Chalco to bid for parent's five aluminium fabrication plants

The mainland's largest maker of aluminium is bent on transforming itself into an integrated play by expanding from upstream refining into downstream product fabrication, despite the lower margin of products made from the metal. On the same day when Aluminum Corp of China (Chalco) reported disappointing annual results, it formally announced that it would bid to take over from its state-owned parent, Chinalco, five aluminium fabrication plants with annual capacity of 1.09 million tonnes and an aluminium smelter with an annual capacity of 232,000 tonnes for as much as 4.18 billion yuan (HK$4.61 billion). Citing lower aluminium prices and higher production costs, Hong Kong-listed Chalco reported on Monday last week that net profit fell 13.49 per cent to 10.24 billion yuan last year, below the median estimate of 11.3 billion yuan in a Thomson Financial survey. Management expressed confidence and determination in the acquisition move, saying in a statement that it would stand 'a good chance to succeed in the open tender process'. The company deems aluminium fabrication or the production of extrusions and other products from the metal as an important segment to add value to the aluminium production chain. 'Aluminium fabrication is only second to iron and steel in the fabrication industry,' Chalco chairman Xiao Yaqing said. While the asset injection from the parent would contribute only in a limited way to Chalco's earnings in the near term, analysts said it would be important as part of Chalco's long-term vision of becoming a more integrated, global and diversified aluminium play. On completion of the acquisition, Chalco would have bought most of Chinalco's aluminium fabrication businesses. With its business scope expanded to include functions from bauxite mining to alumina refining and aluminium smelting and processing, Chalco would be given stronger protection from cost- and pricing-related risks. Adding downstream processing also may reduce competition and connected transactions between the listed company and its state-owned parent. If completed, the purchase of downstream assets from Chinalco would result in only a minor accretion of 1 per cent to Chalco's earnings per share for this year, estimated HSBC analysts Daniel Kang and Sarah Mak. Moreover, Chalco's return on assets would be slightly diluted to 14 per cent from 15 per cent, given that processing has a lower margin than alumina refining. Chalco's operating profit margin for alumina refining was 23.2 per cent last year while aluminium smelting was 13.8 per cent. It has yet to shed light on the operating profit margin of its acquisition targets - Chinalco's five fabrication plants - but analysts say the margin for producing aluminium products averages 10 per cent on the mainland, lower than that for refining and smelting. Based on 2006 figures, HSBC calculated that the return on assets of the five target fabrication plants averaged 4 per cent only, as opposed to Chalco's overall margin of 17 per cent. Although earnings contribution is limited in the short term, other brokerages gave Chalco credit for making a move forward. 'Chalco is likely to undergo a major transformation in the next one to three years, from a pure alumina and aluminium producer to a diversified metals and mining company with growing international assets, by expansion into other non-ferrous metals and becoming further integrated along the value chain,' Credit Suisse said. Mr Xiao also indicated that Chalco would increase its investment in resources and might expand to other metals. 'Since resource is the basis for the company's sustainable development, it shall press ahead with its [expansionary] corporate strategy by focusing on resource acquisition and control,' Mr Xiao said. Among Chalco's future moves, the chairman mentioned strengthening co-operation with suppliers and industry participants, 'giving more weight to key projects and expansion of reserves', 'broadening the range of resources exploration and supply', and 'devoting more effort to investing and building mines'. Parent Chinalco, which earlier this year led a US$14 billion acquisition of 12 per cent of Rio Tinto, has businesses ranging from aluminium to copper, rare metals and other non-ferrous metals. Is Chalco in line to succeed Chinalco in its complete form, with the advantage of a listing status? All eyes are peeled in awaiting the metamorphosis.