On November 1, 2016, Arconic Inc. (NYSE:ARNC) ("Arconic") announced the separation from Alcoa Corporation (NYSE:AA) ("Alcoa Corporation"). The performance of the company after the split has been a disaster. Activist investor, Elliott Management, has claimed that the company needs to change its CEO, Dr. Klaus Kleinfeld. Arconic defended its performance and stated in a letter that it supports Mr. Kleinfeld. In this article, you can read both letters.
I believe that Mr. Kleinfeld does not have the skills needed to manage the new environment. He is the CEO who managed the group before the spin off, and he was, in fact, against this transaction. He is not at all the person the Board needs to manage the company now. The company needs to implement new shareholder-friendly methods, and only a CEO with previous expertise in M&A and private equity integration can do it. In addition, he is 59 years old. In my opinion, he is near to retirement, and does not want to change anything in the new company.
I believe that the Board of Directors will soon understand that the company needs a new face and make the CEO retire. In my opinion, the stock price will rise once this happens.
Alcoa Corporation, the other part of the spin-off, is doing actually quite well. I suggest you to take a look at the profile of the new CEO. I selected the following part, which I believe is very important:
"Prior to this role, he served as the Chief Financial Officer for the Upstream business. Earlier, he was Alcoa's Director of Investor Relations, interfacing with securities analysts and investors globally on Alcoa's performance and strategic direction, and prior to this role was Director of Corporate Treasury."
He has worked for the shareholder before. So, I believe that he is doing the same right now. In addition, this CEO is 41 years old. The Board hired him to change the structure of the new company and to grow with it. I believe that the fact that Alcoa Corporation is behaving great is not a coincidence.
Letter from the Arconic Board
Arconic Board Reinforces Unanimous Support of Company Strategy, Chairman and CEO Klaus Kleinfeld
NEW YORK - (BUSINESS WIRE) - The Independent Directors of the Arconic Board published a letter to all shareholders today, reinforcing their unanimous support of the Company's strategic direction under the continued leadership of Chairman and CEO Klaus Kleinfeld. The full text of the letter follows.
To Fellow Arconic Shareholders:
As the independent directors of Arconic, we are writing to express our confidence in Arconic's strategic direction, executive leadership and prospects and to affirm our commitment to providing strong oversight on your behalf. As your Board, we believe Arconic is at a pivotal moment after separating from Alcoa Corporation just three months ago.
As a newly standalone company, Arconic is on a journey eight years in the making, and we are now one of the leading advanced manufacturers of highly engineered parts for the aerospace, auto, building and power industries with strong market positions. At this crucial time, we believe that continuity of leadership, an unwavering focus on building our business and delivering on our promises and the continued active involvement of our strong, independent Board will be critical to delivering strong shareholder returns.
The makings of today's Arconic began when Klaus Kleinfeld was appointed CEO of Alcoa Inc. in May 2008. In the eleven months following his appointment, aluminum prices plummeted by more than 60 percent from highs of over $3,270 per metric ton as the global financial crisis unfolded. Alcoa Inc. entered that severe downturn as a commodity-focused company with a debt burden of more than $10 billion and underfunded pension/OPEB obligations of more than $5 billion. Alcoa Inc. faced severe liquidity concerns that threatened the survival of the company, with dire prospects if a way to turn matters around could not be found and executed upon.
Facing these pressures and risks, the management team simultaneously implemented a comprehensive cash sustainability program and made the prudent decision in March of 2009 to raise approximately $1.5 billion of cash to strengthen the balance sheet. Collectively, these actions saved the company and set the stage for the successful execution of a multi-year transformation.
Following this crisis period, Klaus Kleinfeld led the management team in taking a series of actions to reshape Alcoa Inc.'s portfolio to create two strong value engines. Last year, with much analysis and forethought, the management team and the Board proactively conceived and executed a separation of the businesses, culminating in the launch of Arconic and Alcoa Corporation as independent, industry-leading companies on November 1, 2016.
The separation has enhanced the respective businesses and unlocked substantial value thus far: the pre-split shareholders of Alcoa Inc. have seen their investment increase in value by a combined 32 percent (including dividends) from November 1, 2016 close through January 27, 2017. Arconic's stock price has increased by 19.5 percent over that period.
Going forward, Mr. Kleinfeld and the management team are 100 percent focused on continuing to improve operating results, expand margins and improve return on net assets. In connection with the creation of Arconic as a newly standalone company and as part of its active oversight role, the Board will create a Finance Committee that will be focused on maximizing return on investment and capital efficiency across the company.
We know there is more the company can do and that there is even greater value potential to be unlocked, and we are driving the company and management in pursuing stronger performance and maximizing shareholder value at Arconic. We are confident that we have the right strategy and the right team, and that the company is in the best position it has enjoyed since the financial crisis.
Optimization of Portfolio and Margins
As part of Alcoa Inc.'s transformation, Mr. Kleinfeld led the management team in executing a strategic shift in the focus of Alcoa Inc.'s value-add business to the key markets of automotive and aerospace - building the company that today is Arconic.
Not only has the management team optimized the portfolio of the business since 2008, they also substantially strengthened its fundamentals. Arconic has continued to improve its profitability through decisive action, with combined segment-adjusted earnings before interest, tax, depreciation and amortization (EBITDA) percentage margin increasing from 6.9 percent in 2008 to 16.6 percent in 2016.1 Indeed, each Arconic business has also seen impressive margin growth:
- Engineered Products & Services: Increased adjusted EBITDA percentage margin from 13 percent to 21 percent
- Global Rolled Products: Increased adjusted EBITDA percentage margin from 3 percent to 12 percent; EBITDA/MT from $113 to $364
- Transportation & Construction Solutions: Increased adjusted EBITDA percentage margin from 6 percent to 16 percent
As a result of the strategic transformation and operational improvements, Arconic is well positioned for future growth. The company is targeting revenue to grow at a 7 percent to 8 percent compound annual growth rate (CAGR) from 2017 through 2019, and is aiming to generate an improvement in combined segment-adjusted EBITDA percentage margin from 17 percent to 19 percent. The combination of top line growth and margin expansion will create significant additional free cash flow and profits, and enhance shareholder value.
Creation of an Aerospace and Automotive Leader
Mr. Kleinfeld and his management team established Arconic as a premier aerospace and automotive supplier. Alcoa Inc. was once an aluminum supplier, whereas today Arconic is a true material-agnostic precision engineering and advanced manufacturing leader. In fact, Arconic can now supply 90 percent of the components of a commercial jet engine, and its content flies from nose to tail on both metallic and carbon fiber reinforced plastic (CFRP) airframes. The results speak for themselves: Arconic won $13 billion worth of new aerospace contracts from 2015 through 2016, and its automotive sheet revenue is expected to grow from $117 million in 2011 to $1.3 billion in 2018.
Arconic has pursued productivity increases and cut costs and will continue to do so. In fact, since 2008 through the separation in November 2016, Alcoa Inc. achieved cost savings of over $10 billion, or ca. $1.3 billion annually, through various initiatives with approximately 30 percent of the total hitting the bottom line as net savings. Arconic's corporate overhead costs are in-line with its peers at 1.5 percent of revenue in 2016, and management is moving to further reduce spending and lower corporate overhead to 1.1 percent of revenue in 2017 and down to less than 1 percent by 2019.
1 Reconciliations of non-GAAP financial measures to the most directly comparable GAAP measures can be found in the schedules to this communication.
Successful Launch of Alcoa Corporation
Another indicator of the success of the company's transformation strategy is the successful launch of Alcoa Corporation. One of the first steps Mr. Kleinfeld and his team took in 2009 was to restructure Alcoa Inc.'s upstream business. Over time this included:
- Shuttering 43 percent of high-cost smelting capacity and 35 percent of high-cost refining capacity.
- Separating the energy assets from smelting assets to establish a highly profitable energy business and enabling the curtailment and closure of unprofitable smelters in Brazil.
- Growing Value-Add cast house portfolio from 57 percent of shipments in 2010 to 67 percent of shipments in 2015 to enhance margins.
- Introducing a new pricing mechanism for alumina - the Alumina Price Index - which unshackled the refining business from the LME price for aluminum.
- Establishing the company's third-party bauxite business.
These measures substantially lowered the cost position of the upstream business to improve margins. They lowered the position on the cost curves by 13 points each from 2010 to 2016, creating a first quartile alumina business and a strong second quartile aluminum portfolio.
Alcoa Corporation was designed to be well positioned to separate and operate independently from a strategic and financial standpoint. At a time of low commodity prices, the separation was structured such that Arconic took on $8.8 billion of debt to ensure Alcoa Corporation started with a strong balance sheet and had the ability to weather through commodity cycles.
To be fair to shareholders of both companies, Arconic also chose to retain a 19.9 percent stake in Alcoa Corporation and will continue to review options for responsibly managing the stake, taking into account its continued upside potential. The stake has increased in value considerably since the separation as Alcoa's stock rose, providing Arconic with additional financial flexibility, including to reduce debt or invest further in the business.
Looking Ahead: A Strong Future
Management's accomplishments - the turnaround, the transformation, the growth, the discipline - are clear, and Arconic will continue to build on them. After leading the turnaround of Alcoa Inc., working with the Board to create two strong value engines, launch them as independent companies, and deliver significant shareholder value as a result, Mr. Kleinfeld and his leadership team bring the experience and execution that Arconic needs.
This is a critically important, formative time for Arconic. As a Company, we cannot afford to be distracted. The Arconic Board is actively engaged and has 12 independent directors, half of whom joined the Board just last year. We are proud of the Company, its many accomplishments and the opportunities before us, and we unanimously support Klaus Kleinfeld in his role as Chairman and Chief Executive Officer and his management team.
The Independent Directors of Arconic Inc.
Letter from Elliot management
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in ARNC over the next 72 hours.
Business relationship disclosure: Business relationship disclosure: I do not have business relationship with Elliott management and I am not being paid by any other party. I think these letter are very relevant for the Arconic shareholders.