Magazine

No. 26: Allegheny Tech


The first thing Allegheny Technologies Inc. (ATI) would like you to know is that it's not a steel company. It made around 445,000 tons of steel last year, its stock is a component in the Dow Jones Steel Index, and it often trades in sympathy with the likes of U.S. Steel Corp. (X) (No. 42) and Nucor Corp. (NUE) (No. 4). But what made Allegheny the best-performing stock in all the Standard & Poor's 500-stock index last year wasn't steel but its slate of specialty metals--in particular, titanium, which is being gobbled up in huge quantities by the booming aerospace sector.

Allegheny's titanium--and its nickel and tantalum, for that matter--are key components in jet engines. Boeing Co. (BA) is also using titanium alloys in the body of its new 787 Dreamliner. All this has sparked a huge reversal of fortune for Allegheny. As recently as 2003 the company was deeply in the red, with its main stainless steel business "hemorrhaging money," according to Chief Executive L. Patrick Hassey, who joined up late that year. Now aerospace makes up a third of Allegheny's sales and is the main reason its stock returned a gaudy 153% in 2006 as it leapt from $5 billion to $10 billion in market value.

The stars have lined up pretty well during Allegheny's astronomical ascent. Nearly all of Allegheny's end markets are clicking. Its stainless steel alloys are used in ethanol storage tanks and elsewhere in the oil and gas business. Exotic metals such as zirconium and hafnium are used in nuclear power plants. And Allegheny has a growing presence in medical markets with metals such as niobium-titanium alloys, which are used in magnetic resonance imaging (MRI) machines. This pitch-perfect portfolio has propelled it to No. 26 on the BusinessWeek 50 list. It has fans up and down Wall Street--and not one sell rating.

Such unanimity might make skeptical investors want to head for the exits. But the bulls argue that the advance in share price (shares recently traded near $100, up from $26 two years ago) has been underpinned by steady earnings growth. Shares trade at 18 times earnings, only slightly higher than they traded in early 2006. The company posted net income of $572 million in 2006, up 59% from 2005, on $4.5 billion in revenue. Citigroup (C) analyst John Hill expects earnings to grow 33% in 2007 and 17% in 2008.

The company is confident enough that it's laying out $500 million this year to continue expanding the capacity of its plants, bringing total capital investment to $830 million since 2005. "Initially it seemed aggressive," says Deutsche Bank (DB) analyst David Martin. "But I think they're making the right moves." Hassey points to a five-year, $2 billion deal Allegheny sewed up with GE Aviation (GE) and a nine-year, $2.5 billion deal with Boeing. Allegheny's outlay will increase its ability to produce titanium--ranging from a basic form of the metal, called sponge, to finished products such as titanium bars.

Good signs, of course. But as the bigger steelmakers have learned well, any metals company has to keep an eye on China, which has the potential to bring on capacity in a hurry. That's nettlesome for Allegheny in particular, whose niche products don't add up to a tremendous amount of volume, argues Prudential Equity Group (PRU) analyst John C. Tumazos. "It doesn't take too big a furnace to be built to shift these specialty markets into oversupply," he wrote in a recent report. His price target on Allegheny is $60, a valuation in accord with the more traditionally cyclical steel companies. For his part, Hassey says that Allegheny's products are so high-grade that they can't easily be copied.

As momentum investors have piled on for the ride, Allegheny has taken note. "I think the market considers us a home-run hitter today," Hassey says. "So they're expecting more home runs." Allegheny clearly has taken full advantage of its exposure to red-hot industries. When it comes to being lucky or being good, why split hairs?

By Brian Hindo


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