EUR 467.05 For Business Accounts Only

Here's How to Play the Arconic Spin

We entered Arconic, Inc. (ARNC) in May 2019 on the back of major insider buying patterns (we booked partial profit of +18% within three months), and now the long-awaited Spinoff of Arconic Corp. (ARNC, Spin) is upon us, scheduled for April 3, 2020. ARNC (Parent) is renaming to Howmet Aerospace, Inc. (HWM), and with many different elements involved, our analysis lays out how best to play this aerospace/aluminum split.

The Edge View...
Following the failed buyout offer on January 22, 2019 (which resulted in the share price plunging as much as -21% compared to the S&P 500 -2%), Arconic, Inc. (ARNC, Combined) announced its plan to separate its portfolio into two separate companies. Post-Spin, these will be Howmet Aerospace, Inc. (HWM, Parent) and Arconic Corp. (ARNC, Spinoff), and the management has highlighted this split is in pursuit of maximizing shareholder returns.

In this transaction, ARNC (Combined) will Spinoff its low-growth (-2% in FY19) and low adjusted EBITDA margins (~11% in FY19) aluminum-sheet and plate business (ARNC post-Spin) and the Parent (HMW) will consist of high-growth (4.5% in FY19) and high adjusted EBITDA margins (22% in FY19) as a pure-play aerospace supplier with an important role in advanced materials for the newest aircraft and jet engines. Therefore, we believe this Spinoff will prove a valuation catalyst as it will result with a sharper focus in the sector's most profitable business.

Insider Buying & MP Entry: We entered ARNC in May 2019 on the back of significant insider buying from CEO John Plant and others (please see our alerts here, here and here), and booked partial profits of +18% after a strong rally within a few months of entry (alert here). We maintained part of that position to participate in the then-anticipated Spinoff, which is now nearing completion.

Transaction Structure: On February 8, 2019, ARNC (Combined) announced, as part of its value creation strategy, the separation of its businesses into two independent publicly traded companies. The Engineered Products and Forgings businesses will remain with the Parent, which will be renamed Howmet Aerospace, Inc. and change its stock ticker to HWM. The Global Rolled Products businesses will be the Spinoff and will take the name Arconic Corp. and will take ARNC as its ticker.

History of protecting high-value Aerospace segment: ARNC (Combined) has turned to Spinoffs in the past as a measure to protect its high-value business segments from the inevitable cyclic shocks that are part of being a commodity company. In November 2016, Alcoa, Inc. (Parent, Pre-Spin) Spun off its mature upstream business into Alcoa Corp. (AA, Spinoff, a company with high commodity exposure) from its high-growth downstream segment Arconic, Inc. (ARNC, RemainCo). However, the exercise failed in maximizing value for its shareholders, as ARNC (Parent, -4% return since the Spin) and AA (Spinoff, -62% since the Spin) have underperformed the S&P 500 performance of +28%. We believe the prospective Spinoff is one more attempt to separate and preserve the value of the high-growth and high-margin segment from the cyclical shocks during economic downturns.

Index Plays in HWM & ARNC: Due to their expected post-Spin market caps, the resulting separated companies HWM (Parent) and ARNC (Spinoff) are expected to exit the S&P 500 and enter the S&P Midcap 400. Consequently, there is an index play with net selling pressure of 3.2% (3.3m shares) in ARNC (Spinoff) and 3.3% (14.5m shares) in HWM (Parent) after the separation.

Management Rationale for the Spinoff: ARNC’s (Combined) management believe the separation of businesses (and creation of two independent, industry-leading, public companies)will result in greater control over capital structure and capital allocation strategies, and allow the two companies to pursue unique opportunities for long-term growth and profitability in their respective business operations.

Our Take on the Spinoff: This separation is the culmination of ARNC’s quest to become a pure-play aerospace supplier with a leading role in advanced materials critical for the new jets and their engines. This is evident from the earlier split from aluminum producer AA more than two years ago, which underperformed the market to date. Additionally, the separation will also allow HWM to bolster its balance sheet by transferring $1.7bn (~60% of pension liabilities) on ARNC, receiving $800m in cash and further transferring any potential liability related to the Grenfell fire.