Company Overview: Alumina Limited (ASX: AWC) is a metal and mining company with a 40% in the AWAC joint venture whose assets comprise globally leading bauxite mines and alumina refineries in Australia, Brazil, Spain, Saudi Arabia and Guinea. The current refining portfolio of AWAC is comprised mostly of tier-1 assets that allow it to generate strong returns throughout the commodity cycle. The company is focused on the alumina part of the aluminium supply chain. The company offers investors a relatively undiluted exposure to the alumina market with AWAC selling predominantly at the market driven alumina price indices (API), reflecting global alumina market fundamentals.

AWC Details

Improvement in Top-line and Bottom-line: Alumina Limited (ASX: AWC) is a metal and mining company focused on refining the intermediate alumina product in the aluminium supply chain. The company holds 40% ownership of Alcoa World Alumina & Chemicals (AWAC) which is a leading global bauxite and alumina business in Australia that owns and operates long-life, low-cost bauxite, and alumina assets.  The financial policies of both Alumina Limited and AWAC ensure that there is modest leverage in AWAC and AWC. Moreover, the distribution policies of Alumina Limited and AWAC require free cash flows to be paid to their respective shareholders. Over the last five years, the company has witnessed significant improvement in its top-line as well as bottom-line. From 2015 to 2019, the company’s revenue has increased at a CAGR of 123.61%. Over the same period, the company’s net profit has increased at a CAGR of 24.77%.

A Snapshot of Past Performance (Source: Company Reports)

In response to COVID-19, AWAC has undertaken some specific measures to conserve cash and has put on hold all growth capital expenditure for the remainder of 2020. Despite the challenges from the COVID-19 pandemic, AWAC was able to achieve record quarterly daily alumina production during the June quarter. With relatively low debt levels and AWAC’s long life, low-cost assets, AWC seems well-positioned to navigate through the current challenging industry conditions caused by COVID-19 Pandemic. Moving forward, the company is focussed on maintaining a balance sheet for a cyclical business that can meet shareholders’ requirements while meeting AWAC’s investment calls throughout the cycles.

FY19 Results Highlights: During the financial year ending 31 December 2019 or FY19, the company reported a profit after tax of US$214 million as compared to the record net profit of US$635.4 million in 2018, mainly impacted by the softening in the market price for alumina. Despite softer prices, the company witnessed record production at AWAC’s tier 1 low-cost refineries which allowed the company to return cash to shareholders and maintain a robust balance sheet. The company received US$420.9 million in net cash distributions from AWAC in 2019. As a result, AWC was able to pay most of its free cash flow to shareholders by way of dividends. For the full year, the company paid a total dividend of 8.0 US cents per share.

During the year, AWAC recorded a net profit after tax of US$565.1 million as compared to a net profit after tax of US$1,640.2 million in 2018. Over the year, AWAC was benefited from record annual alumina production of 12.6 million tonnes and a 7% improvement in the average cost of production to US$210 per tonne.

As at 31 December 2019, the company had undrawn debt facilities of US$280 million with maturities ranging from 2022 to 2024. The company’s net debt level at the end of 2019 was US$54.8 million, consistent with the low and prudent debt levels it has maintained in recent years. In FY19, the company reported net cash inflows of US$730.7 million.

FY19 Result Summary (Source: Company Reports)

Top 10 Shareholders: The top 10 shareholders have been highlighted in the table, which together forms around 51.5% of the total shareholding. CITIC Resources Australia Pty. Ltd. and Allan Gray Australia Pty Ltd hold maximum interest in the company at 9.68% and 9.0%, respectively.

Top 10 Shareholders (Source: Refinitiv, Thomson Reuters)

A Quick look at Key Ratios:  In FY19, the company’s current ratio stood at 14.17, higher than the industry median of 1.75x. The company has an Asset/Equity ratio of 1.04x, lower than the industry median of 1.70x. Further, the company has debt to equity multiple of 0.04x, lower than the industry median of 0.11x. The company has a ROE of 10.9%, higher than the industry median of 7.5%.

Key Metrics (Source: Refinitiv, Thomson Reuters) 

March 2020 Quarter Update: During the March 2020 Quarter, AWAC assets performed decently with cash costs of alumina production down by $1 per tonne. The average realised alumina price stood at $279 per tonne was broadly in line with the previous quarter. Over the quarter, the company saw strong positive cash flows for AWAC which resulted in Alumina Limited receiving a $31.8 million cash distribution in March Quarter. The Alcoa Alumina Segment and Alcoa Bauxite Segment reported EBITDA of $193 million and $120 million, respectively in March quarter.

Australia Ltd Taxation Assessments Update: Recently, the Australian Taxation Office (ATO) undertook a transfer pricing examination in respect of certain historical third-party alumina sales made by Alcoa of Australia Limited (AoA) over a 20-year period. Following the examination, the ATO has issued Notices of Assessment for additional income tax payable by AoA of around A$214 million and claims for compounded interest on the primary tax amount totalling approximately A$707 million.

Board Appointment Update: The company recently announced the appointment of Shirley In’t Veld as a NonExecutive Director of the Company. It is worth noting that Shirley In’t Veld is a former Chief Executive Officer of Verve Energy and senior executive in the resources industry. Her appointment has brought extensive experience to the Board in the field of aluminium industry, energy markets and management of long-life assets.

Change in Substantial Holdings: Recently, one of the company’s substantial holders, Lazard Asset Management Pacific Co, reduced its holdings in the company to 5.89%, from the previous holding of 7.06%. Lazard Asset Management Pacific Co now holds around 169,577,152 ordinary shares of the company.

June Quarter Update: During the June 2020 quarter, the company achieved record quarterly daily alumina production despite challenges from the COVID-19 pandemic. Due to lower caustic soda input costs and energy prices, the cash costs of alumina production fell by $11 per tonne during the quarter. Over the quarter, the company received US$58.6 million of net cash distributions, up US$31.3 million on March 2020 Quarter.

June Quarter Results (Source: Company Reports) 

Key Risks: Currently, there is uncertainty regarding the impact on the company’s operations from the outbreak of the COVID-19 pandemic and the extent of its impact on the company’s markets. The company’s performance is mainly affected by the market price of alumina, and to some extent, the market prices of bauxite and aluminium. The company is exposed to the risk associated with the fluctuations in exchange rates. Further, the loss of key customers or changes to sales agreements could adversely affect AWAC’s and Alumina Limited’s financial performance.

What to Expect: The AWAC business has been resilient over several decades and has weathered a number of difficult and challenging periods. The long-life and quality of AWAC’s assets give AWC the time and ability to maintain or adjust operations where needed. With this, the company can re-emerge in good shape to quickly take advantage of improved conditions. The company currently has low and prudent debt levels with unutilized debt facilities of US$220 million. Maintaining a robust balance sheet and using it to manage liquidity allows the company to withstand the changes in the commodity cycle.

With relatively low debt levels and AWAC’s long life, low-cost assets, AWC seems well positioned to navigate through the current challenging industry conditions caused by COVID-19 Pandemic. Moving forward, the company is focussed on maintaining a balance sheet for a cyclical business that can meet shareholders’ requirements while meeting AWAC’s investment calls throughout the cycles. The company is scheduled to release its H1FY20 results on 25 August 2020.

Key Valuation Metrics (Source: Refinitiv, Thomson Reuters) 

Valuation Methodology: Price to Earnings Multiple Based Relative Valuation (Illustrative)

Price to Earnings Multiple Based Valuation (Source: Refinitiv, Thomson Reuters)

Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Months,

Stock Recommendation: The stock of AWC has declined by 25.71% in the past six months and is inclined towards its 52-week low of $1.295, offering a decent opportunity for accumulation. We have valued the stock using a price to earnings multiple based illustrative relative valuation method and have arrived at a target price of lower double-digit upside (in % terms). For the purpose, we have taken peers like South32 Ltd (ASX: S32), BlueScope Steel Ltd (ASX: BSL) and Lynas Corporation Ltd (ASX: LYC), etc. Considering the company’s robust balance sheet, long-life and quality of AWAC’s assets, decent performance in March and June quarters, and current trading levels, we give a “Buy” recommendation on the stock at the current market price of $1.565, up by 0.321% on 5 August 2020.

AWC Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

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