Financial statements

Upstream Aluminium

The majority of the Group's goodwill has been allocated to cash-generating units within the Upstream Aluminium group of cash-generating units ('Upstream Aluminium'), which includes both Alcan and the aluminium activities previously owned by Rio Tinto, which are now managed as a single business.

A large component of Upstream Aluminium's carrying value relates to the former Alcan businesses purchased in 2007.

Upstream aluminium's annual impairment review resulted in an impairment of US$6,131 million (US$6,127 after taxation). All but a small portion of this impairment was attributed to goodwill. The recoverable amount has been assessed by reference to value in use as, in the current market environment, it is considered that fair value does not exceed value in use. The acquisition price of Alcan anticipated significant growth in smelter and refinery capacity; but, following the recent significant weakening in economic and market circumstances, many of these growth projects have been deferred. These deferrals, together with increases in input costs, have resulted in the impairment charge.

In arriving at value in use, a pre-tax discount rate of eight per cent has been applied to the pre-tax cash flows expressed in real terms.

Value in use was determined by estimating cash flows for a period of ten years. The cash flow projections are based on long term production plans. These cash flows are then aggregated with a 'terminal value'. The terminal value represents the value of cash flows beyond the tenth year, incorporating an annual real term growth rate of one quarter of one percent. Upstream Aluminium benefits from a global marketplace with substantial barriers to entry and there are a limited number of competitors who are able to access effectively the key resources necessary to make aluminium. In addition, continued global industralisation will support demand for aluminium.

The key assumptions to which the calculation of value in use for Upstream Aluminium is most sensitive are the long term aluminium price; the Canadian dollar, Australian dollar and Euro exchange rates against the US dollar; operating costs; discount rates; and the real term rate of growth incorporated in the terminal value. Cash flows for the periods included in the projections were translated into the functional currency at the spot exchange rates at the date of the assessment. Future selling prices and operating costs have been estimated in line with the policy in note 1(i). For the long run, the Group does not believe that forward prices quoted in the metals markets provide a good indication of future price levels since forward prices tend to be strongly influenced by spot price levels. The aluminium prices used in the value in use calculations are within the range of analysts' consensus forecasts current around the date of the goodwill assessment. For the long term aluminium price, this range is from US$2,000 per tonne to US$2,925 per tonne, with an average of US$2,420 per tonne in real terms. The operating cost levels included in the value in use assessment are calculated based on Upstream Aluminium's long term production plans. Price assumptions for inputs into the aluminium smelting process are based on analysis of market fundamentals and are made consistent with related output price assumptions. Approximately, two thirds of the capacity of Rio Tinto Alcan's aluminium production network is located in the first quartile of the industry cash cost curve, with another 20 per cent located in the second quartile. Upstream Aluminium's intention is to maintain and, where possible, improve its relative position on the industry cash cost curve.

As a result of the impairment charge, the carrying amount of goodwill allocated to Upstream Aluminium at the date of the goodwill impairment test is equal to its recoverable amount and, therefore, any unfavourable change in the value assigned to the key assumptions described above will result in further impairment charges. It is estimated that adverse changes in key assumptions would lead to the following decreases in value in use:

Each of the sensitivities above was determined assuming the relevant key assumption moved in isolation, except where modifying the Aluminium price directly affects the price assumption for certain input costs and that there is no mitigating action by management.

Australian Iron Ore

The recoverable amount of the goodwill relating to Australian Iron Ore has been assessed by reference to value in use. Valuations are based on cash flow projections that incorporate best estimates of selling prices, ore grades, production rates, future sustaining capital expenditure and production costs over the life of each mine. In line with normal practice in the mining industry, the cash flow projections are based on long term mine plans covering the expected life of each operation. Therefore, the projections generally cover periods well in excess of five years.

Assumptions about selling prices, operating costs, exchange rates, and discount rates are particularly important in these valuations.

Future selling prices and operating costs have been estimated in line with the policy in note 1(i). Long term average selling prices are forecast taking account of estimates of the costs of producers of each commodity. Forecasts of operating costs are based on detailed mine plans which take account of all relevant characteristics of the ore body.

Goodwill relating to Australian Iron Ore has been reviewed applying a discount rate of 6.5 per cent to the post-tax cash flows expressed in real terms. If assessed based on pre-tax cash flows expressed in real terms, the equivalent pre-tax discount rate would be around nine per cent.

There are no reasonably possible changes in key assumptions, which would cause the goodwill allocated to Australian Iron Ore to be impaired.

Other

The recoverability of the remaining goodwill, which is included within Other in the table above, has been assessed by reference to value in use, using assumptions consistent with those described above. In most cases, recoverable amounts were determined to be in excess of carrying value. Where this was not the case, impairment has been recognised and is presented as part of the Other section of the table in note 5. The amount of impairment is not significant, and there are no reasonably possible changes in key assumptions that would cause the remaining goodwill to be impaired by a significant amount.

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Exploration and evaluation expenditure

The charge for the year and the net amount of intangible assets capitalised during the year are as follows:

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Inventory write downs amounting to US$280 million (2007: US$4 million) were recognised during the year.

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As of 31 December 2008, trade and other receivables of US$71 million (2007: US$70 million) were impaired. The amount of impairment was US$71 million (2007: US$70 million). The majority of these receivables were over 90 days overdue.

As of 31 December 2008, trade and other receivables of US$427 million (2007: US$364 million) were past due but not impaired. The ageing of these receivables is as follows:

These relate to a number of customers for whom there is no recent history of default or other indicators of impairment.

With respect to trade and other receivables that are neither impaired nor past due, there are no indications as of the reporting date that the debtors will not meet their payment obligations.

The provision for doubtful trade receivables increased by US$1 million in 2008 (2007: US$44 million), of which US$7 million was from net increases in provisions charged within other external costs offset by US$6 million from currency translation gains.

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Deferred tax balances for which there is a right of offset within the same jurisdiction are presented net on the face of the balance sheet as permitted by IAS 12. The closing deferred tax liabilities and assets, prior to this offsetting of balances, are shown below.

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At 31 December 2008, assets and liabilities held for sale comprise Alcan's Packaging group ('Packaging'). In the announcement of Rio Tinto's offer for Alcan on 12 July 2007, it was stated that Rio Tinto and Alcan had agreed to divest of Packaging. As Packaging was acquired with a view to resale, its results are excluded from the Group's income from continuing operations.

An impairment of US$827 million relating to Packaging has been recognised within discontinued operations on the Group income statement. As required by IFRS 5 Non-current Assets Held-for-Sale and Discontinued Operations, the amount of this impairment was determined by reference to Packaging's fair value less costs to sell. The main circumstances that led to the impairment were:

• The adverse change in capital markets, which made it difficult for potential buyers to fund acquisitions of companies like Packaging.
• The global economic downturn.
• The adverse trading performance of companies in Packaging's markets.

Packaging's fair value less costs to sell represents the Group's best estimate of the expected proceeds to be realised on sale of Packaging, less an estimate of remaining costs to sell. This estimate is consistent with estimates of fair value less costs to sell, which were determined using the Income Approach and the Market Approach valuation techniques.

The Income Approach provided an estimation of Packaging's fair value based on the cash flows it is expected to generate in the future. A discount rate of 9 per cent was applied to Packaging's post-tax cash flows expressed in nominal terms.

Under the Market Approach, an estimate of Packaging's fair value was determined based on a comparison of Packaging to comparable publicly traded companies and transactions in its industry.

Packaging's impairment reduced the 'Assets held for sale' line of the Group's balance sheet.

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