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Alcoa Looks Beyond Weaker Prices, Europe


Some analysts cheered a disciplined action in Alcoa's (AA) announcement last week to shut down an idled smelter in Tennessee and two idled potlines in Texas, and investors should heed that celebration even when the company releases fiscal fourth-quarter earnings Monday.

Aluminum pricing has moved closely in line with global economic uncertainty driven by the European debt crisis -- the cash (London Metal Exchange) price dropped about 7.1% from October through December to about $1,970 per metric ton from $2,170 per metric ton. The LME is the only market in the world that trades the commodity.

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This doesn't bode well ahead of the Dow component's earnings report, as many analysts have cut their estimates in the final couple weeks of December and the first week of January.

"We are cutting our fourth-quarter estimate to a 7 cent loss versus consensus," Brian Yu, an Alcoa analyst for Citi, said in a Friday note. "This will likely be the first quarterly loss for Alcoa since exiting the recent downturn in 2009, driven by weak aluminum prices and European demand impact on downstream businesses."

The average analyst estimate is for a loss of 2 cents a share on revenue of $5.7 billion.

But investors might be wise to consider the growth potential of Alcoa and other aluminum equities with the prospect of global production cuts on the horizon for the first half of 2012.

Alcoa said Thursday that its decision to shutter a smelter and other operations would result in total restructuring-related charges of between $155 million and $165 million to the fourth quarter.

Alcoa estimated that it would close or curtail about 531,000 metric tons, or 12%, of its global smelting capacity.

"We believe that these actions, while likely to be viewed by some observers as a negative, are a positive for Alcoa and the industry," Anthony Rizzuto, the managing director of metals at Dahlman Rose & Co., wrote in a Friday research note. He added that Dahlman lowered its fourth-quarter per-share estimate to 1 cent from 9 cents, excluding the 15-cent to 16-cent per share charge expected on the fourth-quarter earnings.

There could be more production cuts by major aluminum players in 2012, which would further help to balance supply and demand and provide stability for aluminum prices.

The first bit of positive news (in a sense, because it cut production) for the aluminum industry came when Rio Tinto (RIO) said recently that it cut output from two of its smelters in Quebec -- its Alma smelter due to a labor lockout when contract negotiations broke down, and its Shawinigan smelter due to a circuitry failure.

Analysts also said that China could make necessary cuts in aluminum production as well in 2012.

"With production falling significantly in China and further production set to be cut if prices stay at these levels, we concur with the mildly bullish sentiment towards aluminum," Goldman Sachs wrote in a note in December.

"While we expect a decline on an annual basis, prices should trend higher during the course of 2012," Lloyd O'Carroll, an Alcoa analyst at Davenport& Co., wrote in a note. "Higher prices, along with strength in key end markets such as aerospace and autos, should take AA higher in 2012."

Europe won't buy aluminum as it's entrenched in the debt crisis but this could be offset as analysts expect China, the United States and Brazil to see positive prospects for demand in autos, aerospace, commercial transport and consumer products.

This is why some financial journalists are telling investors to "buy on the dip" before Alcoa's earnings.

Analysts seem to agree that the New York-based company's decision to curtail and cut production was a wise fundamental idea, but it's important to remember that the worth of Alcoa's shares are heavily dependent on the actions of the overall aluminum industry.

If China and others continue to slash production, 2012 could provide a solid rally for Alcoa's shares. But as for the company's fourth-quarter earnings, don't hold your breath.

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