Metals Slump No Hitch for New Rio Mine With 60% Profit Margin

  • Bauxite produced at $20 a ton may sell for $50: Deutsche Bank
  • China seen doubling bauxite imports in decade to make aluminum

The worst commodity slump since the global recession and a collapse in aluminum prices doesn’t mean there isn’t money to be made from digging up the bauxite ore used to produce the metal -- provided you have the right kind of mine.

Rio Tinto Group, the world’s second-biggest mining company, is investing $1.9 billion on a new deposit in Australia even as the price rout has forced it to slash global capital spending by $11.5 billion since 2013. That’s because by 2019, the Amrun project will be able to unearth high-grade ore for about $20 a metric ton and sell it for around $50 a ton, according to Deutsche Bank AG.

Bauxite imports are expected to surge in China, home to the world’s largest aluminum industry, as the nation moves to a consumer-led economy that’ll need more of the metal for everything from laptops to coffee capsules. London-based Rio is seeking to replicate success at its top performing iron-ore business, which is expanding low-cost mines in the Pilbara region of Western Australia because they can generate hefty earnings even as prices fall.

“They are one of the few big producers going ahead and developing a project, while everyone else is divesting or cutting capital expenditures,” Adrian Prendergast, an analyst at Morgans Financial Ltd. in Melbourne, said by phone. “There’s a reasonable probability that they can do it with very attractive margins.”

Rising Imports

After seven years of evaluating Amrun -- located near Weipa in northern Queensland state -- Rio approved the project Friday and said it will start producing bauxite mostly for sale to China. The metal-containing ore is refined into alumina, an intermediate material that is then run through a smelter to produce aluminum.

Even as economic growth in China slows, demand for aluminum in the world’s second-largest economy may rise about 9 percent this year, outpacing a 6.5 percent rate globally, according to Alcoa Inc., the biggest U.S. producer. The country probably will more than double bauxite imports by 2025, mostly because domestic output will peak in 2019, according to CM Group research, cited in an Aug. 19 filing by Alumina Ltd., a partner with Alcoa in a venture that’s the world’s biggest producer of the ore.

Because of its high-grade ore and low operating costs, Rio’s Amrun project is “probably one of the best-returning projects they have,” said Brenton Saunders, a Sydney-based investment analyst with BT Investment Management Ltd., which manages about A$78 billion ($56 billion) of assets and holds Rio shares. “We’re questioning everything at the moment in terms of its viability, but the reality is that it’s a world-class deposit.”

‘Question Mark’

While China’s demand for aluminum is rising, it’s still producing more than it needs and selling the excess overseas, and there’s no guarantee production will continue at the same volume over the longer term to sustain rising bauxite imports, according to Australia & New Zealand Banking Group Ltd. Primary aluminum prices have tumbled about a fifth this year, amid the flood of exports, prompting the country to signal that it’s prepared to curb output to stem the oversupply as part of an agreement with Russia.

China is “not at a significant advantage to a lot of other producers on a cost basis,” said Daniel Hynes, a ANZ commodity strategist in Sydney. “In the shorter term, it’s been them filling the void from production cuts in other developed markets. There is a question mark as to whether that growth in the export market can continue in the longer term.”

Amrun will yield an earnings margin of 60 percent, according to Deutsche Bank. That compares to an average margin of 62 percent at Rio’s Australian iron ore mines over the past 14 years. The producer will move project teams responsible for raising its iron ore output to work on bauxite development in Queensland, Alf Barrios, Rio’s chief executive of aluminum said in an interview.

Iron Know-How

“We have the advantages of learning from and transferring know-how from the Pilbara,” where Rio is developing high-yield mines using technology that reduces operating costs, Barrios said Friday by phone from Brisbane. “Then we have, obviously, the presence in China that all our other business have and the strong relationships we have in China that we can leverage.”

Deutsche Bank expects the seaborne market for bauxite will move into deficit by 2020, even as Rio expands shipments, analysts including Paul Young wrote in a note dated Nov. 27. The Amrun project will initially raise Rio’s bauxite exports to about 36 million tons a year and contribute as much as 15 percent of earnings, they said.

As demand for raw materials like iron ore to coal slows, bauxite probably will remain a growth business, BT Investment’s Saunders said. “It is one of the areas where China is going to continue to do battle to procure enough raw material.”

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