Q2 2008: Strong aluminium price offset by rising input costs

Hydro's underlying income from continuing operations declined to NOK 1,335 million in the second quarter of 2008 from NOK 1,442 million in the previous quarter and NOK 2,152 million in the second quarter of 2007, mainly due to the weakening US dollar and an industry-wide rise in upstream input costs which more than offset the positive effect of higher aluminium prices.

July 22, 2008

Second quarter underlying results for Aluminium Products increased substantially from the first quarter of 2008, driven by a significant improvement in the company's Rolled Products business. Lower spot prices for electricity in Norway negatively affected Hydro's Energy business during the quarter.
 
"Hydro experienced a drop in its second-quarter results due to the rising input costs affecting the entire industry," said Hydro President and CEO Eivind Reiten. "While these pressures will likely remain for some time we continue to show strong operational performance. Particularly encouraging is the progress in our Rolled Products and Extrusion segments," Reiten said.
 
Global aluminium prices remained strong during the quarter, with forward markets reaching record levels towards the end of the three-month period. However, compared with the second quarter last year, Hydro's realized prices when measured in Norwegian kroner declined due to a weakening US dollar.
 
Underlying EBIT in the second quarter was NOK 1,619 million, down from NOK 2,032 million in the previous quarter and NOK 2,886 million in the second quarter of 2007.
 
Underlying EBIT for Aluminium Metal declined in the quarter compared to the first quarter of 2008, mainly due to higher operating costs from rising input costs for alumina, freight and carbon, as well as increasing oil and gas prices. Disclosed realized aluminium prices when measured in Norwegian kroner rfose compared with the first quarter of 2008, partly offsetting the rising operational costs, but declined substantially compared with the second quarter of 2007 due to the strong depreciation of the US dollar against Norwegian kroner.
 
Hydro's joint venture with Qatar Petroleum on the 585,000-tonne Qatalum smelter project, in which Hydro owns 50 percent, was about 26 percent complete by the end of the second quarter. "We are pleased to see the Qatalum project remains on target for the planned start-up around year-end 2009," Reiten said.
 
Aluminium Products delivered strong underlying results for the quarter. Hydro's Rolled Products business delivered significantly higher underlying results, with firm margins and increased shipments mainly in the packaging products and foil segments. Volumes improved for Hydro's Extrusion operations despite a weakening European market and a US market that remained at depressed levels. Underlying second quarter results in the US operations improved substantially compared with the same period last year due to significant cost reduction efforts. In April and July Hydro acquired new businesses in Spain, strengthening its position in the extrusion and building systems markets.
 
Underlying EBIT for Energy declined significantly in the second quarter from the strong first quarter of 2008, primarily due to lower spot prices in Southern Norway. The negative price effects were partly offset by higher production volumes and lower production costs. Hydro made additional investments in its Solar business during the quarter and celebrated the opening of the new NorSun wafer plant in Årdal, Norway, in which Hydro owns 18.4 percent.
 
Cash from operating activities was NOK 3.7 billion in the first half of 2008, down from NOK 5.1 billion in the same period last year, reflecting a similar development as for underlying EBIT.


Key financial information

NOK million, except per share data Second quarter 2008 First quarter 2008 % change prior quarter Second quarter 2007 % change prior year First half 2008 First half 2007 Year
2007
                 
Revenue 23,980 21,529 11% 25,042 (4)% 45,510 50,699 94,316
                 
Earnings before financial items and tax (EBIT) 708 1,179 (40)% 3,001 (76)% 1,887 6,674 9,025
Items excluded from underlying EBIT 911 853 7 % (116) >100% 1,764 (905) 1,128
Underlying earnings before financial items and tax (EBIT) 1,619 2,032 (20)% 2,886 (44)% 3,651 5,768 10,153
                 
Underlying earnings before financial items and tax (EBIT) :  
Aluminium Metal 953 1,255 (24)% 2,374 (60)% 2,208 4,749 8,265
Aluminium Products 535 370 45% 493 9% 905 991 1,352
Energy 270 399 (32)% 369 (27)% 669 635 1,184
Corporate and other (140) 8 >(100)% (349) 60% (132) (606) (647)
Underlying earnings before financial items and tax (EBIT) 1,619 2,032 (20)% 2,886 (44)% 3,651 5,768 10,153
                 
Income from continuing operations 902 1,443 (37)% 2,581 (65)% 2,345 5,839 9,158
                 
Underlying income from continuing operations 1,335 1,442 (7)% 2,152 (38)% 2,776 4,497 8,015
                 
Earnings per share from continuing operations 0.70 1.20 (42)% 2.00 (65)% 1.90 4.60 7.20
                 
Underlying earnings per share from continuing operations 1.00 1.20 (17)% 1.70 (41)% 2.20 3.50 6.20
                 
Financial data:  
Investments 1,553 2,267 (31)% 854 82% 3,821 1,728 5,206
Adjusted net interest bearing debt to equity / Adjusted equity ratio 0.01 (0.07)   0.02   0.01 0.02 (0.02)
                 


Operating statistics

  Second quarter 2008 First quarter 2008 % change prior quarter Second quarter 2007 % change prior year quarter First half 2008 First half 2007 Year
2007
Realized aluminium price LME (USD/mt) 2,699 2,442 11 % 2,606 4 % 2,573 2,597 2,559
Realized aluminium price LME (NOK/mt) 14,008 13,309 5 % 16,174 (13) % 13,672 16,327 15,522
Primary aluminium production (kmt) 437 433 1 % 435 0 % 870 868 1,742
Rolled Products sales volumes to external market (kmt) 259 253 2 % 264 (2) % 512 530 1,030
Extrusion sales volumes to external market (kmt) 133 130 2 % 135 (2) % 263 269 508
Automotive sales volumes to external market (kmt) 31 31 0 % 30 1 % 61 59 117
Power production (GWh) 3,021 2,850 6 % 2,749 10 % 5,871 5,403 11,018
                 

Reported EBIT and income from continuing operations

EBIT for Hydro amounted to NOK 708 million in the quarter, down from NOK 1,179 million in the previous quarter. EBIT was impacted by significant net unrealized losses on power contracts of roughly NOK 2 billion compared with around NOK 1.3 billion in the first quarter of 2008. The substantial unrealized losses resulted primarily from an unprecedented increase in forward prices for coal during the quarter. Unrealized effects on LME derivatives were positive for the quarter. EBIT for the quarter also included a gain on the sale of 85 percent of Hydro Production Partner and Production Services of about NOK 389 million.
 
Income from continuing operations amounted to NOK 902 million in the second quarter, down from NOK 1,443 million in the previous quarter. Income from continuing operations included net foreign exchange gains amounting to NOK 298 million, compared with NOK 854 million in the previous quarter.

Market developments and outlook

Demand from emerging markets such as South East Asia and China continued to drive up prices for energy and other raw materials. The strong commodity markets are expected to increasingly impact input costs for the aluminium industry. Record-high prices for oil-related products, coal, power, alloying metals, caustic soda and freight are expected to be phased into the industry's cost base during 2008 and 2009. We expect to see further increases in our own costs related to these factors over the coming twelve months, as favorable sourcing contracts gradually are replaced by new sourcing contracts at current market conditions.
 
During the second quarter, LME three-month aluminium prices ranged between USD 2,828-3,150 per mt before closing at USD 3,114 per mt at the end of June. Forward prices reached an all-time high during the quarter. Five-year prices traded above USD 3,300 per mt at the end of the quarter, up from USD 3,070 per mt at the end of the previous quarter.
 
Aluminium prices are expected to remain high due to increasing energy and raw material prices and energy supply uncertainties. However, there is also uncertainty regarding market demand. Economic indicators point to a weaker development in industrial production in the western world in the coming months, while industrial production in China remains strong.
 
Hydro expects a moderate market slowdown for semi-fabricated products in Europe on top of seasonally lower demand, impacting business in the second half of the year. In the US, we expect the market for semi-fabricated products to remain at the current depressed levels.

Aluminium Metal

Underlying EBIT for Aluminium Metal declined in the quarter compared to the first quarter of 2008 mainly due to higher operating costs. Variable costs relating to the production of primary metal increased mainly due to higher alumina costs which are indexed to primary aluminium prices and substantially higher freight costs. Prices for carbon also increased significantly during the quarter. Compared with second quarter 2007 variable costs declined due to lower alumina and power costs partly offset by higher carbon costs.
 
Disclosed realized aluminium prices measured in Norwegian kroner increased compared with the first quarter of 2008 partly offsetting the effect of the higher costs. Disclosed realized prices measured in Norwegian kroner declined substantially compared with the second quarter of 2007 mainly due to the strong depreciation of the US dollar against the Norwegian kroner.
 
Primary aluminium production volume was relatively stable compared to previous quarters.
 
Underlying EBIT for Bauxite and Alumina recovered from the weak first quarter of 2008 but was significantly lower than the result in second quarter 2007. Underlying results for our Commercial operations were down from the high level in the first quarter of 2008 and somewhat lower compared with the second quarter of the previous year.
 
Underlying EBIT for the first half of 2008 was substantially lower than the same period of 2007. Realized prices measured in Norwegian kroner declined significantly compared with the first half year 2007 mainly due to the strong depreciation of the US dollar against the Norwegian kroner.

Outlook

Aluminium prices are expected to remain high due to increasing energy and raw material prices and energy supply uncertainties. However, there is also uncertainty in demand development.

Hydro has priced 83 percent of its production for the third quarter of 2008 at USD 2,856 per mt. Hydro expects to achieve an average price on total production for the third quarter which is around USD 250 – 300 above what was achieved in the second quarter.

The aluminium industry is currently experiencing an unprecedented increase in the cost of key components driven by higher prices for energy and natural resources. The higher prices directly and indirectly influence prices for power, alumina, petroleum coke, alloying elements and other input factors. In addition, dry bulk freight rates and bunker costs have risen sharply. Higher levels of general economic activity have also lead to increasing salary and maintenance costs, and also rising costs for constructing new capacity.

Hydro has access to substantial self-generated power capacity based on hydropower production in Norway and has long-term power contracts for the majority of its world-wide production. As a result, we do not expect a sharp increase in our energy costs in the short to medium term. However, we expect further increases in other variable costs, in particular the cost of carbon. Petroleum coke, the main raw material for the production of carbon anodes, is typically purchased on short term contracts. Prices are influenced by oil prices and refining capacity available for the production of heavy oil products. We also expect to see an increase in the cost of alumina freight going forward. In total, Hydro expects variable costs (excluding alumina and power) to increase by about NOK 200 - 250 million in the full second half of 2008 compared to the cost level in the second quarter. We also expect to see pressure on fixed costs.

China's apparent consumption of primary metal is forecast to increase by around 20 percent for the full year of 2008. Estimated production growth of around 20 percent will depend on energy supply and ongoing efforts by the Chinese authorities to moderate the expansion of primary capacity. We expect a continued gradual increase in Chinese net exports of flat rolled  products and fabricated products due to cost advantages and export duty incentives. We also expect a certain level of export of alloyed primary aluminium as long as the current favorable price differentials between the LME and Shanghai Futures Exchange and absence of export duty on alloyed metal continue.

Global consumption of primary aluminium is estimated to grow with about 8 percent in 2008.

Market conditions for metal products in Europe are expected to weaken in the second half of 2008 from the high levels in 2007 and the first half of 2008 mainly due to lower demand from the building and construction sectors and weaker transportation markets. No significant recovery in the US market is expected during the second half of 2008. Weaker global market conditions and higher premiums in the US are expected to result in increased imports into the US market in the second half of 2008.

Aluminium Products

Second quarter underlying EBIT for Aluminium Products increased substantially from first quarter of 2008.

Our Rolled Products business delivered significantly higher underlying results with firm margins and increased shipments mainly in the packaging products and high added-value foil segments. Higher volumes and margins improved the underlying results for our Extrusion business compared to first quarter 2008. Overall volumes increased by 2 percent in our European extrusion operations despite a weakening market. Volumes improved for our US extrusion operations, but the market remained at depressed levels. Positive developments in South America continued. Underlying results for our Automotive operations were in line with the first quarter of 2008 at about break-even.
 
Compared to the second quarter and first half of 2007, margin improvements, mainly in general engineering, offset lower volumes and higher energy and raw material costs for our Rolled Products operations. A softer US dollar had a negative impact on the results. Our European extruders delivered continued high margins and stable volumes compared to the second quarter and first half of 2007, outperforming a generally declining market. Underlying results for our US operations improved substantially. Underlying EBIT for our Automotive operations was stable compared to the second quarter of 2007 but declined compared to the first half year. Costs related to start-up activities for new product lines in our automotive structures business had a negative impact on the results.

Outlook

Market demand for flat rolled products in Europe is expected to decline during the coming months, partly due to seasonally lower demand in the second half of the year. The continued weak US market combined with the weak US dollar could lead to increased imports into Europe, putting pressure on margins. The rolling industry is experiencing increasing cost pressure above the current rate of inflation mainly driven by increasing energy and raw material prices.
 
The overall outlook for the European extrusion market indicates a further softening of demand, in addition to a normal seasonal decline in the second half of the year. A general softer demand, combined with a volatile LME, could put further downward pressure on margins in the months to come. The outlook for the US extrusion market remains depressed, with no signs of recovery. However, the soft US-dollar, combined with higher Chinese export duties is temporarily reducing imports into the US market. South American markets are expected to experience another strong year, with consumption in Brazil growing around 6-7 percent. Developments for Argentina are uncertain due to instability caused by strikes and inflation.
 
The outlook for the European automotive market is softening while the North American market is expected to remain at a low level throughout 2008. Automotive markets in Asia and South America are expected to show solid growth.  

Energy

Underlying EBIT for Energy declined significantly from the first quarter of 2008 primarily due to lower spot prices in Southern Norway. The negative price effects were partly offset by higher production volumes and lower production costs. The decline compared with the second quarter of 2007, was mainly due to the same factors as well as weaker results from equity accounted investments.
 
Direct power production costs declined from the first quarter, primarily due to lower transmission grid tariffs.
 
Hydro's Solar activities reported a loss of NOK 36 million in the second quarter compared with a loss of NOK 22 million in the first quarter of 2008 and a loss of NOK 16 million in the second quarter of 2007. Results for Solar activities include our share of losses in equity accounted companies and the losses reflect that these companies are in an early development phase.
 
Underlying EBIT in the first half of 2008 improved by 5 percent compared with the same period in 2007 primarily due to increased production and higher spot prices.

Outlook

By the end of June, the total water reservoir level in Norway was reported at 75 percent of full capacity, which is 8 percentage points above normal and 2 percentage points higher than the same period in 2007.
 
With expectations of normalized reservoir inflows, restart of transmission lines out of Southern Norway, and continued high prices on the European Continent, the traded forward market indicates support for higher power prices in the third and fourth quarter of 2008. The market is, however, expected to remain highly volatile due to uncertain hydrological conditions and other factors.

Corporate, other and eliminations

Underlying EBIT for Corporate, other and eliminations amounted to a negative NOK 140 million in the quarter compared with a positive NOK 8 million in the first quarter of 2008 and a negative NOK 349 million in the second quarter of 2007.
 
Underlying EBIT for Corporate, other and eliminations includes the elimination of unrealized profits on inventories purchased from group companies. Underlying results for the quarter included a charge of NOK 69 million compared to a credit of NOK 108 million in the first quarter of 2008 and a charge of NOK 31 million in the second quarter of 2007 related to this elimination.
Underlying result for the second quarter and first half of 2007 were impacted by costs related to the transaction with StatoilHydro and the operations transferred, of which parts were included in continuing operations.
 
Items excluded from underlying EBIT and income from continuing operations
To provide a better understanding of Hydro's underlying performance, the items in the table below have been excluded from EBIT (earnings before financial items and tax) and income from continuing operations.
 
Items excluded from underlying EBIT are comprised mainly of unrealized gains and losses on certain derivatives, impairment and rationalization charges, effects of disposals of businesses and operating assets, as well as other items that are of a special nature or are not expected to be incurred on an ongoing basis.

Items excluded from underlying income from continuing operations

NOK million Second quarter 2008 First quarter 2008 Second quarter 2007 First half 2008 First half 2007 Year
2007
             
Unrealized derivative effects on LME related contracts (340) (560) (9) (899) (303) 131
Unrealized derivative effects on power contracts 1,997 1,291 (362) 3,287 (2) 928
Unrealized derivative effects on currency contracts (110) 9 (64) (101) (97) (137)
Metal effect, Rolled Products (247) 113 28 (133) (121) 235
Significant rationalization charges and closure costs - - 132 - 149 224
Impairment charges - - 144 - 144 144
Gains/(losses) on divestments (389) - 15 (389) (676) (641)
Correction of elimination of profit in inventory - - - - - 291
Germany, change in tax rate - - - - - (47)
Items excluded from underlying EBIT 911 853 (116) 1,764 (905) 1,128
Net foreign exchange (gain)/loss (298) (854) (517) (1,153) (981) (2,254)
Calculated income tax effect (181) 0 204 (181) 544 283
Germany, change in tax rate - - - - - (300)
Items excluded from underlying income from continuing operations 432 (1) (429) 431 (1,342) (1,143)
             

Finance

Net financial income amounted to NOK 443 million in the quarter compared with net financial income of NOK 998 million and NOK 733 million in the first quarter of 2008 and second quarter of 2007, respectively. The amounts included net foreign currency gains of NOK 298 million, NOK 854 million and NOK 517 million for the three periods, respectively.
 
Net foreign currency gains mainly relate to foreign currency contracts, in connection with Hydro's hedge program. The amounts include positive interest effects on our foreign currency portfolio due to substantially different interest levels on US dollars versus Norwegian kroner.
 
Interest income declined in the quarter compared to the first quarter of 2008 mainly due to lower cash balances. Interest income was lower compared with the second quarter of 2007 due to lower cash balances following the payment of the demerger debt to StatoilHydro. Interest income declined for the first half of 2008 compared to the same period of last year for the same reason.

Tax

Income tax expense amounted to NOK 248 million in the quarter compared with NOK 734 million in the first quarter of 2008 and NOK 1,153 million in the second quarter of 2007.
 
Income tax expense was 22 percent of Income from continuing operations before tax in the second quarter compared with 34 percent in the first quarter of 2008 and 31 percent in the second quarter of 2007. The relatively low tax percent in the quarter resulted mainly from the effect of a tax free gain on the sale of Hydro's former internal service units.
 
Income tax expense amounted to NOK 982 million in the first half of 2008 (30 percent) compared with NOK 2,368 million (29 percent) in the first half of 2007.

Press contact
Contact     Halvor Molland
Telephone   +47 22532421
Cellular    +47 92979797
E-mail      Halvor.Molland@hydro.com

Investor contact
Contact     Stefan Solberg
Telephone   +47 22539280
Cellular    +47 91727528
E-mail      Stefan.Solberg@hydro.com

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Certain statements included within this announcement contain forward-looking information, including, without limitation, those relating to (a) forecasts, projections and estimates, (b) statements of management’s plans, objectives and strategies for Hydro, such as planned expansions, investments or other projects, (c) targeted production volumes and costs, capacities or rates, start-up costs, cost reductions and profit objectives, (d) various expectations about future developments in Hydro’s markets, particularly prices, supply and demand and competition, (e) results of operations, (f) margins, (g) growth rates, (h) risk management, as well as (i) statements preceded by “expected”, “scheduled”, “targeted”, “planned”, “proposed”, “intended” or similar statements.

Although we believe that the expectations reflected in such forward-looking statements are reasonable, these forward-looking statements are based on a number of assumptions and forecasts that, by their nature, involve risk and uncertainty.  Various factors could cause our actual results to differ materially from those projected in a forward-looking statement or affect the extent to which a particular projection is realized.  Factors that could cause these differences include, but are not limited to: our continued ability to reposition and restructure our upstream and downstream aluminium business; changes in availability and cost of energy and raw materials; global supply and demand for aluminium and aluminium products; world economic growth, including rates of inflation and industrial production; changes in the relative value of currencies and the value of commodity contracts; trends in Hydro’s key markets and competition; and legislative, regulatory and political factors.

No assurance can be given that such expectations will prove to have been correct.  Hydro disclaims any obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.


Updated: October 11, 2016