- Ford's financials are strong as shown by its dividend payout ratio, free cash flow and interest coverage ratio.
- Year to date, Ford has performed better than it did in 2015, with higher operating margin and higher pre-tax results.
- With a dividend yield higher than its borrowing costs, Ford may soon initiate a share repurchase program further protecting its dividend.
A few weeks ago, Amigobulls contributor Jack Foley wrote that he believes Ford Motor Company's (NYSE:F) dividend is at risk due to declining auto sales. A basis for Mr. Foley's hypothesis was Ford's past history in cutting their dividend when auto sales fell (1980, 1982, 1991, 1992, 2002 & 2006). While Mr. Foley presented numerous supporting data points, I disagree and do not believe Ford's dividend is at immediate risk of a cut. In the analysis below I will discuss why Ford is not likely to cut its dividend within the next 2 years.
Dividend Payout Ratio Is Low
Companies that are at risk of cutting their dividend often have high payout ratios, declining free cash flow per share or low-interest coverage ratios. When looking at each of these metrics, it is apparent that Ford is not at a risk of cutting its dividend.
The dividend payout ratio is the portion of net income that is paid out as dividends to share holders. Companies with a high payout ratio are allocating more money to dividends and have less money available to reinvest into their business. High payout ratios may also lead to dividend cuts as companies are no longer able to finance distributions of income. For the current trailing twelve month period, Ford's payout ratio is 28.3%, compared to 39.5% for the S&P 500. Ford's payout ratio is significantly lower than the S&P 500; Ford is at a lower risk of cutting its dividend than the S&P 500 is, as an aggregate.
Free Cash Flow Per Share & Interest Coverage
Free cash flow per share is a commonly used measure to gauge a company's ability to repay debt, pay dividends, repurchase shares and invest in growing the business. Free cash flow is the amount of cash a company has available after spending, to maintain and grow its asset base. The cash remaining can be used for dividend payments, share repurchases, etc. Companies with increasing amounts of free cash flow per share have a stronger ability to increase their dividend, repurchase shares, etc.
The interest coverage ratio is a company's EBIT (Earnings Before Interest & Taxes) divided by its interest expense. A low interest coverage ratio means a company is spending a large portion of its EBIT for interest expense on debt. Companies with a high interest coverage ratio have more EBT (Earnings before taxes) remaining after interest expense.
As shown below, Ford has drastically increased its free cash flow and free cash flow per share since 2012, and is only paying out a small portion as dividends. Ford has a lot of flexibility to continue paying dividends with its free cash flow. Ford's interest coverage ratio has also increased, meaning the company has a lower interest expense burden.
As the financial metrics above illustrate, Ford is unlikely to cut its dividend.
Sales Drop Not A Threat
The following data points are taken from Ford's 2016 second quarter 10-Q filing. Ford's North America division produces the vast majority of the company's profits with the United States being the largest market inside North America. How are sales performing in the US Market? According to Ford's monthly sales report, year to date total sales in the United State are 1.9% higher in 2016 than they were in 2015. The company does not disclose monthly sales for non US geographic markets.
Ford's North American unit, the business that produces the vast majority of the company's profits, is performing well. How is the overall company performing? Year to date revenue is up 8% to $72.2 billion vs $66.9 billion year ago. Year to date operating margin has increased 200 basis points to 8.7% from 6.7%. Year to date pre tax profits are 40% higher for 2016 than 2015 ($6.29 billion vs. $4.48 billion).
Ford is performing better this year than last year. The latest 10-Q filing and monthly sales report show that Ford is not likely to cut its dividend in the near future.
Last November, Ford's CFO Bob Shanks stated the company plans to return more value to share holders, possibly through a share repurchase authorization. Ford is currently paying 5% (dividend yield) on its shares outstanding, has a low interest expense burden (interest coverage ratio) and plenty of free cash flow. Ford is more likely to repurchase shares than reduce its dividend. If Ford can borrow at less than 5% the company can repurchase shares that yield 5%.
What are Ford's borrowing costs? According to MorningStar, on many of Ford's debt issuances the company is paying less than 5%. The highest yield to maturity is 7.43% and the majority are less than 5%. Ford can pay 4% for debt and use that debt to repurchase shares that currently yield 5%. Share repurchases would reduce the number of shares outstanding and reduce the amount the company spends on future dividends thus making a dividend cut less likely.
In conclusion, Ford is unlikely to cut its dividend in the near future. The company's financials are strong, as proven by its increasing free cash flow, low payout ratio compared to the S&P 500, and increasing interest coverage ratio. The company overall is performing better in 2016 than in 2015 with increased operating margin and higher pre-tax results. The United States, Ford's biggest market in its largest profit center, has sold more cars year to date in 2016 than it did in 2015. Finally, with a current 5% dividend yield, increasing free cash flow and low interest coverage ratio, Ford may soon initiate a share repurchase program that further protects the dividend.
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