Alumina Ltd’s Forecasts At Risk

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This story features ALUMINA LIMITED.
For more info SHARE ANALYSIS: AWC

By Chris Shaw

Oversupply continues to weigh on aluminium prices globally, a fact borne out by Alcoa reporting a 21% fall in after tax operating income in the December quarter. The Alcoa result has implications for Australian-listed partner Alumina Ltd ((AWC)), not only because of the long standing operational relationship between the two companies but equally so because of the weak industry outlook Alcoa’s update implies.

Stockbrokers in Austraiia have noted the $40 million write-down Alumina announced post the Alcoa result also suggests a difficult outlook for the Australian company.

Factoring in the write-down sees UBS cut its 2008 profit forecast for the company by 21% to $227 million. Other brokers in the market are similarly lowering their earnings estimates to reflect both the impact of the write-down and the contribution to earnings implied by the Alcoa result.

What hasn’t changed is the difference in views on the outlook for Alumina Ltd. While UBS continues to rate the stock as a Buy on valuation grounds, there are a number of Sell ratings. The FNArena database shows two Buys, four Holds and four Sell recommendations.

Taking the buy side first, UBS argues the stock represents long-term value even given the tough current conditions and notes that at the present share price, the stock is trading at the equivalent of pricing aluminium around US$411 per tonne. This compares to the industry’s implied enterprise value per tonne of installed capacity implied by capital expenditure of around US$676 per tonne.

In contrast, Bank of America-Merrill Lynch suggests with aluminium demand likely to weaken further, there remains downside risk to both the metal price and group earnings. As a result, the broker maintains its below market consensus earnings forecasts for 2009 amid expectations of further cuts to market estimates in coming months.

The other issue the broker sees is the group’s leveraged balance sheet, which hampers the company’s options given metals prices are falling and demand is weakening. This combination leads the broker to suggest there is currently no reason for anyone to actually own the stock.

Credit Suisse is no more positive, as post the Alcoa result it has downgraded its rating to Underperform from Neutral. The broker argues the stock is shaping up as something of a value trap at present, as while it looks attractive given the stock is trading at a discount to replacement value, the fact aluminium inventories continue to rise means there is currently little or no earnings support.

Even Citi, which continues with its Buy rating on the stock, has raised concerns given the present level of aluminium prices. The broker sees current levels as implying significant downside risk to its earnings estimates.

ABN Amro’s view is somewhat similar, as while it would like to tell investors to accumulate the stock given the implied value on offer, it can’t given its concerns over the poor metal price outlook and the group’s leveraged balance sheet. As a result, ABN Amro retains its Hold rating on the stock at present.

The FNArena database highlights the current concerns in the market over earnings for the group, as it shows consensus earnings forecasts of around 18c for 2008, but just 2.3c for 2009. As a result, the average price target on the stock is $1.63, down from $1.67 prior to the Alcoa report.

Today, shares in Alumina are weaker and as at 12.45pm the stock was down 6.5c or 4.6% at $1.365. In the past year the shares have traded in a range of $0.98 to $6.75.

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