Earnings Scorecard: Alcoa

Shares of Alcoa Inc. (AA - Analyst Report) advanced 8% and reached its April highs after the aluminum major posted higher-than-expected third quarter 2010 results. An optimistic aluminum demand outlook further added to the positive market sentiments.

Third Quarter Review

In the third quarter of 2010, Alcoa reported net earnings of $96 million or 9 cents per share (excluding non-recurring charges of 3 cents), outperforming the Zacks Consensus Estimate of 6 cents and the last year’s net income of $39 million or 4 cents per share (net of one-time charges).

Quarterly revenues of $5.3 billion exceeded the Zacks Consensus Estimate of $4.8 billion as well as year-ago revenues of $4.6 billion. A 15% year-over-year rise in revenues was a result of higher aluminum (3%) and alumina (7%) shipments. Demand was pronounced in the Packaging (up 11%), Commercial Transportation (10%), Building & Construction (10%) and Aerospace (3%) markets.

Alcoa anticipates a 13% (higher than the prior guidance of 12%) rise in global aluminum demand on stronger end markets in China, Brazil, India and Russia, especially building and construction, transportation and packaging

For a full coverage on third quarter earnings, read: Alcoa Beats, Raises Outlook

Zacks Consensus Estimate

Analysts and investors have remained positive on Alcoa. For the fourth quarter of 2010, out of the 13 analysts covering the stock, 6 and 7 have upped their earnings estimates over the last 30 days and 7 days, respectively.

For the full year 2010, out of the 16 analysts covering the stock, 8 and 10 have upgraded their earnings estimates in the last 30-day and 7-day periods. Higher year-over-year rise in aluminum prices and improving demand scenario in the major aluminum consumer industries like packaging, commercial transportation and construction markets have triggered the bullish market sentiments.

However, analysts are wary about Aloca’s share prices, which are rising disproportionately with the average realized aluminum prices. Notably, 3 of the 13 analysts tracking Alcoa have made negative revisions to the earnings estimate for the upcoming quarter during the last month.

For the full year 2010, 6 of the 16 analysts covering the stock have downgraded their estimates over the past 30-day period. One factor behind the muted share price increases could be the sequential softening of average realised aluminum prices. We saw Alcoa reporting a 21% quarter-on-quarter fall in aluminum prices albeit a 15% rise in year-over-year prices.

Over the last week, the Zacks Consensus Estimate remained flat at 14 cents for the fourth quarter while it went down 2 cents to and settled at 46 cents for the full year.  Currently, the Zacks Consensus Estimate for the fourth quarter and full year 2010 is 17 cents and 50 cents.

With respect to earnings surprises, Alcoa has outpaced the Zacks Consensus Estimate in two of the trailing four quarters while it underperformed in the other two. This is reflected in the average surprise of a negative 9.59%.

Zacks Recommendation

Strong performance in the foreign markets of China, Russia, India and Brazil has helped Alcoa manage the earnings and revenue growth. Key end markets are also improving, although a slower pace.  Alcoa Inc. is facing higher input costs. In our view, the company’s near- to medium-term profitability is likely to see pressure from rising energy and caustic soda costs.

Further, the aluminum industry is highly cyclical, with prices subject to worldwide supply and demand forces along with other influences. Alcoa is subject to cyclical fluctuations in LME prices, general economic conditions and aluminum end-use markets.

The greatest risk for Alcoa is a further deterioration in aluminum price. If there is any significant decline in aluminum prices in 2010, Alcoa is likely to underperform. If the global economy worsens, demand for aluminum and aluminum-based products would also likely slow, thereby pulling down Alcoa’s shipments and revenues.

Currently, Alcoa has a short term (1 to 3 months) Zacks #3 Rank (Hold) and a Neutral recommendation for long term (6 months and higher).