Two Giants With Staying Power
02/18/2008 12:00 am EST
Tom Slee, contributor to the Internet Wealth Builder, says Alcoa and Canadian Railway are well-managed companies that should hold up well until the economy bounces back.
Despite all the gloom and profit warnings, Alcoa (NYSE: AA) got us off to a very respectable start [to earnings season]. Earnings for the period, after adjustments, were 36 cents a share-down slightly from 41 cents in 2006, but easily beating Wall Street expectations of 33 cents a share.
Revenues for the year totaled a record $30.8 billion and profit increased 14% to $2.56 billion. Chief executive officer Alain Belda is looking for similar growth in 2008, with increased aluminum demand from India and China more than offsetting an expected construction slowdown in North America. The company will also benefit from the sale of its packaging and consumer business, including Reynolds Wrap, for $2.7 billion in cash to the Rank Group.
I hope that Mr. Belda is right, but everything points to softening aluminum prices in 2008 as global economies slow. Obviously, US housing is in the tank, although demand could surprise us if aerospace production remains buoyant. Another likely plus is that we have seen a rash of consolidations in this once highly-fragmented industry in recent years, and this should result in a more disciplined pricing structure as producers balance supply and demand.
My feeling is that Alcoa is going to have a bumpy 2008, along with all the other cyclical stocks. [But] the company's new low-cost production facilities, active stock-repurchase program, and lower interest expenses are likely to bolster earnings growth.
Alcoa should earn about $3.10 a share in 2008, up from $2.95 last year. That's a relatively modest improvement, but enough to propel the stock higher later in the year as fundamentals start to count in the market once more. Buy Alcoa with an unchanged target of $43. (It closed Friday below $36-Editor.)
Canadian National Railway (NYSE: CNI) turned in a very respectable fourth-quarter profit, more than holding its own against some formidable economic forces. Earnings, after adjustment for special items, were 90c a share, [two cents] better than analysts expected. Profit for 2007 was a record $2.17 billion despite avalanches, a 15-day strike, and the strong loonie. The company's operating ratio (the percentage of revenues needed to run the system) inched up to 63.6% from 61.8% in 2001-still the best in the industry by far.
In many ways railroads are economic indicators, with their shipments directly reflecting business activity. So realistically 2008 is shaping up as a difficult year for CNI. However, as that excellent operating ratio shows, this is a lean, mean company that is well equipped to prosper in tough times. Chief executive officer Hunter Harrison anticipates revenue growth in the 6%-8% range this year and a mid- to high-single-digit improvement in profits.
Railways, once a feast-or-famine industry, are showing surprising resilience this time around. In the third quarter, five of seven Class 1 North American railroads beat earnings expectations. Investors may be underestimating their staying power. Buy CNI with a target of $60. (It closed at around $52 Friday-Editor.)Subscribe to Internet Wealth Builder here.