Alcoa Pre-Earnings Outlook

by Julie Young
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Submitted by Julie Young as part of our contributors program.

Alcoa is set to report second quarter earnings on July 8. Its second quarter earnings report follows some speculation in the market regarding aluminum prices and global industry demand. Analysts’ have a second quarter consensus estimate of $0.10 per share, $0.04 above the previous year’s second quarter report, indicating steady state growth occurring for the company.

Alcoa’s first quarter earnings were on track coming in at $0.11 per share on target with analysts’ consensus estimate. First quarter top line revenue was down 1.7 percent in the first quarter from $5.9 billion to $5.8 billion. Net income was up 89 percent from the previous quarter at $121 million from $64 million, resulting in the earnings of $0.11 per share.

While the first quarter report was positive for Alcoa some troubling concerns were noted following the company’s announcement. Global market concerns for the company led to a downgrade by Moody’s on May 29. On May 29 Moody’s downgraded Alcoa’s debt from Baa3 to Ba1. During the second quarter Standard and Poor’s and Fitch also lowered their outlook for the company. The downgraded outlooks are a result of global concerns for the company regarding aluminum prices and global aluminum demand.

Aluminum price declines have been prevalent in the aluminum industry. The industry has seen aluminum prices on the London Metal Exchange fall from $2,037.71 in January 2013 to $1,830.26 at the end of May. The decline in aluminum prices results in reduced profit for Alcoa whose primary businesses include Alumina and Aluminum production.

Global demand is also a leading concern for the aluminum producer. Europe’s debt crisis continues to weigh on the global economy and as a result is slowing the future sales growth outlook for Alcoa in all four of its business divisions, which include Flat Rolled Products and Engineered Products and Solutions in addition to Alumina and Primary Metals. Rating agencies have also continually highlighted the declining demand in China which adds further drag on sales growth potential for Alcoa.

While market speculators have been harping on the declining aluminum prices and global demand risks, business production efficiency continues to remain strong for the company. Alcoa posted strong quarter over quarter net income gains with little change to their overarching growth forecasts.

While the company acknowledged the industry’s declining aluminum prices and global demand risks their business production outlooks continue to remain strong. Producing the majority of the industry’s aerospace alloy products, the value-added Engineered Products and Solutions Group and the Global Rolled Products division growth forecasts remain at a strong 5 percent and 15-20 percent, respectively.

William Oplinger, Chief Financial Officer, further iterated his view of the Global Rolled Products segment in his first quarter earnings comments stating, “The aero and auto markets are expected to be strong, with seasonal demand increases in packaging. We’ll continue to experience pricing pressures in North America and China. And lastly, we’ll continue to deliver productivity gains. With that said, the overall view of this segment is for profitability to increase by 15 percent to 20 percent on a sequential quarter basis.”

The strong growth in these two business segments should continue to offset declines in the Alumina and Primary Metals division. While these two divisions face the greatest risks due to price decline and global demand reductions, production efficiencies continue to improve with no major issues causing a slowdown.

With the company’s positive growth trajectory and continued efficiency improvements it appears market speculators’ global risk assessment could be slightly overexaggerated. Alcoa’s stock price has fallen from $8.39 following the first quarter announcement to $7.98 on June 21. While a surge in growth for the company may not be likely given the global market factors, the company still continues to remain a leader among its industry peers.

Given Alcoa’s second quarter and full year outlook it appears to have a one-year price target1 of $9.34, undervalued at its current selling price making it an industry leading investment opportunity for investors seeking long-term exposure to the Basic Materials – Metals and Mining sector.

1 The price target is derived from Bodie, Kane and Marcus’ intrinsic value formula. The intrinsic value formula discounts the stock’s projected one-year future cash flow by the risk-free rate on the one-year Treasury note and includes adjustments made for specific market assumptions including the stock’s beta and market risk premium.

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