Alcoa 2000 Annual Report Download - page 42

Name /alcoa/4500 05/31/2001 06:17PM Plate # 0 com g 40 # 1
40
asset sales. Offsetting a portion of these negative factors in 1999
were gains from marking to market certain aluminum commodity
contracts versus losses in 1998.
Foreign exchange losses included in other income were $82 in
2000, $19 in 1999, and $4 in 1998.
In July 1999, the Brazilian real became the functional currency
for translating the financial statements of Alcoa’s 59%-owned
Brazilian subsidiary, Alcoa Aluminio (Aluminio). Economic factors
and circumstances related to Aluminio’s operations had changed
significantly since the devaluation of the real in the 1999 first quarter.
Under Statement of Financial Accounting Standards
(SFAS) No. 52,
‘‘Foreign Currency Translation,’’ the change in those facts and
circumstances required a change in Aluminio’s functional currency.
As a result, at July 1, 1999, Alcoa’s shareholders’ equity (cumulative
translation adjustment) and minority interests were reduced by
$156 and $108, respectively. These amounts were driven principally
by a reduction in fixed assets. This reduction resulted in a
$15 decrease in Aluminio’s depreciation expense for 1999 and
$30 in 2000.
The total impact of translation and exchange included in net
income, after taxes and minority interests, was an $8 loss in each year.
Minority Interests — In 2000, minority interests increased by $139
to $381. The increase was due to higher earnings at Alcoa of Australia
(AofA),
AFL , and Aluminio. Minority interests’ share of income
from operations rose 2% in 1999 from 1998 to $242. The increase
was due to higher earnings at AofA and AFL , partially offset
by lower earnings from other Alcoa World Alumina and Chemicals
(AWAC) locations.
Market Risks
In addition to the risks inherent in its operations, Alcoa is exposed
to financial, market, political and economic risks. The following
discussion, which provides additional detail regarding Alcoa’s exposure
to the risks of changing commodity prices, foreign exchange rates
and interest rates, includes forward-looking statements that involve
risk and uncertainties. Forward-looking statements also include
those containing such words as ‘‘anticipates, believes, estimates,
expects, hopes, targets, should, will, will likely result, forecast,
outlook, projects’’ or similar expressions. Actual results could differ
materially from those projected in these forward-looking statements.
Commodity Price Risks — Alcoa is a leading global producer of
aluminum ingot and aluminum fabricated products. As a condition
of sale, customers often require Alcoa to commit to fixed-price
contracts that sometimes extend a number of years into the future.
Customers will likely require Alcoa to enter into similar arrange-
ments in the future. These contracts expose Alcoa to the risk of
fluctuating aluminum prices between the time the order is accepted
and the time that the order ships.
In order to fulfill some of the orders noted above, Alcoa might be
required to purchase aluminum to supplement its internal produc-
tion. These purchases expose the company to the risk of higher
aluminum prices. To hedge this risk, Alcoa enters into long positions,
principally using futures and options. Alcoa follows a stable pattern
of purchasing metal; therefore, it is highly likely that anticipated
metal purchase requirements will be met. At December 31, 2000
and 1999, these contracts totaled approximately 522,000 mt and
465,000 mt, respectively. These contracts act to fix the purchase price
for these metal purchase requirements, thereby reducing Alcoa’s risk
to rising metal prices.
A hypothetical 10% change from the 2000 year-end, three-month
LME aluminum ingot price of $1,565 per mt would result in a pretax
gain or loss to future earnings of $81 related to all of the futures
and options contracts noted above. However, it should be noted
that any change in the value of these contracts, real or hypothetical,
would be significantly offset by an inverse change in the value of
the underlying metal purchase transactions.
Earnings were selected as the measure of sensitivity due to the
historical relationship between aluminum ingot prices and Alcoa’s
earnings. The hypothetical change of 10% was calculated using a
parallel shift in the existing December 31, 2000 forward price curve
for aluminum ingot. The price curve takes into account the time
value of money, as well as future expectations regarding the price
of aluminum ingot.
The futures and options contracts noted above are with credit-
worthy counterparties and are further supported by cash, treasury
bills or irrevocable letters of credit issued by carefully chosen banks.
Alcoa also had 51,000 mt and 21,000 mt of futures and options
contracts outstanding at year-end 2000 and 1999, respectively, that
cover long-term, fixed-price commitments to supply customers with
metal from internal sources. Accounting convention requires that
these contracts be marked to market, which resulted in after-tax
gains of $6 in 2000 and $12 in 1999 and charges of $45 in 1998.
A hypothetical 10% change in aluminum ingot prices from the year-
end 2000 level of $1,565 per mt would result in a pretax gain or
loss of $7 related to these positions. The hypothetical gain or loss
was calculated using the same model and assumptions noted earlier.
Alcoa sells products to various third parties at prices that are
influenced by changes in
LME aluminum prices. From time to time,
the company may elect to hedge a portion of these exposures to
reduce the risk of fluctuating market prices on these sales. Toward
this end, Alcoa may enter into short positions using futures and
options contracts. At December 31, 2000 and 1999, these contracts
totaled 112,000 mt and 244,000 mt, respectively. These contracts
act to fix a portion of the sales price related to these sales contracts.
A hypothetical 10% change in aluminum ingot prices from the year-
end 2000 level of $1,565 per mt would result in a pretax gain or
loss of $15 related to these positions. The hypothetical gain or loss
was calculated using the same model and assumptions noted earlier.
Alcoa is required to purchase natural gas to meet its production
requirements. These purchases expose the company to the risk of
higher natural gas prices. To hedge this risk, Alcoa enters into long
positions, principally using futures and options. Alcoa follows a