Why Alcoa Inc's Dark Clouds Haven't Lifted Just Yet

Why Alcoa Inc's Dark Clouds Haven't Lifted Just Yet

As the global economy slowly recovers from the worst recession in decades, it stands to reason that the materials sector would benefit right alongside. That's because companies that operate in basic materials, such as aluminum, see their financial fortunes closely tied to the health of the broader economy. When the global economy collapsed during the heart of the financial crisis, it brought aluminum giant Alcoa to its knees.

Unfortunately, though, Alcoa still isn't back to where it was at pre-crisis levels, even though the economy has gotten back on its feet. Alcoa's primary challenges still persist, making it clear the company is far from being out of the woods.

Pricing and impairments cause continued challenges
All told, Alcoa booked a $2.3 billion loss in 2013, due primarily to a $1.7 goodwill impairment charge. Certain core metrics slipped as well, which also contributed to the poor year's results. Revenue fell by $700 million in 2013, driven by a 4% decline in realized aluminum prices.

Alcoa's poor results are especially concerning considering the strong recoveries seen by many of the markets in which it operates. Alcoa is a leading supplier to major markets, including the aerospace, energy, and automotive industries, all of which have recovered strongly since the dark days of the recession.

For example, it's encouraging that the Boeing 787 Dreamliner uses the first application of large aluminum-lithium plate on a commercial aircraft, which is developed and supplied by Alcoa. Boeing recently received its 1,000th order for the 787, and reached the mark faster than any other wide-body airplane in history.

Complicating matters is the fact that Alcoa's subsidiary venture, Alcoa World Alumina LLC, will plead guilty to one count of violating the Foreign Corrupt Practices Act and will pay a total of $223 million as part of the Department of Justice resolution. In addition, Alcoa will also pay $175 million to settle civil charges filed by the Securities and Exchange Commission.

This, and the huge impairment charge, will only hold Alcoa back from joining its rivals in the global aluminum recovery. Rio Tinto plc increased its aluminum production by 5% over the first nine months of the year, and will likely reap the benefits of improved global demand going forward, without the added pressures facing Alcoa.

To be sure, measurable progress was made in 2013
Thankfully, it's not all bad when it comes to Alcoa's fiscal 2013. Excluding the massive impairment charge and other special items, Alcoa produced $357 million in net profit in 2013. That represents 36% improvement versus the prior year. Strong progress was seen in other areas as well.

Throughout the year, Alcoa maintained several key objectives that it was hoping to meet. On a positive note, the company did make good on many of its promises. For example, Alcoa wanted to be free-cash-flow positive during the year, which it was, for the fourth year in a row. In all, Alcoa generated free cash flow of $385 million during the year.

In addition, management hoped to realize $750 million in productivity gains during the year. Alcoa blew away its own projection. It produced $1.1 billion in productivity gains in fiscal 2013.

Another goal Alcoa reached was management's desire to maintain a conservative balance sheet. The company wanted to keep its debt-to-capital ratio below 35%. Results on this metric were mostly positive. If you exclude the impact of the goodwill impairment and deferred tax valuation allowances, Alcoa's debt-to-capital ratio stands at 34.8%.

Why 2014 may be a better year
Alcoa's improved balance sheet, and measurable productivity gains in 2013, set the company up well to capitalize on the improving global economy. Management expects 7% growth in global aluminum demand, which it will need in order to make 2014 a better year than the last. Other global aluminum producers are seeing momentum, meaning it's imperative that Alcoa doesn't miss out on the recovery. Alcoa needs to execute in the coming year so as to not lose ground to its major rivals.

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The article Why Alcoa Inc's Dark Clouds Haven't Lifted Just Yet originally appeared on Fool.com.

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