1 Stock With Multibagger Potential

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

This company’s stock has been beaten up black and blue in the past twelve months, and everyone’s skeptical about the future of the industry. All eyes were fixed on its second-quarter numbers. What if it beats estimates? Would that make it a buy? Questions flew around.   

The verdict’s out, it has outdone Street estimates, as I had expected. What now? Well, to cut the long story short, Alcoa (NYSE: AA) looked compelling to me two days back, and it still does. I came to this conclusion after I tried to catch the macros behind the company; and you might just support me if you read what I am going to tell you next.

China leads
The fate of the aluminum industry depends a great deal on China-- the world’s largest aluminum producer and consumer. But China doesn’t really have a cost advantage in aluminum production largely because of the energy-intensive nature of the industry. Which means the nation’s level of aluminum imports could head north in the years to come. Are we already seeing signs of this? If demand for aluminum is indeed so weak, what made China import 33% more of the metal during the first half of the year? Considering that the nation accounts for more than a third of total global aluminum consumption, this isn’t a figure we can ignore.

Chinese traders are already warming up to the attractively low Shanghai aluminum prices, and believe the metal entered the oversold territory some days back when its prices hit three-year lows. Home prices in the nation are improving and car sales grew 5.6% in the first half. As buying sentiment and demand picks up in China, the aluminum industry will rise above water.

Home again
Elsewhere, total demand for the metal in the U.S. and Canada was pegged to be 7.5% higher in the first quarter this year compared to the year-ago period. Key sectors (read: aerospace and automobile) have a big role to play here. How else could Alcoa beat Street estimates on top line in its second quarter? The outlook remains upbeat. Think of Boeing (NYSE: BA), which posted a stellar first quarter and is ramping up production by nearly 60% to meet its humongous backlog. The aerospace major’s order book just grew bigger with a $7.2 billion order it bagged from U.S. Air Lease Corp at the Farnborough Airshow. Another equally big order is on its way. The more active the aircraft market, the better it is for Alcoa.

The automobile sector has already stepped on the accelerator to make vehicles lighter in view of stricter emission standards. Tesla Motors (NASDAQ: TSLA) has set an example with its recently launched Model S sedan. The all-aluminum car could be the biggest breakthrough for the metal in the auto space if it can find enough takers. Not that others are ignoring the value of aluminum altogether. Aluminum body panels will adorn Ford’s (NYSE: F) forthcoming F-series full-size pickups. The company’s plans to triple its production capacity of electric vehicles by next year could further push up demand for aluminum, which can easily offset a battery’s heavy weight and improve fuel efficiency.

Note that both Ford and Boeing are Alcoa’s customers. Alcoa has even raised its forecast for growth of the automotive sector this year. And why not? 2012 is taking shape as the best year for the sector in last five years. Add growth in other areas like packaging, electronics, and commercial transportation, and one can guess where aluminum could be in the next few years.

The supply-side story
So demand’s on track. As for concerns of oversupply in the market, big players have already curtailed production in recent months. Alcoa did it, and so did Rio Tinto (NYSE: RIO). After a demand-supply balance this year, Rio Tinto is predicting supply deficits to surface next year. With demand remaining firm, supply is bound to be tight. The world's biggest aluminum maker, RUSAL, hinted some days back how aluminum prices could get back on track if production in China slows down. Well, China has cut back production in main aluminum provinces, and is likely to continue doing so this year. Once aluminum prices bounce back, Alcoa’s current rock-bottom share prices might just become history.

The Bottom line
I know many who were expecting Alcoa to cut back its earlier forecast of 7% rise in global demand for aluminum this year. I am glad the company proved them wrong by sticking to its estimates.

Aluminum remains a great growth story, and if you have a little patience, Alcoa could turn out to be a multi-bagger. Right now, if a P/E of 23.7 doesn’t excite you, take a look at its forward P/E of 9.39. The huge gap tells me there’s a lot of upside potential left in the stock. Green for me, what about you?


Neha Chamaria has no positions in the stocks mentioned above. The Motley Fool owns shares of Ford and Tesla Motors. Motley Fool newsletter services recommend Ford and Tesla Motors . 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. If you have questions about this post or the Fool’s blog network, click here for information.

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