Lackluster Alcoa Earnings Can’t Take Shine Off This Stock

Can I say “I told you so?”

Alcoa (NYSE:AA) had an ugly quarter, no doubt about it. Aluminum prices continued to decline, recently trading near a two-year low, and Alcoa got 18% less for its products this quarter compared with Q2 of 2011. Special items weighed on the aluminum maker’s thin bottom line even more, pushing it to a loss of a penny per share on special charges.

But the king of low expectations was buoyed in after-hours trading. So what gives?

In a nutshell, investors think Alcoa has hit an equilibrium where weak pricing and weak demand can’t go any lower. That’s no guarantee AA stock will surge from here — but there’s a pretty good indication that it’s a relatively safe investment that will rebound quickly. After all, that’s what Alcoa has done every time it has closed in on the $8.50 mark for the last year or so.

First off, the earnings details:

The 18% drop in “realized prices” for Alcoa is indeed painful. But investors already have baked in the low prices for aluminum. After all, AA stock is off by more than 15% from its March highs thanks in part to deterioration on the price side. It’s also off almost 50% from 12 months ago.

On the plus, side shipments of aluminum products increased 2.9% year-over-year.

Alcoa has stayed lean all the while to contend with sluggish aluminum prices dating back to the financial crisis. It has been cutting costs, limiting production and relying high-margin end products like bolts and wheels for a few years now. Some of the one-time charges were due to continued restructuring thanks to plant shut-downs and layoffs.

Also keep in mind that Alcoa’s loss comes from a one-time lawsuit charge — a civil suit that required $45 million up front and up to $75 million in total. The penny-per-share loss is $2 million, so it doesn’t take a math major to see that without these legal troubles alone, Alcoa could have been in the black.

So it appears investors shrugged off the bad as expected, and found a silver lining in the demand and in the fact that without the one-time charges, AA came in right at expectations — maybe even a penny higher, depending on which consensus estimate you use.

As I wrote early Monday morning, I see $8.60 as a floor for this stock — and an opportunity to buy at any time the stock dips below this mark. Read the whole column for details, but in a nutshell, Alcoa continues to improve its fundamentals in the long term (though revenue admittedly slipped this time around). Also, the stock is very cyclical and will rise with the broader economy in the long term. I believe we’ll see signs of a recovery sometime in 2013 and a run-up in Alcoa as part of that.

As a result of this harsh macroeconomic environment, investors have low expectations — so it doesn’t take much for Alcoa to get by. That’s what happened in April, when Wall Street expected a small loss and Alcoa impressed investors with a profit, sending the stock gapping up.

Yes, AA gave it all back before bottoming at $8.57 yesterday before earnings. And Alcoa’s 52-week low of $8.21 still is slightly lower than that, so the precedent is set for a lower level to be attained.

But I simply cannot believe Alcoa can drift much lower. Fiscal 2013 earnings are forecast to be 83 cents a share, and the closing price of $8.76 on Monday gave AA a forward P/E of just 10.5. The only way it can suffer further is through catastrophic drops in aluminum prices or demand — and after the flop we’ve seen in the last few years, that seems unlikely.

Not impossible, I admit. But if the world gives up completely on aluminum as Europe implodes and China crashes and America enters a double-dip recession … well, it’s hard to believe that any stocks will be safe.

So unless you believe in doomsday, buy Alcoa. I think it might break below $8.60 again in the short term amid some market trouble later this summer, so there’s no rush to buy post-earnings. But don’t wait too long, because concrete signs of a recovery in the next 12 months could send this pick soaring.

Disclaimer: I, of course, have a vested interest in AA stock. Back in December, Alcoa was my pick for the best stock of 2012. I also personally own shares of the company, bought at $8.65 way back at the beginning of the year. AA stock is only a teensy bit higher in early trading today, excluding dividends, but I like its prospects for the long haul.

Jeff Reeves is the editor of and the author of “The Frugal Investor’s Guide to Finding Great Stocks.” Write him at or follow him on Twitter via @JeffReevesIP. As of this writing, Jeff Reeves owned a position in AA.

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