Is It The Time to Buy Alcoa?

Anindya is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Alcoa (NYSE: AA), the largest U.S. aluminum producer, reported a Q4 profit of $242 million, or 21 cents a share, reversing the loss of $193 million a year ago. Excluding one-time items, the company earned $64 million, or 6 cents a share, reversing a year-ago loss of 3 cents a share. Revenue for the quarter fell 2% to $5.90 billion from $5.99 billion as aluminum prices remained low due to weak demand in Europe, as well as excess supply.

The impressive Q4 profit is the result of Alcoa’s cost-cutting measures. Alcoa planned to curtail 390,000 metric tons, or approximately 12% of its global smelting capacity, in 2012. The company expected that the measure would lower its cost position by 10 percentage points in smelting and 7 percentage points in refining by 2015, as well as improve its competitiveness. Moreover, the company shifted its focus to higher-margin products that are less vulnerable to slumping metal prices, like bolts and wheels for cars and airplanes.

Aluminum Industry Outlook

The aluminum industry is highly cyclical, with prices subject to worldwide supply and demand. Alcoa said it expects 7% aluminum demand growth in 2013. It also expects that the burgeoning demand for aluminum, along with market-related production cutbacks, will lead to a global aluminum deficit in 2013.

China and India are expected to lead consumption with double-digit growth. Russia and Brazil are projected to have 4% to 5% increases in aluminum consumption rates. Overall, Alcoa believes that the long-term prospects for aluminum remain bright and envisions that global demand for aluminum will double by 2020. The revival is palpable, especially in the automotive and packaging industries.

Factors Boosting Aluminum Demand

Automobile Market: The automobile market has been becoming increasingly aluminum-intensive, benefiting from its recyclability and light-weight properties. The global push to improve fuel efficiency in vehicles is expected to more than double demand for aluminum in the auto industry by 2025.

Surge in Copper Prices: Furthermore, the surge in copper prices has triggered a switch among manufacturers to aluminum. Automobiles, air conditioners and industrial components manufacturers are now shifting their focus on the more economical metal. In response to the spurt in automotive demand, Alcoa has invested $300 million in expansion projects at its Davenport, Iowa rolled products plant.

Alcoa: Growth Prospects and Valuation

Wall Street analysts are more confident in Alcoa’s future prospects than investors. Their consensus estimates imply a forward P/E of only 12. With growth slowing in China, Aluminum Corporation of China Limited (NYSE: ACH), AKA Chalco, is likely to post marginal to negative profit this year. Century Aluminum (NASDAQ: CENX) has beaten analysts’ estimates in 2012 and is expected to break even this year. However, Kaiser Aluminum (NASDAQ: KALU) appears to be in a better position than Alcoa, with revenue and earnings increasing at a faster pace. It trades with a forward P/E of 16.

In terms of the EBITDA multiple Alcoa looks reasonable, the second best after Kaiser. The EBITDA multiple compares the value of a company within the same industry, inclusive of debt and other liabilities, to the actual cash earnings exclusive of the non-cash expenses. A lower multiple can be indicative of an undervaluation of a company.

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AA EV / EBITDA TTM data by YCharts

Conclusion: Rising Aluminum Price Will Boost Alcoa

Prices of aluminum stocks are more or less directly correlated to the price of aluminum. 

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Aluminum LME Price data by YCharts

With the rising LME aluminum price after bottoming out in 2009, aluminum stocks, including Alcoa, will also move up in the future. The upward journey of Kaiser, fundamentally the best stock in the lot, confirms that. This is the time to accumulate Alcoa and other aluminum stocks for a significant gain over the medium-term. 

Anindya7 has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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