Australia | Feb 25 2019
This story features ALUMINA LIMITED. For more info SHARE ANALYSIS: AWC
A spike in the price of alumina, amid supply shortages, helped Alumina Ltd to a record performance in 2018. Brokers consider the outlook is riding on the re-start of Brazil's Alunorte refinery.
-Alumina Ltd's outlook for alumina supply diverges from Alcoa
-Alumina price could climb further if re-start of Alunorte is delayed
-Idled capacity unlikely to come online quickly
By Eva Brocklehurst
2018 was a record year for Alumina Ltd ((AWC)), largely because of the woes at a competitor, so brokers are not getting too carried away with the latest results. The main focus is always on the dividend and this was US22.7c for the full year, supported by an influx of cash from its joint venture with Alcoa, AWAC.
Record earnings and dividend were largely anticipated, as the company now reports its price, shipments and cash costs along with Alcoa's quarterly results. Citi does point out that the company's costs are higher, with the average cash cost per tonne of alumina up 14% over the year.
Caustic soda prices fell in the second half of 2018 and Macquarie expects this to result in improving costs of production at AWAC, in turn supporting 2019 dividends, despite the potential for lower alumina prices. However, the company has guided to 2019 capital expenditure at elevated levels of US$255m, well above the broker's assumptions.
Increased expenditure is principally for studies of ways to reduce bottlenecks at the Western Australian refining assets and the company anticipates this could boost production from one of those assets by more than 10%.
Alumina Ltd has no plans to increase production of Western Australian bauxite, noting there are quality and freight disadvantages. Guinea should pick up any "slack", the company asserts. Production in 2019 is expected to be marginally above 2018.
UBS downgrades the stock to Sell from Neutral, given the move in the share price. Moreover, with the current alumina price elevated, particularly if Alunorte restarts, there is downside risk to the share price.
The broker doubts double-digit dividend yields are sustainable, calculating a spot alumina price of US$385/t implies an operating earnings (EBITDA) margin of US$140/t in free cash flow per share of US$0.15, giving an implied yield of 8%. Credit Suisse, on the other hand, believes the stock is continuing to trade on undemanding multiples with an 11% net dividend yield.
As with any supply outage induced spike in the price of a commodity this is likely to come to an end. The outage at the Alunorte plant in Brazil, the world's largest alumina refinery, is expected to be back online this year and Alcoa suggests there is a surplus market lining up.
However, Alumina Ltd believes the alumina market is balanced, even allowing for a resumption at Alunorte. A balanced alumina market in 2019 and the ramp up of Alunorte mid year, all up, suggests to Macquarie there is short-term downside potential to its bullish alumina price forecasts, while there is significant long-term upside to spot prices. Alumina Ltd now has a higher proportion (94%) of its alumina sales directly calculated off spot prices.
UBS, while noting the two companies have a diverging outlook on alumina supply, suspects the alumina price could climb if the re-start of Alunorte is delayed further into the year. The main factor underpinning a tight alumina market is the Alunorte refinery operating at around 50% capacity over 2019. Credit Suisse does not expect a re-start of Alunorte any time soon, and Alumina Ltd could be in for another strong period of earnings and capital returns.
Another factor, UBS points out, is the winter shutdown in China, which has meant Chinese production has been reduced. The broker estimates there is a total of 10mtpa of idled capacity that could be re-started but with finance, environmental and bauxite supply issues this will not come on line quickly.
Credit Suisse agrees, expecting ongoing environmental and safety audits in China and specific supply-side reforms are likely to ensure domestic alumina and alumina production will be better aligned to avoid overcapacity.
A balanced market envisages increased supply from Brazil in Australia, with Guinea and Jamaica broadly matching aluminium growth and ongoing modest imports of alumina into China.
Regardless, as Shaw and Partners points out, any resumption at Alunorte means the likely direction of the alumina price is lower. The broker, not one of the eight monitored daily on the FNArena database, understands there are no company-specific issues in 2019 that are likely to affect earnings, but trims its rating to Hold from Buy, with a target of $2.50, to reflect a more mature stage of the price cycle.
FNArena's database shows three Buy ratings, one Hold (Ord Minnett) and one Sell (UBS) for Alumina Ltd. The consensus target is $2.68, signalling -3.6% downside to the last share price. The dividend yield on 2019 and 2020 forecasts is 8.6% and 9.0% respectively.
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