“So take Alcoa. The world’s largest producer of aluminum. A stock that once traded at $4 and now trades at around $6. If you want to look at what a company looks like shortly before they cut a dividend. I think Alcoa is the template.
Alcoa has been paying out a 17 cent quarterly dividend…but not where I expect the yield to stay at the lofty hike, in fact, I expect the yield to come crashing down. Sometimes high-yields are a sign that a company’s in trouble and the share prices come crashing down for a good reason. Lot of lately. Alcoa made the last payout in February so stay tuned because we should expect the next announcement about the dividend; the one where the dividend may be cut or not within the week.
Why? I don’t trust Alcoa’s earnings in 2009. Alcoa expects to lose more than 70 cents a share in 2009. So remember, a rule of thumb for dividends is we’d like to see the company’s earnings per share be at least twice the size of the dividend payout. In Alcoa, we have the company losing more money than it expects to pay and I find that business is horrible. The balance sheet, well, let’s just say if possible, it looks even worse…
It’s true Alcoa could get a billion bucks from winding down the joint venture with Rio Tinto, but even that may not be enough to help it it sustain the dividend. In the best scenario, it could use the money from the asset sale to fund its dividend, but then where will it be? For Alcoa to keep its dividend the same it will need to pay out $545 million a year and I’m skeptical they have that money to throw around…Can you see how the company can justify keeping the dividend at these levels if you have to borrow? Alcoa can cut back on the capital expenditure, but that’s reason enough to sell the stock, isn’t it? We don’t want to own these shares.”
Cramer’s logic is tough to argue with on this one. Alcoa (AA) is fighting against some very difficult headwinds right now, and has been laying off workers in an attempt to become leaner. The cost cutting has not been enough to stem the losses in the stock as it has plummeted from near $40 about a year ago to under $6 today. The company is having to contend with aluminum prices that have tanked, along with all other commodity prices during the global recession. Demand for industrial goods around the world just isn’t what it was just two years ago. Furthermore, there is increased competition from foreign companies that have much lower operating expenses.
When we last wrote about Alcoa (Alcoa Shedding Costs to Bare Bones), the stock was trading in the low $8 range. We still believe that this stock is Undervalued based on historical norms, but there will be no relief for aluminum prices and Alcoa until the recession eases and the world begins to demand more industrial production. For now though, the stock will likely be stuck in the single digits and we agree with Cramer that there is little way around a dividend cut. When the company last hiked the quarterly dividend from 15 cents to 17 cents in the first quarter of 2007, the company was trading in the low $30’s making the yield a manageable half of a percent. That was a different (and profitable) company, now the yield of more than 11% is hanging around Alcoa’s neck like and albatross. They have run out of time to wait for the economy to get better and must slash the dividend now to conserve cash.