CHALCO: BAD MEDICINE

Diversification is awkward for a company named after the product it makes and the country it makes it in. But Aluminum Corporation of China, or Chalco, has little choice. Rising costs and poorly-integrated processing plants at home have hurt performance. But Xiong Weiping, Chalco’s chairman and chief executive, must pick his remedies more wisely.

Last week, Chalco said it would pay $309m for 30 per cent of the equity in Winsway, a Chinese supplier of Mongolian coking coal. Yet Chalco already faces intense opposition to its plans to buy up to 60 per cent of SouthGobi Resources, a coking coal miner that is majority owned by Canada’s Ivanhoe Mines. The problem is that Mongolia has an existential angst about its giant neighbour. So Ulan Bator is uneasy about China getting its hands on SouthGobi, whose mines, such as Ovoot Tolgoi, account for almost a fifth of Mongolia’s coal exports.

But Chalco wants to establish itself as a coking coal trader, among other initiatives, as its aluminium business swings into losses. Demand for aluminium is there but Chalco’s scattered operations mean that even with cost cutting it cannot keep pace with rising bauxite and fuel costs. Chalco’s 2 per cent operating margin in 2011 was almost a sixth of, say, Rusal’s in Russia. Further, Mr Xiong’s hankering for coking coal is consistent with China’s love affair with the stuff. He wants to leave a legacy of his own, rather as did Xiao Yaqing, his predecessor, when Chinalco, Chalco’s parent company, acquired a 10th of the equity of Rio Tinto, the global miner.

But Mr Xiong’s diversification strategy ignores peaking steel output and the recovery in coking coal supply in China. He should also pay attention to Chalco’s balance sheet as it diversifies: net debt could rise to 140 per cent of equity in 2012, on Macquarie estimates, from 120 per cent last year. Wrong place, wrong time, Mr Xiong.

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