Why Ford Expects Lower Profits In 2017
Ford Motor Company (NYSE: F) lowered its guidance for pre-tax profit for the fiscal year 2017 by 16.6% or $ 300 million on lower expected profits of the company’s financing division. The U.S. auto maker’s financing division offers lease contracts to buyers of Ford’s vehicles. The value of these contracts depends upon the expected residual value of the vehicle at the expiry of the lease period: the higher the expected residual value, the higher the value of the lease contract, and thus Ford’s expected pre-tax profits for its financing division.
The residual value of a leased car in turn depends upon the value it can command in a used car auction. Simple supply and demand dynamics apply here: lower supply of used cars means that the cars command a higher residual value and higher supply means that auction prices are pushed downwards. In recent years, Ford’s competitors have been working extremely hard to control the channels through which their cars are sold in order to keep the supply of used cars down and hence raise the potential profitability of their financing arms.
However, in Ford’s case, a large number of vehicles in recent years have been sold via the company’s leasing program. This is good since it allows the company to sell more units of higher priced vehicles. However, in the next few years, a glut of used cars is expected to arrive on the used car market. This would mean that their residual prices would be much lower. Additionally, any new models sold via lease contracts would also have low residual prices, thus pushing down the value of lease contracts. It is for this reason that the company has lowered its pre-tax profit guidance for the year 2017 from $ 1.8 billion to $ 1.5 billion.
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Notes:
1) The purpose of these analyses is to help readers focus on a few important things. We hope such lean communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for Ford Motor
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