Alcoa Adopts New Pricing Mechanism Tied To Physical Ingot Premiums

| About: Alcoa, Inc. (AA)

By Stuart Burns

It was inevitable, really – we have written several times this year on the rising spot premiums for physical delivery of primary aluminum ingot. Japan has seen the greatest surge in premiums, but Europe and even the U.S. Midwest ingot price have not been far behind.

Of course in the U.S., consumers are used to paying for semi-finished products as a conversion premium over the Midwest ingot price, which already factors in a physical delivery premium. If you like, U.S. prices have been a more honest reflection of ingot supply and demand costs than those for Europe, where prices have been based on a premium over the primary aluminum LME quotation.

Well, Alcoa (NYSE:AA) couldn’t stand the pain any longer.

With premiums reaching U.S. $200 per ton or more, Alcoa has taken the lead and announced they will use ingot premiums to price their European flat-rolled products from now on.

Bernd Schaefer, Alcoa’s vice-president of European rolled products, quoted in a Platts article, said final flat-rolled product prices will be based on the LME aluminum price, plus the ingot premium with an additional smaller conversion charge — unlike U.S. prices, which are just the Midwest ingot price plus the conversion charge.

“We will use a monthly floating basis or a quarterly one,” Schaefer said.

Alcoa has been forced into this as premiums had increased significantly over 2012 and now make up a much larger percentage of the overall price for aluminum products.

Premiums for duty paid currently represent around 11 percent of the final cost of aluminum when applied to the LME cash price. In January, premiums for duty paid only represented about 7% of the final cost of aluminum when applied to the LME cash price; producers were under intense price pressure to raise conversion premiums when a weak market said they should be going the other way.

The new structure allows Alcoa to break out price increases and decreases by both physical ingot premium and conversion cost – which may realistically go in opposite directions, depending on market conditions, and allows greater transparency for consumers to see where cost increases are coming from and in turn demand price decreases if they see a fall in premiums.

The intriguing development now will be seeing how fast other producers follow Alcoa’s lead.

Arguably, vertically integrated producers like the Russians or Indians may not have been facing quite such severe cost pressures from rising physical premiums, but we have just heard the Indian mills have taken the same step on their flat rolled sales into Europe, so it looks as if many other producers may adopt the new pricing approach.

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