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Alcoa (NYSE: AA) is the
world's leading aluminum company and supplies the aerospace,
automotive, packaging, construction and industrial markets.
The company smelts 9,575 tons of aluminum every day and has
roughly $30 billion a year in sales.
Alcoa is the first major company to report earnings
each quarter and, as such, is widely watched as a
bellwether. Earnings season officially kicked off today
when the aluminum producer announced its fourth-quarter results after the market's
close.
The company announced it lost $1.49 per share in the
fourth quarter, which included $1.15 per share taken as a
charge against restructuring and discontinued operations.
Net income for the same period last year was $0.75 per
share.
Alcoa's shares were among the hardest hit in the Dow Jones
Industrial Average last year, losing some -65%. They took
another hit last week after the company said it would cut
jobs and reduce output. But in light of this sell-off and
the most recent earnings report, our two investing experts
disagree on the stock's future. In particular:
Are Alcoa shares
a buy right now?
Andy Obermueller: Alcoa
should be considered for its low valuation.
 Alcoa is trading at
8.2 times earnings
versus a historical average of 11.7. Alcoa is a
market leader with more than a century's worth of
profitable response to the aluminum market.
The shares
will return to a reasonable valuation. Even returning to
their historical average implies
more than +42% upside.
Alcoa is cheap any way you look at it: According to last
quarter's data, shares are going for
58% of its book value, which is so insultingly low it makes
my mouth water. You get the company's assets at nearly half off and
the business for free.
Amy Calistri:
Based on next year's earnings, Alcoa's valuation is too
high.
While Alcoa may be trading at
8.2 times
'08 earnings, the average earnings forecast for '09 is all
of $0.17 per share -- that's down -86% year-over-year. And even
that may prove to be optimistic. At its current price,
Alcoa carries a forward P/E of more than 50. I can't
think of an aggressive growth stock with a valuation that
lofty.
Alcoa is positioning itself for a promising future.
Alcoa took it on the chin last year. It sees the writing on the
wall vis-a-vis demand, and it's engineering a
meaningful restructuring. It has planned to lay
off 13% of its staff, cut output equal to 18% of
its capacity, halve '09 capital
spending and put non-essential businesses up for sale.
The
result will be a leaner, more efficient company. And
remember, Alcoa's CEO isn't showing up hat in hand to
Congress looking for a handout. The company isn't embarking
on its restructuring to reverse a loss, it's doing it
to remain profitable. Smooth sailing? No. But concern
about this company is overdone.
The aluminum industry is facing an uphill battle.
 Last summer, the price of aluminum reached $3,375 a
ton; today its half that, at $1,555.
I'm generally bullish about commodities at these depressed
prices, but not aluminum. There is a global glut of aluminum right now with
inventories approaching a 14-year high. And much of
aluminum demand is based on discretionary spending and
beleaguered industries.
Two of the biggest users of aluminum are the auto and
airline industries. Automakers have seen almost a -40%
demand drop, and manufacturers are now carrying twice the
inventory of finished cars versus just a year ago.
As unemployment continues to climb and economies around the
world continue to slow, it's going to be a long time before
consumers are able and confident enough to ante up $20,000
to $40,000 for a new car. While the airlines may be
faring better than the auto industry, Boeing's new aircraft
orders were down more than -50% in 2008.
Producers like Alcoa are cutting production to try to
get supply more in line with demand.
But all the
announced worldwide production cuts, most coming from China,
will only reduce output by approximately -15% in 2009.
The future will indeed be brighter, but I suspect aluminum
companies won't be basking in much sunlight until 2011.
Alcoa has a strong track record and
a robust balance sheet.
The
company's third-quarter financials showed some $813 million
in cash on hand. Plus, long-term debt has
decreased -10% since 2002, and its interest
burden is less than onerous. Also worth noting:
Since 2002 shareholder equity and earnings per
share have grown +85% on a sales increase of
+50%. Now, yes, things are going to slow down,
but that's why Alcoa is slowing production and
cutting jobs. Everything is relative. The market
is misreading the recession: It doesn't mean the
world has stopped, just slowed down.
Also, concerns about the impact of reduced construction and
automotive spending are way overblown. Those segments
may be hurting, but they only account for only 15% of
Alcoa's total revenue. What's more, other divisions that
account for far more of its business are still humming
along. Here's a rule: Suppliers to defensive companies are
themselves defensive. Food companies, for instance, tend to
do well in a recession. Let's not forget that fully a
quarter of Alcoa's business is in providing the packaging those companies
need. Alcoa's not just producing fuselage bodies and auto
parts and praying things rebound. It's a dynamic industry
participant that sells to a diverse group of end
users.
Alcoa's balance sheet isn't a big enough cushion.
I agree that
Alcoa has a stronger balance sheet and better track record
than many of its competitors. But as John Paul Getty
said, "a billion dollars isn't what it used to be," and $813
million isn't the cushion it used to be either. Alcoa
burns through nearly $400 million in debt service a year.
And they've just taken a $920 million charge for
restructuring and discontinued operations -- a number that is likely to grow. Current
dividend expenses run Alcoa $260 million a year, although
analysts see a dividend cut in 2009 as likely.
At these aluminum prices, it is estimated that more than 50% of
producers are operating below their total cash
costs. Even with reduced energy input costs, Alcoa will be
working on a mighty slim margin. Any way you look at it,
Alcoa's balance sheet is going to be tested.
Andy's
Parting Shot
Alcoa is executing flawlessly in the
areas it can control, and that's what counts. I like these
shares for their low valuation, the company's market
position and its balance sheet. Alcoa's debt burden is low --
debt for the third quarter amounted to
less than 40% of capital. That gives it some room to borrow,
not dimes to fund operations, but dollars to make
acquisitions.
Alcoa was hit hard last year, and so were
others. Consequently, I see 2009 as a good time for it
to look for a deal. For instance, only 15% of Alcoa's
revenues come from Asia, and Aluminum Corporation of China
(NYSE: ACH) might be a possible target. Whether it's an Alcoa deal or
another merger, consolidation will renew interest in the
industry and underscore Alcoa's strong value. These shares
will surprise everyone this year, and for patient investors
I think they're an outstanding buy.
Amy's Parting Shot
I do
think that Alcoa is "best of breed" in the aluminum
industry. But with an oversupply of aluminum, falling
demand, and a commodity price that barely meets costs, this
dog won't hunt -- at least for well over a year. There
will be a lot of consolidation in the industry, and Alcoa
stands to be one of the beneficiaries. But there is
plenty of time before that plays out and plenty of other
places to park your cash until then.
Who do you think is
right on Alcoa?
Cast your vote now
by visiting this link.
Results of the survey will be
published in the next issue of Investor Update.
Many happy returns!
-- Amy Calistri and Andy Obermueller
Staff Writers
StreetAuthority Investor Update
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