4 Reasons BMO Upgraded The 'New' Alcoa

Alcoa Corp AA's decision to merge its six different business units into three units to increase efficiency and slash cuts won over another Wall Street analyst.

On Friday, BMO Capital Markets' David Gagliano upgraded Alcoa's stock from Market Perform to Outperform with a price target raised to $45 from $35.

Gagliano cited four reasons to support his bullish view on Alcoa's "new" shares.

1. Risk To Reward Profile

According to Gagliano, if aluminum and alumina prices remain just flat from today's levels, Alcoa shares could see upside of 30 to 40 percent. However, if aluminum and alumina prices move higher by just 10 percent then Alcoa's stock could see upside of 60 percent.

The analyst also suggested Alcoa's stock assumes a 10 to 15 percent decline in aluminum and alumina prices.

2. Valuation

Gagliano believes Alcoa's stock is trading at a compelling valuation of 3.6x and 3.7x 2017 and 2018's EBITDA estimates and an 8 percent free cash flow yield.

3. Free Cash Flow Use

The analyst expects Alcoa's free cash flow to be used to fund growth related projected in bauxite, reduce pension and OPEB liabilities and the pay a dividend and/or repurchase shares.

4. Consensus Estimates

The analyst believes consensus EBITDA expectations are 15 percent to 20 percent below his 2017 and 2018 EBITDA estimates and the Street could boost their revisions upwards.

Bottom Line

Gagliano felt it prudent to remind investors that Alcoa's "new" shares are extremely sensitive to small changes in commodity prices and his upgrade is based on the view that prices will remain relatively near its current levels throughout the next six to 12 months. As such, if the underlying prices fall by 20 percent to 25 percent, then Alcoa's stock could see 35 percent downside.

See Also:

What The Sell Side Is Saying About Ramaco Resources

A CEO Who's Who Of Trump's Manufacturing Council