It's messy at Alcoa Corp. (NYSE:AA) right now because the aluminum industry giant just separated from its former specialty parts business, Arconic Inc. (NYSE:ARNC). In fact, the fourth quarter was Alcoa's first as a stand-alone smelting and mining company. Two big questions on income investors' minds remain unanswered: What does "prudent return of capital" mean, and does the outlook include dividends in 2017?
Others are doing it
If you watch the mining and metals industry, you've probably noticed that some big names have recently reported good news on the dividend front. That includes BHP Billiton (NYSE:BHP) and Rio Tinto (NYSE:RIO). These diversified giants aren't exactly direct competitors to aluminum-focused Alcoa, but they are important commodity industry barometers.
When BHP released first-half 2017 results, it said, "In recognition of the importance of shareholder returns and confidence in the Company's performance," it would pay an interim dividend of $0.40 per share, $0.10 more than its targeted figure. Rio Tinto, meanwhile, also announced a higher-than-expected dividend when it reported full-year 2016 results in early February.
The update from Alcoa wasn't quite as positive. When asked about a dividend during the fourth-quarter conference call, CFO William Oplinger said, "The dividend policy is that we have no dividend currently and so that's where we stand." He hinted that further debt reduction would be needed before the company would look at returning cash to investors in some form, be it a regular dividend, special dividend, or share buybacks.
Can Alcoa pay?
The big picture here, however, is more complicated than it appears from that statement. Alcoa lost money in its first quarter as a stand-alone entity, not a good sign for paying dividends. But it also managed to increase its cash balance by 50%, a great sign for paying dividends. The takeaway from these two statements is that there's still a lot going on behind the scenes.
In fact, the cash bump and the loss are both related to the breakup from Arconic. The loss included one-time items for permanently shutting a facility that was simply idled under previous management -- a good call as Alcoa looks to continue streamlining its business. The cash increase was also the result of money being freed up after the separation and won't happen again. So you can't look at the fourth quarter and come to any hard-and-fast conclusions about Alcoa's dividend-paying ability, because it was just too messy.
Yes, Alcoa was broken out with the goal of "disciplined capital allocation and prudent return of capital to shareholders," but the operative word appears to be prudent right now. That's probably the appropriate decision for long-term investors even though the company highlighted improving industry fundamentals when it reported earnings. That included higher volumes in its rolled products division and increasing alumina prices during the fourth quarter. It's a balancing act between being upbeat about the business and realistic about the financial situation.
For example, one area the CFO hinted cash might be used before dividends is debt reduction. Except that debt hardly seems onerous today, with long-term debt of roughly $1.4 billion at the end of 2016 making up around 20% of the capital structure excluding non-controlling interests. Even this isn't simple, however, because the company has pension and benefit obligations of roughly $3 billion. So its long-term obligations are bigger than they appear and dealing with them does indeed seem "prudent."
Not right now
Alcoa has finally entered life as its own company, and it's doing so at a time when commodity markets are just starting to recover from a deep cyclical downturn. That's good news. But while its cash balance increased in 2016, there are still lingering effects from the breakup from Arconic complicating its business and financial results.
In other words, it will probably be at least another couple of quarters before you can get a decent read on how Alcoa is really doing. And only then will you get a better feel for its ability to pay a dividend. Although it's likely that Alcoa will pay one at some point, it's still a waiting game right now. In the end, I wouldn't expect a dividend until the second half of 2017, at the earliest. In fact, it's more likely that a dividend won't show up until 2018.