Why the Firth Rixson acquisition makes strategic sense for Alcoa

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Firth Rixson acquisition

In June 2014, Alcoa announced that it will be acquiring Firth Rixson. Firth Rixson is a leading jet engine component manufacturer. Alcoa will acquire it for $2.85 billion. We have already discussed the shift in Alcoa’s strategy. It’s moving towards value-added products. This acquisition will continue to strengthen its position in the aerospace market.

The strategic rationale for the deal

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The deal with Firth Rixson is strategically important for Alcoa. Firth Rixson is the largest jet engine ring manufacturer. It gets ~75% of its revenues from the aerospace industry. It adds new products and customers to Alcoa’s aerospace portfolio. Most of Firth Rixson’s sales are secured by long-term agreements. We’ll analyze the deal’s financial implications.

The deal makes financial sense

The deal is expected to boost Alcoa’s aerospace revenues by ~20%—from $4 billion in 2013. Firth Rixson’s revenues are expected to grow twice as fast in the aerospace industry. Alcoa expects Firth Nixson’s revenues to double by 2019. This represents a compound annual growth rate (or CAGR) of 12.2%. The deal is expected to add $350 million to earnings before interest, taxes, depreciation, and amortization (or EBITDA) in 2016. The chart above shows the deal’s financial implications.

Alcoa also expects the cost synergies—eliminating duplicate costs—to be ~$100 million five years after the deal is completed. The acquisition is expected to add to the earnings per share (or EPS) beginning in the second year. The deal adds value for Alcoa’s shareholders. The expected returns are greater than Alcoa’s cost of capital.

Now, we’ll discuss the automotive segment. It’s another key segment for Alcoa. Although this segment accounts for a little over 6% of its revenues, it’s expected to contribute to Alcoa’s future growth in a big way.

It’s important to note that we’re presenting Alcoa’s (AA) business overview. We’re comparing AA to other aluminum companies like Century Aluminum (CENX), Kaiser Aluminum Corp. (KALU), and Constellium (CSTM). The SPDR S&P metals and mining ETF (XME) invests in these companies.

 

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