Operations & financial report
Financial performance
2007 compared with 2006
The Energy group's 2007 contribution to underlying earnings was US$484 million, US$222 million less than in 2006.
Coal chain infrastructure bottlenecks and allocation cutbacks in Australia resulted in ongoing and significant production cutbacks and much higher demurrage costs. It is anticipated that production in Australia will not return to full capacity until 2010 when infrastructure bottlenecks are expected to be cleared. Port allocation arrangement negotiations were continuing at year end.
The results also reflected the softening of coking coal prices although there were increases in thermal coal prices and the stronger uranium oxide market. The weakening of the US dollar against the Australian dollar reduced earnings at Australian operations. For all operations, rising fuel prices and the tightness of the labour supply market continued to place pressure on operating results.
Despite lower volumes of uranium sold, higher market prices and the expiration of older contracts containing price caps contributed to a 69 per cent increase in uranium revenues in 2007 compared to 2006.
At Rössing Uranium, results were affected by reduced production volumes due to grade and plant performance and increased operating costs associated with development projects to increase capacity in the future. At ERA results were affected by production losses associated with a severe rain event and flooding of the pit.
The strong upward momentum that characterised the uranium market in the past three years continued for the first half of 2007, as demand remained robust in the wake of supply disruptions that affected a number of projects worldwide. However, unlike previous years, 2007 saw a fundamental change in market behaviour as the spot price became de-linked from the long term market due to the increasing influence of speculators in the commodity. Historically, the spot market has traded at a nominal discount to the term market, but last year saw substantial volatility in spot prices.
The long term uranium price, at which Rio Tinto sells most of its material, exhibited strong growth in the early part of the year, rising to a high of US$95 per pound in May, an increase of 27 per cent over December 2006. Thereafter, the long term price remained at US$95 as utility purchasing activity continued at moderately high levels.
2006 compared with 2005
The Energy group's contribution to underlying earnings was US$706 million, US$24 million lower than in 2005.
Results benefited from a sustained increase in the price received for thermal coal. Capacity problems in the coal supply chain in the Hunter Valley region of New South Wales impeded production from Coal & Allied operations. Drought in parts of Queensland and New South Wales also affected production levels. Operations focused on producing high margin products and optimising the coal supply chain. Increases in the cost of basic materials, fuel, explosives and labour were not fully offset by production growth, resulting in a rise in the cost per unit of production across all operations.
Although spot prices for uranium rose dramatically during the first part of the year, this had little effect on Rio Tinto's long term contract portfolio. Uranium oxide is typically sold under long term contracts, with pricing determined both by fixed prices negotiated several years in advance, and by market prices at time of delivery. Therefore, the rise in the spot price of uranium oxide during the period was not fully reflected in the year's earnings, but the rise in long term prices did contribute to the improved results. Moreover, for both mines, legacy contracts at low prices are being replaced with new long term contracts that provide floor price protection at levels far above market prices at the beginning of this decade.
