Cheaper and Better than the Leader

Yesterday, Dow Jones component Alcoa (NYSE – AA - $9.10) kicked off earnings season with upbeat news and a positive yet slightly cautious outlook.  AA sees continued demand increase for its aluminum products in 2013, primarily from the aerospace and construction industry.  The Company posted a profit for 2012, meeting Street estimates.

Still, the following questions remain:

Will aluminum and related composites rebound in 2013 after a tough 2012?

What is the best play on this?

Aluminum prices have increased slightly on the London Metals Exchange over the last few months helping the revenue story for companies in the space.  Analysts forecast a worldwide increase in demand in 2013 with the industries mentioned above and a rebound in emerging markets like China.  The one risk sitting out there is the U.S. defense industry and what kind of cuts, if any, will occur in spending that could impact the aluminum products market.

One firm that has exposure in all the right places is Noranda Aluminum Holding Corporation (NYSE – NOR - $6.66), a producer of aluminum products and rolled aluminum coils primarily in the US.  The Company was founded in 2007 in Franklin, TN, and has a customer base that uses its products in building construction, architectural, transportation, electrical, and steel de-oxidation applications. Its rolled products are used in foil products, packaging applications, transformer windings, and light gauge converter foils to name a few examples.

The stock has been trudging in the $5-$7 range since last summer after dropping steadily from the $12 range about a year ago.   Technically, it appears as if the stock may have reached an inflection point of $5.56 in mid-November and has made a nice comeback, closing at $6.66, yesterday.

We like this play based on the increased demand forecast for the overall industry, its current valuation, and technical chart.  Street EPS estimates for 2012 are $0.12 and $0.62 in 2013, illustrating a return to significant profitability.  The Company is set to announce 4Q12 and overall 2012 results on February 20^th.

Even if the industry slugs along and does not return to form, NOR remains cheap, relative to the industry’s bellwether. Alcoa is trading at a 13.5x multiple on FY13 EPS and clearly NOR should 13-15x FY13 EPS as well, compared with its current 10.3x FY13 EPS P/E.  As a result, we expect NOR to reach the $8.00-9.00 range following its upcoming financials release.

Disclosure: Goldman Small Cap Research analysts are neither long nor short these shares but may elect to purchase the stock within the next 48 hours.

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