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Asset Kickers, LLP – Auditor’s Report on Alcoa, Inc. – 14 April 2013

Alcoa

Prospective Client

Risk Assessment

Asset Kickers, LLP


Memorandum

To: Mark Dirsmith, Director of Auditing

From: Asset Kickers, LLP

Subject: Alcoa, Inc.’s Prospective Client Risk Assessment

Date: April 12, 2013

Alcoa, Inc. is an aluminum production company based in Pittsburgh, PA. They are the largest producer of aluminum in the United States and operate in 6 continents around the world. Alcoa is the only aluminum corporation included in the S&P 500 Materials Index, and they have been an industry leader since its inception in 1888 as the Aluminum Company of America.

In 2011, Alcoa’s outstanding financial performance cannot be stressed enough. Alcoa’s financials, including their revenue, net income and gross profit, have been increasing since 2009. Income from continuing operations in 2011 was $614 million. Their revenue was up 19% from 2010 to $25 billion.

Asset Kickers, LLP has completed a prospective risk assessment on Alcoa, Inc. in order to decide whether or not to accept them as an audit client. The attached documents contain all necessary and relevant information needed to make this decision. In order to create the prospective client risk assessment, we have thoroughly examined Alcoa, Inc.’s, and their major competitors’ financial statements, 2011 Annual Report, and SEC 10-K Filing. Using the financial information from these documents, we have constructed a Z-Score analysis and strategic profit model. In addition to these models, we have used a 5-year analysis of Alcoa’s financial ratios and an industry ratio comparison to help us make our decision.

We are proposing the acceptance of Alcoa, Inc. as an audit client after careful consideration and evaluation of their financial position. They have been steadily increasing their sales, net income, and gross profit; in addition, they have been significantly investing in research and development showing their continuation of innovation amongst their products. Since Alcoa is in the maturity stage of their financial lifecycle, we consider them to be a low risk client. Furthermore, based on previous audit reports done for the company, their internal controls are effective. Based on these positive reflections of Alcoa we believe they would be an excellent client.

Asset Kickers, LLP


Contents

Memorandum……………………………………………………………………...………...2

Company Overview………………………………………………………………………...6

Industry…………………………………………………………………………………...6

Primary Products……………………………………………………………………...…7

Common Raw Materials…………………………………………………………………9

Size of the Company…………………………………………………………………....15

Locations…………………………………………………………………………….…..15

Other Closely Related Companies……………………………………………………..16

Annual Report…………………………………………………………………………..17

Industry Overview……………………………………………………………………...…19

Key Economic Factors………………………………………………………………….19

Life Cycle…………………………………………………………………….………….21

Factors for Success……………………………………………………………………...22

Notable Accounting Considerations………………………………………………..….25

Legal and Regulatory Concerns…………………………………………………….…26

Social Matters…………………………………………………………………………...28

Primary Competitors………………………………………………………………..….29

Ease of entry into the Industry………………………………………………………...31

Michael Porter’s “Five Forces Model”…………………………………………..……32

Government Structure………………………………………………………………….35

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Financial Health………………………………………………………………..

Ratio Analysis………………………….

Profitability Ratios…………………………

Efficiency Ratios…………………………

Cash Flow Ratios……………………………….

Investment Ratios……………………………..

Industry Comparison………………………………

Liquidity Ratios……………………………………..

Financial Leverage…………………………………..

Profitability…………………………………

Company’s Health…………………………………………

Z-Score Analysis………………………………………………..

Strategic Profit Model………………………………………

Which Way the Company is Moving………………………………….

Sources and Value of Capital……………………………………..

Capital Market Place Response…………………………………

Quality of Earnings………………………………………………….

Stock Compared to the Industry………………………………….

Auditor…………………………………………………………..

Financial Statement Perception……………………………………………….

Specific Consideration…………………………………………………..

Transaction Types…………………………………………….

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High-risk Areas…………………………………………………….

Low-risk Areas………………………………………………………

Integrity Issues…………………………………………………………….

Client Selection Decision………………………………………..

Allocated Audit Effort…………………………………………….

Problems with External Control…………………………………..

Internal Audit…………………………………………………….

Form of Report……………………………………………………….

Implications of SOX (Sec 404)…………………………………………

Initial Assessment…………………………………………………………..

Z-Score Analysis………………………………………………………….

Appendix…………………………………………………………………..

Budget……………………………………………………………

Leadership……………………………………………………

Coordination……………………………………………………

Norms………………………………………………………………

Conflict………………………………………………………….

Team Coordination……………………………………………..

Instructions…………………………………………………………

Other Qualitative Information…………………………………….

“The Oral”………………………………………………………….

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Company Overview

Industry

Alcoa is classified under the industry of Basic Materials and the subsector of Aluminum. Basic

Materials – Aluminum has a market capitalization of $884 billion industry, which makes up only

0.39% of Basic Materials. The aluminum subsector has the lowest profit margin of the industry

of only 2.2%, significantly lower than the industry average of 9.85% (Alcoa 10-K). The

following companies are the leaders in the subsector according to production worldwide:

1. United Co. RUSAL (Russia)

2. Rio Tinto (UK-Australia)

3. Alcoa (USA)

4. Aluminum Corporation of China

5. Norsk Hydro ASA (Norway)

This makes Alcoa the largest American aluminum producing corporation. Alcoa has a market

share of 14.7% (S&P). The industry is seeing the largest growth in both consumption and

production in China, where Alcoa has little exposure. The United States has remained relatively

constant in terms of production and consumption over the past ten years, where Alcoa earns 49%

of its revenue (Alcoa 10-K).

The following charts show the worldwide production of aluminum by country (Chart 1),

followed by the worldwide consumption of aluminum by country (Chart 2). Doing manual

comparisons, one can see where the largest markets for aluminum are in relation to those

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countries producing aluminum. Most of Alcoa’s revenue comes domestically, although most of

its aluminum/alumina is produced abroad.

(Aluminum Statistics)

Primary Products Asset Kickers, LLP


Aluminum and alumina products account for 80% of Alcoa’s revenue. Aluminum is the third

most abundant element in the Earth’s crust, and is the most abundant metal. Aluminum has many

properties that are very desirable for human use. Aluminum is very lightweight, stainless,

nontoxic, and malleable. Although it is not the strongest of metals, many aluminum alloys are

produced which are drastically stronger but keep the same desirable properties of pure

aluminum. Alcoa’s aluminum/alumina product lines are divided into (1) Flat rolled products and

(2) Engineered products. Flat rolled products are considered “upstream” since they are

essentially raw aluminum/alumina products that are either pressed or rolled into different shapes

for use. The following are the primary flat rolled products that Alcoa manufactures and sells:

1. Rigid container sheet for consumers (including aluminum cans)

2. Aerospace

3. Automotive

4. Commercial transportation

5. Construction building material

Alcoa sold its interest in consumer aluminum foil in 2009 (Alcoa 10-K).

Engineered products are considered “downstream” because they are more complex than

basic aluminum/alumina products. In most cases, Alcoa’s engineered products are for aerospace

and vehicle engineering and construction. Here are the primary engineered products that Alcoa

engineers and sells:

1. Super alloy investment casings

2. Forgings and fasteners

3. Wheels

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4. Structural systems

5. Architectural extrusions

6. Hard alloy extrusion

Alcoa generates 20% of its revenues from non-aluminum/alumina products. Once again, these

products are mostly accessories for industrial and aerospace engineering. These products include:

1. Precision castings

2. Aerospace fasteners

3. Industrial fasteners

Common Raw Materials

Amongst the raw materials listed above, there are many common items used in the process of

producing aluminum. The materials that are the most important and have a significant effect on

Alcoa’s operations and profit margin are bauxite, electricity, and natural gas.

Bauxite

Bauxite is a type of rock that has a high concentration of aluminum ore. Bauxite is the primary

source of aluminum for all alumina/aluminum producers in the world. Alcoa has bauxite interests

in Australia, Brazil, Guinea (which controls 50% of the world’s reserves with 8.4 billion metric

tons), Jamaica, and Suriname. According to the firm’s management, they have enough proven

reserves under their control to meet forecasted demand requirements for the foreseeable future

(Alcoa 10-K).

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Over 85% of Alcoa’s current bauxite consumption is from company controlled mining

operations in the countries listed above. The firm and its subsidiaries successfully mined 50.5

million metric tons of bauxite in 2011 alone. The other 15% is obtained from third parties, such

as through the collection of scrap metal or through aluminum recycling efforts.

(World Bauxite Reserves)

After it is mined, bauxite is converted to pure aluminum ore (alumina) through the Bayer

Process. This is a chemical process where unwanted minerals are “washed” from the bauxite,

leaving alumina. The raw materials used in the process of extracting alumina as listed above are

used in the Bayer Process as extraction agents. An unwanted, potentially dangerous byproduct

called red mud is produced through the Bayer process. Red mud is essentially the leftover dirt

from Bauxite that has a very basic pH of 10-13, and it can be fatal to all life that it comes into

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contact with. Two to three times more red mud is produced through the Bayer process than

alumina, and it cannot be farmed on or used for construction purposes. Alcoa must be wary of its

red mud storage as it potentially presents a major environmental liability (Alcoa 10-K).

The following graphic details the Bayer Process of converting raw bauxite into alumina. Notice

the red mud byproduct at the bottom.

(Bayer Process)

The next graphic shows a red mud lake in Jamaica (a major producer of alumina). The lake is

dangerous for all forms of life, and continuing the production of red mud could have harsh

consequences for the firm in the form of litigation, legislation, or lawsuits.

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(Red Mud Lake)

Alcoa has alumina refining operations in Australia, Brazil, Jamaica, Spain, Suriname, and the

United States. Although most of the bauxite used is mined in Guinea, it must be shipped to a

more developed nation because the industrial processes and resources that are needed to produce

alumina aren’t available or feasible in a third-world country.

Once alumina is extracted, it is either used for alumina-only products, or most of the time, it is

then converted to aluminum in what is called the Hall-Heroult Process, or better known as

smelting. The next graphic documents the Hall-Heroult Process in more detail, showing the

different raw materials and industrial equipment needed to convert the alumina to aluminum.

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(Hall-Heroult Process)

Alcoa’s smelting operations exist in Australia, Brazil, Canada, Iceland, Italy, Norway, Spain, and

the United States, which are all first world countries with the exception of Brazil. Smelting is

even more difficult to achieve at an industrial capacity than alumina, which requires more

machinery, skilled laborers, and stable power to achieve. After all the industrial processes are

said and done, it takes about 4-6 metric tons of bauxite to yield 1 metric ton of raw aluminum

(Alcoa 10-K).

Electricity

Electricity is undoubtedly one of the most important materials in the process of converting raw

bauxite into aluminum or other related products. Electricity accounts for 25% of alumina refining

costs and for 26% of smelting costs. 22% of Alcoa’s electricity for industrial use is generated on

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site at plants, and the other 78% is purchased through long-term arrangements, typically with

local power authorities. For example, at some smelters in Brazil, the firm has built its own

hydroelectric plants nearby to satisfy its own consumption needs, with any excess power being

sold to third parties (Alcoa 10-K).

Natural Gas

In order to offset some of the financial burden the firm must endure from the high costs of

electricity, natural gas is often shipped in via pipeline to some plants to help power operations.

However, this is not a constant process considering that any volatility in natural gas prices can

adversely affect the firm’s reliance on one commodity over the other. Additionally, it must be

economically feasible to have a pipeline be built to a particular plant with sufficient capacity.

Because of the expensive processes that make up the production of aluminum from mining, to

transportation, refining, smelting, further engineering, and final movement, Alcoa’s gross margin

for the year ended 2011 is 17.95%. Furthermore, the firm’s profit margin is at only 2.45%, just

45 basis points higher than the industry average. Alcoa is exposed to a risky level of liability in

industrial processes due to the somewhat dangerous processes that are conducted, and because of

the production of the useless and dangerous mass byproduct of red mud. Due to the steep costs of

producing aluminum from raw bauxite and the subsequent liability it is exposed to, the firm has

an incentive to purchase recycled aluminum that is chemically cleaned and reengineered to

perfectly new products. It is estimated that two-thirds (2/3) of all aluminum ever produced is still

used in some capacity today (Alcoa 10-K).

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The next graphic is a breakdown of the inputs into aluminum as well as the aluminum market.

Note that this is not Alcoa’s specific structure for procurement and sales, but it represents the

aluminum industry as a whole.

(Flowchart of Aluminum Production)

Size of the Company

Alcoa is the world’s 3rd largest producer of aluminum. Its 2011 revenue was measured at $25.0

billion, clearing $1.06 billion in operating income. Their assets total $40.1 Billion and they have

61,000 people in their employ. Alcoa is also a worldwide company, having interest in 25

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smelters in 8 countries and conducting business in 30 countries. A majority of their sales actually

come from outside of the U.S., by a scant 51 to 49 percent margin (Alcoa Website).

Locations

Alcoa was founded in and is primarily associated with the city of Pittsburgh. Alcoa moved their

headquarters to Lever House in New York City in 2006, taking most of the top executives to the

new locale, although they still operate out of their corporate center in Pittsburgh. The office in

Pittsburgh has around 2000 employees versus only 60 stationed in New York (Boselovic).

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As we have discussed earlier, Alcoa is also a very globally diversified company. Alcoa operates

in more than 200 locations in 30 countries. They also have interests in 25 primary aluminum

smelters in 8 countries (Alcoa Website).

(Chart Derived From Alcoa Website)

Location Categories

Alumina Primary Metals Flat-Rolled Products Packaging and Consumer

Engineered Solutions Extruded and End Products Technical Center Corporate

The map above shows the type of operations that Alcoa has globally. As you can see, they have

large clusters of operations in the US, Eastern Europe and parts of China and Brazil. This

international diversity is an important part of Alcoa’s business plan and is a big reason that they

are an industry leader. They are a well differentiated company, in terms of production and sales,

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and that differentiation helps them greatly in keeping their company growing at a fast pace

worldwide.

Other Closely Related Companies

Alcoa’s subsidiaries include Halco Mining, Kawneer and Howmet Castings. They co-own Halco

Mining with Alcan and have outright ownership of Kawneer and Howmet. Halco Mining is an

aluminum mining company based in Guinea. Halco is the primary owner of the Compagnie des

Bauxites de Guinee, also known as CBG, the largest aluminum smelter and mining company in

Guinea. Kawneer is a commercial producer of aluminum systems and products, catering largely

to the architecture industry. Their products are used on a variety of multi-purpose residential

buildings such as stadiums, sports facilities, office buildings, schools, colleges and universities,

and healthcare facilities. Kawneer is headquartered in Norcross, Georgia, and much like Alcoa is

a global corporation, with operations in 13 different countries. The company is part of Alcoa's

global Building and Construction Systems (BCS) business unit. Howmet Casting is primarily

involved in the investment casting of super alloys, aluminum, and titanium. These castings are

used primarily for jet plane and gas engine components. Howmet is based in Cleveland, Ohio

and is largely a domestically based company, with most of their operations based in North

America with a few exceptions in France, the UK, Hungary and Japan. Alcoa Howmet also

offers laboratory testing and casting-related services, from finishing operations to contract

management. On July 16, 2012, Alcoa announced that it had bought full ownership and control

of Evermore Recycling and folded it into Alcoa's Global Packaging group. Evermore is one of

the world’s leading recyclers, buying more recycled cans per year than any other company.

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According to Alcoa’s annual 10K report, Alcoa buys products from and sells products to various

related companies, consisting of entities in which Alcoa retains a 50% or less equity interest, at

negotiated arms-length prices between the two parties. These transactions were not material to

the financial position or results of operations of Alcoa for all periods presented. To us, as

auditors, this means that there is little risk in Alcoa committing fraudulent related party

transactions.

Annual Report

“Alcoa won’t wait” is the headlining mentality of Alcoa’s Annual Report, followed by the

phrase, “Taking Decisive Action in a Turbulent World.” Their overall approach to their business

reflects the globalization in their company, as well as their drive in setting and quickly achieving

goals. They did not allow external forces that they could not control distract them from what

they do best, which is making high quality products. Alcoa’s sales reached a record high of $25

billion in 2011, nearly $3 billion over the previous year.

The annual report reflects the success of the company through their outstanding financial growth

and their plan to continue this growth. The report is broken into 7 sections: the front cover,

financial highlights, a letter from the Chairman of the Board and Chief Executive Officer, non-

GAAP measures, the Form 10k, shareholder information, and the back cover. The financial

information reflects growth in sales, number of employees, assets, and earnings per share. Klaus

Kleinfeld, the Chairman of the Board and Chief Executive Officer of Alcoa, projects the strong

liquidity and financial position, regional growth, customer value through innovation, the

Company’s enduring values, and their look ahead into the future. His powerful closing statement

is: “We can’t wait—we won’t wait—to find new and better ways to deliver value, consistently

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and responsibly, in good times and tough times, for our shareholders, our customers, our

communities, and our employees.” The non-GAAP financial measures reflect the changes from

GAAP with respect to adjusted income, adjusted Earnings before interest, taxes, depreciation,

and amortization (EBITA), free cash flow, net debt, and EBITA of the product segments

separately. The Form 10K is divided into four parts. Part one includes aspects of the business,

risk factors, unresolved staff comments, properties, legal proceedings, and mine safety

disclosures. Part two includes market of registrant’s common equity, related stockholder matters

and issuer purchases of equity securities, selected financial data, management’s decision and

analysis of financial condition and results of operations, quantitative and qualitative disclosures

about market risk, the audit report done by PricewaterhouseCoopers, LLP, changes in and

disagreements with accountants on accounting and financial disclosure, controls and procedures,

and other information. Part three includes directors, executive officers and corporate

governance, executive compensation, security ownership of certain beneficial owners and

management and related stockholder matters, certain relationships and related transactions, and

director independence, and principal accounting fees and service. The last part is the exhibits

and financial statement schedules, followed the signatures section. The shareholder’s

information gives the shareholder’s information about their annual meeting, where to stay

updated on Alcoa’s news and company information, dividends, and how to contact the Company.

The annual report reflects Alcoa’s main cost drivers, which include selling and general

administrative, research and development, and depreciation, depletion, and amortization of assets

expenses.

Alcoa’s research and development sector is of high importance to the Company. It is listed as a

main cost driver in the Statement of Consolidated Operations with 2011 costs of $184 million.

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This is a cost that continues to increase exponentially, year by year. The reflection of the

positive effects of these costs is shown in their increased sales.

Industry Overview

Key Economic Factors

Largest Markets

Transportation Packaging

Building and Construction Electrical

23.7%

Leader in preservation of natural resources

Preserving natural resources is very important in this market

with the recent focus on sustainability. The aluminum

supply in North America comes from domestic sources,

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26.5%

13.1%

11.9%

(Data from “Industry Overview”)


imports, and recycling. Over two-thirds of all aluminum ever produced is still used somewhere

due to recycling (“Aluminum is Sustainable”).

In recent news, Alcoa has been making a huge impact in recycling. The Alcoa Foundation

partnered with the Times Square Alliance and New York City to launch the largest recycling

program in Times Square. These new bins will use solar energy to compact garbage and hold

five times more capacity than older models. This will reduce traffic in the area as well since they

will be emptied less often. Alcoa provided the $250,000 grant that is making this possible. The

city believes that this will spread the message of recycling since it is such a highly populated

area with people from around the world, and will also help the US and New York get ahead on

recycling rates (“Alcoa Foundation and Partners”).

Impacts every community in the country

Aluminum is a very unique industry in the way that it touches so many different aspects of

business and life. Some uses of aluminum include consumer goods consumption, heavy

industry, physical plants, and recycling. Most people deal with this in at least some way

(“Industry Overview).

Transportation Industry Impact

Among developed countries, transportation is the one of the largest end markets for aluminum.

Therefore, changes in demand for automobiles can impact the aluminum industry significantly.

In times of recession, people have less disposable income for consumers and less demand for

cars. An automobile is comprised of 300 pounds of aluminum on average, so the reduction in

production results in decreased sales for Alcoa (“Industry Overview).

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Government Policy

The industry has voluntarily taken action towards reducing greenhouse gas emissions and has

been supporting policies and programs working towards these initiatives since 1990. Early

action to solve these problems is key. Energy-saving aluminum product applications are a big

focus of the industry too with public and private partnerships that research this topic.

The Voluntary Aluminum Industrial Partnership (VAIP) is another somewhat recent way to try

to attempt to increase efficiency in the industry and reduce emissions. This is a private and

public combined partnership within the Environmental Protection Agency (EPA). They work

towards identifying factors causing perfluorocarbon (PFC) emissions and watching the efficiency

efforts in aluminum smelting and protecting the environment for the future. This group has cut

PFC emissions by 77% in 14 years (“Government Policy”).

Life Cycle

Alcoa is currently a mature company. At this point, aluminum is a well-known product and

adapted to the market. Their stock price has remained relatively constant over the last year and a

half, which is common of a well-known and developed company. They have not experienced

any rapid growth or decline among their financial performance since 2009. In comparison to

their competitors, Alcoa has a strong presence and is ranked in the top three producers of

aluminum, reflecting their well-established reputation. Based on these facts, we would place

them in the maturity stage of their financial life cycle (“Product Life Cycle”).

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Factors for Success

Trade

International trade is very important to the aluminum industry. The US is ranked 5 th in the world

in annual primary aluminum producing capacity and in 2009 with 1.73 million metric tons of

primary aluminum were produced in the US. The Aluminum Association is a supporter of the

World Trade Organization and the free flow of aluminum products on a global scale. The

aluminum industry is global with multinational companies and locations around the world. Here

in the United States, aluminum is both imported and exported frequently.

Alcoa is a worldwide company located in more than 200 locations across 30 countries. As a

member of the Aluminum Association as well, Alcoa works towards reaching a fair and open

world market for aluminum. Alcoa, along with other members, is working towards a plan to

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(Graph adapted from “Product Life Cycle”)


eliminate tariffs within 10 years, and is supportive of the World Trade Organization (“Industry

Overview”).

Lifecycle Considerations

Sustainability during the smelting of alumina to aluminum is important in addition to the

recycling of end products. Perflurocarbon emissions in the US have been reduced over 70%

since 1999 (“Reducing PFC Emissions”).

Alcoa is one of the Aluminum Association member companies that is leading the Voluntary

Aluminum Industry Partnership (VAIP) along with the Environmental Protection Agency. They

work to change emissions through management and technological changes (“Reducing PFC

Emissions”).

Product Life

The way a product is used can contribute to reducing emissions and energy consumption. For

example, aluminum is very lightweight and durable, which leads to fuel and emission savings in

the automotive and transportation business.

Alcoa is right up to standards with light weight, fuel saving aluminum for transportation. There

is a 5-7% fuel savings for every 10% reduction in vehicle weight. Aluminum gives an added

benefit to hybrid vehicles as well by improving fuel economy by 13.5% compared to steel. This

much lighter metal leads to large savings in fuel costs (“Industry Overview”).

Energy Use

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In the past century, energy consumption per ton of aluminum has fallen up to 70% worldwide. It

use to take 28,000 kWh to produce a metric ton and now it is down to 13,000 kWh with new

smelters. Recycled aluminum can be reprocessed with about 5% of the original energy needed in

ore production. Energy represents about a third of the total production cost of primary

aluminum, so cutting the amount used is great for both the environment and the cost of goods

sold for aluminum companies.

Alcoa leads a market-based plan to deliver the correct supply of low to no carbon emitting

energy sources. 50% of their purchased electricity and 2.3 of electricity used globally by

smelters comes from renewable sources. Incentive compensation is available for achieving

carbon dioxide emission reductions to a certain standard (“A Leader in Energy Efficiency”).

Technology

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(Graph from “A Leader in Energy Efficiency”)


Overall, the improvements in basic technology and smelters will help with many aspects of the

business including lifecycle considerations, energy use, and production costs. The Aluminum

Association has partnered with the Department of Energy to work towards technology projects

under the “Industries of the Future” Program. Technology Roadmap diagrams are being

designed as well to identify barriers and places to improve.

Alcoa works hard on their technology to create better products and therefore compete well.

Factors to look for include improved safety and reliability, processes to save time, lighter weight

materials, and reduced fuel and drilling costs. Some products require development to become

fire, heat, moisture and impact resistant. Alcoa must look at their customer base to determine

where to focus their efforts (“Industry Overview”).

Notable Accounting Considerations

As a publicly-traded company, the basis of Alcoa’s presentation of their financial statements is a

key accounting consideration. The Consolidated Financial Statements of Alcoa Inc. and its

subsidiaries are prepared in conformity with generally accepted accounting principles. The

Consolidated Financial Statements include the accounts of Alcoa and companies in which Alcoa

has a controlling interest of 50% or greater. The company employs the equity method of

accounting for investments over which they have a significant influence (20% to 50%). Lastly,

investments that are less than 20% controlled by Alcoa use the cost method of accounting.

With regard to properties, plants, and equipment, inventories are recorded at cost. Depreciation

of assets is recorded by the straight-line method at rates based on the estimated useful lives of the

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assets, and is recorded in that manner until that asset no longer has any future benefit to the

company.

For companies in the aluminum production industry, some accounting policies are more relevant

than others. Specifically, companies in the aluminum industry engage in long-term supply

contacts with aluminum and alumina customers and receive advanced payments for these

contracts. This places a notable amount of importance on revenue recognition. Alcoa records

their advanced payments as deferred revenue, and the revenue is not recognized until the

shipment has been made and the title has been transferred to the customer.

Legal and Regulatory Concerns

Alcoa is liable to be exposed to significant legal proceedings, investigations, or changes in U.S.

federal, state, or foreign law, regulation, or policy. The company may experience a change in

effective tax rates or be subject to rising costs associated with changes in laws, regulations, or

policies. They are susceptible to a number of legal compliance risks. The main risks include

potential claims relating to product liability, health, and safety, environmental matters,

intellectual property rights, government contracts, taxes, and compliance with U.S. and foreign

export laws, anti-bribery laws, competition laws and sales and trading practices. Due to Alcoa’s

worldwide operations, they are subject to a broader scope of complex and increasingly strict

health, safety, and environmental laws and regulations. For example, in 2010, there was a break

in a red mud lake levee in Hungary. The resulting spill destroyed all life into the river it flowed

into, and it killed 10 citizens. An additional 90 were treated with chemical burns. As a result, the

alumina producer was nationalized by the Hungarian government, and tens of millions of dollars

in cleanup costs were incurred (Red Mud Lake). Alcoa must be very weary of risks such as

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these. The costs associated with compliance of these laws are significant and will continue to be

this way.

Climate Change Legislation

As the laws and regulations surrounding energy consumption evolve, this will affect Alcoa’s

legal liability because of the significance of energy input in their operations. A number of

governmental bodies have introduced or are considering legislative and regulatory change in

response to the recognition that consumption of energy derived from fossil fuel is a contributor

to global warming. The changes in regulatory mechanisms for greenhouse gas-intensive and

energy-intensive assets may directly or indirectly impact Alcoa’s operations. The impacts of

these potential regulatory changes may differ in the several countries in which Alcoa operates,

requiring extra awareness and higher costs of complying.

Asbestos Proceedings

Alcoa and its subsidiaries are the defendants of several hundred active lawsuits due to previous

asbestos exposure in their factories. In the period of time between World War II and 1970,

during some of Alcoa’s busiest times, they made copious use of toxic asbestos inside their plants.

This significant use of asbestos occurred before the Occupational Safety and Health

Administration (OSHA) guidelines governing work practices made employees safer in their

work environments. Factory workers operating furnaces, ovens, mills, and boilers that were

lined with asbestos insulation were most likely exposed to the asbestos on a daily basis.

Additionally, Alcoa required the workers to wear protective asbestos-containing clothing to

protect them from burns, causing additional exposure. This toxic exposure was unavoidable at

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the time if you were directly involved in production. When the truth and effects of asbestos

came into the public eye in the 1970s, many individuals tried to sue Alcoa for compensation for

their injuries. More recently, families of former Alcoa workers continue to file lawsuits seeking

compensation for deaths caused by the asbestos exposure decades ago.

With regard to the effects of these previous and active lawsuits, Alcoa has numerous insurance

policies that provide coverage for asbestos-based claims. The legal costs of defense and

settlement have not been and are not expected to be material to the result of operations, cash

flows, and financial position of the company.

Employee Retirement Income Security Act and Labor-Management Relations

Act Violations

A class action suit was filed by plaintiffs representing 13,000 retired former employees of Alcoa

and spouses and dependents of such retirees alleging violation of the Employee Retirement

Income Security Act (ERISA) and the Labor-Management Relations Act by requiring plaintiffs,

beginning January 1, 2007, to pay health insurance premiums and increased co-payments and co-

insurance for certain medical procedures and prescription drugs (Alcoa 10-K). This suit was

filed in November 2006, in Curtis v. Alcoa Inc. The plaintiffs alleged these changes to their

retirement health care plans violated their rights and that Alcoa had violated ERISA standards by

misrepresenting to them that their health care benefits would never change. The plaintiffs sought

compensation for injunctive and declaratory relief, back payments, and attorneys’ fees. More

recently, on March 23, 2011, plaintiffs filed a motion an amendment of the judgment order to

prevent Alcoa from modifying the vested retirement plans or changing the premiums and

deductibles that plaintiff’s must pay, as well as a motion for awards of attorney’s fees and

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expenses. Alcoa filed pleadings opposing to both motions on April 11, 2011. The result of this

litigation could have a significant impact on the company’s health insurance costs.

Social Matters

Sustainability

Increased interest in sustainability will have a positive impact on the aluminum industry because

aluminum is sustainable. Twenty years ago, the term sustainability was seldom heard, but now

more often than not a company’s website will have a section devoted to sustainability. The chart

below shows how the usage of the word sustainability has increased from roughly .05 to .45

articles per newspaper issue. This increase has resulted in an increased emphasis on recycling

and social responsibility.

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Primary Competitors

The aluminum industry is one that is dominated by a few major players, Alcoa being one of

them. In recent years, various aluminum producers have arose around the world, from places

like Russia, China, India and the Middle East. These worldwide companies have been able to

gain global strongholds and instead of resting on their domestic dominance, Alcoa has responded

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with aggressive expansion. The organized and ambitious plan that Alcoa has been carrying out

is one thing that has been separating them from their competition.

One major company that has become threatening to Alcoa is Rio Tinto Alcan, formerly Alcan.

Alcoa placed a $27 billion hostile takeover bid of Alcan in 2007, which was turned down in

favor of a mutual agreement between Alcan and Rio Tinto, who later merged into Rio Tinto

Alcan. Rio Tinto Alcan is also a major global player, with either ownership or an interest in 22

smelters in 11 countries and regions. One reason that Rio Tinto Alcan is a threat to Alcoa is their

position on the aluminum production cost curve, utilizing their technological advances and

relying on cheaper energy sources to keep their costs down. In recent years, Alcan stocks have

outperformed Alcoa’s due mainly to their international diversity and ability to better absorb

changes in the price of aluminum (The Economist).

Other major international players include RUSAL, a Moscow based aluminum Production

Company, consolidated in 2007, which holds interests in 10 separate countries and Aluminum

Corporation of China, a Beijing based Metals Company that has been a huge beneficiary of

China’s rapidly expanding economic growth.

Personnel Turnover

The Personal Turnover ratio measures how many employees an employer gains or losses during

a year. It is unrealistic to retain every employee, and new employees will bring new perspectives

and ideas. Turnover can be both voluntary and involuntary depending on the nature of the

employee leaving. Voluntary turnovers are when the employee decides to leave on their

own. Management wants to overall make people want to stay and work at Alcoa. Managing a

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company well is important to avoid involuntary turnover so fewer layoffs are necessary. A

higher turnover ratio means overall shorter term employments, while a smaller ratio mean the

number of employees each year stays more constant. A lower turnover is better since it means

employees are satisfied with their work and staying (Reh, John).

Alcoa experienced a really high personal turnover ratio in 2009 when many employees were let

go because of the recession. The past few years this ratio has been much more consistent.

Year Number of EmployeesPersonnel Turnover

Rate

2009 59,000 38.36%

2010 59,000 0.00%

2011 61,000 -3.33%

Ease of Entry into the Industry

The ease of entry of new competitors into the aluminum industry, or any industry for that matter,

is influenced by the market power and share of the existing leaders in the industry. A major

barrier to entry in the aluminum industry is the high cost of start-up and continuation. As a

technology leader in the aluminum industry, Alcoa engages in research and development

programs that include process and product development, and basic and applied research.

Expenditures (as seen below) for research and development have consistently increased for

Alcoa throughout the past three years, making entry into the aluminum market increasingly more

costly and challenging.

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The research and development costs come with the costs of protecting intellectual property.

Alcoa’s rights to their products are protected by patents, which are very costly to perfect. At the

end of 2011, the company’s worldwide patent portfolio included 870 pending patent applications

and 1,895 granted patents. Intellectual property in the aluminum industry does not stop at

patents; the company also has a number of trade secrets regarding their manufacturing processes

and domestic and international trademarks.

Alcoa’s 10-K report stresses the highly competitive conditions of the industry. Costs to compete

in the United States are one obstacle, but competitors also come from non-U.S. companies,

adding to the difficult entry into the industry. In addition to high entry costs and extreme

competitiveness, the segments in which Alcoa operates are highly influenced by brand names,

brand recognition, and brand loyalty. Becoming established among developed and specialized

companies with millions of loyal customers is not a simple task.

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2009 2010 2011$160

$165

$170

$175

$180

$185

R&D Costs (millions)

R&D Costs (millions)


Michael Porter’s “Five Forces Model”

Rivalry

It’s difficult to differentiate a product like aluminum, so the differences focus on quality and

price. Developing new technology to do the process more efficiently may be a good place to set

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Competitive Rivalry

Power of Buyers

Power of Suppliers

Threat of substitutes

Threat of new

entrants


you apart from the other industry competitors. Some of Alcoa’s biggest rivals in the industry

include United Co. Rusal, Rio Tinto Group, Aluminum Corp. of China and Norsk Hydro ASA.

Threat of Substitutes

Steel is often cheaper, making it a substitute, but it also doesn’t have some of the advantages of

aluminum. In the power sector, copper is also becoming a substitute because of its higher

conductivity. Aluminum properties like lower cost, higher strength to weight ratio, and durability

still make it a good choice. Aluminum use should continue to increase in the long term. Alcoa

can have problems with this because aluminum is one product and it is so hard to set it apart, so

customers could easily start getting aluminum from another spot after a bad experience with

Alcoa, making every interaction important.

Bargaining Power of Customers

Since aluminum is a commodity, prices are determined by supply and demand so customers have

fairly high say in this. This force deals with how much customers can get businesses to provide

better service, lower prices, and higher quality products. Alcoa does have major competitors,

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such as Rio Tinto and Rusal, so they have to be careful to keep products priced well or else they

will lose their business to others with more attractive prices. Since aluminum varies little from

place to place, staying competitive is important to keep customers and have them coming back.

Bargaining Power of Suppliers

Often in the industry, companies own their own mines and smelters so have little need for

suppliers. If a company does need upstream producers though, they often have to deal with the

government and have little power with the purchase of power. Alcoa does still deal with some

suppliers. They set standards though that must be followed in regards to sustainability. Alcoa

owns many smelters around the world allowing them to depend less on others.

Threat of New Entrants

There is some chance of new entrants but medium barriers to entry exist. A huge capital

investment is needed to start a new plant. The development period also takes some time, and

government policies make it a difficult process. Alcoa is a very long standing developed

company so it has an advantage here.

(Information from “Aluminum: Through the Eyes of Michael Porter and Alcoa Website”)

Government Structure

The management of Alcoa has been lauded in recent years for a smart, focused, and aggressive

approach to their business. Given the ever-changing nature of aluminum prices and market

changes, they have managed to keep their company in good standing financially and in terms of

market share.

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Alcoa is a value driven company, seemingly at every level of their operation, holding all

directors, officers and employees to conduct business in compliance with their Business Conduct

Policies. Compliance with these policies is surveyed on an annual basis. Alcoa endorses The

Business Roundtable Principles of Corporate Governance dated April 2010, which is a

comprehensive statement of responsible corporate governance principles. According to the 2011

Covalence Ethical Ranking, Alcoa is listed as #1 in the basic resources sector and the only basic

resources company among the top-ranked companies. This displays a strong ethical backbone

that guides the day to day and long term activities of the company (Alcoa Website).

Alcoa has had trouble in the past with their very large environmental impact; they were ranked

by The Political Economy Research Institute as 15th among corporations emitting airborne

pollutants in the United States. This ranking includes both quantity and toxicity of the pollutants.

They also have a track record of operating unlawfully in many different environmental aspects of

their business. At the turn of the century, management of Alcoa appeared to take a serious

interest in their environmental impact by joining the Dow Jones Sustainability Indexes for North

America and the World in 2001. They are currently ranked #1 out of all aluminum companies on

that listing (Dow Jones).

Financial Health

Alcoa Inc. 5-Year Financial Ratio Summary

2011 2010 2009 2008 2007

Gross Profit Margin 17.92% 18.27% 8.34% 17.57% 22.12%

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Operating Profit Margin 4.26% 2.61% -8.12% 2.94% 16.40%

Effective Tax Rate 23.99% 27.01% 38.32% 43.18% 33.80%

Return on Assets 2.65% 1.00% -2.83% 0.39% 7.55%

Return on Equity 5.86% 3.01% -9.03% 1.06% 19.11%

Working Capital Turnover 14.68 12.60 11.47 30.89 31.83

Current Ratio 1.28 1.32 1.30 1.12 1.13

Inventory Turnover 7.47 6.99 6.07 6.76 6.80

Revenue per Employee

$ 409,033

$ 356,153

$ 312,525

$ 309,207 N/A

Operating Cash Flow 0.10 0.10 0.06 0.05 0.15

Free Cash Flow 656 1,005 761 -409 N/A

Price/Book Value 1.29 1.07 0.6 1.96 1.89

Dividend Yield 1.43% 0.71% 1.53% 5.67% 1.94%

EPS 0.57 0.25 -1.23 -0.1 2.95

Ratio Analysis

The table above reflects Alcoa’s most important financial ratios to help determine the current

financial health of the company. Asset Kickers, LLP would like to point out that these ratios

may not be the same as the ones calculated by other financial databases, but we’ve calculated

them based on constant values found in the 10k Report of Alcoa. The industry ratios listed in the

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section below have also been calculated in accordance with the financial statements provided by

the 10k Reports of Rio Tinto and RUSAL. It is apparent that Alcoa took a financial downturn in

2009 as a result of the economic recession. The aluminum industry tends to fluctuate with the

state of the economy due to the elasticity of their products. Regardless of the downturn, Alcoa

was never in any immediate danger of bankruptcy and since 2009 they have recovered and

improved their ratios. Overall, Alcoa has demonstrated its resiliency through its improved

financials and is considered to be a strong, consistent company.

Profitability Ratios

Through analyzing the profitability ratios, it is visible that Alcoa maintains consistent growth and

profits. The first thing that stands out when computing and evaluating the financial ratios is the

significant profitability decrease in 2009. The gross profit margin, operating profit margin,

return on assets, and return on equity all resulted in negative numbers. However, the return on

assets and return on equity has increased since the 2009 recessionary period. The effective tax

rate has decreased substantially in the last 4 years for Alcoa.

Efficiency Ratios

The analysis of the efficiency ratios demonstrates a strong working capital turnover that has

increased to almost 15 times in a year. Although this number is substantially less than the

prerecession level of 30 times, it has been strongly increasing since 2009. The inventory

turnover rate seems to be one of the only ratios that didn’t suffer drastically as a result of the

recession; it has remained consistently between 6 and 8 times. The sales revenue per employee

has impressively increased from $309,207 M in 2008 to $409,033 M in 2011. In 2009, Alcoa’s

amount of employees decreased from 87,000 to 59,000 due to recessionary constraints. The fact

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that Alcoa maintained their revenue per employee demonstrates their employment efficiency and

their ability to react to crisis.

Cash Flow Ratios

Alcoa’s cash flow ratios reflect a great amount of stability in the company. Their operating cash

flow ratio has remained between .15 and .05 over the past five years. Alike most of the ratios,

2009 shows the effects of the economic downturn, but the ratio has been increasing since that

period. Although it is not as strong as it had been in 2007, there is hope that it will return to that

high or higher levels in the near future. Alcoa’s free cash flow, which is a measure of financial

performance calculated as operating cash flow minus capital expenditures, represents the

company’s ability to generate profits after laying out money required to maintain and acquire

assets. Their free cash flow took a dive in 2008, most likely as a result of the recession, but

quickly recovered. However, similar to their operating cash flows, there is much room for

improvement.

Investment Ratios

Based on their investment ratios, Alcoa appears to be a smart, long-term investment. Their price

to book value ratio is currently at 1.29, which has been consistently increasing since 2009. The

dividend yield ratio is slowing recovering from the recessionary period that brought the ratio

down to 0.71% in 2010; it is currently up to 1.43%. Their price to earnings ratio, as reflected

below in the industry comparison, is also a valid ratio to drag into the investment decision. This

ratio of 47.39 is extremely impressive when compared to their competitors, Rio Tinto and

RUSAL.

Industry Comparison-2011

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Alcoa Rio Tinto RUSAL

Current Ratio 1.28 1.46 1.91

Quick Ratio 0.54 0.69 0.27

Inventory Turnover 7.47 6.56 1.62

Receivables Turnover 15.78 8.23 11.76

Debt to Equity 1.66 1.28 1.40

Profit Margin 2.45% 9.62% 14.23%

Return on Assets 2.65% 4.87% 0.91%

Return on Equity 5.86% 11.09% 2.16%

Price/Earnings Ratio 47.39 -28.99 -15.08

Earnings per Share $ 0.57 $ 3.01 $ 0.02

Liquidity Ratios

The liquidity ratios are used to measure a firm’s ability to repay short-term debts. This is

extremely important to consider when evaluating the financial health of a company because it

reflects the likelihood that the company will not default on their obligations. It also demonstrates

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their ability to continue as a going concern. Generally a higher ratio indicates a larger margin of

safety over short-term debts.

Current Ratio

This ratio gives the viewer of the financials and indication of the company’s ability to

pay back its short-term liabilities with its short-term assets. A ratio under 1 suggests that

the company is unable to pay off their debts if they came due at that point. Although

Alcoa’s ratio is not under 1, their ability to repay short-term debts is worse than that of

their competitors, Rio Tinto and RUSAL. The possibility of Alcoa defaulting on their

short-term payments is higher than it is for their competitors; however, the ratio of 1.28

reflects that they do have the ability to quickly repay their short-term debts.

Quick Ratio

The quick ratio differs from the current ratio in that it measures the company’s ability to

use its near cash, which is its current assets less inventory and accounts receivable, to

repay its current liabilities. A ratio less than 1 reflects that the company is unable to

currently pay back its current liabilities. Alcoa and its competitors all have a ratio of less

than 1. Alcoa is in the middle of Rio Tinto and RUSAL in terms of its ability to currently

repay its current liabilities with a ratio of .54. The current ratio and the quick ratio are

equally as important when evaluating the company’s ability to repay short-term debts. If

you only looked at the current ratio you would be misled to think that RUSAL has the

best ability to repay its short-term debts, when in reality they have the lowest quick ratio.

This may seem to be contradicting, but it simply reflects RUSAL’s lack of liquid assets

(cash, cash equivalents, and marketable securities).

Inventory Turnover

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The inventory turnover ratio shows how many times a company’s inventory is sold and

replaced over a period of time, which in this case is a year. A low turnover rate is usually

a bad sign because products tend to depreciate as they sit in a warehouse. The average

turnover rate varies greatly by industry. For example, companies selling perishable items

have a very high turnover. Alcoa has the highest turnover rate of its competitors of 7.47,

which shows that they move their inventory in and out of their warehouse faster than

their competitors.

Receivables Turnover

This ratio is a measurement of the company’s effectiveness in collecting debts. A low

ratio implies the company should re-assess its credit policies in order to ensure a more

timely collection of accounts receivable. A higher ratio implies that company either

operates on a cash basis or their credit policies are efficient in collecting from their

customers. Alcoa, again, demonstrates a higher ratio than its competitors, with an

impressive 15.78 collections per year.

Financial Leverage

Debt to equity

This measure of a company’s financial leverage indicates what portion of equity and debt

the company is using to finance its assets. A higher ratio means that a company has been

aggressive in financing its growth with debt, which can result in unstable earnings as a

result of the additional interest expense that comes along with this method of financing.

The averages for the debt to equity ratio differ among industries. Alcoa has the highest

debt to equity ratio of its competitors; although it is higher than Rio Tinto and RUSAL,

1.66 is still not considered to be a high ratio.

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Profitability

Profit Margin

The profit margin is not generally used to compare company-to-company, but for internal

reasons. It has little meaning when comparing companies, but you can judge a firm

profitability by and increase or decrease in their profit margin level. Alcoa’s profit

margin is considerably less than that of their competitors; however, this should not

portray a poor reflection of profitability on the company.

Return on Assets

Also known as the “return on investment,” the return on assets is an indicator of how

profitable a company is in terms of its total assets. This demonstrates the efficiency of

the company’s managements of using its assets to generate earnings. A higher

percentage indicates a better ability to convert investments into profits. Alcoa’s return on

assets is 2.03%, which proves that their ability to use their investments to generate profit

puts them right in between Rio Tinto and RUSAL. RUSAL has an impressive 4.87%

return on assets.

Return on Equity

Return on equity is a measure of the amount of net income returned as a percentage of

shareholder’s equity. This measures the company’s profitability by showing how much

profit has been generated with the money shareholders have invested. Return on equity

over a span of 5 to ten years can specifically give you a better idea of the historical

growth of the company. The higher the returns on equity, the higher the growth of the

company should be expected to be. RUSAL has the highest return on equity, putting

Alcoa in between its competitors yet again.

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Earnings per Share

Earnings per share are the portion of a company’s net income allocated to each

outstanding share of common stock. This measure is arguably the most important

variable in determining a share’s price. Rio Tinto had the highest earnings per share of

the three, with $3.01. While RUSAL had the lowest of $0.02, putting Alcoa in the

middle of the two with $0.57. Alcoa had a weaker EPS than Rio Tinto, but this is not a

poor reflection on the company.

Intrinsic Stock Value

Alcoa’s stock can be valued at a market rate and an intrinsic rate. The intrinsic rate is

based on calculations that are made to reflect tangible and intangible factors of the

company. This calculated rate is an underlying perception of the true value of the stock

at hand. Alcoa’s intrinsic value, as calculated by Stock Analysis on Net, is $5.26. The

current market of stock per share is $8.39. Generally, having a higher market value than

intrinsic value is a negative sign to investors. This means that the stock is actually worth

less than it appears to be, when you look at other factors contributing to your return on

the stock. However, this is only an approximation and other aspects of the company

should be evaluated before an investor would make their decision of whether or not to

invest.

Beta

Beta is a measure of a stock or portfolio describing the correlated volatility of an asset in

relation to the volatility of the benchmark that said asset is being compared to, which is

generally the market of that stock. Alcoa has a beta of 1.89, meaning that it is 89% more

volatile than the market. A beta that is greater than one will have a higher rate of return

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for their investment, but with a higher return comes a higher rate of risk. Therefore,

Alcoa’s stock has a higher risk and return than the rest of the aluminum production

market.

Company’s Health

Alcoa is in very good financial health and not in any risk of bankruptcy or possible doubt of

going concern in the near future. There are a few important indicators of the strong financial

health. Although Alcoa was affected by the economic recession of 2009, they survived the tough

times and have been improving their profitability since that time. In terms of their position

among their competitors, they are not the weakest link in the Aluminum Production industry.

Their impressive earnings per share ratio of $0.57 says a lot about their place among their

competitors.

Z-score analysis

The Z-Score analysis is used by investors to keep an eye on their investments. It’s a way to stay

daily updates on the financial state of a company. The score does not predict financial health,

but rather gauges it at a current point. The z-score combines the use of financial ratios and a

rating scale. If the company’s score is above 3.00, then the company is believed to be

economically sound and not in danger of bankruptcy. The scale draws the line at insolvency if a

score is anywhere below 1.80. The calculated scores for Alcoa Inc. are listed below for the years

2009, 2010, and 2011.

Alcoa Inc.Z-Score Analysis

For the year ended December 31, 2011

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Working Capital x 12 = 1700 x 12 = 0.51Total Assets 40120

Retained Earnings x 14 = 11629 x 14 = 4.06Total Assets 40120

EBIT x 3.3 = 1063 x 3.3 = 0.09Total Assets 40120

MV of Equity x .6 = 13844 x 0.6 = 0.36BV of Liabilities 22925

Sales x 0.999 = 24951 x 0.999 = 0.62Total Assets 40120

Z-Score = 5.64





EBIT x 3.3 = 548 x 3.3 = 0.05Total Assets 39293

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MV of Equity x .6 = 13611 x 0.6 = 0.37

BV of Liabilities 22207


Z-Score =5.43





EBIT x 3.3 = -1498 x 3.3 = -0.13Total Assets 38472

MV of Equity x .6 = 12420 x 0.6 = 0.33BV of Liabilities 22912


Z-Score = 5.19

Alcoa had a z-score of 5.64 in 2011, 5.43 in 2010, and 5.19 in 2009. This reflects the financial

health of the company since their z-scores are all above the 3.00 level for all three years.

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Furthermore, their z-scores have been constantly increasing over these three years, which lessens

their risk of bankruptcy even further.

In creating a z-score analysis for one of Alcoa’s prime competitors, Rio Tinto, Alcoa has been

found to currently have a higher z-score than Rio Tinto. Rio Tinto score was 5.29 in 2011, 6.38

in 2010, and 4.81 in 2009. This shows a lack of consistency among Rio Tinto’s financials. The

following three tables reflect the calculations for the scores.

Rio TintoZ-Score Analysis


Working Capital x 12 = 6,932 x 12 = 0.70Total Assets 119,545

Retained Earnings x 14 = 27,784 x 14 = 3.25Total Assets 119,545

EBIT x 3.3 = 13,214 x 3.3 = 0.36Total Assets 119,545

MV of Equity x .6 = 52,539 x 0.6 = 0.47BV of Liabilities 67,006

Sales x 0.999 = 60,537 x 0.999 = 0.51Total Assets 119,545

Z-Score = 5.29



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Working Capital x 12 = 9,661 x 12 = 1.03

Total Assets 112,402

Retained Earnings x 14 = 32,499 x 14 = 4.05

Total Assets 112,402



Sales x 0.999 = 56,576 x 0.999 = 0.50Total Assets 112402

Z-Score = 6.83



Working Capital x 12 = 5403 x 12 = 0.67Total Assets 97,236

Retained Earnings x 14 = 20,477 x 14 = 2.95Total Assets 97,236



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Sales x 0.999 = 41,825 x 0.999 = 0.43Total Assets 97,236

Z-Score = 4.81

Strategic Profit Model

The Strategic Profit Model is simply an expanded version of the DuPont Model. It gives you a

visual version of the breakdown of the company’s financial performance, ultimately calculating

the return on investment. The visual model, Strategic Profit Model is broken into three sections:

net margin, assets, turnover, and financial leverage. This visual model calculated a return on

investment of 6.18% while the DuPont model calculated a 5.86% return on equity. These ratios

prove Alcoa to be a profitable investment.

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DuPont Model

ROE = Net Income x Sales x Total Assets Sales Total Assets Average Shareholder's Equity

ROE = 805 x 24951 x 40120 24951 40120 13727.5

ROE = 5.86%

Which Way the Company is Moving

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Alcoa is currently in the maturity stage, but they still have room for potential growth. The

increased profitability since the 2009 recession proves that they can regain their prior levels of

profitability through growing the developing their products and processes. In order to avoid

moving into a recessionary stage, or a trough, Alcoa should build their image through

innovation. In the maturity stage, less advertising is required due to their already well-

established brand image; therefore, they should use advertising funds to promote research and

development.

Sources and value of capital

Alcoa primarily funds their business through debt and equity. Their total debt for 2011

combined to be $22,925 M, which includes their long-term debt, short-term debt, and all other

non-current liabilities. While their equity for the year totaled to be $17,195 M (Alcoa 10-K).

This reflects that their main source of capital is debt, which is a financing route that many

businesses are skeptical to take. However, Alcoa has sufficient cash flows to repay these debts

so their method works out in their favor. In 2011, Alcoa’s debt-to-capital ratio was 35%,

demonstrating their ability to repay these debts. This ratio has decreased since 2008, which only

further proves their more efficient method of financing with debt. In the case of bankruptcy,

Alcoa would be liable to their debtors before their shareholders, which may result in little to no

repayment to these shareholders. On the other hand, financing capital expenditures through debt

helps Alcoa to retain more ownership of their company.

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Capital Market Place Response

Following the 2009 recession, the capital market place had a positive response to Alcoa, as their

stock price rapidly increased until the middle of 2011. Since that period of productivity the price

has not been consistent, reflecting the maturity stage of their company’s life cycle. In the future,

the stock prices are expected to increase as Alcoa CEO, Klaus Kleinfield speculates that the

demand for aluminum will double between 2010 and 2020 (Alcoa Annual Report, p. 6).

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Quality of Earnings

A company’s quality of earnings is attributable to either higher sales or lower costs. In analyzing

the free cash flows of Alcoa, it is apparent that they have a positive quality of earnings based on

the improved free cash flow generation. From 2008 to 2011, the number has increased from

($2,204 M) to $906 M; these numbers are a result of strong profits from increased sales rather

than accounting irregularities or inflation. In addition, the inventory turnover rate has increased

from 6.07 times in 2009 to 7.47 times in 2011. This is of interest to the quality of earnings

because having control over your inventory demonstrates less desired costs for future growth.

Stock compared to the industry

(Alcoa 10-K)

Alcoa’s stock has both underperformed the S&P 500 Index as well as the S&P 500 Materials

Index. The materials index tracks those corporations in the S&P 500 which specialize in basic

materials, such as chemicals, precious metals, timber products, construction materials, and

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industrial metals. Of these, Alcoa is the only aluminum producer included. As made apparent

from visual inspection of the above chart, Alcoa has a beta higher than both of the indices it’s

paired with, checking in at 1.86. As noted in the risk factors, the aluminum industry is very

cyclical. Essentially, the good times are great, and the bad times are terrible.

Auditor

Alcoa, Inc.’s auditor is PricewaterhouseCoopers LLP. The following chart discusses Alcoa’s

past five audit reports and the opinions that were issued.

Year Opinion Issued Report Form

December 2010-2011 Unqualified Combined Report on Financial Statements and Internal Control over Financial Reporting





Alcoa has clearly been consistent with the fair statement of their financials, as well as the

effectiveness of their internal control.

Financial Statement Perception

Alcoa’s corporate bonds are rated BB+ by Morningstar (Alcoa Inc Debt). Their capital structure

is made of 59.7% Equity, 40.1% Debt, and only 0.2% Preferred shares (Alcoa Inc Debt).

Although Alcoa has paid all corporate debt off in time, its lower than stellar bond rating lends

itself to the cyclicity of the aluminum industry. A downturn in the economy can prove disastrous

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for the industry and Alcoa. For example, Alcoa’s stock plummeted from approximately $43 a

share before the 2008 financial crisis to a low of around $5 a share after (Alcoa Inc. Debt).

Alcoa has not failed an external auditor’s report in its history, and third parties have no reason to

believe that management lacks integrity. Amongst Alcoa’s financial statement users, the general

consensus is that Alcoa represents a strong industry leader that has set the standards for decades.

Their business model is relatively simple (in comparison to many other corporations that make

up the Dow Jones Industrial Average and the S&P 500). The main concern for investors is the

state of the economy, worldwide, demand for aluminum, and aluminum prices, all being external

factors. As long as Alcoa can remain solvent during economic downturns and can keep its

strong, stable form of corporate governance, the firm will survive and flourish as an industry

leader (Alcoa 10-K)

Auditor Concerns

Transaction Cycles

Financial Cycle

Alcoa's financial cycle is crucial for the firm to conduct operations since it relies off of its capital

financing through this cycle. Alcoa issues debt in the forms of corporate debentures, convertible

bonds, and commercial paper. Additionally, the firm raises capital through the sales of common

and preferred shares of equity. For the year ended 2011, Alcoa had $8.64B in outstanding, long

term debt. Most debt has been secured with fixed rates in from 5.25% to 6.75%, with notes due

from 2013 to 2037. Long-term debt has most recently been used to finance the construction of

both smelters and power plants in Brazil and Russia. Alcoa must be weary of the Net Present

Value of these projects which they are using 6% notes to fund. Additionally, the firm must be

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prepared to use up to $997 million in cash reserves so that they may repay notes due during

2013. Cash provided from financing activities during 2011 totaled $62 million, mostly due to an

increase in long-term borrowing (Alcoa 10-K).

Expenditure Cycle

For the fiscal year 2011, $1.287 billion of Alcoa’s assets were used for capital expenditures

(CapEx). This is lower than what is usually spent on capital expenditures in the years previous

due to the continuing effects of the 2008 global economic downturn, the firm's desire to increase

its ratio of net cash inflows from working capital, and to increase its liquidity during a period of

trying times for the aluminum industry. The measures weren't enough as there was a 3% decline

in cash from operations from 2010 to 2011, though the firm's liquidity increased during this time.

$184 million was spent on research and development (R&D) during 2011, a successive increase

of approximately 6% from both years prior (Alcoa 10-K).

Payroll Cycle

The payroll cycle is vital for Alcoa's going concern, being that the company employs large

numbers of workers to maintain its huge industrial capacity. Payroll for lower level laborers and

middle managers are included in the Cost of Goods Sold (COGS) account, while compensation

figures for upper level managers is included in the Selling, General, and Administrative (SG&A)

account. At the year ended 2011, Alcoa had employed about 61,000 employees in 31 countries

where there exists some level of operation. As a result of the 2008 Financial Crisis, the firm

implemented both a salaries and hiring freeze which was not lifted until December 31, 2010

(Alcoa 10-K).

Conservation/Revenue Cycle

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Since Alcoa makes almost all if it's revenue from the conversion of raw materials to commercial

and industrial products, the conversion cycle is the crux on which the firm operates and survives.

Alcoa mines raw bauxite from the Earth's crust, and proceeds to convert the bauxite to aluminum

in two separate industrial processes. Alcoa proceeds to sell aluminum to consumer, industrial,

and construction firms for their source of revenue. Alcoa is a vertically integrated corporation

through their business processes in the conversion to revenue cycles. Bauxite is mined by Alcoa,

shipped by Alcoa, converted to aluminum/alumina by Alcoa, and then further fabricated by

Alcoa. Through their operations, Alcoa was able to convert 43 million metric tons of mined, raw

bauxite, into $24.95 billion in revenue during the year ended 2011 (Alcoa 10-K).

Risk Areas

The following risks have been pulled from Alcoa’s 10K report. They have been deemed

potentially problematic for the firm’s success and continuing operations, and therefore they must

be taken into consideration seriously.

High-Risk Areas

The aluminum industry generally remains highly cyclical and is influenced by a number of

factors including global economic conditions. Worldwide aluminum demand fluctuates not

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only annually, but also in correlation with the business cycle. Alcoa can be harmed by

recessionary periods and can benefit greatly from expansionary periods.

Market-driven balancing of global aluminum supply and demand may be disrupted by

non-market forces or other impediments to production closures. Alcoa’s operations span the

globe in many different countries, and the firm has to take on certain risks in many of the

countries in which it operates. These risks include legislative initiatives that can have detrimental

effects on Alcoa’s business, nation-specific economic conditions, or in some cases, conflicts that

can alter business in the area which Alcoa operates.

A reduction in demand (or a lack of increased demand) for aluminum by China, Europe or

a combined number of other countries may negatively impact Alcoa’s results.

Approximately 50% of Alcoa’s revenue comes from non-domestic sales, namely Europe and

China. The ongoing European debt crisis has had a negative impact on aluminum demand, and

China’s decreasing growth rate over the past 3 years has also impacted sales in that market.

Alcoa could be materially adversely affected by declines in aluminum prices. Being that the firm

makes over 80% of its income off of aluminum, any changes in aluminum prices are going to

affect the firm’s profitability and going concern. If there is a sharp enough drop in aluminum

prices worldwide (AL) will have a very negative affect on profitability, or perhaps worse, such

as the ability to stay in business.

Low-Risk Areas

On the 10K, there are numerous inherent risk factors that are listed, such as high competition,

stability of financial markets, maintaining good credit, cyber-attacks, union disputes, completely

unforeseen events occurring, etc., that are not included in this list. These are inherent risks that

any firm in any industry can and will face, and are therefore not unique to Alcoa or its

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operations. They are not included in the list below, but like all other risks, must be taken

seriously and with preparedness.

Alcoa’s operations consume substantial amounts of energy; profitability may decline if

energy costs rise or if energy supplies are interrupted. As noted earlier in the report, energy

expenses make up a substantial portion of Alcoa’s operating expenses and Cost of Goods Sold

account. With a profit margin of only 6%, any increase in electricity or fossil fuel prices will

immediately impact profits in a negative fashion.

Alcoa’s profitability could be adversely affected by increases in the cost of raw materials or

by significant lag effects for decreases in commodity or LME-linked costs. Alcoa relies off

of raw materials, such as bauxite and electricity, to make its primary products. Increases in the

prices of raw materials will directly affect profitability. The LME, or London Metal Exchange, is

the primary exchange for aluminum trading in the world. If the LME isn’t effectively pricing and

speculating aluminum, the company’s profitability can be hurt.

Alcoa may not be able to realize expected benefits from the change to index pricing of

alumina. Alcoa has created its own independent index pricing of alumina based on LME prices

and speculation. This is to produce a more accurate pricing and forecasting model for aluminum

contract futures. However, if this initiative is not successful, Alcoa may be at the wrong end of

price setting, and a loss in income.

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Climate change, climate change legislation or regulations and greenhouse effects may

adversely impact Alcoa’s operations and markets. Alcoa has significant reliance on

electricity for its operations, and in many cases, electricity is produced from fossil fuels. These

fossil fuels produce large amounts of greenhouse gases as byproducts, which is the conclusion of

some to be the cause of global warming and the deterioration of the atmosphere. New regulations

and legislation could potentially impact Alcoa’s production and consumption of electricity,

which could harm its operations and aluminum production.

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Management Integrity

Alcoa has remained at the maturity phase of its life cycle for many years. At this point, the nature

of the business hasn’t changed drastically in a while, and there are not many expectations that the

business environment of the industry Alcoa is a part of will change much in the foreseeable

future. PricewaterhouseCoopers completed a full audit of Alcoa for the year ended 2011, and

they concluded that all financial statements were presented fairly and in accordance with GAAP

for the last 3 years (Alcoa 10-K).

In 2007, Alcoa attempted a hostile takeover of Alcan, which ultimately failed. Alcan was later

acquired by Rio Tinto that same year to become, at the time, the world’s largest aluminum

producer. The attempt of a hostile takeover can be cited as a lack of integrity by management.

However, as a third party, it is difficult to say that overall, management has integrity, or a lack

thereof, based on this one event. There are no other reasons to cite or to believe that Alcoa’s

management lacks integrity.

Auditor’s Report

For the year ended 2011, Alcoa contracted PricewaterhouseCoopers (PwC) to conduct a full

scale audit of the firm. PwC also reviewed the financials going back 3 years previous. In the

external auditor’s professional opinion, all financial statements were presented fairly and in

accordance with the United States’ Generally Accepted Accounting Principles. Additionally, the

auditors found that Alcoa’s internal control is sufficient enough to provide reasonable assurance

as to the integrity of its financial reporting. The following statement is PricewaterhouseCoopers

audit report listed in Alcoa’s 10K:

Report of Independent Registered Public Accounting Firm

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To the Shareholders and Board of Directors of Alcoa Inc.

In our opinion, the accompanying consolidated balance sheets and the related statements of consolidated operations, changes in consolidated equity, consolidated comprehensive (loss) income, and consolidated cash flows present fairly, in all material respects, the financial position of Alcoa Inc. and its subsidiaries (the “Company”) at December 31, 2011 and 2010, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2011 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2011, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express opinions on these financial statements and on the Company’s internal control over financial reporting based on our integrated audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. /s/ PricewaterhouseCoopers LLP

PricewaterhouseCoopers LLPPittsburgh, PennsylvaniaFebruary 16, 2011

Client Selection

Our firm takes its responsibility to the public and to our clients very seriously. As such, we

choose only to accept clients who live up to the highest professional and ethical standards. After

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thorough review of the ethical and internal control policies of Alcoa, we have decided that it

would be appropriate to take Alcoa on as a client. The acceptable audit risk of Alcoa is well

below what we have determined to be the acceptable threshold. The management at Alcoa

appears committed to strong, ethical business practices and having a committed management

team is one of the most important parts to starting a strong internal control.

Alcoa’s decision making, however, is not beyond criticism. In 1994, during Alcoa’s expansion

into Brazil, they had the Brazilian government use large quantities of Agent Orange to defoliate a

large part of the Amazon Rainforest. This was in order for Alcoa to build the Tucuruí dam, a

source of power for their mining operations. This defoliation took out a large part of the forest,

as well as homes of the indigenous tribes and others living in the forest. Additionally, in 1998,

The United States Environmental Protection Agency (EPA) issued a Superfund Unilateral Order

requiring Alcoa to “excavate, treat and dispose of the contaminated wetlands sediments (on one

of their York properties)”.These incidences raised an ethical red flag to us. However, since the

Agent Orange incident and the EPA order, Alcoa has shown a strong commitment to social

responsibility and companywide ethics. We believe that this approach is more than just a quick

rejoinder to a pressure filled situation and instead reflects a long term plan to conduct their

businesses in an ethical manner (Cahill).

Alcoa’s financial position is also pretty well secured. Their stock has shown a little fluctuation

lately but nothing more than the regular market ups and downs. This helps demonstrate the

strength and stability of the company.

Alcoa is a value-based company with strong morals and a well enforced code of ethics. Their

internal controls are strong and look to prevent any future misdeeds, like the ones they had in the

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1990s or otherwise. They are not currently involved in any legal proceeding or integrity

violations. We will accept Alcoa as a client with a good amount of professional skepticism. We

will continue to monitor their policies and how well they are upheld. We will keep a watchful

eye on the way Alcoa does business and make sure their convictions are as strong as they have

indicated.

Allocated Audit Effort

Alcoa is based in Pittsburgh and has over 2000 employees stationed there. Due to the resource

concentration Alcoa has in Pittsburgh; we believe that it would be the best place to headquarter

our audit efforts. However, since Alcoa houses most of its important top executives in New York

City, we certainly want a strong auditing presence there to probe Alcoa’s top minds. A good

understanding of the total operations of a company is key to a thorough audit; this means that we

will also need to do extensive research into the international arms of the operation as well. Now,

since Alcoa has operations in 30 countries, it would be unfeasible to visit all branches of

operation. We need to subdivide based on what is important. Alcoa’s main areas of international

concentration are in Eastern Europe, China and Brazil. We plan on sending a representative out

to each of those areas because it will give us a developed understanding of Alcoa’s international

business procedures. It is important to concentrate your audit efforts in the most effective areas,

as audit firms do not have unlimited resources. We believe that our plan spans a large enough

geographical area and covers a large portion of the inner workings of Alcoa and, as such, is an

effective allocation of our resources and auditors.

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Problems with External Control

Alcoa faces a lot of issues with external control. The industry that they are in is very volatile as it

is largely based on the discovery and retrieval of natural resources. Natural resources have a way

of running hot and cold, there can be long periods of slow discovery and there is a finite amount

of the resource in the earth. One major issue was that Alcoa's affiliate in Ghana, the Volta

Aluminum Company, was completely closed between May 2003 and early 2006, due to

problems with its electricity supply. They are a very global company and located on many

different continents so their plants can run into a lot of trouble with power supply. They employ

many different methods of powering, including electricity, hydropower, hydroelectric, and

formerly coal power. They have run into a lot of trouble with the supply of these powers,

shutting down production for short bursts as well as closing smaller plants (Alcoa Website).

Since they are a global company, they may also run into problems in dealing with other

countries. Changing policies, new governments and expanding regulations are all issues they

need to consider on a day to day basis. One instance of this was their movement in to Wagerup,

Australia. Due to the constraints of the Financial Crisis, they had to halt their Australian

expansion plans and pause their ownership of the Western Australia alumina refinery.

These external control factors have a large impact on the way Alcoa runs their business and need

to be taken into account as ongoing risk factors now and into the future.

Use of Internal Audit

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The Auditor’s Consideration of the Internal Audit Function in an Audit of Financial Statements”

or Auditing Standard 322, discusses the auditor’s role in relation to the internal auditor and how

to evaluate and test the work of an internal auditor. The flowchart below is a useful tool to

decide how reliable the company’s internal audit work is. By using this flowchart and reading

the financial statements, it can be seen that Alcoa’s internal audit department is dependable and

we can use their work for assistance in our audit. PricewaterhouseCoopers, the independent

auditor, gives reasonable assurance that Alcoa’s internal controls for 2011 are good as well. In

the auditor’s report for 2011, PwC also references the Committee of Sponsoring Organizations of

the Treadway Commission (COSO) and their Internal Control-Integrated Framework to state

that the company maintained in all material respects effective internal control (“Auditing

Standards).

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Use of Outside Specialists

When deciding how much to relay on outside specialists, Auditing Standard 336, “Using the

Work of Specialist” is valuable. A specialist has skills or knowledge other than accounting or

auditing that can be of use to the firm. With being a large, global firm, it is probably that we will

have any specialists internal to our firm, so specialists will not be needed for the audit. Some

areas that could possibly use a specialist if we were not a firm full of such diverse people with

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(“Involving Internal Auditor”)


specialized talents include environmental issues, valuation, and actuarial calculations (Auditing

Standards).

Planning and Supervision

Auditing Standard 311, “Planning and Supervision” comes from the first field work standard that

states “the work is to be adequately planned and assistants, if any, are to be properly supervised.”

This step is very important to the audit and ensuring that the generally accepted auditing

standards are followed. Planning begins with accessing the firm and obtaining knowledge of the

business. An engagement letter is also written by the auditor to make sure both parties are clear

on all terms. We then would come up with an overall strategy, and make sure that all steps are

supervised properly so we stick to GAAS and have a complete audit that we can reasonably

assure is accurate (Auditing Standards)..

Expected Auditor’s Report

After looking at the company and the reports issued for the current and past years, we believe

that an unqualified opinion can be issued for Alcoa in the 2011 fiscal year. An unqualified

opinion means that we are issuing our independent opinion of reasonable assurance that there are

no material misstatements in the financial statements under US Generally Accepted Accounting

Principles and also no scope limitations restricting our work (Mergent Online)..

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Sarbanes-Oxley Act Implications, Section 404

The Sarbanes-Oxley Act was passed in July 2002 by the United States Congress. Its purpose

was to restore investor confidence in after many bankruptcies internal control breakdowns that

were highly publicized. All companies that are publically registered must follow this act. The

Public Company Accounting Oversight Board, or PCAOB was formed from this act and

management is also more responsible for asserting that internal controls and financial reporting

is effective. Section 404 really stands out in the act. This requires the independent auditor to

give opinions on the effectiveness or internal control over financial statements and to give an

auditor’s opinion on the fairness of financial statements. Section 404 has a top-down risk

assessment that helps the auditor look at the company thoroughly. The PCAOB Auditing

Standard Number 5 also discusses auditor steps to correctly assess internal control of public

companies.

As stated in the auditor’s report, there were no changes in internal control over reporting during

the fourth quarter of the year that materially affected or are reasonably likely to materially affect

the company’s internal control. By seeing this, we can feel more confident that internal control

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Financial Statements

free of Material

Misstatement

Effectice Internal Control

Unqualified Audit Opinion


is continuing to be effective like we said it was in the past. Through research of the past three

years, we can say with reasonable assurance that internal control is maintaining that accounts

accurately and fairly reflect the assets of the company, that transactions are in accordance with

generally accepted accounting principles, and there is a timely discovery of accounts

unauthorized acquisitions that could have a material effect on financial statements. Sarbanes-

Oxley 404 also allows us to state that because of inherent limitations, internal control might not

prevent of detect misstatements, and as controls change, the evaluation might not be accurate any

longer.

(Information from “Sarbanes-Oxley Act”)

Initial Assessment

Appendix A

Financial Statements

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Appendix B

Budget

We originally decided to meet for about three hours a week every Wednesday afternoon to work

on the project, divide up work for next time, and combine our parts. To prepare for this meeting,

we also figured that we would each put in around three hours of work on our own time. This

would come out to about 15 hours a week or 150 hours during the semester. This was just a

rough estimate with some parts of our Wednesday meeting devoted to looking at homework for

class or reviewing as well, and there were certainly weeks that we put in many additional hours.

Looking back on our entire project, we probably did spend about the amount of time we

allocated working on this. Having the first deadline before Spring Break was a huge help to keep

us on track. With a hard deadline, we worked on getting that part finalized and formatted

correctly, so adding in the rest of our work later was much easier. It also let us see exactly how

much time this was taking us and how to allocate our remaining weeks to make sure we got the

entire project complete and in the form we wanted by the due date. Getting close to the due date,

we met many more days than just once a week to make sure we were all keeping up on our parts

and everything was coming together well. We also wanted adequate time to proofread the entire

report and make sure it looked as good as possible.

Leadership

By initially dividing up most parts of the assignment, we were all able to lead in different ways.

Each person read about different topics, so when we met to combine and discuss the parts we

each looked at on our own, we could each share our new expertise. Each person put effort into

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their parts, making the switch between leaders very smooth because each person was very

knowledgeable in their area and able to explain it to the others easily.

Coordination

This part came fairly easy to us. We never made a formal contract, but we had a copy of the

syllabus in an excel file with each part in its own row. This almost served as in informal contract

that we all obeyed by. When we met in the beginning, we divided up the first part that was due

before spring break and color coordinated the document so it was very clear which person was

leading each part. There were no discrepancies then as each team member had a copy of this.

We also divided up questions by workload instead of just by the number of parts. Once we had

sections that seemed of equal weight, we talked about if anyone had any prior knowledge on a

topic or strong desire to do a section. This method left us all happy and with an equal workload.

Another valuable asset to our coordination was a Group Me group text that we set up. With this,

it was easy for us all to communicate with each other and let everyone know at once if we had to

be late to a meeting or had a question.

Norms

In order to complete the project in a timely and efficient manner, we developed the norm of the

work plan to assign topics, work independently on our parts, and edit and piece together the final

product. This strategy helped us to determine a set plan and sequence of events. That mentality

led us to our second norm of creating a checklist to ensure completion of all the parts. We

created a Google Document with all the components of the project, complete with columns for

the assigned team member and level of completion to date. Sequentially, our third norm was

setting and meeting deadlines. Lastly, our most important norm was scheduled meetings. We

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met every Wednesday of the semester at 2:30PM in the library. We used our meetings to ask

each other questions on our parts of the project, as well as class-related topics. We determined

that by having scheduled meetings we would guarantee a block of time every week to work on

the project, even if we were working independently. We did need to take any action to enforce

these norms because we all felt strongly about their efficiency in completing the project.

Conflict

Our main source of conflict among the group has been determining deadlines that are within

reason for all the group members. We all have busy schedules between classes, extracurricular

activities, and social lives. Working around our prior commitments was a tough obstacle, but be

had to resolve it in order to complete the project efficiently. First of all, we had to put ourselves

in each other’s shoes and understand the importance of certain prior commitments. On the other

hand, we had to take in account the fact that we are all extremely busy, but making time for this

project needed to be established as a top priority for the semester. This difficulty resulted in

letting our previously-set deadlines slip a few days, but we never allowed ourselves to miss

deadlines but a substantial amount. If we had not resolved this conflict then we would have been

scrambling to meet our preliminary and final deadlines set in the syllabus, which could result in a

poorly constructed project.

Contribution

Overall, we all had a fairly equal share of the project. We collectively talked about each part and

could go to each other with any questions or concerns that came up, but each had our own

sections to really focus on. Below is how we divided up the specific tasks and questions.

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Kristin – Number 3 parts e, f, g, j, m. Number 4 financial health. Organization of our checklist

that went along with the syllabus. Printed and turned in the project part one.

Chris – Number 2 parts 1, b, c. Number 3 part k. Number 6 parts a, b, c, d. Proofread and

corrected typos in project part one.

Luke – Number 2 parts d, e, f, g. Number 3 parts h, Number 6 parts e, f, g.

Sammi – Number 3 parts a, b, c, d, l. Number 6 parts h,I, j. Organization of Appendix.

After assessing how much work we all put into the project, we think that we each did an equal

share of the project and should each earn 100% of the total grade we receive.

Team Member Grade Allocation

Kristin 100%

Chris 100%

Luke 100%

Sammi 100%

Instructions

We originally thought the project looked really long, both by looking at the topics to cover in the

syllabus and also the example projects online. I think we all started out a little scared, but saw

that just breaking it down made it work out and “baby steps” made it manageable. Our report

quickly grew long before we knew it. Having the first part due before spring break was a great

idea. It kept us on track and made sure we did not slack at all right before break and have to

come back to a lot of work. This also helped us estimate the amount of time that the remaining

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parts of the project would take and allowed us to create a schedule of deadlines for after break.

We noticed that some parts we split up and thought would be fair and equal actually were not, so

in those cases, someone who had a little less work would step up to help the person who’s

section was longer than we anticipated. Some parts of the project on topics we only briefly

talked about in class were challenging, but it also taught us some good research skills, and the

example projects were helpful as well.

Other

Other than working on the project, our team accomplished many different goals. We met to study

for exams, completed in class tasks like flow charts and tables and conversed any time one

member was unsure about class material. These non-report related meetings helped us cultivate a

setting of open dialogue, hard work and productivity.

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