Alcoa's Trip To Book Value

| About: Alcoa, Inc. (AA)

How safe is that trip?

Let's start by checking the company. Alcoa (NYSE:AA) is the world's leading integrated aluminum company, and we can find some of its products when we look at airplanes, cars, computers, beverage cans, tablets, smartphones and many more. Alcoa's products are present on our lives today through various forms and it's fair to expect they will continue for many more years.
At current prices, if the price moves closer to book value per share, that would yield a return of around 25% so it might be worth having a look.

Alcoa is exposed to so many different end markets (Aerospace, Automotive, Heavy Truck&Trailer, Beverage Can Packaging, Commercial Building and Construction, and Industrial Gas Turbine), primary aluminum and alumina prices, that trying to estimate future earnings is very difficult. This means that instead of the expected market price appreciation to book value, the opposite or something in between can happen.
But at this point, with the market cap at around $11B, the market is valuing the company the same as in 1997, which is historically quite low. Also, the worlds economy is better today than in 2009 and the company is worth $4B less. The Price/Book ratio from 1993 to 2007 was always above 1-1.5 so there is a good safety margin currently. The company has also been profitable since 2010.

2011 2010 2009 2008 2007
Book value per share $ 12.95 13.26 12.69 14.59 19.29
Price/Book value per share $ 0.67 1.16 1.27 0.77 1.89
Total Assets $billions 40.120 39.293 38.472 37.822 38.803


The return on equity has been below average since 2007, achieving only 4,45% in 2011, which is not great and can justify some part of the current discount to book value per share.

There are also other risks that might make this trip difficult. Even with a much improved balance sheet and more efficient operations, a stagnant eurozone, some emerging markets cooling down and China beginning to raise doubts about the pace of its economy, can all contribute to a delay in the success of this strategy, delaying the return of the company to more "normal" operational margins and profitability.

Other significant factors can be obtained in the latest quarterly presentation, where we can check the impact on annual results of the LME Aluminum price changes and currencies. For example, for every $100 variation on LME Aluminum price, the annual net income varies $220 million.

It's very difficult to predict what is going to happen globally but one thing is almost for sure, the economy will get better and worse, but Alcoa's leading position will likely be maintained for many more years. So how what is the price for taking a part in a company like this? Or how much would it cost to start a new Alcoa?

If you believe that there's not a global economic slowdown coming, this might be a good entry point since the case for such a discount relatively to book value will be harder to justify. And with first quarter results coming soon, who knows when the market will change its view on the company to a more "even in this environment this company is profitable" point of view.

Have a nice trip!

Disclosure: I am long AA.

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