Ford’s European Woes Are Not Going Away Anytime Soon

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Ford Motors (NYSE:F) is planning to shutdown its Belgium plant as part of its restructuring of operations in Europe. The U.S. auto maker has lost nearly $4 billion in its European operations since the beginning of 2012. That accounts for over 25% of its diluted earnings during that period. The closing of the Belgium plant is estimated to save around $400 million per year for the company, or about 10 cents a share. [1] Ford has been trying to cut costs and reduce its production capacity in order to break even in Europe for the last couple of years. The company expects to break even in the continent in 2016. The company has guided for a loss of $250 million for next year, a figure that is much lower than the $1.5 billion loss in 2013 and and the $1.7 billion loss in 2012.

Between 2007 and 2012, Ford’s sales in Europe fell by 20%. As a result, the company had to re-configure its operations in the region. This involved the closure of many facilities, elimination of much of its workforce, and a reduction of capacity by around 20%, in addition to having to replenish its car line-up in the region. [2] Ford has as many as 2,400 dealerships throughout Europe but the sovereign debt-crisis plunged the company’s operations in the region into severe doubt and uncertainty. Rising public debt and worsening unemployment meant that the European car market fared poorly for much of the last 5-7 years, affecting the company’s profitability.

High Underfunded Pension Obligations

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One reason for the collapse of Ford’s European operations is the slowdown in Europe’s third biggest market, Russia. The Russian market has has spiraled downward in 2014, as the Ruble has collapsed by 40% since June and auto sales have declined by 12% on a year-to-date basis so far. In addition to the sales slump, the other factor which has contributed quite significantly to Ford’s woes in Europe is its underfunded pension plan.

Ford’s pension plans are structured in such a way that its pension obligations increase when interest rates fall. When interest rates are low, the auto maker is forced to contribute more cash to its pension fund because expected returns are low. Compared to the U.S., where the economy has recovered much faster from the recession and interest rates have risen along with the recovery, the interest rates and discount rates in Europe have remained low, keeping Ford’s underfunded pension obligations higher.

Signs of Recovery

Through the first six months of 2014, nearly half of the sales made by Ford in Europe were of new or significantly refreshed vehicles. The fact that newer designs are selling better bodes well for Ford’s top and bottom line in the region. Additionally, the company is planning to push the Ford brand into the European luxury car market by launching higher-end versions of its mass-market models under the Vignale label in the continent. These cars will be targeted at more affluent customers of Ford cars and those looking to purchase luxury cars for the first time, but it will also attempt to steal some customers from other premium car makers, BMW, Mercedes, and Audi. The announcement has been greeted with some skepticism but the Ford management remains confident, pointing out that one in six owners of Ford’s S-Max model previously drove a German luxury car. [3]

The Vignale trim line will come in similar prices like an ST model but are likely to attract a different type of customer. Consumers in the upper 15% of the ST’s price band who don’t want a performance-oriented ST model are the likely buyers of cars launched with the Vignale badge. These cars will be about 10% more expensive than Titanium-trim cars. Ford expects 10% of its European sales to be Vignale cars, which translates to about 5% of its global sales. Instead of focusing on performance by tuning the engine, brakes and suspension, like Ford does with its ST line, the Vignale will offer users luxurious attributes such as a unique chrome molding, leather interiors, a unique exterior color, and Ford’s latest infotainment technologies. In addition, buying a Vignale will confer the privileges of a special ownership experience that is said to include free car washes for the car’s lifetime. Customers will also have a single dealership contact to help them deal with product and service needs. The company will also hope that the Vignale label can enhance the appeal of cars like the Mondeo midsize saloon and the S-MAX MPV as it renews its European model line-up. [4]

This move signals a shift in Ford’s European strategy. The company is now looking to move cars at higher prices instead of focusing on volumes. The automaker is trying to increase the share of sales to retail and company-fleet buyers, who purchase cars at higher prices, while reducing the share of less profitable sales to rental-car companies. This might also come at the expense of market share. The company has emphasized that it plans to focus on the quality of its market share and sales channel mix, to achieve a higher share of the fleet segment.

Additionally, the way Ford markets its cars in Europe will change too. Vignale cars will be differentiated from other cars, even though they will be produced on the same production lines as the cheaper versions. Special customer lounges will be set up at 500 of its 2,400 dealerships in Europe, these will have exclusive rights to the Vignale label. [5] The company has announced the end of its 21-year partnership with the UEFA Champions League. The UEFA Champions League is a soccer competition that is watched worldwide and gave the company plenty of visibility. It is estimated that the competition made the brand visible to 300 million TV and online viewers in over 200 countries. The company will now shift its focus to digital communication to sell the brand. [6]

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Notes:
  1. Ford shuts doors at Belgium plant, Automotive News, December 2014 []
  2. Ford Attacks Europe Woes As Losses Mount, Forbes, October 2012 []
  3. Ford’s Upscale Push In Europe Draws Skeptics, Reuters, May 2014 []
  4. How and Why Ford Is Rolling Out Vignale In Europe, Autoblog, October 2013 []
  5. Ford’s Upscale Push In Europe Draws Skeptics, Reuters, May 2014 []
  6. Nissan To Replace Ford As Champions League Sponsor, Reuters, April 2014 []