Moody’s May Downgrade Alcoa

Reportedly, credit rating agency, Moody’s Investor Service (MCO - Analyst Report) has placed Alcoa’s (AA - Analyst Report) senior unsecured debt under review for a possible downgrade, after the U.S. aluminum giant announced it would be spending $900 million in a joint venture with Saudi Arabian Mining Co. to create a new aluminum manufacturing operation in the country.

However, Alcoa’s share price soared 8% after market close as positive investor sentiment boosted the stock following the announcement of the joint venture, negating the Moody’s possible downgrade impact.

Alcoa has signed an agreement with the state-run Saudi Arabian Mining Co., Maaden, to build a $10.8 billion aluminum complex. Under the agreement, the two firms will build a 1.8 million ton per year aluminum refinery and a 740,000 million ton per year smelter, set up a bauxite mine with an annual capacity of 4 million tons and a rolling mill with a capacity of up to 460,000 tons.

The refinery is planned for commissioning in Ras Azzour on the kingdom's Gulf Coast close to Maaden's phosphate fertilizer plants. The smelter is scheduled to start production in 2013 while the aluminum refinery is slated to come online in 2014. The firms have yet to raise funds, but they plan to do so in 2010. Alcoa stated that the total project cost of $10.8 billion would be split, with Alcoa and its partners paying 40% and Maaden paying 60%.

Moody’s may put Alcoa’s debt, which is rated Baa3 currently, into junk territory. Moody’s judges Baa-rated debt to be of moderate credit risk. Such debt is considered medium-grade as protective elements may be lacking or may be characteristically unreliable. The rating agency stated that Alcoa’s extremely high debt service ratio, about 17.3 times the amount of debt relative to EBIDTA generated in the last 12 months, has prompted the review. A downgrade into junk territory could significantly increase the company's cost of debt.

Moody’s believes that the aluminum industry still has lots of excess capacity and that a correction in aluminum prices is likely.

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