Allegheny Technologies Dominates the Market and Still Has Good Growth Prospects

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Dec 09, 2014

In this article, let's take a look at Allegheny Technologies Inc. (ATI, Financial), a $3.64 billion market cap company that is a leading producer of specialty metals for a wide variety of end markets.

A market leader

The company is one of the largest manufacturers of diversified specialty materials. It has a leading position in the production of airframes and components for commercial and military jet engines.

We believe Allegheny is in a good position because the aerospace industry will grow in the future. The next-generation jet engines and airframes will require more volumes of titanium and nickel-based alloys in order to minimize weight and maximize fuel efficiency, and this are key products of the firm´s portfolio.

Additionally, it will benefit from an increase in unconventional techniques used to extract oil and natural gas.

Acquisitions and divestitures

On 2011, the company acquired Ladish Inc. (LDSH) for almost $900 million. Based in Wisconsin, Ladish produces high-strength, high-technology forged and cast metal components in the jet engine, aerospace and industrial markets. With the deal it was expected a positive generation of cash flow and earnings after the first year. Further, in November 2013, the firm sold its tungsten materials business to Kennametal Inc. for $605 million.

Estimated one-year price

According to Yahoo! Finance, the estimated one-year target share price is $ 44.45 so if you buy shares at current market price ($34.2), your return from price appreciation would be 30%. In addition, you have to consider any cash flow received by the asset. So for holding the stock one year, you'll be paid a dividend of $0.72 at the end of the year. If we divide this number by current price per share, we obtain the dividend yield, which is the other component of the return on an investment for a stock, and in this case is 2.1%. So the total expected return for investing in Allegheny is 40.1%, which we believe is a very attractive stock return.

Revenues, margins and profitability

Looking at profitability, revenue grew by 9.99% led earnings per share increased in the most recent quarter compared to the same quarter a year ago ($0.0 vs -$0.27). The net income growth from the same quarter one year ago has significantly exceeded that of the S&P 500 and the Metals and Mining industry. It has increased by 97.9% when compared to the same quarter one year prior, rising from -$33.80 million to -$0.70 million.

Although the gross profit margin increased from the same quarter last year, it is considered very low, currently at 13.19%. The net profit margin of 3.63% is ranked higher than 65% of the 2030 Companies in the Metal Fabrication industry.

Finally, let´s compare the best measure of performance for a firm's management: the return on equity. The ROE is useful for comparing the profitability of a company to that of other firms in the same industry.

Ticker Company ROE (%)
ATI Allegheny Technologies 5.32
RS Reliance Steel and Aluminum 8.62
TX Ternium SA 9.61
CMC Commercial Metals Co 8.72
 Industry Median 7.89

The company has a current ROE of 5.32% which is lower than the one exhibit by Reliance Steel and Aluminum (RS, Financial), Ternium SA (TX, Financial) and Commercial Metals Co (CMC, Financial).

In general, analysts consider ROE ratios in the 15-20% range as representing attractive levels for investment. It is very important to understand this metric before investing and it is important to look at the trend in ROE over time.

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Relative Valuation

In terms of valuation, the stock sells at a trailing P/E of 24.1x, trading at a discount compared to an average of 24.3x for the industry. To use another metric, its price-to-book ratio of 1.27x indicates a discount versus the industry average of 1.94x while the price-to-sales ratio of 0.88x is below the industry average of 1.07x.

As we can see in the next chart, the stock price has an upward trend in the five-year period. If you had invested $10.000 five years ago, today you could have $10.792, which represents a 1.55% compound annual growth rate (CAGR).

03May20171236571493833017.png

Final comment

As outlined in the article, the next-generation commercial airliners are going to use a higher proportion of titanium, and this should benefit the company´s revenues. Further, considering the projected price for a one-year time horizon, we have no doubt that this stock is hot and a nice bet for your portfolio. Moreover, the PE relative valuation makes me feel bullish on this stock. In a future article we are going to analyze the intrinsic value of the stock and compare it with the current price trading.

Hedge fund guru Steven Cohen (Trades, Portfolio) added this stock to his portfolios in the third quarter of 2014.

Disclosure: Omar Venerio holds no position in any stocks mentioned