Alcoa (NYSE:AA) recently said that it would spend $300 million for the expansion of its aluminum production facility in Iowa. ((Alcoa to invest $300M to expand Iowa plant, MarketWatch)). The automotive sector is moving toward lighter materials for production in order to reduce vehicle weights and improve fuel efficiency and Alcoa is bullish on aluminum demand going forward. Alcoa is the world leader in the production and management of primary aluminum, fabricated aluminum and alumina, and its ‘green’ commitment will also help it stand out vs. competitors like Rusal, Rio Tinto (NYSE:RIO), BHP Billiton (NYSE:BHP) and Chalco (NYSE:ACH).

Our price estimate for Alcoa is $19.50, which is significantly higher than the current market price.

What the company is targeting

According to Morgan Stanley’s estimates, Alcoa sold close to 12 percent of its flat rolled products to the automotive industry in 2010. [1] The use of aluminum and other lighter materials in automotive manufacturing is on the rise and the company believes that this trend will continue in the future.

In order to meet the expected increase in demand, Alcoa is looking to increase capacity at its existing flat rolled aluminum production facility in Davenport, Iowa. The company also added that the increase in capacity at the plant will create around 300 jobs, taking total employment at the plant up to 2,400. Alcoa attributed the expansion of the Iowa mill to tax credits, research & development credits, training grants and the incentives from the Iowa state government.

Why the increased demand for aluminum in autos?

With the new fuel efficiency standard set by the Federal Government, [2] auto manufacturers are testing out new materials that can be substituted for steel to reduce the weight of vehicles and in turn increase their fuel efficiency. Aluminum and its alloys have a high strength to weight ratio, so naturally it is a a suitable substitute for steel, which is significantly heavier. The Aluminum Association, an industry group, mentioned in its report that a typical lightweight automobile uses around 330 pounds of aluminum and estimated that aluminum will contribute close to 500 pounds in lightweight autos going forward.

Efficiency is now an important metric across most industrial segments. Aluminum, a lightweight, durable and biodegradable product will continue to see robust demand going forward, which will lead to higher selling prices and strong shipments for Alcoa.