- Ford shares are lower by 3% after disappointing quarterly earnings, dragged down by warranty expenses and weather.
- Ford lost share in North America and is seeing pricing pressure, which was very disappointing given GM's recall problems.
- Asia has become a major growth market while Europe continues to improve and should reach breakeven this year.
- Under $16, shares are cheap, but management failed to execute, and shares will likely remain range bound.
Ford (NYSE:F) shares are trading lower by 3% early on Friday after the company offered pretty mixed results. It is important for investors to remember that 2015, not 2014, is critical for the bull thesis in this stock. This year the company is launching 23 new products, which will be a headwind for revenue. In 2015, these new products will be selling for the entire year, which should lead to appreciably higher results. Nonetheless, 2014 results are still important, and this quarter was simply disappointing.
Ford announced earnings of $0.25 compared to consensus of $0.31 (all financial and operating data available here). Net profits were down 39% year over year due in part to an additional $400 million in warranty reserves and another $400 million from Venezuela's currency devaluation. Revenue was solid at $35.9 billion, which solidly beat estimates by $1.84 billion. Still after General Motors (NYSE:GM) beat earnings solidly yesterday despite headwinds from the recall, I was hoping for unequivocal strength from Ford. We didn't see that, and Ford's operating margins are not improving as fast I had hoped. On the positive side, Ford reaffirmed its target of $7-8 billion in pre-tax profits this year, though this guidance was typically seen as pretty conservative to begin with.
Ford noted that factors like weather, warranty, and Venezuela cut pre-tax profit by $900 million or about $0.17 per share. Still, factors like Venezuela were well known and factored into quarterly estimates. Many of the other Latin America economies are facing problems too, and foreign-exchange will likely put downward pressure on these results for the remainder of the year. Ford also saw weakness in Russia, and if there were broad based sanctions enacted, results in this nation could be significantly worse in coming quarters.
On the positive side, wholesale volume was up 6%, but revenue was only up 1% from last year. In other words, the company had a lower average selling price. This in part is due to stronger results in Asia where vehicles have a lower selling price. The company now has record market share in China, and its Asia Pacific unit reported record profits. Still, there are concerns about increasing promotional activity in North America, which would pressure margins. Investors should continue to watch average selling price to make sure the company is not losing pricing power in this highly competitive market.
In North America, wholesale volumes fell by 2.4% to 717,000 vehicles, and revenue was down an even steeper 5%. Market share was down 0.6% to 15.3%. Given GM's brand problems, I am looking for Ford to be a market share gainer, so this steep of a decline is definitely disappointing. Operating margin fell to 7.3%, though this was negatively impacted by the warranty costs. I am hoping that the aluminum F-150 and other new products will help Ford increase market share in the second half of the year, but this decline was troublesome.
On the other hand, Ford is seeing some strength internationally. Volume in Europe was up 11% to 367,000 vehicles as market share increased by 0.3% to 8%. Ford cut its loss in Europe in half to $194 million. By the end of the year, I expect Ford to be at breakeven in Europe unless a serious trade war develops with Russia, which would put downwards pressure on results. The European economy is healing, and Ford has eliminated enough capacity to return to profitability on the continent in 2015.
Asian volume was up a stellar 32% in the quarter. Ford was a bit late to get into China, but it is starting to see significant traction in the country. This is a case of where it's better late than never. Wholesale volume in China was up 45%. Operating margins were a truly robust 11.1%. In the entire region, Ford increased its market share by 0.7% to 3.4%. As the company ramps up capacity to meet growing demand, we should see tremendous profit and sales growth. Ford turned a $291 million pre-tax profit compared to a loss of $28 million last year. 2014 profits should be up dramatically year over year, and Asia has finally become a major growth engine for the company.
Ford does remains a cash machine. It generated operating cash flow of $1.2 billion, and gross cash stands at $25.2 billion. Its automotive unit has a net cash position of $9.5 billion. With its pristine balance sheet, Ford should continue to increase its dividend every year, and it might even have the flexibility to launch a small share buyback, which would be accretive with shares trading under $16.
After the results, I expect Ford to earn $1.40-$1.50 this year, and at least $1.90 in 2015 when revenue will be more normal after this year's numerous product launches. Under $16, Ford shares are definitely cheap, especially compared to 2015 earnings. However, this quarter was a mixed bag. Execution in North America was weak, and the market share decline was very disappointing. Europe continues to get better, and Asia is definitely strong. Without improvement in North America though, the company will struggle to grow and meet my optimistic 2015 outlook.
With a solid 3% dividend and low multiple, the stock is not expensive. However, I would not rush to buy on the dip. There is no real catalyst to push shares higher in the near-term especially with CEO Alan Mulally preparing to retire. I am going to hold my shares because the stock is cheap, and I remain optimistic about its long-term growth prospects. For shares to get to $18 or higher, we need to see improvement in North America, which we are not. Shares will likely remain trapped in the $15-$17 range. By no means was this quarter disastrous, but it was definitely disappointing. There is no rush to buy Ford after these mixed results.