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Third quarter 2010: Strong cost control in a seasonally weak quarter

Hydro reported adjusted earnings before financial items and taxes (EBIT) of NOK 965 million in the third quarter, a decrease of NOK 1,110 million in the second quarter. Seasonal lower sales, weaker adjusted results for Alumina & amp; Raw materials and losses from the Qatalum joint venture weighed on adjusted earnings.

  • Adjusted EBIT of NOK 965 million
  • Declining volumes due to the seasonal decline in demand
  • Upstream area weaker due to reduced alumina business earnings and Qatalum power outage
  • Midstream area with constant operating performance and positively influenced by currency effects
  • Seasonal downstream area weaker, positive effects of internal measures
  • Energy stable with continued low electricity generation
  • Acquisition of Vale's aluminum business on track with completion in the fourth quarter
  • Achievement of full performance at Qatalum by the end of the first quarter of 2011
  • growth prospects outside of China around 17 percent

“Market fundamentals show signs of recovery, but sales volumes are lower due to normal seasonal fluctuations in the market. Based on a higher aluminum demand in the first new months than expected, we expect demand outside of China to increase by around 17 percent next year compared to 2009, ”says Hydro Group CEO Svein Richard Brandtzæg. & Nbsp;

Vale and Qatalum

“Hydro is in a process that will change the company and make it a truly global and leading aluminum company. At the moment we are focusing on integration planning and completing the Vale transaction in the fourth quarter, while Qatalum continues to ramp up production and will reach full capacity by the end of the first quarter of 2011, ”said Brandtzæg.
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"At the same time, strict cost control will continue to improve the operational performance processes. I am pleased that the work to save $ 300 a ton in our smelters is making good progress. ”
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Adjusted earnings for the Primary Metal business was in the quarter due to lower earnings Alumina & amp; Declining raw materials. The Alunorte alumina refinery, in which Hydro currently holds a 34 percent stake, posted an adjusted loss in the quarter as LME prices linked to the LME decreased and energy and raw materials costs rose. Adjusted earnings for alumina trading activity weakened in the third quarter.
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The Qatalum aluminum smelter, owned 50 percent by Hydro and Qatar Petroleum, suffered increased losses as a result the power outage in August led to production cessation and sales losses. Production started up again in mid-September and the smelter is expected to reach full capacity by the end of the first quarter of 2011. The insurance is expected to cover most of the costs and losses incurred by the company, including the business interruption.

Other business areas & nbsp;

Adjusted EBIT for the Metal Markets business increased in the quarter, mainly due to positive currency effects resulting from a strengthening of the euro against the dollar.
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The Extruded Products and Rolled Products business areas achieved lower adjusted results (EBIT), which was due to the seasonal lower sales volume. The margins for Rolled Products decreased due to higher freight and material costs as well as currency developments. Extruded Products also saw margins decline slightly in most sectors. Cost focus was maintained at both Rolled Products and Extruded Products and further improved cost items.
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Adjusted earnings for the Energy business were stable in the third quarter with continued low electricity generation in the quarter .
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Net cash flow from operations in the quarter was NOK 1 billion. The investment was NOK 1.6 billion, including around NOK 1.1 billion related to Qatalum. Investments for Qatalum should reach the same level in the fourth quarter. Hydro's net liquidity was NOK 6.9 billion at the end of the quarter.
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The proposed acquisition of Vale's aluminum business in Brazil, announced in May, is expected to close in the fourth quarter. Hydro has hedged the bulk of the aluminum from the activities to be acquired for approximately $ 2,400 a ton by the end of 2011. To partially fund the transaction, confirm the company's investment grade rating, and preserve the capacity to realize future projects, Hydro launched a fully guaranteed rights issue to increase the company's equity by NOK 10 billion. The rights issue was successfully completed on July 16, 2010.

More in English: & nbsp;
For further information please refer to the Information Memorandum and Prospectus dated 2 June 2010 and 21 June 2010 respectively. & nbsp;

Key financial information
NOK million, except per share data Third
quarter
2010
Second
quarter
2010
% change prior quarter Third
quarter
2009
% change prior year quarter First 9
months
2010
First 9
months
2009
Year
2009
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Revenue 18,424 19,779 (7)% 16.795 10% 56,348 50,982 67.409
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Earnings before financial items and tax (EBIT) 274 1,157 (76)% 719 (62)% 2,417 (469) (1,407)
Items excluded from underlying EBIT 690 (47) & nbsp; (1,512) & nbsp; 347 (1,435) (1,148)
Underlying EBIT 965 1,110 (13)% (793) & gt; 100% 2,763 (1.904) (2,555)
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Underlying EBIT : & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp;
Primary Metal 399 657 (39)% (760) & gt; 100% 1.007 (1,839) (2,556)
Metal Markets 163 31 & gt; 100% (15) & gt; 100% 259 (63) (83)
Rolled Products 227 309 (27)% 51 & gt; 100% 759 (31) 26
Extruded Products 102 201 (49)% 95 8% 420 (136) (67)
Energy 169 177 (5)% 217 (22)% 934 945 1,240
Other and eliminations (95) (265) 64% (381) 75% (616) (781) (1,114)
Underlying EBIT 965 1,110 (13)% (793) & gt; 100% 2,763 (1.904) (2,555)
& nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp;
Net income (loss) (63) 598 & gt; (100)% 1.001 & gt; (100)% 1,460 1.003 416
& nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp;
Underlying net income (loss) 545 530 3% (1,222) & gt; 100% 1,476 (2,274) (3,066)
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Earnings per share (0.07) 0.40 & gt; (100)% 0.79 & gt; (100)% 0.93 0.68 0.24
& nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp;
Underlying earnings per share 0.33 0.34 (4)% (0.96) & gt; 100% 0.94 (1.89) (2.50)
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Financial data: & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp;
Investments 1,591 1,261 26% 2.126 (25)% 4,618 3,576 5,947
Adjusted net interest-bearing debt (8,280) (18,191) 54% (19,044) 57% (8,280) (19,044) (15,645)
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Key Operational information
Primary aluminum production (kmt) 355 362 (2)% 330 8% 1,055 1,064 1,396
Realized aluminum price LME (USD / mt) 2,179 2,200 (1)% 1,523 43% 2.125 1,667 1,698
Realized aluminum price LME (NOK / mt) 13.503 13.302 2% 9,480 42% 12,753 10,851 10,764
Realized NOK / USD exchange rate 6.20 6.05 2% 6.22 - 6.00 6.51 6.34
Metal Markets sales volumes to external market (kmt) 429 457 (6)% 395 9% 1,300 1,093 1,468
Rolled Products sales volumes to external market (kmt) 239 242 (2)% 205 17% 712 583 794
Extruded Products sales volumes to external market (kmt) 134 141 (5)% 118 13% 402 337 453
Power production (GWh) 1,479 1,621 (9)% 1,682 (12)% 5,881 5,968 7,897

About Hydro's reporting

To provide a better understanding of Hydro's underlying performance, the following discussion of operating performance excludes certain items from EBIT (earnings before financial items and tax) and net income. See "Items excluded from underlying EBIT and net income" for more information on these items.

Reported EBIT and net income

Reported EBIT for Hydro total to NOK 274 million for the third quarter of 2010 including net negative effects of NOK 690 million comprised of net unrealized derivative losses of NOK 524 million, negative metal effects of NOK 52 million and impairment charges relating to Qatalum amounting to NOK 114 million.
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In the previous quarter, reported EBIT for Hydro amounted to NOK 1,157 million including net positive effects of NOK 47 million comprised of net unrealized derivative losses of NOK 292 million, positive metal effects of NOK 206 million and other positive effects of NOK 133 million, mainly related to changes in pension plans in Norway.
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Hydro incurred a net loss for the quarter amounting to NOK 63 million including net foreign exchange losses of NOK 246 million. In the second quarter, net income total to NOK 598 million including net foreign exchange gains of NOK 59 million.

Market developments and outlook

LME prices increased during the quarter with some volatility. Three month prices started the quarter at a level of around USD 1,950 per mt and ended at USD 2,348 per mt. Average LME three month prices for the third quarter was stable compared to the second quarter.
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Global demand for primary aluminum excluding China weakened in the third quarter due to seasonal effects as well as lower levels of customer restocking. Annualized consumption and production total to 23.7 million mt and 25.1 million mt respectively. Primary aluminum consumption outside China is expected to amount to about 24 million tonnes in 2010 representing around 17 percent growth from 2009. The current market surplus is expected to continue at a level around 1 million tonnes.
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Demand for primary aluminum in China decreased from the previous quarter to around 17 million mt on an annual basis. Production also declined due to energy savings targets, resulting in a largely balanced market during the quarter.
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LME stocks were relatively stable around 4.4 million mt during the quarter.
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European demand for metal products (extrusion ingot, sheet ingot, foundry alloys and wire rod) was seasonally lower in third quarter compared to the second quarter while demand improved somewhat in the US market.
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Consumption in the European flat rolled products market was seasonally lower in the quarter compared to the second quarter of 2010. Most of the demand recovery from the low levels experienced in the previous year appears to have been realized in the first nine months of 2010 and restocking activities are softening. Demand is expected to be stable or somewhat lower for the remainder of the year but with a normal seasonal decline.
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European demand for extruded aluminum products was seasonally lower compared with the second quarter of 2010. Overall demand in the European and US extrusion markets is expected to be stable in the fourth quarter but with a normal seasonal decline. Demand recovery in the construction segment is expected to remain slow.
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Nordic electricity spot prices were slightly higher in the third quarter compared with the second quarter. The Nordic hydrological balance continues to be negative in particular due to low reservoir levels in Norway.

Additional factors impacting Hydro

Hydro has sold forward substantially all of its primary aluminum production for the fourth quarter at a price level of around USD 2,050 per mt, excluding expected Qatalum production.
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For the fourth quarter, Hydro expects its share of underlying results for Qatalum to amount to a loss of about NOK 400 million excluding any insurance reimbursement. Insurance is expected to cover a majority of the loss related to the power outage. The first payment from the insurers is expected to be requested during the fourth quarter of 2010.
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In the autumn of 2009, Hydro launched a cost improvement program in order to reduce conversion costs by USD 100 per mt of primary aluminum produced by the end of 2011, compared to the 2009 level. The program is on schedule. To further improve the competitiveness of Hydro's wholly-owned smelters and restore their profitability to a sustainable level the improvement ambition has been increased to USD 300 per mt. The program is expected to be completed by the end of 2014.
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Due to low power production during the second and third quarters, Hydro's reservoirs were approaching normal levels in the middle of October and we expect high power production in the fourth quarter.
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During 2009, Hydro curtailed production capacity and reduced production at several plants. If it becomes necessary to permanently close plants that have been curtailed on a temporary basis, additional substantial closure costs will be incurred.

Primary Metal

Underlying results for Primary Metal declined during the quarter compared to the second quarter mainly due to expected lower results for Alumina and Raw materials in addition to increased losses for Qatalum following a power outage at the smelter in August.
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Alumina and Raw Materials' underlying results declined during the quarter as expected. Alunorte incurred an underlying loss for the quarter as a result of lower alumina prices and higher energy and bauxite costs. Energy costs increased more significantly due to a maintenance shutdown of the coal boilers at the plant that required the use of higher cost alternative fuel. Production volumes declined somewhat mainly due to maintenance activities. Underlying results in the second quarter were positively impacted by a settlement of a claim for business interruption insurance.
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Underlying results for alumina commercial activities declined in the third quarter mainly due to lower volumes and unrealized losses on LME forward contracts compared to unrealized gains in the previous quarter. Related gains and losses on physical contracts are not recognized in underlying results until realized.
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Underlying results for Primary Aluminum were impacted by increased losses for Qatalum relating to lost production and sales due to a power outage which stopped production at the plant. Impairment charges relating to the incident amounting to NOK 114 million, primarily related to damaged metal in the cells, are excluded from underlying EBIT. Ramp-up of the plant restarted in the middle of September. The plant is expected to reach full production at the end of the first quarter of 2011.
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Realized aluminum prices were stable during the quarter declining slightly measured in US dollars but increasing somewhat measured in Norwegian kroner contributing about NOK 60 million to underlying EBIT compared to the second quarter. Higher realized premiums contributed roughly NOK 85 million. Seasonally lower sales volumes had a negative impact on underlying results amounting to around NOK 120 million for the quarter.
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Variable costs increased by roughly NOK 100 million during the quarter mainly due to higher petroleum coke prices. Higher variable costs were offset by lower fixed costs for the quarter.

Metal Markets

Underlying EBIT for Metal Markets increased during the quarter compared with the second quarter mainly due to positive currency effects amounting to approximately NOK 120 million resulting from the strengthening Euro against the US dollar. The positive effects were partly offset by lower underlying EBIT for our metal sourcing and trading operations. Currency effects in the second quarter were negative amounting to about NOK 140 million.
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Underlying results from remelt operations were stable compared with the second quarter. Negative effects from lower production and sales volumes as a result of seasonal maintenance shutdowns were offset by higher operating margins.
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Total metal sales from own production and third party contracts decreased somewhat compared with the second quarter of 2010 mainly due to seasonally lower shipments of extrusion ingots in all markets sectors.
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Underlying EBIT declined for our metal sourcing and trading operations for the quarter. Operating margins improved but hedging losses relating to standard ingot inventories had a negative impact on underlying results amounting to NOK 70 million. Offsetting gains on physical inventories are not recognized in underlying results until realized. In the second quarter, realized gains on physical inventories total to NOK 60 million.
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In total, currency effects and the inventory related hedging gains and losses had a net positive effect of about NOK 50 million in the third quarter compared with a net negative impact of NOK 80 million in the second quarter. Excluding these effects, Metal Markets' operating performance was stable for the quarter.

Rolled Products

Underlying EBIT for Rolled Products declined compared with the second quarter of 2010 due to lower margins and somewhat lower sales volumes due to seasonality.
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Most market segments experienced expected seasonal declines. General engineering sales volumes declined by 5 percent but underlying demand was stable. Volumes for automotive applications were 2 percent lower due to OEM's holiday period. Shipments for the construction segment were 15 percent lower also due to the holiday period. However, demand was firm and production was close to available capacities. Lithography shipments declined by 3 percent with somewhat weaker market demand at the end of the third quarter. Other product segments were stable or improved. Shipment of thin gauge foil applications increased 5 percent based on a good demand. Demand for the can beverage segment was strong but shipments were on same level as in the second quarter limited by capacity constraints.
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Margins were negatively impacted mainly by higher metal premiums and inbound freight costs in addition to currency effects on export sales. Cost focus continued and cost per mt declined further compared with the second quarter. Labor productivity also continued to improve compared to the second quarter and was above the level achieved in 2008 even though volumes continued to be lower.

Extruded Products

Underlying results for Extruded Products decreased compared to the second quarter of 2010 due to seasonally lower volumes, increased maintenance costs and slightly lower margins in most business sectors.
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Our extrusion operations in Europe and the Americas delivered somewhat lower volumes compared with the second quarter reflecting lower seasonal demand. Volumes for our building systems operations declined about 14 percent as the recovery in the building and construction markets remains weak. In particular, demand in southern Europe fell in the third quarter partly due to reduced public spending. Volumes for our precision tubing business were also seasonally down falling by around 8 percent. Volumes were also impacted by capacity constraints at our plants in China and Brazil, where market growth is strong. Overall demand in the automotive market continued to improve but at a lower growth rate. Margins were somewhat lower for most business sectors. Planned shutdowns resulted in higher maintenance costs compared with the second quarter.

Energy

Underlying EBIT for Energy declined somewhat compared to the second quarter of 2010. Production declined further during the quarter influenced by low reservoir levels. Lower production costs partly offset the negative impact of the reduced production volumes.

Other and eliminations

Underlying EBIT for Other and eliminations total to a charge of NOK 95 million in the third quarter compared with a charge of NOK 265 million in the previous quarter and a charge of NOK 381 million in the third quarter of 2009. Underlying EBIT includes the elimination of internal gains and losses on inventories purchased from group companies which total to an income of NOK 24 million in the third quarter compared with a charge of NOK 85 million in the previous quarter and a charge of NOK 131 million in the third quarter of 2009. Underlying EBIT for Other and eliminations for the second quarter included costs related to the acquisition of Vale's aluminum operations of about NOK 50 million.
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Hydro's solar activities incurred an underlying loss of NOK 19 million in the third quarter compared with a loss of NOK 47 million in the previous quarter and a loss of NOK 18 million in the third quarter of 2009.

Items excluded from underlying EBIT and net income

To provide a better understanding of Hydro's underlying performance, the items in the table below have been excluded from EBIT and net income.
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Items excluded from underlying EBIT are comprised mainly of unrealized gains and losses on certain derivatives, impairment and rationalization charges, effects of disposals of businesses and operating assets, as well as other items that are of a special nature or are not expected to be incurred on an ongoing basis.
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Linked to the agreement to acquire the majority of Vale's aluminum businesses in Brazil (Vale Aluminum) it was decided to hedge the majority of the net aluminum price exposure in Vale Aluminum until end 2011. The hedges are aimed at mitigating the risk of a weaker aluminum price and will secure a robust cash flow from the acquired assets in the transition phase. The hedges are not conditional upon completion of the transaction. The significant part of the positions expiring after closing of the transaction are subject to hedge accounting and included in other comprehensive income. Recognized unrealized and realized effects of positions not subject to hedge accounting are classified as items excluded from underlying EBIT.

Items excluded from underlying net income
NOK million Third
quarter
2010
Second
quarter
2010
Third
quarter
2009
First 9
months
2010
First 9
months
2009
Year
2009
& nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp; & nbsp;
Unrealized derivative effects on LME related contracts 515 389 (1,406) 651 (1.902) (2,630)
Derivative effects on LME related contracts (Vale Aluminum) 99 (320) - (221) - -
Unrealized derivative effects on power contracts (25) 211 (54) 458 (516) (198)
Unrealized derivative effects on currency contracts (65) 12 (102) (30) (325) (345)
Metal effect, Rolled Products 52 (206) (141) (468) 746 588
Significant rationalization charges and closure costs - 18 30 (1) 453 518
Impairment charges (PP&E and equity accounted investments) 114 - 286 175 300 438
Pension - (151) (52) (151) (52) (52)
Insurance compensation - - (73) - (139) (152)
(Gains) / losses on divestments - - - (67) - 684
Items excluded from underlying EBIT 690 (47) (1,512) 347 (1,435) (1,148)
Net foreign exchange (gain) / loss 246 (59) (992) (281) (2,559) (2,774)
Calculated income tax effect (328) 38 280 (49) 716 441
Items excluded from underlying net income 608 (68) (2,224) 16 (3,277) (3,481)

Finance

Financial expense total to NOK 218 million in the second quarter compared with financial expense of NOK 97 million in the previous quarter.
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Interest income increased in the third quarter due to higher cash balances. In the second quarter, interest expense was higher due to interest on tax claims in Germany.
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Currency losses in the third quarter mainly related to US dollar financial assets, due to weaker US dollar against the Norwegian kroner. There were no significant currency gains or losses on intercompany balances in the third quarter.1)
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In the second quarter, currency gains on intercompany balances denominated in Euro amounts to NOK 151 million, due to a weaker euro against the Norwegian kroner. Other net currency losses totaled NOK 92 million.

Tax

Income tax expense total to a charge of NOK 119 million in the third quarter compared with a charge of NOK 462 million in the previous quarter and a charge of NOK 707 million in the third quarter of 2009.
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For the first nine months of 2010 income tax expense was roughly 45 percent of pre-tax income. The high tax rate for the third quarter mainly reflects the losses in Qatalum, an equity accounted investment, in which earnings are recognized net of tax.

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