Alcoa faces price pressure

Waning European demand and a 15% slide in aluminum prices could dent profits.

By TheStreet Staff Oct 11, 2011 10:45AM

By Joseph Deaux, TheStreetTheStreet


Alcoa (AA) faces a dual profit threat of lower demand in Europe and declining aluminum prices.


CEO Klaus Kleinfeld has warned investors awaiting the company's third-quarter earnings report after the market close Tuesday that Europe has not seen the usual seasonal upswing from August to September in its flat-rolled segments.


Bridget Freas, Morningstar's aluminum analyst, said there's usually a pickup in September orders but that hasn't yet materialized. Freas doesn't think volume will take a significant hit, however, and said Alcoa's aerospace segment should be strong.


The average analyst estimate is 22 cents a share on revenue of $6.24 billion in the September period. That performance would be quite a step up from its profit of 6 cents a share on revenue of $5.3 billion in the same period a year earlier but down heavily on a sequential basis when Alcoa reported second-quarter earnings of 32 cents a share on revenue of $6.6 billion.


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"Whatever it turns out to be, the third quarter is clearly going to be lower than the second quarter in 2011," Freas told TheStreet.


Aluminum prices dropped about 15.2% from July through September to $2,124 per metric ton from $2,503.25 a metric ton. Shares of Alcoa correspondingly plummeted 40.2% in the same span as the European sovereign debt crisis stoked uncertainty in global markets, weakening demand for the lightweight metal.


Customers have grown weary of building inventory as prices have declined, which could negatively affect raw-materials producers and processors, Anthony Rizzuto, the managing director of metals at Dahlman Rose & Co., wrote in a recent research note.


"Since the end of the second quarter, cash (London Metal Exchange) aluminum prices have declined over 15%, as investor concern over the global macroeconomic environment has weighed on commodities," Rizzuto wrote. "While the decline has been greater than we anticipated, we believe that current prices have already reached the marginal cost of production." The LME is the only market in the world that trades aluminum.


On June 24, Alcoa said it was awarded a multiyear contract to supply aluminum to aircraft manufacturer Airbus. Alcoa also supplies the aluminum used by Apple (AAPL) for its laptops and iPad 2s.


Lower aluminum prices, rising energy costs and high raw-materials costs have led analysts to lower their quarterly projections on Alcoa.


Lloyd O'Carroll, an analyst at Davenport & Co., recently reiterated a buy rating on Alcoa's stock on the premise that aluminum prices will be higher in 2012 and that profitability in the company's downstream business will go beyond its 2011 records.

Given the expectations of a weak third quarter, the key driver of the stock may ultimately be the company's guidance for the fourth quarter. As conditions stand now, Freas isn't sure whether the third quarter will be a temporary lull for Alcoa or whether it suggests something more long term.

Tags: AA


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