Alcoa Earnings and Boeing Delays: From Bauxite to Business Class

Includes: AA, BA
by: Jim Delaney

They say it’s not what you have but how you use it.

Alcoa (NYSE:AA) has the aluminum, and reported 2Q09 results last night and Boeing (NYSE:BA) uses aluminum to make planes and they’ve been plagued by a litany of problems in trying to get their new Dreamliner off the ground, literally, so I thought it would be worth a look at how things are going in getting from bauxite to business class.

AA reported a 2Q09 loss of 26 cents per share vs. an estimate of 38 cents. We’ve heard a lot instruction from the media on how to react to this earnings season and it mostly points towards ignoring the current numbers and focusing on what management says about the future.

Given that the second most uttered phrase for the talking heads is “green shoots”, which ranks just under some form of “and now a word from our sponsor”, it doesn’t seem like besting estimates by 31% is something you’d want to ignore. But hey, with all that time on the air, they’ve got to say something.

The real issue here could be that much of the recent demand for Aluminum has come from the China’s restocking effort and there are those that believe this is coming to an end. We will only know the answer to that question in hindsight. What we do know is that UBS recently cut its price forecast for the light but strong metal at the same time they were raising their price targets on a wide range of other things ferrous, non-ferrous and precious.

Deutsche Bank also follows the physical commodity space and their analysts expect production of 36.7MM metric tons, while demand is supposed to tally to somewhere around 35MM metric tons. Aluminum inventories were up 165% YoY as of May and BoAML reported that there are currently 17 weeks of supply currently available vs. a long term average of 7.

AA’s stock hit its low on March 6th closing at $5.22. The CDS peaked the next business day 3/9 at 1156bps, which means that it would have cost you 11.56% of principal to insure AA’s debt against default back in March. In true inverse fashion the stock has risen and the CDS level has fallen to $12.22 and 387bps respectively, recently. Last night’s numbers: 449bps and $9.46.

And now for a trip on the Dreamliner, or in Boeing’s case, the nightmare in Everett. Boeing recently announced that they delivered four more aircraft in 2Q09 than they did in the previous 90 days. 4 is not a big number by itself but if you do a little back of the envelope calculation 4x$150MM=$600 it gets a little more significant. That’s the good news. The bad news has been all over the news and its all about delays connected to getting their new plane in the air. Manufacturing snafus have made delays in delivering the 787 about as frequent as fliers experience at your choice of airport around the world.

The most recent remedy has been the purchase of Vought Aircraft Industries which makes parts for the 787’s composite rear fuselage. This is the second time BA has had to buy a 787 part’s supplier in its effort to build a commercial aircraft from mostly composite materials.

Moody’s Investor Service said there would be no negative effect on BA’s A2 rating although they did mention the purchase would diminish BA’s “financial flexibility”.

After the global explosion in spreads and falloff in equity prices in February of this year BA’s stock climbed from $29.36 on 3/3 to $52.83 on 6/8. Ipso facto the CDS peaked at 295bps on the early March date and retreated until 6/5 reaching a nadir of 93bp. The delay issues have since taken their toll with last night’s close showing a CDS level of 132bps and a stock price of $39.55.

Not to be lost in all of this is that as the need for greater fuel efficiency continues to grow the use of composite materials will probably also grow. This leads to the obvious question of what that does for AL’s prospects and AA’s as a result.