Alcoa’s Q2 2019: Macroeconomic Headwinds And Restructuring Charges Weigh Heavily On Revenue And Bottom Line

Alcoa (NYSE: AA) released its Q2 2019 financial results on July 17, 2019, followed by a conference call with analysts.

Key Takeaways

• Alcoa’s trend of a shrinking revenue base over the last four quarters continued in Q2 2019 as well, with the company missing consensus estimates on revenue and earnings.
• Alcoa’s revenues of $2.7 billion in Q2 2019, marked a decline of 24.3% over the previous year period.
• Lower revenue was driven by a decrease in alumina and aluminum shipments, along with a drop in global price levels of both these commodities on the back of excess supply.
• The company reported an adjusted loss of $0.01 per share in Q2 2019, compared to adjusted earnings of $1.17/share in Q2 2018.
• Lower earnings were primarily driven by lower production, decreased price realization, and restructuring charges related to aluminum plants in Spain.

You can view our interactive dashboard – Alcoa Earnings: Performance and 2019 Forecast – and alter the assumptions to arrive at your own estimate for the company’s revenues, earnings, and stock price. In addition, here is more Materials data.

A Quick Look At Alcoa’s Key Revenue Sources

Alcoa reported $13.4 billion in revenue in FY 2018. The company’s primary revenue segments are as follows:

• Alumina: $5.17 billion revenue in FY 2018 (39% of total revenue). This segment consists of the Company’s worldwide refining system, which processes bauxite into alumina, which is sold to its aluminum segment and third-party customers who process it into industrial chemical products.
• Aluminum: $7.24 billion revenue in FY 2018 (54% of total revenue). This segment consists of Alcoa’s worldwide smelter system. Results from the sale of aluminum powder, scrap, and excess power are also included in this segment, as well as the results of aluminum derivative contracts.
• Bauxite: $0.99 billion revenue in FY 2018 (7% of total revenue). This segment consists of the Company’s global bauxite mining operations located in Australia, Brazil, Guinea, and the company also has an equity stake in a mine in Saudi Arabia.

A] Revenue Trend

Alumina Revenue

• Revenue from third-party alumina sales decreased by over 19% (y-o-y) to $864 million in Q2 2019, driven by a drop in shipments and lower price realization.
• Shipments are expected to remain sluggish in the near term due to lower demand for alumina with many global aluminum companies cutting down on capacity.
• Additionally, the global price level is also expected to remain subdued with the commodity being in excess supply since December 2018.

Aluminum Revenue

• Aluminum revenue has continuously decreased since Q2 2018, led by lower volume.
• Segment revenues declined by over 26% (y-o-y) in Q2 2019, however, on a sequential basis, revenue witnessed a slight uptick.
• Shipments are expected to remain under pressure with the company cutting back on its forecast for global aluminum demand, driven by lower demand in both China and the world ex-China due to trade tensions and macroeconomic headwinds.
• With aluminum exports from China being at record highs (exports exceeded 500kmt in seven of the last eight months) due to very low domestic demand, the price realized per ton is expected to remain low, which could, in turn,  lead to lower segment revenue in the near term.

Bauxite Revenue

• Over recent quarters, bauxite revenue has seen a lot of volatility due to production variation and fluctuation in demand for alumina production and other industrial applications.
• Segment revenue is expected to remain under pressure through 2019, driven by lower price realization and volume sales.

B] Expense and Profitability Trend

Total expenses decreased on a y-o-y basis in Q2 2019, due to the drop in production volume across all its segments.

• Cost of Goods Sold (COGS): Cost of sales as a % of revenue has been continuously increasing over the last four quarters, from 76.9% in Q2 2018 to 80.5% in Q2 2019, due to lower sales of aluminum products along with higher costs for carbon materials, energy, and maintenance related expenses. With aluminum sales expected to remain low, COGS is likely to remain elevated through 2019.
• Restructuring Expense: Alcoa incurred a significant restructuring charge of $370 million in Q2 2019, related to two aluminum plants in Spain with combined operating capacity of 124,000 metric tons per year, that have been maintained in restart condition, as a part of a Collective Dismissal Process with the workers.
• Effective Tax Rate: On a sequential basis, the effective tax rate was much lower in Q2 2019, as the tax rate shot up in Q1 2019 due to an unfavorable tax impact related to the treatment of operational losses in certain jurisdictions for which no tax benefit was recognized. However, on a y-o-y basis, the tax rate was still higher, which adversely affected the bottom line.

In spite of the drop in total expenses, net income margin dropped from 0.3% in Q2 2018 to -14.8% in Q2 2019, led by a sharp drop in revenues, lower volume, increase in restructuring expense, and cost of sales.

Full Year Outlook

• For the full year, the company is expected to report revenue of $10.9 billion in 2019, marking a decrease of 18.4% over 2018, driven by lower alumina and aluminum volume sales and price realization. This is expected to be followed by a 1.6% increase in revenue to $11.1 billion in 2020, driven by a moderate turnaround in global commodity price levels and an increase in production volume.
• Lower shipments are expected to adversely affect the company’s profitability as the total cost would be attributed to lower volume. Also, restructuring charges related to Spanish operations are also likely to affect margins, which are expected to drop to 0.3% in 2019, from 1.7% in 2018.
• However, with an increase in revenue and major restructuring cost already incurred, margins are expected to improve to 3% in 2020.

According to Alcoa’s Valuation done by Trefis, we have a price estimate of $30 per share for Alcoa’s stock, which is higher than its current market price. We believe that the company’s focus on improving its asset base and reducing cost, along with the recently announced $200 million share repurchase program, would continue to support the growth in its stock price.

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