Earnings Preview: Higher Operating Margins Could Offset The Impact Of Product Overhaul At Ford

July 21st, 2014 by Trefis Team
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F: Ford Motor logo
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Ford Motor

Ford Motors (NYSE:F) is scheduled to announce its Q2 FY14 earnings on July 24. The company finished 2013 on a high, recording an 18th consecutive quarter of pre-tax profit and its automotive division posted an unprecedented cash flow of $6.1 billion for the full year. However, shares of the automaker fell soon thereafter when the company announced that it expects its margins to face a downward pressure in 2014. For 2014, the automaker anticipates the full year profits to be in the region of $7 billion to $8 billion. [1] The cautious guidance on profits reflects the company’s plans for a comprehensive re-haul of the company’s product line up. In 2014, the automaker will roll out 23 new models globally, the most aggressive product launch made by the company in its history.

We have a $18.66 price estimate for Ford, which is about 10% more than the current market price.

North America To Deliver Most Of The Profits

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In the first quarter, Ford’s North American wholesale volume declined by 2%, while its revenues declined by 5%. The decline in revenue is explained by reduced wholesale volumes, a higher sales mix of lower priced cars and unfavorable effects of a weak Canadian dollar. The operating margin for region was 7.3%, a decline of 3.8 percentage points from 2013 and pre-tax profit was $1.5 billion, about 37.5% lower than last year’s record profit. [2] Ford’s total U.S. market share was 15.3% in the first quarter, a decrease of 0.6% from a year ago. This drop reflects the planned reductions in daily rental sales and lower small car retail share. [3]

These results are highly significant for Ford as not only is North America the biggest market in terms of sales, it is also the most profitable. In the second quarter, Ford’s vehicle sales declined by roughly 1% compared to the same quarter in the previous year. [4] This should limit the company’s revenue growth from the region, but if the company can improve its operating margin compared to the previous quarter it would still be a strong performance in the second quarter. Even though Ford’s overall sales in North America have declined slightly, the sales of its best selling full-size pickup truck, the F-Series, have been strong. [5] The company has been undertaking a program to retool some of its factories in order to make trucks with aluminum bodies, for which the company shut down production temporarily at some of its factories. In order to compensate for the drop in production, the company sold inventory worth 100 days to its dealerships. Sales of the F-series have experienced a boost due to this surge in supply, and the automaker has managed to achieve this at the highest average transaction prices among the competing trucks. As a result, Ford’s operating margin in the region could see an increase to reach the high single digits.

European Operations Could Improve Further

In Europe, the company expects reduced losses as the European transformation plan remains on track to achieve profitability by 2015. The year started off poorly for Ford in Europe, but a spate of model refreshments and new introductions have helped the automaker outperform the broader market in the last few months. Ford had earlier aimed to introduce a total of 15 new or refreshed models in Europe over the next five years, but now plans to raise that figure to 25, starting with the debut of the affordable SUV EcoSport early this year. [6] In addition, the European built Mustang will be introduced this year as well. The automaker is also adding a premium car Vignale to its product portfolio, which the company believes should improve its image. It is highly critical that brand Ford resonates positively with Europeans. A strong brand will help Ford accelerate sales whenever the market starts consolidating again.

The European auto market is slowly recovering from sharp drop off in demand following the Sovereign Debt Crisis. In June, new car sales increased by nearly 5%, spurred on by discounts and Government-sponsored incentives. [7]  However, the recovery has been spread out unevenly across countries in the region. Demand in the regions biggest market, Germany, has been shrinking while other large economies, such as the U.K., France, Netherlands, have all experienced gains. Ford generates nearly 55% of its total sales in Europe from Germany and the U.K. The latter is the most important market for the company in the region as Ford currently holds a 14.5% market share in the region.

Chinese Sales Keep On Surging

Ford’s sales in the country were so strong in 2013 that the automaker overtook Honda and Toyota as the fifth largest shareholder of auto sales by foreign companies in the region. Ford’s sales have shown continued strength in 2014 as well as the company recorded a 45% expansion in the first quarter of 2014. The company is set to overtake Nissan and Hyundai in the region. [8]. Vehicle sales were boosted by the introduction of seven new or refreshed models including the EcoSport, the Kuga, the Fiesta and the Mondeo, which appeal to the value seeking Chinese customers. With close to a million unit sales, China has now become one of the biggest markets for Ford.

It is also important to note that sales growth in 2013 was unusually higher due to the introduction of a number of new, mass-appealing vehicles. We expect this trend to continue as the company has announced that it plans to add 15 new models to its fleet in China. [9]  With a number of higher end models still to be introduced (such as the Lincoln brand), the next set of vehicle introductions should have a greater contribution towards the profits, if not towards the unit sales growth. The numbers coming out of China so far seem to confirm these expectations. Changan Ford, Ford’s passenger car joint venture, reported a 39% increase in sales for the first half to ~286, 000 units while Jiangling Motors Corp., the company’s commercial vehicle unit in China, recorded a 21% sales increase in the first six months to ~133,000 vehicles. [10]

See full analysis for Ford Motors

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Notes:
  1. Ford Cautions About Earnings Growth, December 18, 2013, wsj.com [↩]
  2. Ford Motors’ CEO Discusses Q1 2014 Results, Seeking Alpha, April 2014 [↩]
  3. Ford Motors’ CEO Discusses Q1 2014 Results, Seeking Alpha, April 2014 [↩]
  4. U.S. June Auto Sales Keep Climbing, Wall Street Journal, July 2014 [↩]
  5. Top 20 vehicles: Ford F-Series wins sales race, USA Today, July 2014 [↩]
  6. Ford’s profit goal for Europe in reach, Odell says, November 22, 2013, europe.autonews.com [↩]
  7. European Car Sales Continue Bumpy Recovery, Wall Street Journal, July 2014 [↩]
  8. Ford Close To Passing Nissan, Hyundai In China After Sales Surge, Bloomberg, April 2014 [↩]
  9. Ford Mustang Gallops Into China, IOL Motoring, April 2014 [↩]
  10. China sales surge for GM, Ford in first half, USA Today, July 2014 [↩]