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Alcoa Looks for Downstream 'Bullwhip'

Bearish Alcoa sentiment might not be bearish enough when it comes to first-quarter earnings, but, over the long haul, one analyst sees a good value play.
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PITTSBURGH (TheStreet) -- Bearishness has swarmed around Alcoa (AA) - Get Alcoa Corporation Report for months.

Analysts have

scaled back profit expectations

-- with JPMorgan analysts downgrading Alcoa stock on Friday -- as the Dow component, which traditionally kicks off each quarterly earnings-report season, prepares to release results after the bell on Monday.

Investors have come to expect "noisy" or "muddy" quarters from Alcoa -- see

January's earnings miss and steep stock-price decline


This time around, a variety of "headwinds" are seen impacting the company's outlook over the near term.

These include decreased volumes due to protracted negotiations with big aluminum can customers, rising energy costs, the shuttering or idling of smelters, and the riskiness inherent in the price of aluminum itself. For example, so-called "financing trades" by metals speculators -- which work like cantagos -- have resulted in the removal of huge amounts of physical aluminum from the market, acting as a support for prices. No one can predict when these trades will be unwound. Aluminum futures, meanwhile, touched a new 18-month high on the London Metals Exchange Monday.

Various surveys of the sell side are calling for a modest Alcoa profit in the first quarter:

Tompson Reuters'

poll is targeting 10 cents a share,


9 cents. That's much better than the year-ago first quarter, when the recession led to a loss of 59 cents a share. Revenue, according to the former poll, is expected to come in at $5.24 billion, up from $4.15 billion a year ago.

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Despite the recent downward revisions by many of his peers, Morgan Stanley's Mark Liinamaa still thinks those estimates are too high. He's looking for 8 cents a share, and noted in a conversation with


Monday that short-term handicapping in Alcoa shares, especially around its quarterly report, is not for the faint of heart.

But, looking ahead, he sees reason to hang tight in the stock. His $22 price target suggests as much. The reason is fairly simple: an economic recovery, he said, could create a "classic bullwhip effect."

Alcoa spent much of 2009 cutting costs, laying off workers, idling smelters and reducing capacity. Should demand for aluminum recover in the company's important "downstream" businesses -- that is, in its flat-rolled and engineered products segments, hit hard during the recession -- then increased revenue will drop with nearly equal vehemence to Alcoa's bottom line.

One long-term area to focus on, Liinamaa said, is the company's aerospace division, which supplies aluminum to Boeing and Airbus and constitutes anywhere from 10% to 15% of Alcoa's revenue.

Weak demand has damaged Alcoa's leverage to the price of aluminum, the analyst wrote in a research note last week. But that could change should jetliner production speed up, especially in Boeing's 747s and 777s, which are 50% aluminum, as opposed to the much-anticipated carbon-fiber Dreamliners, which are only 20% aluminum.

"If there's a surprise coming, it will be from the downstream in terms of outlook," said Liinamaa.

"I think it's a long-term buy," he added. "It really is a value call."

Alcoa shares were trading midday Monday at $14.69, up 2%. The stock is off its 52-week high of $17.60, set just before the company reported its disappointing fourth-quarter results in January.

-- Written by Scott Eden in New York


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