- Ford beat consensus in Q3, but operating margins took a huge hit due to a recall charges and launch expenses.
- However, Ford has kept its $10.2 billion pre-tax guidance figure intact for 2016. It will need a strong fourth quarter to achieve that.
- The dividend payout ratio has to be watched. It seems that Ford will cut the dividend swiftly if headwinds remain. Is your dividend safe?
Ford (NYSE:F) actually beat consensus estimates and reported earnings of $0.26 for its 3rd quarter 2016. Investors had been warned that this quarter would not contribute much to earnings for this year. Personally, I believe Ford stock is in a precarious position at present, due to currently elevated investments. Probably, the economic cycles of auto sales in North America are also one reason for that. On the earnings call, the management tried to emphasize the strong performances in the Asia-Pacific region, specifically China, apart from Europe. Ford's woes in Europe appear to be ending, as the company brought in almost $140 million before taxes in the third quarter. In fact, the auto manufacturer meaningfully increased its market share in the commercial segment in this region last quarter, which is encouraging. Furthermore, the company reported record earnings in the Asian-Pacific region, where China sales increased substantially due to price cuts and incentives. However, the market has always valued this stock based on its operations in North America and I don't think this will change in the near term. So, should you buy Ford stock now?
Not All Q3 Earnings Headwinds Are Temporary
We didn't see much change in the share price post earnings, because the management kept its $10.2 billion pre-tax guidance figure for 2016 intact. The management again said that 2016 would be the second-best year (earnings wise) for the company since the turn of the century. However, the market is more concerned about where earnings and sales are going in the near-term. In fact, the management attributed the 50% drop in 3rd quarter EPS, to temporary factors. Firstly, you had the $599 million recall charge which actually came in cheaper than the $640 million figure Ford stated last month. I agree that this cost will be temporary as these respective door latches were changed under warranty.
However, where I don't agree with the management is on the investment side of the business. Ford Super Duty pickups definitely hurt earnings last quarter, since the company had to deal with launch costs and supplier issues. Nevertheless, with big investments due to come in electrification, autonomy and mobility, I believe investors need to get used to lower earnings, especially in the near term, due to higher costs. So yes the super duty pickup series may have generated significant costs in the third quarter, but it's only a sign of things to come with regard to elevated investments.
Rising Oil Prices Could Dent High Spec Truck Sales
The super duty pickups (especially the high spec models) are really profitable and will need to make a big impact in the truck segment over the next 12 months. Why? Because volume and operating margins declined significantly in the third quarter due to dealers being overstocked and too many fleet sales occurring compared to retail sales. F-150 truck sales continue to remain under pressure with the company having to respond by temporarily suspending production at multiple plants. The management passed off this trend by stating that it was the normal course of action due to the F-150 being now over 12 months old. Again, I'm not so sure that this is a temporary factor because the price of oil is linked to sales growth in pickups and SUV's. Therefore, if the price of oil keeps rising as it has been doing since February this year, then I expect to see Ford's higher end trucks under pressure, which would cripple margins.
Dividend Investors Need To Watch The Payout Ratio Closely
In terms of the dividend, the company paid out $600 million in dividends in the third quarter. On the surface, this may look fine, as third quarter net income came in at almost $960 million, but we all know how numbers can change so quickly in this sector. Just a $0.01 hike in the quarterly dividend next year would add at least $150 million to the annual dividend payout. Remember earnings estimates in 2017 are much less at $1.52 a year, so the dividend could come under pressure if low operating margins persist. Ford will need its international markets to really step up, despite the Brexit event, which will probably put pressure on sales in that market over the near term.
To sum up, I stated in my preview that Ford will need to deliver convincing results to stabilize the stock. However as the chart illustrates above, the stock has been in a downward spiral for many months now. I would again caution investors from being lured in by the high dividend here. Wait for a swing and more favorable fundamentals before considering going long this stock.
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