And so it begins. Although it wasn’t technically the first major company to post last quarter’s results, Alcoa Inc (AA) unofficially began Q1 earnings season last night be releasing its numbers for the period ending on March 31.
They were… they could have been worse, but they could have been better. The company posted a profit of 7 cents per share of Alcoa stock on $4.95 billion. The bottom line handily topped estimates for a profit of only 2 cents per share, but sales fell well short of the $5.2 billion analysts were expecting. Revenue also was off by 15% on a year-over-year basis.
AA investors could have seen it as a glass-half-full situation, but today’s 5% pullback in Alcoa stock makes it clear the market isn’t sympathetic, or lenient.
And yet, many of the numbers that should be driving such buy/sell decisions have largely gone overlooked. Here’s a closer look at the three most ignored but highly important aspects of Monday evening’s Alcoa Inc quarterly report.
1. Alumina sales were miserable.
Alcoa’s so-called “upstream” business isn’t just the sale of aluminum in its various forms. It also sells what’s called alumina, or aluminum oxide. It’s used in a lot of ways, but is particularly important in the manufacture of pharmaceuticals and industrial manufacturing.
Alcoa happens to be the world’s biggest supplier of alumina, and it’s a huge part of the company’s legacy business. Last year, alumina drove $746 million worth of after-tax operating income, or 39% of the company’s total after-tax operating profit.
Indeed, alumina could be considered the company’s breadwinner — at least for the time being — which could present a problem in 2016. How so? Last quarter’s alumina revenue was down 38.5% on a year-over-year basis, and selling prices were off to the tune of 27%.
With alumina proverbially on the bench, Alcoa doesn’t have any heavy hitters in its lineup.
2. Demand for engineered products isn’t as strong as initially thought.
In September of last year, the company made the decision to split up its low-tech aluminum supply business and its higher-tech engineered “value-add” business, citing compatibility issues.
One of arguments for the split was the notion that its old-school aluminum and alumina business lines were never going to be high-growth ventures again, but its value-add lines — which serve the automotive and aerospace market — was about to enter a high-growth era as new technologies and designs began drive demand for parts.
Perhaps that growth outlook was a bit exaggerated. The Engineered Products and Services arm that not long ago was expected to generate $7 billion in sales this year. In the meantime, that figure has been whittled down to only $6 billion.
It’s also possible that outlook could worsen before it improves. Boeing Co (BA) — a major customer of Alcoa’s engineered products — was a big part of the reason February’s aircraft orders fell 27%.
Transportation orders are inherently volatile, and the February drop follows an impressive 48% uptick in January’s orders. March, in fact, was once again reportedly much better for aircraft makers.
In the grand scheme of things though, the shrinking backlog for all aircraft manufacturers points to waning overall demand for what was supposed to be a growth-oriented unit.
3. Aluminum demand isn’t quite as strong as hoped.
Last but not least, it’s not a result as much as it is a stark reality, but it’s noteworthy all the same.
The saga of Chinese “dumping” of aluminum is a fairly well-documented one. Alcoa Inc and regulators have done what they legally can to quell the technically-illegal practice, but compliance is tough to guarantee.
As a result, the company has been forced to shutter several plants simply because an abundant aluminum supply has kept prices abnormally low. Demand/consumption, however, was never an issue. In fact, Alcoa recently touted the notion that 2016’s demand for aluminum would likely reach record levels, up 6% from 2015’s usage.
Between that demand and Alcoa’s efforts to tighten up the supply, many were counting on aluminum prices to rebound nicely this year, leading to an improvement in margins. Now that premise is being called into question.
Although Alcoa still foresees record demand for aluminum this year, that growth outlook has been scaled back to only 5%. One percentage point isn’t normally a game-changer, but in this case, every penny (or pound) counts. The real worry, though, is that with the first downward-revision under its belt, more could be in the cards.
Bottom Line for Alcoa Stock
While the company isn’t exactly on its deathbed, and the impending split should unlock some degree of value (for both halves), it’s tough to like either half when there are so many other companies out there right now not struggling to fight their way out of a supply glut.
Would-be buyers will want to keep their powder dry for now. AA has officially become a “prove it to me first” stock.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities.
