UK aluminium alloy producers face bleak summer

UK aluminium alloy producers are coming under growing pressure from falling domestic manufacturing rates, growing global trade tensions and uncertainty over the UK's planned withdrawal from the EU, which could lead to long-term structural change in the sector.

The UK posted its weakest monthly growth figures for three years in April, with GDP falling by 0.4pc from March against expectations for a dip of just 0.1pc. The National Institute of Economic and Social Research has warned that GDP will fall by 0.2pc in the second quarter, after inching up by 0.5pc in the first quarter.

The April fall was led by a 3.9pc decline in manufacturing rates, the biggest monthly decrease since June 2002, which was prompted by a sharp fall in car manufacturing rates, which dropped by 24pc on the month in April.

Carmakers had been preparing for the UK to leave the EU at the end of the first quarter, in accordance with article 50 of the EU's Lisbon treaty. With no assurances as to how markets would operate in the immediate aftermath of Brexit, these companies stockpiled raw materials and finished products ahead of that date. But the government's failure to pass its EU withdrawal agreement resulted in a delay to the process, which is yet to be resolved.

UK carmakers were enjoying their strongest production rates this century when the referendum on EU membership took place in 2016, following heavy investment in the sector over previous years. The UK built 1.7mn cars in 2016, exporting 1.35mn of them. Two-thirds of those exported vehicles were sold to Europe.

But the UK manufacturing sector has now posted its lowest purchasing managers' index figure in nearly three years, with a reading of 49.4 in May down from 53.1 in April, and against expectations of 52. Elsewhere, the BDO manufacturing optimism index fell in May to its lowest since January 2013, when then-prime minister David Cameron committed to the referendum on EU membership.

The effect on the automotive industry has been stark. Japanese company Honda has confirmed that it will close its Swindon car plant in 2021, with the loss of about 3,500 jobs, while US firm Ford will shut its engine manufacturing plant in Bridgend, Wales, in 2020. These facilities faced pressures unrelated to the impasse over Brexit, but it is arguable that they were less vulnerable in a pre-referendum environment of strong manufacturing activity and investment.

For UK aluminium alloy producers, which predominantly serve the automotive industry and traditionally sell the excess of their production that the limited UK market cannot consume to Europe, the current environment is highly challenging.

"We used to produce more than 500 t/week, but we are down to 300 t/week now," one UK alloy producer said. "The difference was all going to Europe, but there is none of that now. We are not doing a kilo into Europe anymore."

The immediate factor that is limiting UK cross-channel sales is that alloy prices in Europe are too low to warrant the cost of production and delivery. Automotive demand in Europe has fallen, owing in large part to the EU's new emissions testing regulations that were introduced in response to the Volkswagen emissions testing scandal in 2015.

Argus assessed European DIN 226 diecasting ingot prices at €1,280-1,340/t ($1,435-1,503) on 13 June, down from €1,390-1,440/t at the start of the second quarter. In the UK, the equivalent LM 24 diecasting ingot price was assessed at £1,220-1,300/t ($1,536-1,638/t) on 13 June, down from £1,350-1,400 at the start of the second quarter.

In the longer term, it is becoming less likely that international customers will commit to lasting business relationships with UK companies while its future trading status remains uncertain.

"A customer in Germany is not going to want to cover UK material, particularly around the leave date," the UK alloy producer said, adding that one customer in Europe had a 100 t/week contract with spot options that has now ended. "They cannot afford the risk of buying UK material," he said.

And the UK is no closer to finding a resolution to its future relationship with the EU, following the resignation of prime minister Theresa May this month and the identity of her successor as yet undecided amid a leadership contest in the ruling Conservative Party.

This continuing uncertainty will continue to hamper business in the UK. With GDP falling in April and no encouraging economic developments on the horizon, the UK could be in an official recession ahead of the revised proposed Brexit date at the end of October, according to some forecasts.

"Anyone with any money and plans to invest it will not be looking at the UK," a second UK-based alloy producer said. "The second quarter is down, the third quarter will be down, and we will be in a recession before the end of the year."

Business for the alloys producers will be limited in the near term, with carmakers running down inventories that they accrued ahead of the abandoned March leave date. But in the long term the UK alloy industry may need to adjust its expectations for the European market, where the UK's exit from the EU will undoubtedly lead to higher costs for doing business into the continent.

"UK producers have always seen Europe as an opportunity market — we sell there when it suits us. But all the doors are shut now," a third producer said last week.

If business into Europe becomes unviable for UK alloy producers, the only answer is to cut output. The UK produces too much alloy for its domestic industry to use — even when operating at full capacity, which UK alloy producers are far short of at present — while profit margins are too thin to sell in volume further afield than Europe.

"There are no UK producers selling into Europe right now, so people are slashing production," the second producer said. "Everyone is cutting their cloth accordingly."