To be blunt, the guidance Ford (F) Motor Co. gave on December 18th, 2013 was a shocker: coming into that morning, consensus analyst expectations for calendar 2014 was that Ford would earn $1.85 per share.
Following the guidance, the 2014 forward estimate fell to $1.43, or a drop of 22% in the 2014 EPS consensus. The reasons Ford gave for the tempered 2014 expectations:
1.) Ford is expected to roll out over 20 new products across all global markets in 2014, and with the 12/18/13 call, noted that product launch costs for 2014 would be an additional $1.5 billion, which translates into $0.36 - $0.37 per share or roughly 90% of the EPS share reduction;
2.) q4 '13 warranty costs around the Escape cost Ford another $300 million, which helped lower the q4 '13 estimate from $0.37 to the $0.28 per share currently expected for q4 '13;
3.) South America and the currency instability was an issue as far back as mid-December, which contributed to a weaker 2014 forecast. The news last week of the Argentinian peso devaluation only validated Ford's December caution.
When Ford reports their calendar q4 '13 financial results Tuesday morning, January 28th, 2014 before the bell, analyst consensus is now expecting earnings per share of $0.28 (vs. $0.31 last year) on revenue growth of 2%.
That is the problem with manufacturers like Ford that have a high degree of operating leverage: revenues look fine, but the change in costs has resulted in a big swing in EPS.
Here is the thing: we remain long all of our Ford position since we learned with Europe this year that management tends to guide severely and then outperform. On the q4 '12 conference call in early 2013, Ford guided to a $2 billion or $0.50 per share loss in Europe for 2013, when in fact as of the q3 '13, Ford's year to date loss was just $1 billion in the first nine months.
Frankly, as an investor, Id rather have UPOD (guide conservatively and then do better-than-expected, or under-promise and over-deliver) than OPUD or over-promise and then under deliver.
As it stands today, per ThomsonReuters consensus, Ford's EPS is expected to decline 8% in 2014 on 1.5% revenue growth.
The stock is trading at 11(x) the now-lowered '14 EPS and 8(x) the 2015 consensus of $2.06 on 1.5% and 7% expected revenue growth. The p.e valuation is a little high although not much. Pre Mullaly, like in the late 1990's and last decade, Ford typically traded at roughly half the p.e of the SP 500, which puts fair value on a p.e basis at 7.5(x). However Ford's pre-tax auto margin today is a record high, so the p.e deserves to be higher too.
The enticing part to Ford's valuation is the cash-flow. Ford currently sports an 11% free-cash-flow yield, and the Board just increased the dividend, but they aren't buying back very much stock.
I'm not sure given Ford Finance, they may do the same kind of dividend increases and share repo's they did in the past.
The Financial world changed in 2008: there are much tougher controls on all financial enterprises and the captive finance companies are no exceptions.
As of 9/30/13, Ford is only returning 20% of their free-cash-flow to shareholders (one of the lowest percentages in our universe) in terms of the dividends and share repurchases. However if we look at just auto free-cash-flow, 70% of auto free-cash is being distributed.
That still leaves more room for Ford on the dividend and to repo stock, but they may want to depend far less on Ford Motor Credit going forward, in terms of capital allocation.
In addition, looking at the regional distribution given what happened to Argentina this week, South America is just 6% of Ford's total revenues and 8% of pre-tax income.
We are going to continue to hold our Ford shares in client accounts. While we expect that Europe will end up 2013 better-than-expected, and we do think the launch costs will come in better-than-expected in 2014, the recent currency instability might have Ford guiding even more cautiously come Tuesday, January 28th.
The cash-flow valuation gives Ford management a lot of options.
Solid technical support exists for Ford stock in the neighborhood of $15 per share.
Our internal based model values Ford at $22 per share, while Morningstar's intrinsic value model, puts a fair value on Ford at $26, which leaves the stock trading today at a significant discount to fair value still.
Expect caution on Tuesday morning in terms of 2014 guidance, but we continue to like Ford longer-term for decent appreciation.