What Drove Alcoa’s 4Q16 Profitability?

Previously, we looked at Alcoa’s (AA) 4Q16 revenues. In this part, we’ll look at key drivers of the company’s 4Q16 profitability. Note that there are several metrics you can use to measure an enterprise’s profitability. Net profit is widely used to measure a company’s profitability. For companies in the commodities space (XLB) like Century Aluminum (CENX), Rio Tinto (RIO), and Norsk Hydro (NHYDY), EBITDA (earnings before interest, tax, depreciation, and amortization) is generally used.

Alcoa reported an adjusted EBITDA of $355 million in 4Q16—compared to $284 million in 3Q16. The bauxite and alumina segments contributed the most to Alcoa’s 4Q16 profitability. They generated $102 million and $167 million of EBITDA in the quarter. Note that as an integrated aluminum producer, Alcoa stands to benefit from higher alumina and bauxite prices. However, companies that buy alumina from outside parties, like Century Aluminum, are impacted negatively if alumina prices increase.

The above graph shows Alcoa’s EBITDA bridge from 3Q16 to 4Q16. As you can see, the higher API (alumina price index) was the biggest driver of the incremental increase in Alcoa’s 4Q16 EBITDA. Positive currency movements also had a positive impact on Alcoa’s 4Q16 EBITDA.

However, higher energy prices and lower volumes dragged Alcoa’s 4Q16 profitability. We should remember that energy prices—especially coal, which is used in the alumina refining process—rose steeply in 4Q16. Higher prices increased the energy costs for alumina producers that buy coal from third parties.

In the next part, we’ll look at the 2017 outlook provided by Alcoa’s management.