Alcoa's (AA) 'Transformation Continuing', UBS Upgrades to Buy

(Updated - August 4, 2015 9:20 AM EDT)

UBS upgraded Alcoa (NYSE: AA) from Neutral to Buy with a price target of $14. Analyst Brian MacArthur is positive on the company's transformation and expects mid- and downstream growth.

"Since Klaus Kleinfeld became CEO there has been a significant shift in AA's business to expand its lightweight, multi-material business relative to its traditional upstream commodity base. AA's upstream business earned <50% of 2014 ATOI (2007 – ~75%) while downstream ATOI – which is less related to aluminium (Al) prices - has doubled. AA has improved its mid/downstream businesses through divestitures & acquisitions and changed its product mix to focus on higher value aerospace/auto. In upstream, AA has improved its asset base through asset sales/closures, increasing value-add Al sales, and de-linking the alumina price from the Al price. Following recent acquisitions, we estimate >50% of AA's asset base is in mid/downstream businesses (~35% in 2014)," said MacArthur.

"In mid/downstream, we expect AA to benefit from the higher growth, higher margin nature of auto and aerospace markets and believe their combined ATOI could grow almost 50% between 2014 and 2016. In upstream, AA's focus on lowering its cost curve position, enhancing value-add Al sales, and shifting alumina sales to API pricing is important given lower realized Al prices. We note UBS expects marginally higher LME prices in 2016 and a meaningful proportion of Al producers are under pressure," continued the analyst.

MacArthur added, "We believe that in the future Alcoa's target price may be more dependent on mid- and downstream assets given our expectations for growth in those businesses. It is possible that AA's multiple expands over time as these less volatile businesses grow and become a greater portion of the company, especially if aluminium prices continue to remain weak. Moreover, this growth will also decrease AA's sensitivity to the aluminium price; AA's sensitivity has already declined 20% YoY."

For an analyst ratings summary and ratings history on Alcoa click here. For more ratings news on Alcoa click here.

Shares of Alcoa closed at $9.64 yesterday.

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