Please ensure Javascript is enabled for purposes of website accessibility

Better Buy: Freeport-McMoRan Inc. vs. Alcoa Inc.

By Matthew DiLallo - Mar 6, 2016 at 4:05PM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

A battle of the base metal producers.

The outlook for commodities has changed significantly over the past couple of years. A once robust outlook has been upended by slowing growth in China, which sapped that country's growing appetite for natural resources. This caused a significant plunge in commodity prices, leading to a pummeling of companies that produce commodities, including both Freeport-McMoRan (FCX 0.44%) and Alcoa (AA):

AA Chart

AA data by YCharts

Many investors, however, see this current weak period as just a short break in a very long-term upward trend of increased global demand for commodities. That's causing them to take a close look at beaten-down producers in search of a bargain. Here's a closer look at the bull case for Alcoa and Freeport-McMoRan in search of the best opportunity right now. 

The bull case for Freeport-McMoRan
While Freeport-McMoRan is a diversified natural resource company that produces significant amounts of gold, oil, natural gas, and molybdenum, at its core it's a copper company. In fact, it's the world's largest publicly traded copper company, with a portfolio of assets around the world including the crown jewel Grasberg mine in Indonesia, which is one of the world's largest copper and gold deposits.

Copper, like any market, is driven by supply and demand. The bulk of the market's demand comes from China, which consumes 45% of global copper supplies each year. While its demand growth is slowing, it's still growing in large part because China's GDP continues to grow in the 6.5% to 7% range. Additional copper demand comes from the auto industry, as well as from the construction market, both of which continue to improve. On the other side of the equation is supply, which is relatively balanced with demand right now. Further, longer term, the supply picture is actually weak because declining ore grades and mine depletion will eat into future production. This suggests a healthy copper market in the future, which is good for Freeport.

Having said all that, there is an area of concern when it comes to investing in Freeport-McMoRan's stock. Freeport-McMoRan took on billions of dollars in debt to acquire its oil and gas businesses a few years back. That debt has really weighed down the company during the downturn in the oil market. Because of that Freeport-McMoRan has been selling stakes in its copper assets to pay down its debt, while it is also exploring the sale of some or all of its oil and gas business. This uncertainty regarding the future fate of the company is something investors need to keep in mind.

The bull case for Alcoa
Like Freeport-McMoRan, Alcoa is a market leader. It's the world's largest, low cost bauxite miner and has the world's largest, most attractive alumina business. In addition to that Alcoa also currently owns a value-add business, which makes high-performance advanced multi-material products for a number of key markets including aerospace, automotive, and commercial transportation. All that said, Alcoa is currently in the process of separating into two companies, one holding its upstream assets and the other its value-add businesses:

Source: Alcoa investor presentation.  

It's this split, as well as the strong growth projected by both business, that makes Alcoa a compelling opportunity right now. As that slide notes, Alcoa's upstream business is strongly positioned for robust projected aluminum demand growth. Meanwhile, its value-add business is positioned in growing markets as well as having a pipeline full of innovative productions and solutions to drive additional growth.

Further, both companies will have a much stronger credit position than Freeport-McMoRan, with Alcoa aiming for an investment-grade credit rating for the value-add company and a strong non-investment-grade credit rating for the upstream business.

Investor takeaway
While Freeport-McMoRan is well positioned for the growing copper market, it is weighed down by debt and its oil and gas business. Alcoa, on the other hand, has a solid position in the growing aluminum market, without those weights. Further, it's separating its two core businesses to enable investors to capture both the direct growth in aluminum demand as well as the growth in demand for value-add aluminum-based products. In my opinion, that better balance sheet and potential for unlocking value by separating makes Alcoa the more compelling opportunity, and therefore the better buy right now for investors looking to choose between the two.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Alcoa Inc. Stock Quote
Alcoa Inc.
Freeport-McMoRan Inc. Stock Quote
Freeport-McMoRan Inc.
$27.38 (0.44%) $0.12

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
S&P 500 Returns

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 07/07/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.