How Low Can Alcoa Go?

Shares of Alcoa (NYSE: AA  ) hit a 52-week low on Wednesday. Let's take a look at how it got there and see whether cloudy skies are still in the forecast.

How it got here
Heading into 2012, not many investors (including myself) expected very much from Alcoa. Considering that the eurozone's growth is challenged due to debt issues and Chinese Premier Wen Jiabao confirmed that China's GDP growth has slowed to a projected 7.5%, many had written off Alcoa for dead in the near term. Its most recent earnings report, however, proved otherwise.

In early April, Alcoa's first-quarter report noted a reversal from a year-ago loss to a $0.09 quarterly profit as revenue rose marginally. The big news here was that Wall Street's expectations were too low and Alcoa beat expectations on both the bottom and top lines. This served as a reminder that while China's economy may not be as robust as it had been, 7.5% growth is nothing to scoff at. China's booming automotive sector continues to provide one of the strongest boosts to Alcoa's bottom line.

But Alcoa is far from finding itself out of the woods. In April, Alcoa cut its smelting capacity by 390,000 tons in order to reduce expenses and hopefully buoy falling alumina prices. The move may not prove to be enough as Alcoa also noted recently that it will once again be putting off the expansion of an alumina refinery in Australia due to weak pricing.

Alcoa has thus far been prudent with controlling its production, but logistically it's capable of so much more from a capacity standpoint.

How it stacks up
Let's see how Alcoa stacks up next to its peers.

AA Chart

AA data by YCharts.

Unfortunately, a five-year chart looks like a race to zero for nearly all metals producers that are reliant on international markets.

Company

Price/Book

Price/Cash Flow

Forward P/E

Dividend Yield

Alcoa 0.6 4.5 9.0 1.4%
Rio Tinto (NYSE: RIO  ) 1.6 4.4 5.3 4%
ArcelorMittal (NYSE: MT  ) 0.4 6.6 5.1 4.3%
United States Steel (NYSE: X  ) 0.9 5.4 5.9 0.9%

Sources: Morningstar and Yahoo! Finance.

Metal fabricators are an incredibly cheap sector based on the metrics above, but they also speak to the large amount of global uncertainty present in Europe and China.

U.S. Steel has been working on shoring up its balance sheet due to a weak pricing environment and European instability, but that didn't stop its quarterly losses from ballooning to $219 million from $86 million in the year-ago period.

ArcelorMittal has been lucky enough to remain profitable on an annual basis throughout the recession, but that doesn't mean it isn't without its own set of problems. Its latest quarter demonstrated improved liquidity, but it continues to tack debt onto its balance sheet -- a potentially worrisome venture.

Rio Tinto has been the most steady performer of this group and it can thank its various other mined minerals for that. If not for the strength in gold, silver, and copper over the past decade, investors would certainly not be enjoying a handsome 4.1% dividend yield.

Alcoa actually appears to be the priciest of the group with a forward P/E of 9, but it also offers the greatest capacity expansion possibility if and when alumina prices do recover.

What's next
Now for the real question: What's next for Alcoa? The answer depends on whether or not alumina prices improve and if China can continue to support the global economy. The only way Alcoa can truly grow is by expanding its refining capacity, and if alumina prices remain low, Alcoa's stock price will likely remain depressed.

Our very own CAPS community gives the company a four-star rating (out of five), with 93.6% of members expecting it to outperform. Count me among the 3,393 members who have made a CAPScall of outperform on Alcoa, but as is evidenced by my current score of minus 26 points, don't expect immediate results.

When I chose to make Alcoa an outperform call in my CAPS portfolio, I was doing so over the long run. I understood then as I do now that Alcoa needs to expand its refining capabilities and improve its operating efficiencies in order to better compete internationally against companies on their home turf. Overall, Alcoa's operating efficiencies and ability to moderately affect market pricing by reducing or increasing output are enough to get me on board for the long term.

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Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.

The Motley Fool owns shares of ArcelorMittal. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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