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Summary

  • Alcoa’s shares have surged despite a woeful quarterly report last time and investors would look for positive signs next time if this momentum is to continue.
  • The estimates for the first quarter aren’t promising with revenue and earnings declines expected for Alcoa.
  • A rebound in aerospace, automotive, and housing should drive Alcoa’s business going forward.

Alcoa (NYSE:AA), the world's third-largest aluminum producer, is in great form this year with shares up close to 13%. This was despite a poor fourth-quarter earnings report that was released in January. However, with Alcoa's first-quarter earnings report scheduled to be released on April 8, the company's positive momentum would be put to the test. Let's take a look at what's expected of Alcoa and how its outlook might look this year.

Revenue and earnings expectations

According to Yahoo! Finance, Alcoa is expected to report revenue of $5.58 billion, down 4.4% from the year-ago period. Hence, the revenue estimate doesn't look optimistic as Alcoa is suffering from excessive aerospace inventories and weakness in aluminum prices. In fact, aluminum prices haven't been up to the levels that were seen before the recession as a result of oversupply. So, Alcoa should post a reduction in revenue in the first quarter as it is seeing weakness in the business.

On the earnings front, Alcoa's earnings are expected to drop to $0.05 per share from $0.11 per share in the year-ago period. This is a massive drop in the bottom line, but this can be expected due to lower revenue and weak pricing. Thus, it can be concluded that Alcoa's performance won't be eye-catching in the first quarter. However, investors need to focus on the outlook and see if Alcoa could be a good long-term investment.

Looking forward

Due to weakness in the industry, Alcoa is repositioning its value-add business that accounts for 57% of the revenue and 80% of the segment profits by lowering its cost base. Since auto demand is expected to remain strong for both sheet and brazing sheet for heat exchangers, a lower cost base can help Alcoa improve margins. Moreover, industrial volumes are expected to strengthen due to the recovering economies in the U.S. and Europe, and this would provide another tailwind to the company.

Moreover, global aluminum demand is projected to grow at 7% in 2014. China is leading global growth at a solid 10%, slightly lower than 12% in 2013, and for the rest of the world, North American demand is projected to grow at 5%, driven by an increase in automotive consumption. Meanwhile, aluminum demand is expected to return to growth in Europe. Brazil, Russia, and India are expected to perform reasonably well with growth rates of 6%, 5%, and 7%, respectively. Brazil, in particular, is showing good prospects with construction for the 2016 Olympics and this year's FIFA World Cup in full swing.

The initial outlook for 2014 is also driven by new capacity coming online. Alcoa should see the full-year run rate impact of the Worsley and Yarwun refinery expansions, the startup of its refinery in Saudi Arabia, and Indian production coming online.

In the rest of the world, the MENA region and India are slated for new expansion of 1.4 million metric tons. However, there is substantial execution risk in India due to uncertain spot coal for expansion.

The aerospace industry, with a projected growth rate of 7% to 8%, will be a key driver for Alcoa this year. Boeing (NYSE:BA) and Airbus now have a combined backlog of over 10,000 aircraft, which is about eight years of production. Hence, this backlog means that aluminum demand should remain strong in the long run.

Strong demand is seen in the aerospace sector with Boeing receiving the single-largest commercial order of $56 billion for 150 Boeing 777X from Emirates, and Airbus grabbing a deal of $20 billion for 50 A380s, also from Emirates. Cargo demand is slated to grow at 6%, up 5.3% from last year.

Overall, the picture in aerospace looks quite positive with growth being supported by a spur in demand from other segments like a 19.5% increase in regional jets and a 10% increase in business jets. Moreover, demand from the military for Joint Strike Fighter, the F-35, the KC-46 tanker, or the V-22 Osprey is an additional advantage.

In the automotive sector, there is an increase in demand for passenger cars as existing cars have an average age of 11.4 years, well above the historic average of around 9.4 years. Hence, it is not surprising to see that auto sales in the U.S. are expected to grow once again this year to 16 million units. This should lead to higher demand for aluminum used in vehicles.

Also, the commercial building and construction segment is expected to grow strongly in 2014 by around 3% to 4%, backed by a 19% increase in housing starts, and an 11.5% jump in non-residential contracts.

Conclusion

While it is true that Alcoa has struggled of late, the outlook for the aluminum industry looks promising going forward. The increase in auto sales, upswing in construction activity, and the growing backlog of major aerospace companies could help Alcoa return to growth. As such, investors should continue holding Alcoa as its long-term prospects look promising.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: Earnings Preview: Alcoa