Alcoa – Limited Downside, Big Upside in ’12
Aluminum isn't sexy, but Alcoa's improving earnings and dividend potential are -- and streamlining has made it a stronghold against further economic downturn.

When Alcoa (NYSE:AA) reported earnings in October, CEO Klaus Kleinfeld told investors, “Alcoa is a confident company in a nervous world. We are well prepared for whatever lies ahead, with more cash on hand, lower debt and continued focus on profitable growth.”

It would be natural to write off the comments as mere platitudes for Wall Street’s grumpy traders. But taking a closer look at Alcoa across the past several weeks has made me agree with Klaus — and consider AA stock as a bargain buy to hang on to across 2012.

Shares of Alcoa were trading as high as $18 this spring before market sovereign debt fears, stagnant job numbers and other issues sent the stock back into a tailspin. AA stock was under $9 as recently as mid-December.

Yes, big problems persist in the global economy, and aluminum demand and prices remain weak as a result. However, Alcoa hasn’t seen the $9 level since spring 2009. Are the macroeconomic fears really worse now than in 2009?

Alcoa AA
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Oh, and by the way — massive restructuring plans have not just returned Alcoa soundly to profitability, but resulted in steady growth for several quarters running. Is AA stock really a worse investment now that it is streamlined, in the black and paying down debt?

Obviously no stock is risk-free. But in my opinion, Alcoa has limited downside and lots of upside in 2012. Here’s why:

Improving earnings: Alcoa has seen year-over-year profit increases in each of the last eight quarters. It has also seen revenue go up year-over-year for seven straight quarters. The result is that fiscal 2011 revenue is going to be up about 35% over last years’ numbers if estimates for Q4 hold. Profits will be up even more dramatically, to 81 cents a share for the full year 2011 compared to just 25 cents in 2010 — more than triple last year’s numbers. Forecasts for 2012 include even more improvement in both sales and profit numbers.

A Bargain Stock: Alcoa has a forward PE of about 9.4 right now, based on a stock price of $9 per share and 2012 earnings estimated at 96 cents. If AA stays right on schedule and simply moves up to a P/E valuation of around 12, we get to $12.50 per share — a whopping 38% upside! Imagine what will happen if Alcoa keeps beating earnings estimates in 2012.

Dividend Potential: Alcoa has a fairly meager yield of about 1.3%, based on a quarterly payout of three cents. That payment has been stagnant since March 2009, too, after it was cut from 17 cents quarterly. However, there is good reason to expect a dividend increase in 2012. Alcoa has returned to profitability and surely will be feeling pressure to return some of that cash to shareholders. Not only will a dividend increase give you a great yield on cost if you buy at $9, it will attract buying pressure to AA stock as other investors continue to seek out safe-haven dividend stocks amid the market turmoil.

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