Why Ford Might Be A Safe Investment For Steady Returns?

Ford Motors (NYSE:F) is looking to transform itself into an “Auto and Mobility” company, as seen in the recent investment in mobility initiatives such as its recent acquisition in Pivotal, a cloud based software company. Also of note is its launch of “Ford Pass”, part of its Ford Smart Mobility solution.  That said,  its stock price is not factoring any value for growth beyond the actual reported EPS of $ 1.84 for the financial year 2015 (despite an annualized EPS of $ 2.44 for 2016, based on Q1 2016 results). If we assume that the company will be able to maintain this EPS (achieved for financial years 2015) till perpetuity, using a discount rate of 9.9% (Ford’s Cost of Equity as per our estimates), we can arrive at a valuation of $18.58 (1.84/9.9%) for the company, which is much higher than its current stock price and our price estimate of $ 13.67.  This suggests that, in line with our expectations, the market expects Ford’s EPS to decline in the future, such that the EPS of $1.84 achieved in 2015 will be unsustainable in the long run. Ford has an established presence in the U.S. and the company is working towards establishing its Lincoln model in China. Its mobility efforts should also bear fruit in the long run, improving its profitability. If via these efforts the company is able sustain its EPS at 2015 levels (or even slightly lower), there can be an upside to our price estimate. In the meantime, as the company continues to declare dividends, at a nearly 5% dividend yield, Ford appears to be a safe investment for steady returns.

Steady Revenue Growth But Net Income Can Decline In Future

We expect Ford’s revenues to increase steadily at an average of around 3% over our forecast period.

As per our estimates, the Lincoln segment will see the most significant growth over our forecast period, with an average growth of more than 10% between 2016 and 2022. However, given that this segment accounts for only 5% of the total revenues of the company, the overall growth in revenues will be lower, in line with the growth in its other divisions, such as the North America Trucks segment, International segment and its vehicle loans and leasing segment.

While we expect the company to maintain its gross margin of our 23% over our forecast period, an increase in indirect expenses will lead to a declining trend in net income and consequently EPS over our forecast period.

However, operating leverage and higher revenue growth can enable the company to reduce its indirect expenses (or spread them over higher revenues), thus impacting net income positively.

Ford is taking several measures to grow revenues in future and is seeing an increase in demand in China. Its operations remain strong and we expect revenues to continue growing in the future with a stable gross margin. Higher capital expenditure can lead to lower cash flows as the company expands in China, but it should continue its steady dividend policy.  With a strong foundation to build upon, the company appears as a safe investment with steady dividends in the near term and capital appreciation in the longer term.

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