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Why Alcoa’s Value-Add Company Could Enjoy Stable Margins

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Value-add company

Alcoa’s (AA) value-add company had pro forma revenues of $14.5 billion in the 12-month period ending June 30, 2015. The Global Rolled Products (or GRP) segment contributed ~44% to the value-add company’s pro forma revenues over this period. The Engineered Products and Solutions (or EPS) segment was the second-biggest contributor, accounting for 41% of pro forma revenues. The remaining revenues came from the Transportation and Construction Solutions segment.

Together, Alcoa (AA) and Allegheny Technologies (ATI) form ~9.2% of the SPDR S&P Metals and Mining ETF (XME).

Profitability

The adjusted EBITDA (earnings before interest, taxes, depreciation, and amortization) of the value-add company was $2.18 billion in the 12-month period ending June 30, 2015. The EBITDA margin over this period was 15%, which is less than what the upstream company generated over this period.

This looks contrary to the popular perception that Alcoa’s value-add business has higher EBITDA margins. However, you also need to consider that the value-add company currently receives ~44% of its revenues from sales of rolled products. Now, rolled products aren’t exactly value-add in nature if you look at the fabricated products offered by other segments under the value-add company.

Stable margins

The GRP segment had an EBITDA margin of only 9% in the 12-month period ending June 30. The EPS segment was the most profitable segment with adjusted EBITDA margin of 22% over this period.

Having said that, the value-add company could enjoy stable margins compared to the upstream company. The upstream company should become a pure-play commodity company with its fortunes largely dependent on prevailing commodity prices. This, in fact, is one strategic rationale for the split. In the coming parts of this series, we’ll look at the other possible reasons for the split. But before that, in the next part, let’s take a look at the value-add company’s competitive landscape.

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