2Q13 Earnings: Macroeconomic Affects Hinder Alcoa’s Short-Term Growth

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Alcoa kicked off the earnings season on July 8 with a 2Q13 earnings report in line with analysts’ overall consensus. The company reported adjusted earnings per share (EPS) of $0.07, $0.01 above analysts’ consensus EPS estimate.

Alcoa reported revenue of $5.8 billion resulting in adjusted net income of $76 million. While the adjusted net income and EPS results showed continued growth in key market segments a special items charge for the quarter brought to the surface some of the market’s concerns over global macroeconomic demand factors affecting the company.

The value-add business segments continued to be the most profitable for Alcoa. Engineered Products and Solutions had after tax operating income (ATOI) of $193 billion, up 12% from the previous quarter and 23% from 2Q12. Global Rolled Products had ATOI of $78 billion, down slightly from 1Q13 and up $1 million from 2Q12.

Alumina and Primary Metals continued to struggle as aluminum prices declined. Primary Metals reported an ATOI loss of $32 million following a gain of $39 million in the previous quarter and a loss of $3 million in 2Q12. Alumina ATOI was 10% higher on a quarter-over-quarter basis at $64 million and increased $41 million on a year-over-year basis.

Macroeconomic factors highlighted by rating agencies in the first quarter of 2013 appeared to have an effect on Alcoa during the quarter. On a GAAP basis the company recorded after tax restructuring and other charges of $195 million. A majority of the charges were attributed to upstream plant closings and restructurings related to demand and profitability issues specifically in Italy and Canada.

Alcoa also reported a $62 million charge for lawsuits related to Alba. Litigation disputes with Alba in Bahrain have been going on for five years. Additional charges related to Alba litigation are likely as arbitration continues.

While significant special item charges were reported in 2Q13 the company was able to generate positive free cash flow. Cash from operations was $514 million up from negative $70 million in 1Q13. As a result, free cash flow for the quarter was $228 million and cash equivalents available at quarter-end were $1.2 billion.

While the company’s outlook for value-add business growth continues to remain positive its special items charges related to closings and restructurings could be a signal that macroeconomic issues are having a more significant effect than previously factored in to the company’s future growth projections.

At $7.91 Alcoa’s stock price appears to be trading near its one-year price target1 of $8.22 with little room for upside potential. While it still remains the market leader in aluminum and aluminum products, investors should closely watch for production changes and litigation settlements that could cause further hindrance on short-term growth.

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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