Alcoa (AA, Financial), the world's third largest producer of aluminum, has been struggling recently. Lower aluminum prices have troubled Alcoa, but the company has managed to considerably reduce its losses by diversifying its offerings.
Alcoa's general strategy involves manufacturing materials in areas in which it can add value and collect premium prices for high-end applications. One of Alcoa's biggest opportunities is in the automotive sector, where aluminum's lighter weight translates into greater fuel economy. Traditionally, automakers have hesitated to introduce more aluminum into their car bodies, citing safety concerns in sticking with heavier alternatives like steel. However, now the likes of Ford (F, Financial) have started using aluminum bodies in their cars. This fact was evident in Alcoa’s earnings.
In Q1 2015, Alcoa’s revenue was up 6.7% to $5.82 billion and has been rising year-over-year by 7%. As company overturned a year-ago penalty with earnings of $0.14 per share as well as adjusted earnings of $0.28 per share surpassed the consensus estimates by $0.02 by adjusting for duties associated to restructuring and other special items.
Despite the good results, investors were somewhat disappointed as they expected sales growth more than two percentage point higher than what Alcoa currently achieved. Alcoa’s newest results show their continuous growth trends from 2014. It has been primarily driven by the organic growth which comes from auto & aero. The company has come up with another first quarter record with $191 million ATOI.
Cementing its place in the aerospace business
Alcoa has acquired TITAL and RTI, in order to strengthen its position in the profitable aerospace section, which is predictable to rise at a stable pace going onward.
TITAL produces titanium and aluminum products for aircraft engines. After acquiring TITAL, Alcoa will be able to take over TITAL’s $100 million business to enlarge its reach in the aerospace industry, mainly in Europe. In the next five years, it is estimated that TITAL’s revenue from titanium would rush by 70% and maximum of it is expected to arise from the commercial aerospace-segment. Meanwhile, TITAL counts the likes of Airbus and Rolls-Royce as customers. Therefore, Alcoa will be able to enlarge its existence among these clients and profit from the growth in commercial aviation going accelerative.
In addition, the RTI is another significant growth for Alcoa, as it would establish the aluminum player as a foremost dealer of titanium. Contribution of $1.2 billion in revenue is expected by the deal of $1.5 billion for Alcoa in 2019, which is a substantial upsurge from that of $794 million in 2014. More prominently, RTI will fund an EBITDA margin of 25% to Alcoa in 2019, an upsurge of 9.5% from the current margin 14.5%.
Thus, I expect Alcoa’s financials will grow rapidly after this acquisition.
Conclusion
Although Alcoa has struggled in the past few months, it has still inched higher y-o-y. In the meantime, rivals like Rio Tinto and Vale have been in a crisis for extended periods of time. Alcoa’s value-added business has helped it to offset the drop in aluminum prices and this is the very reason why Alcoa warrants a buy rating.
