas says. "We see recycling as the long-term environmental solution for aluminum and other commodities. Electronics are a potential source of aluminum, but we also want to investigate whether our company can provide the best answer for Europe's new WEEE directives."

Other DeConsus representatives are working at Engelhard-Clal metals in England, where DeConsus plans to recycle circuit boards. At this point, Kriauciunas has no interest in importing electronic scrap, but wants to learn more about how it is managed by working at a U.S. plant.

Good Point Recycling will prepare and stage containerloads of material for DeConsus to import. In the future, DeConsus will decide whether to offer more demanufacturing and testing at its facility in Kaunas, Lithuania, but American Retroworks will continue to provide domestic hard drive destruction and monitor glass recycling. The company has already contacted Lithuania's environmental ministry, the chief contact for the Basel Convention.

"In Lithuania, the old attitude towards environmental protection was, 'give them a pound of paper'," Kriauciunas says. "It was all about bureaucracy. Today DeConsus and Good Point Recycling believe that environmental diligence is good business. It's about environmental results."

Kaunas is Lithuania's second largest city and is considered a gateway between western and eastern Europe. Lithuania borders Russia, Poland, Latvia and Belarus and has a port on the Baltic sea.

The author is associate editor 0fRecycling Today and can be contacted via e-mail at [e-mail].