OREANDA-NEWS. Fitch Removes Alcoa's 'BB+' IDR from Evolving Watch; Outlook Stable New York Fitch Ratings has removed the Rating Watch Evolving from Alcoa Inc.'s (ParentCo; NYSE: AA) ratings and assigned it a Stable Outlook. A complete list of ratings actions follows this release.

Nearly $14 billion in commitments and securities is affected.

KEY RATING DRIVERS

The Form 10 filed June 29, 2016 for Alcoa Upstream Corporation (Alcoa) provided a read-through to Arconic Inc.'s (Arconic - proposed successor to Alcoa Inc.) capital structure including other long-term liabilities. Fitch expects Arconic's funds from operations (FFO) adjusted leverage to trend below 3.3x and above 2.8x over the rating horizon. The removal from the Rating Watch and the Stable Outlook reflect Fitch's view that whether the separation occurs as currently planned or the company remains as is, the instrument ratings would be the same.

PROPOSED SEPARATION

On June 29, 2016, ParentCo filed a Form 10 outlining its plans to spin off at least 80.1% of the outstanding shares of a newly formed upstream company named Alcoa Upstream Corporation. In conjunction with the separation, ParentCo will change its name to Arconic Inc. and will change its stock symbol from AA to ARNC and Alcoa Upstream Corporation will change its name to Alcoa Corporation and look to list its common stock under the symbol AA.

On Sept. 28, 2015, ParentCo announced that its Board of Directors approved a plan to separate into two independent, publicly traded companies. The transaction is expected to be completed in the second half of 2016. The separation is subject to, among other conditions, final approval by ParentCo's Board of Directors, receipt of a favorable opinion of legal counsel with respect to the tax-free nature of the transaction for U. S. federal income tax purposes, completed financing, and the effectiveness of an SEC Form 10. In addition, transfer of certain contracts and other assets may require consent of third parties.

Alcoa will comprise the Alumina and Primary Metals segments, and Arconic will include the Global Rolled Products (GRP), Engineered Products and Solutions (EPS) and Transportation and Construction Solution (TCS) segments.

ParentCo announced on April 22, 2016 that it plans for Alcoa to become the owner of the rolling mill at the Warrick Operations in Indiana and the 25.1% stake in the Ma'aden Rolling Company in Saudi Arabia. The Warrick mill is focused on beverage and food-can packaging stock, industrial sheet and lithographic sheet. The Ma'aden mill produces beverage can stock and hot-rolled strip for finishing into automotive sheet. Following the separation, Arconic mills will not compete in the North American can packaging market.

Pursuant to the company's 8K filed Sept. 29, 2015 and the Form 10 filed June 29, 2016, the debt of ParentCo would be retained by Arconic.

The Form 10 states that Alcoa intends to provide for up to $1.5 billion of liquidity facilities through a senior secured revolving credit facility, issue approximately $1 billion of funded debt through the issuance of term loans, secured notes and/or unsecured notes, and pay a substantial portion of the proceeds of the funded debt to Arconic. Fitch assumes that the cash on hand at the time of separation will be split fairly evenly between Arconic and Alcoa.

Fitch notes that the Alcoa Alumino BNDES loans ($174 million as of Dec. 31, 2015) would fall with Alcoa, and the Form 10 lists total Alcoa debt at March 31, 2016 as $236 million. At March 31, 2016, Alcoa's cash was $359 million compared with ParentCo cash of $1.4 billion.

At Dec. 31, 2015, Alcoa had asset retirement obligations (ARO) liabilities and remediation reserves of $635 million and $235 million, respectively, and restructuring reserves were $91 million at March 31, 2016. This leaves Arconic with scant ARO liabilities and about $369 million of remediation reserves as of Dec. 31, 2015 and about $100 million of restructuring reserves as of March 31, 2016.

AWAC MATTERS

Alcoa succeeds ParentCo in Alcoa World Alumina and Chemicals (AWAC). AWAC is an unincorporated global joint venture between ParentCo and Alumina Limited (AWC) comprising a number of affiliated operating entities involved in bauxite mining and alumina refining within the Alumina segment. ParentCo owns 60% and AWC owns 40% of these individual entities, which are fully consolidated within ParentCo's financial statements.

On May 27, 2016, ParentCo filed for declaratory judgment seeking, in particular, that judgment be entered declaring that, under the AWAC agreements, AWC and subsidiaries have no consent or first-refusal rights with respect to ParentCo's planned separation and the separation does not involve an improper 'assignment', and declaring that the separation would not improperly assign, transfer or delegate ParentCo's role as manager of AWAC, would not leave AWAC without effective management, and would not entitle AWC to rights to manage or market any part of AWAC. Alumina has filed a counterclaim and a hearing is scheduled for September 20, 2016.

The Form 10 relates that if AWC is successful in asserting its claims, the separation may not be completed on expected terms or at all.

In November 2001, in connection with WMC Limited's planned demerger, ParentCo filed a summary of key terms of the AWAC agreements. AWC succeeded WMC Limited upon the demerger in December 2002.

ARCONIC

Fitch believes Arconic has more consistent margins and lower commodity price risk than Alcoa. ParentCo has been investing in GRP to expand its automotive, aerospace, and industrial sheet capabilities as well as its new Micromill technology. In EPS, ParentCo has been investing to expand its capabilities in aerospace engines and parts.

Fitch calculates Arconic's operating EBITDA for the LTM March 31, 2016 at $1.5 billion. Earnings should improve with full-year contributions from the acquisitions of RTI International Metals Inc. (RTI) closed July 23, 2015 and TITAL closed March 3, 2015, as well as resolution of problems with Firth Rixon's isothermal forge. Fitch expects 2017 operating EBITDA for Arconic will be at least $1.8 billion.

Fitch estimates total debt at Arconic, as of the separation pro forma for the repayment of $750 million in notes due in February 2017, will be about $8.2 billion and adjusted debt will be $9.1 billion including 8x operating lease rent of $112 million.

DISPOSAL OF RETAINED STAKE

Arconic plans to dispose of the Alcoa common stock that it retains as part of the separation within 18 months of the spin-off but no later than five years after the spin-off. Fitch believes proceeds of 19.9% stake could be in the range of $836 million to $1 billion based on Fitch's assumed pro forma mid-cycle EBITDA of $1.3 billion for Alcoa, a 4x-5x enterprise value multiple and Alcoa's long-term debt of $1 billion. Fitch calculates Alcoa's operating EBITDA for the LTM March 31, 2016 at $1.2 billion.

Fitch calculates that Alcoa generated operating EBITDA of $1.8 billion in 2015 down nearly $400 million from $2.2 billion in 2014 mostly related to the decline in LME aluminum prices to $1,661/tonne on average in 2015 from $1,867/tonne in 2014. ParentCo guides that 50% of third-party revenues are exposed to the LME price and that a $100/tonne change in the LME price affects Alcoa's EBITDA by about $210 million. LME aluminum prices for the first half of 2016 averaged about $1,543/tonne compared with Fitch's mid-cycle price assumptions of $1,600/tonne for 2016 and $1,700/tonne in 2017 and 2018. Fitch believes FFO gross leverage of 3x and below at Alcoa is achievable under the proposed capitalization and would be consistent with a strong non-investment-grade rating.

PENSION CONTRIBUTIONS

The Form 10 did have a pro forma $2.2 billion adjustment for the allocation of pension and OPEB liabilities to bring Alcoa's these to $2.6 billion. Arconic will retain the remaining $3 billion. The call following the filing provided further details as follows: Alcoa's cash outlay for the global pension plans is expected to be around $165 million in the first year and $230 million in 2018; the ERISA funding levels for Arconic should be around 90% and for Alcoa the funding level will be above 90%. Alcoa will have more retirees and the pension fund will have higher near-term cash needs.

On average over the past five years, pension contributions have been very close to net periodic benefit costs. As of Dec. 31, 2015, the minimum required contributions for ParentCo's pension fund are estimated to be $300 million for 2016, $375 million for 2017, $475 million for 2018, $425 million for 2019, and $575 million for 2020. Based on guidance provided during the June 29, 2016 call, Arconic is to contribute roughly $210 million in 2017 and $245 million in 2018. Fitch assumes that costs and contributions are roughly similar and costs are included in EBITDA assumptions.

KEY ASSUMPTIONS

--The separation occurs at the end of 2016, cash is apportioned evenly;

--The EPS and TCS businesses are expected to benefit from the acquisitions of Firth Rixon, TITAL and RTI International as well as internal growth;

--Arconic sales grow at 3% per annum on average and EBITDA margins are 14%;

--Free cash flow (FCF) generation will remain a goal of Arconic but that growth capital expenditure opportunities and maintenance of dividends will keep levels modest;

--There will be no cash distributions to shareholders solely as a result of the transaction.

RATING SENSITIVITIES

NEGATIVE: Future developments that may, individually or collectively, lead to negative rating action include:

--Resolution of the Alumina counterclaim gives rise to greater than anticipated net debt at Arconic as a result of the separation;

--FFO adjusted net leverage expected to be sustainably above 3.3x;

--FCF negative in the amount of $200 million or more on average.

POSITIVE: Future developments that may lead to a positive rating action include:

-- FFO adjusted net leverage at the issuer expected to be sustainably under 2.5x-2.8x;

-- FCF positive on average.

LIQUIDITY

Alcoa has announced $750 million in asset and investment sales this year; proceeds of $241 million were received in the first quarter. At March 31, 2016, ParentCo's $4 billion revolver maturing July 25, 2020 was fully available and cash on hand was $1.4 billion. The revolver has a covenant that limits consolidated indebtedness to 150% of consolidated net worth.

Fitch estimates near-term scheduled debt maturities as of March 31, 2016 at Arconic were: $23 million in 2016, $754 million in 2017, $1 billion in 2018, $1.1 billion in 2019, and $1 billion in 2020. Fitch anticipates that internally generated cash flow, cash on hand and proceeds of the 19.1% Alcoa stake will be sufficient to repay the 2017 and 2018 maturities.

Fitch anticipates that Arconic's revolver will be downsized and unsecured with standard maintenance covenants such as maximum leverage based on net debt-to-EBITDA which may initially limit availability. Fitch estimates that consolidated net worth for Arconic will fall to about $4.8 billion, which would result in expected debt above 150% consolidated net worth, initially.

COMPANY PROFILE

Earnings and cash flow benefit from ParentCo's leading positions in aluminum, key aerospace, automotive and construction markets, strong control of costs and spending, and the flexibility afforded by the scope of its operations. Alcoa benefits from being vertically integrated and geographically diversified. Arconic benefits from scale in research and development, past restructuring efforts, and growing end-market demand.

FULL LIST OF RATING ACTIONS

The the following ratings have been removed from Rating Watch Evolving:

--Long-Term IDR at 'BB+';

--Senior notes at 'BB+'

--$4 billion revolving credit facility at 'BB+';

--Series A preferred stock at 'BB-';

--Series B preferred stock at 'B+';

--Short-Term IDR at 'B';

--Commercial paper at 'B'.

The Rating Outlook is Stable.