In this article, let's take a look at Alcoa Inc. (AA, Financial), a $15.79 billion market cap company, which is one of the world's largest producers of aluminum and alumina.
Aerospace and Auto Industry
Although revenues have not met the expectations, as discussed below, the prospects of the company seems to improve in the future as the world economy recovers. We can expect a higher demand from aerospace and automotive markets. Looking at the airline segment, fundamentals are improving with a projected air travel demand rising. Further, the largest player is focusing in the auto industry, where vehicle sales are higher than in the past.
Strategic Moves
The past month the company agreed to purchase RTI International (RTI, Financial), a global supplier of titanium and specialty metal products and services, for about $1.3 billion in stock. Although Alcoa is an integrated producer company which focuses on several end markets, like packaging, automobiles, aircraft, and construction, the deal aims to develop its aerospace business in its engineered products segment. The deal will generate great cost savings. It is expecting $100 million in annual cost savings by the end of 2019.
Last year the company purchased Firth Rixson, a global leader in aerospace jet engine components. We believe this transaction will further reduce the firm's reliance on market prices for aluminum and is likely to increase Alcoa’s revenues.
Revenues, Margins and Profitability
Alcoa reported revenue of $5.82 billion for Q1, a 6.69% increase from the year-ago quarter, due to organic growth in automotive and aerospace, but below analysts' estimates of $5.94 billion. Earnings per share increased in the most recent quarter compared to the same quarter a year ago ($0.14 vs -$0.16). Excluding one-time special items, earnings reached $0.28 in the reported quarter. During the past fiscal year, the company improved its bottom line. It earned $0.19 versus -$2.15 in the year before. This year, Wall Street expects an improvement in earnings ($1.05 versus $0.19).
| Profitability Ratios | Q1 FY15 | Q1 FY14 |
| Gross Profit Margin | 23.65% | 17.60% |
| EBITDA Margin | 18.71% | 12.33% |
| Operating Margin | 13.20% | 6.11% |
Operating Margin is ranked higher than 85% of the 1,616 companies in the Global Aluminum industry, and Net Margin is ranked higher than 83% of the industry.
Finally, let´s compare the best measure of performance for a firm's management: the return on equity. The ROE is useful for comparing the profitability of a company to that of other firms in the same industry.
| Ticker | Company | ROE (%) |
| AA | Alcoa | 5.4 |
| ATI | Allegheny Technologies Inc | -7.91 |
| CENX | Century Aluminum Co | 10.95 |
| Â | Industry Median | -8.55 |
The company has a current ROE of negative 5.4% which is lower than the one exhibit by Century Aluminum (CENX, Financial), but higher than the industry median and Allegheny Technologies (ATI, Financial).
In general, analysts consider ROE ratios in the 15-20% range as representing attractive levels for investment. It is very important to understand this metric before investing and it is important to look at the trend in ROE over time.
| Year | ROE (%) |
| Dec 05 | 9.25 |
| Dec 06 | 16.05 |
| Dec 07 | 16.73 |
| Dec 08 | -0.53 |
| Dec 09 | -9.53 |
| Dec 10 | 1.95 |
| Dec 11 | 4.45 |
| Dec 12 | 1.41 |
| Dec 13 | -19.21 |
| Dec 14 | 2.34 |
Relative Valuation
In terms of valuation, the stock sells at a trailing P/E of 62.3x, trading at a premium compared to the industry. To use another metric, its price-to-book ratio of 1.40x indicates a discount versus the industry average of 1.49x while the price-to-sales ratio of 0.65x is below the industry average of 338x.
As we can see in the next chart, the stock price has an upward trend in the five-year period. If you had invested $10.000 five years ago, today you could have $9.568, which represents a negative 0.5% compound annual growth rate (CAGR). But in the past year, the stock has risen almost 5%. However, in a year-to-date basis, the stock has plummeted nearly 17%.
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The company has demonstrated a pattern of positive earnings per share growth over the past years.
Final Comment
We continue believe that demand and pricing are going to recover from lows, and so it will benefit the company where we continue expecting to have significant earnings growth in the upcoming future. As predicted before, Alcoa reported significant earnings per share improvement in the first quarter compared to the same quarter a year ago.
Hedge fund gurus like Steven Cohen (Trades, Portfolio), Ray Dalio (Trades, Portfolio), Louis Moore Bacon (Trades, Portfolio) and Paul Tudor Jones (Trades, Portfolio) have initiated positions on this stock in the fourth quarter of 2014. Stanley Druckenmiller (Trades, Portfolio)’s Duquesne Capital was the fifth-largest shareholder of the company, holding 1.88 million shares, down by 54% from the previous quarter. The value of the stake amounted to $29.62 million.
Disclosure: Omar Venerio holds no position in any stocks mentioned
