- Ford delivered excellent earnings. Less, but more efficient production platforms are improving economies of scale.
- China and Europe reported 2015 gains. The current tax credit in China will provide a tailwind for Ford in the east until the end of 2016.
- Receivables are very high and many of these loans have durations of 5 years+. The first sign of increased charge offs may be a signal to sell Ford.
Ford Motor (NYSE:F) delivered a cracking quarter for its fourth quarter 2015 results easily beating analysts estimates by some margin. Revenues came in $1.5 billion higher at $37.9 billion and the adjusted EPS of $0.58 handily beat consensus of $0.51. Full year pre-tax profit came in at $10.8 billion which was a record for the company but again the market wasn't convinced.
Although North America automotive profit margins came in at 10.2% in the fourth quarter, the company reduced its guidance for this metric to around 9.5% for FY2016. The market seems to be pricing in a top in the auto market and this combined with higher cost issues and lower margins, especially in the US, seems to be the reasons why Ford stock can't get any forward momentum. This industry is very cyclical and we are definitely due for a slowdown in auto sales any year now. Nevertheless, fourth quarter earnings reaffirmed the soundness of company's fundamentals.
Firstly the company has come a long away with respect to its production platforms. Development costs going forward should be much less than previous years as by the end of this year the auto manufacturers expect total production to be run off only 9 platforms. This is a long way from the 27 platforms the company had back in 2007. Fewer numbers of platforms ensure that Ford can respond far faster to market demand which is crucial in this industry nowadays considering the fierce competition.
This industry in the past (due to its significant investment) had very high barriers to entry but volumes have exploded in recent years which have brought value operators such as Hyundai and Kia into the mix. The big 3 Detroit automakers have been losing market share to foreign manufacturers for years so more productive platforms are key for Ford to keep expense to the minimum. Productivity and efficiency are definitely the way Ford is different to the Ford of the past. The market though isn't seeing this at present.
If the US market is going to taper off from here, Ford will need its international markets to take up the mantle in terms of growth. Europe which has been hemorrhaging money since 2012 finally returned to profit with the help of a change in its pension accounting procedures. Pre tax earnings in Europe finally entered positive territory coming in at $131 million which was a net gain of $328 million over the previous year.
Sales in Europe surged 11% to 1.3 million units illustrating that a new trend may now have formed. China's gain was bigger in that it's pre-tax profit rose to $444 million from $95 million a year earlier. China in 2015 accounted for sales of 1.1 million vehicles which was a 3% increase on 2014. China's momentum should increase due to the current tax credit in place by its government.
If indeed Ford's US market is in the process of topping, it must increase its growth rates in China and Europe. China (with a huge emerging middle class) offers probably Ford's best opportunity to grow meaningful in the near term. If growth rates can spike in the east, the market could use them to offset against predicted margin reductions in the west. China is key for Ford. The recent tax credit is a near term tailwind.
In terms of valuation, Ford stock hasn't been cheaper since the great recession as all valuation multiples are below Ford's 5 year average. Furthermore, the strong dividend looks secure considering that 2015 net income of $7.4 billion is much higher than the current dividend payout. Even if you include a 2016 hike and the special dividend of $0.25 that the company will pay out this March, dividends won't surpass $4 billion this year which will please income investors.
However what has to be watched closely is the company's receivables is the asset column of the balance sheet. Ford credit reported a pre-tax profit of $556 million in the fourth quarter (see chart) which was a 31% gainYoY. Receivables are now around $100 billion which make up almost 50% of Ford's reported assets. Up to now charge-offs have been at record lows but it is a worrying sign that auto loans are much longer nowadays ( up to 7 years which questions affordability) than in the past. A meaningful downtick in receivables may be a sign that market is topping.
To sum up, Ford reported an excellent set of earnings results which the market again ignored to a large extent. The notion of a topping market in the US combined with higher operating costs seem to be the reasons for muted sentiment. However, Ford reported gains in China and Europe and these geographies now need to take up the mantle in case the US tapers off significantly from here.