# How Do You Calculate Alcoa (AA)'s Graham Number?

Many investors turn to Benjamin Graham's so-called “Graham number” to calculate the fair price of a stock. The Graham number is √(22.5 * earnings per share * book value per share), which for Alcoa gives us a fair price of \$59.25. In comparison, the stock’s market price is \$46.5 per share. Alcoa’s current market price is -21.5% below its Graham number, which implies that there is upside potential -- even for a conservative investors who require a significant margin of safety.

The Graham number is often used in isolation, but in fact it is only one part of a check list for choosing defensive stocks that he laid out in Chapter 14 of The Intelligent Investor. The analysis also touches on the following points:

Sales Revenue Should Be No Less Than \$100 million.

For Alcoa, average sales revenue over the last few years has been \$11,318,500,000, so according to the analysis the stock has impressive sales revenue.

Current Assets Should Be at Least Twice Current Liabilities.

We calculate Alcoa's current ratio by dividing its total current assets of \$5,026,000,000 by its total current liabilities of \$3,223,000,000. Current assets refer to company assets that can be transferred into cash within one year, such as accounts receivable, inventory, and liquid financial instruments. Current liabilities, on the other hand, refer to those that will come due within one year. Alcoa’s current assets outweigh its current liabilities by a factor of 1.6 only.

The Company’s Long-term Debt Should Not Exceed its Net Current Assets

This means that its ratio of debt to net current assets should be 1 or less. Since Alcoa’s debt ratio is 1.0, the company has an average amount of debt. We calculate Alcoa’s debt to net current assets ratio by dividing its total long term of debt of \$1,726,000,000 by its current assets minus total current liabilities.

The Stock Should Have a Positive Level of Retained Earnings Over Several Years.

In Alcoa’s case, the retained earnings have averaged \$-313,500,000 over the last 4 years. Retained earnings refer to the net income left for equity investors after all expenses have been accounted for, including dividends. It's a similar metric to free cash flow, with the difference being that earnings are calculated on an accrual, as opposed to a cash basis.

There Should Be a Record of Uninterrupted Dividend Payments Over the Last 20 Years.

Alcoa has returned a 0.9% dividend yield over the last 12 months, and before then it did not offer a regular dividend.

The Company Should Have a Minimum Increase of at Least One-third in Eps Over the Past 10 Years.

There are only 7 years of EPS data available on Alcoa, which is short of the required 10, but it's still worthwhile to consider its Eps trend over the available period. First, we will average out its Eps for 2015 and 2016 which were \$-4.73 and \$-2.19 respectively. This gives us an average of \$-3.46 for the period of 2015 to 2016. Next, we compare this value with the average Eps reported in 2020 and 2021, which were \$-0.91 and \$2.26, for an average of \$0.67. Now we see that Alcoa's EPS growth was 119.36% during this period, which satisfies Ben Graham's requirement for growth.

Based on the above analysis, we can conclude that Alcoa satisfies some of the criteria Benjamin Graham used for identifying for an undervalued stock because it is trading below its fair value and has:

• impressive sales revenue
• an average current ratio
• an average amount of debt
• a poor record of retained earnings
• a decent dividend record
• Eps growth in excess of Graham's requirements
The above analysis is intended for educational purposes only and was performed on the basis of publicly available data. It is not to be construed as a recommendation to buy or sell any security. Any buy, sell, or other recommendations mentioned in the article are direct quotations of consensus recommendations from the analysts covering the stock, and do not represent the opinions of Market Inference or its writers. Past performance, accounting data, and inferences about market position and corporate valuation are not reliable indicators of future price movements. Market Inference does not provide financial advice. Investors should conduct their own review and analysis of any company of interest before making an investment decision.