Will Alcoa Come Out of Trouble?

Lightweight metals company Alcoa Inc. (AA) reported its second quarter 2016 results on 11th July. The company beat the analyst’s earnings expectations despite posting a year-on-year decline in earnings and revenues. The adjusted earnings were $0.15 in adjusted earnings per share ("EPS") on revenues of $5.30 billion.

This compares to an adjusted EPS of $0.19 for the year ago quarter. Analysts at Bloomberg were expecting an even sharper decline in adjusted earnings. Their median estimate was $0.09 per share. As the company beat this estimate, Alcoa shares climbed by as much as 4% in after-hours trading.

What’s hurting Alcoa

During the quarter, Alcoa had to face the impact of lower aluminum prices as well as curtailed, divested and closed businesses.
Will Alcoa Come Out of Trouble?
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These factors brought its revenue down by 14% and more than offset a 4% revenue increase from recent acquisitions and organic growth. However, there have been strong productivity gains year-over-year amounting to $375 million across all segments.

In the second half of 2016, the company will finally get split into Arconic and Alcoa Corporation. Arconic will comprise of the existing Value-Add segments which are Global Rolled Products, Engineered Products and Solutions, and Transportation and Construction Solutions. This group of downstream segments saw a year-over-year growth in profit.

On the other hand, Alcoa Corporation will comprise of the existing Upstream segments which are basically Alumina and Primary Metals. This cluster witnessed a sequential rise in profit during the quarter.

The company has $1.9 billion cash on hand. The cash generated from operations was $332 million while the free cash flow was $55 million. The non-essential asset sales expected to generate total cash proceeds of $1.2 billion during 2016 out of which $815 million have been already received year-to-date. This will further strengthen the balance sheet while pushing the total cash beyond $2.0 billion.

Aluminum market prospects:

Demand of aluminum is expected to improve in the second half of 2016 as new platforms will be coming up in the global aerospace market. Although there was a 1 % decline Y-o-Y in large commercial aircraft deliveries in the first half, the company is confident that the second half will see a 6 % rise in the same. Overall, the company expects these deliveries to grow by a nominal 3 % for the full year 2016. However, 2017 might see a very strong growth in the company’s view and see even double-digit growth.

Alcoa also caters the automotive segment which it forecasts to grow between 1 % and 4 % globally. Especially the budding light truck sub-segment provides the greatest hope for aluminum suppliers within the automobile segment. Some of the major factors on which this forecast is based are low fuel prices, sustained demand, stable consumer confidence and recovery of global economies.

On similar grounds, the aerofoil market is expected to grow by 2 % to 4 % during the current year. The packaging market is projected to grow by 1 % to 3 % and the global building and construction market growth is projected to be between 4 % and 6 %. Demand of aluminum will also be boosted by the increased installation of new, high-efficiency industrial gas turbine models owing to low natural gas prices.

The only area from where the aluminum demand is not expected to grow is the North American heavy duty truck, trailer and bus market. And that’s because of continued production declines there. Further, Europe and China might just not be able to completely offset the impact of that decline resulting in a -4 % to -1 % growth projection for the global commercial transportation market.

All in all, Alcoa expects that there will be about 775 thousand metric ton global aluminum deficit and 1.5 million metric ton alumina deficit this year.

In fact, the global aluminum demand will grow by 5 % while the supply will grow by about 2.5 % only. Hence, the expectation of such deficits is very valid as demand outweighs supply.

Conclusion:

Alcoa has posted a positive result for the last quarter and this factored into the stock price very soon after the announcement. But I believe the upside is not going to end here. The global aluminum demand is expected to double between 2010 and 2020. Hence, the price of the light metal is definitely going to go up resulting in better future earnings.

Published on Sep 1, 2016
By Vinay Singh

Copyrighted 2016. Content published with author's permission.

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