Alcoa’s Stock Up 125% In 6 Months; Upside Still Remains

Despite a formidable rise of 125% since the March lows of this year, at the current price of around $12 per share, Alcoa stock (NYSE: AA) has still not reached its near-term potential. Alcoa’s stock has rallied from $5.48 to $12.30 off the recent bottom compared to the S&P which increased 47% during the same period. The stock was able to beat the broader market in the last 6 months as aluminum prices rebounded and started to rise since April following the US government announcing a string of measures along with stimulus packages announced in other economies to keep businesses afloat. Also, with the Chinese economy opening up, the market is expecting a rise in aluminum demand.

With the stock still about 25% lower than its pre-Covid peak (February 2020), we believe that the stock has an upside of more than 15% from its current level. Our dashboard What Factors Drove -77% Change In Alcoa Stock Between 2017 And Now? provides the number behind our thinking.

Some of the stock price decline between 2017-2019 was justified by more than a 10% decrease in Alcoa revenues during this period. Its operations turned loss-making in 2019. While Alcoa’s revenue declined in 2019 and has reached below its 2017 level, the P/S (price-to-sales) multiple has seen a continuous decline over the years as the stock price also declined.

Alcoa’s P/S multiple dropped from 0.9x in 2017 to 0.4x in 2019. The multiple dropped sharply in 2020 following the outbreak of the pandemic which led to a decline in aluminum prices. The multiple currently stands at 0.2x. We believe that the company’s P/S multiple has the potential to rise to over 0.25x in the near-term as aluminum prices move up following the gradual lifting of lockdowns. This is likely to lead to an uptick in stock price as the crisis abates.

Trigger for Upside?

As increasing number of steel players are shedding capacity, with demand from automobiles being modest, China has increased its exports of semi products at a lower price. This has led to a decline in the price of primary aluminum products worldwide. To add to this, the global spread of coronavirus led to lockdown in various cities across the globe, which affected industrial and economic activity. The aluminum demand from industry players affects global aluminum price levels, in turn impacting the company’s price realization for its products. Lower demand from construction and automobile players, has led to a drop in global aluminum prices from $1,820/ton in January 2020 to $1,570/ton in June 2020. This was reflected in the Q2 2020 results where Alcoa’s revenues decreased by 21% on a y-o-y basis.

The actual recovery and its timing hinge on the broader containment of the coronavirus spread. Our dashboard Trends In U.S. Covid-19 Cases provides an overview of how the pandemic has been spreading in the U.S. and contrasts with trends in Brazil and Russia. However, with the gradual lifting of lockdowns, the aluminum demand is expected to start picking up soon. This is reflected in the global aluminum price which has increased from $1,570/ton in June 2020 to $1,780/ton in September 2020. Also, as a part of a restructuring, Alcoa has put part of its aluminum assets under review. This is likely to hit the top line adversely in the near term, but margins are likely to improve from 2021 as the company focuses on core assets and operations. Thus, an increase in aluminum prices, the company’s renewed focus on core operations with expectations of better earnings, and with investors’ focus having shifted to 2021 numbers, Alcoa’s stock is likely to go up. As per Trefis, Alcoa’s valuation works out to $14 per share, reflecting an upside of more than 15% from its current level.

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