It’s Showtime for this Aluminum Producer

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The industrial output of China rose by 9.2% in September and 8.9% in August, and it’s evident now that China is not slowing down. The ministry of industry and information technology further improved the economic sentiment when it announced that it expects the industrial growth in Q4 to be faster than Q3. The US also joined the party when it reported better than expected industrial output numbers.  Aluminum is the second most used metal in the world, only behind steel, and analysts believe that the current industrial or infrastructural growth could drive up its prices. I’m bullish on Alcoa (NYSE: AA) and here are a few reasons why.

Alcoa was incorporated in 1888, and is the third largest producer of primary aluminum, fabricated aluminum, and alumina in the world. The company has geographically well diversified operations with its reach in more than 200 locations in 31 countries around the globe. Aluminum being nearly 60% lighter than steel, is widely used in many industries. The company services industries like aviation, defense, automobiles, packaging, construction sector, and electronics.

In the recent financial results, the company reported EPS of $0.03, which beat the market expectations of a breakeven. Revenues shrank by 9%, also better than the street’s estimates. Both the top-line and bottom-line remained under pressure due to falling aluminum prices, this was an industrial issue instead of a company specific issue.  

Also the $40 billion per month injections of liquidity by the Fed, and the $156 billion infrastructural spending plan by China is creating demand on almost all major commodities around the globe. Any upside in the aluminum pricing means added profits for Alcoa.

It’s very much evident now that the housing sector in the US is rebounding. According to analysts, new constructions in the US would grow by 5% in 2012, and 6% by the end of 2013. New home constructions rose by 15% in September and the architectural index also rose to a two and half year high. Since aluminum is also widely used in new construction, we can expect an uptick in the demand for aluminum.

The company shares its market space with Rio Tinto (NYSE: RIO), Kaiser Aluminum Corp (NASDAQ: KALU) and Reliance Steel and Aluminum (NYSE: RS).

<table> <tbody> <tr> <td> <p>Company</p> </td> <td> <p>Forward P/E</p> </td> <td> <p>P/S</p> </td> <td> <p>P/B</p> </td> <td> <p>EPS growth expected next year</p> </td> </tr> <tr> <td> <p>Alcoa</p> </td> <td> <p>12.72x</p> </td> <td> <p>0.39x</p> </td> <td> <p>0.68x</p> </td> <td> <p>161.54%</p> </td> </tr> <tr> <td> <p>Rio Tinto</p> </td> <td> <p>6.73x</p> </td> <td> <p>1.62x</p> </td> <td> <p>1.66x</p> </td> <td> <p>15.76%</p> </td> </tr> <tr> <td> <p>Kaiser Aluminium</p> </td> <td> <p>14.56%</p> </td> <td> <p>0.85x</p> </td> <td> <p>1.17X</p> </td> <td> <p>9.04%</p> </td> </tr> <tr> <td> <p>Reliance</p> </td> <td> <p>8.96X</p> </td> <td> <p>0.48x</p> </td> <td> <p>1.23x</p> </td> <td> <p>17.21%</p> </td> </tr> </tbody> </table>

Among its peers, Rio Tinto trades at the lowest forward P/E multiples, but Alcoa has the lowest P/S and P/B ratios. Additionally, analysts expect the EPS of Alcoa to grow at the fastest pace among the mentioned peers.

Alcoa’s management expects the global demand for aluminum to increase by 6% this year and double by 2020. It was in July when the company reduced its forecasts, due to a slowing China. Now that the economic data from China suggests that an economic recovery is on the cards, we can expect an improved guidance for the year 2013 and better financial results in the coming quarters with continued economic recovery.

The company has reported better than expected financial results, and has a good mix of financial metrics. In my opinion, the pickup in infrastructural activity in both the US and China and the recovering housing sector in the US is a huge positive for the company, and it is due to these mentioned reasons that Alcoa has a Foolish buy rating.


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