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Executives

George Sharp - Executive Director, IR

Alan Mulally - President and CEO

Bob Shanks - EVP and CFO

Stuart Rowley - Corporate Controller

Neil Schloss - Corporate Treasurer

Paul Andonian - Director, Accounting

Mike Seneski - Ford Credit, CFO

Analysts

Brian Johnson - Barclays Capital

Patrick Archambault - Goldman Sachs

Rod Lache - Deutsche Bank

Chris Ceraso - Credit Suisse

Itay Michaeli - Citigroup

Dee-Ann Durbin - Associated Press

Nathan Bomey - Detroit Free Press

Mike Ramsey - The Wall Street Journal

Adam Jonas - Morgan Stanley

Matt Stover - Guggenheim

Ryan Brinkman - JPMorgan

Karl Henkel - The Detroit News

Keith Naughton - Bloomberg

John Murphy - Bank of America/Merrill Lynch

Ford Motor Company (F) Q2 2012 Earnings Conference Call July 25, 2012 9:00 AM ET

Operator

Good day ladies and gentlemen and welcome to the Second Quarter Ford Motor Company Earnings Conference Call. My name is Katrina and I will be your coordinator for today. At this time, all participants are in a listen-only-mode. We will facilitate a question-and-answer session towards the end of the presentation. (Operator Instructions) As a reminder this conference is being recorded for replay purposes.

I’d now like to turn the presentation over to your host for today’s call, Mr. George Sharp, Executive Director of Investor Relations. Please proceed.

George Sharp

Thank you, Katrina and good morning ladies and gentlemen. Welcome to all of you who are joining us today either by phone or by webcast. On behalf of the entire Ford management team, I’d like you to thank you for spending time with us this morning, so we can provide you with additional details of our second quarter financial results.

Presenting today are Alan Mulally, President and CEO of Ford Motor Company; and Bob Shanks, Chief Financial Officer. Also in attendance are Stuart Rowley, Corporate Controller; Neil Schloss, Corporate Treasurer; Paul Andonian, Director of Accounting; and Mike Seneski, Ford Credit, CFO.

Before we begin, I’d like to cover a few items, a copy of this morning’s press release and presentation slides we will be using have been posted on Ford’s Investor and media website for your reference. The financial results discussed today are presented on a preliminary basis. Final data will be included in our Form 10-Q that will be filed next month. The financial results presented are on a GAAP basis and in some cases on a non-GAAP basis. The non-GAAP financial measures discussed in this call are reconciled to the U.S. GAAP equivalent as part of the appendix in the slide deck.

Finally, today’s presentation includes some forward-looking statements about our expectations for Ford’s future performance. Of course, actual results could differ materially from those suggested by today’s comments. The most significant factors that could affect future results are summarized at the end of the presentation. These risk factors and other key information are detailed in our SEC filings, including our annual, quarterly and current reports.

With that, I’ll now like to turn the presentation over to Ford’s President and CEO, Mr. Alan Mulally.

Alan Mulally

Thank you, George and good morning to everyone we are pleased to have the opportunity today to review our second quarter business performance and the progress we continue to make in delivering our plan.

Let’s start by turning to Slide 3. In the second quarter we delivered our 12th consecutive quarterly pre-tax operating profit generated positive automotive operating related cash flow and ended the period with strong liquidity. Wholesale volume and revenue were lower than year ago. Operating results featured in excellent pre-tax profit and operating margin in North America and another solid performance once again at Ford Credit.

Results for South America were slightly better than breakeven while Europe and Asia-Pacific and Africa incurred losses. We continue to project strong total company full-year pre-tax profit, but now expect to be lower than 2011 reflecting automotive pre-tax profit about equal to or lower than 2011 due to the challenges in Europe and South America, and lower profit for Ford Credit but in line with our existing guidance.

We are continuing to implement our ONE Ford Plan; this includes aggressively restructuring to operate profitably at current demand and changing model mix, as well as accelerated development of new products that our customers want and value.

The ONE Ford Plan has been our roadmap to the successful restructuring of our North America business, the path we followed to the recent recession, the foundation of the dramatic improvement in our automotive balance sheet and the basis of our growth strategy for Asia-Pacific and Africa. It remains our guide as we address new challenges we face today.

Let’s look more closely now at the financial highlights of the quarter. Slide 4 summarizes our second quarter business results compared with the year ago. Wholesale volume was 1.4 million units, down 72,000 units or 5%. Revenue was $33 billion, a decline of 2.2 billion or 6%. Pre-tax operating profit excluding special items was $1.8 billion; about $1 billion lower than a year ago. Earnings were $0.30 per share, $0.19 lower than last year’s earnings per share, adjusted for the tax valuation allowance release.

Net income attributable to Ford increased as unfavorable pre-tax special items of $234 million was about $1 billion, a 1.4 billion decrease. Earnings were $0.26 per share, a decrease of net income is explained primarily by lower operating results and higher tax expense related to the valuation allowance release in the first quarter of 2011. Automotive operating related cash flow was $800 million, the ninth consecutive quarter of positive performance.

We ended the quarter with $23.7 billion of automotive gross cash, exceeding debt by $9.5 billion. This is a net cash improvement of $1.5 billion compared with a year ago. In the first half, both vehicle wholesales and revenue decreased by 4% compared with the same period a year ago. First half pre-tax operating profit excluding special items was $4.1 billion, or $1.6 billion decrease. Net income was $2.4 billion, a $2.5 billion decrease.

Shown here on slide five are the other highlights from the quarter. First Fitch and Moody’s upgraded our credit rating to investment grade, triggering the release of collateral security in our revolving credit facility including the Blue Oval. We starting selling the all new Escape North America and began producing the all new B-Max in Romania. In the U.S. we added third production crews in our Chicago and Michigan assembly plants and we added a second shift at our Kansas City F Series facility.

We also completed the sale of component businesses in Saline, Michigan and Sandusky, Ohio, leaving us with only one remaining ACH operation. We won the 2012 International Engine of the Year Award for the all new one leader EcoBoost, initially launched and focused in Europe and coming to the U.S. in the near future. In China, we launched new focus in our second Chongqing facility, with availability of sync in Chinese. We also announced a new $760 million assembly plant in Hangzhou that will support our plan to double production capacity of our CFMA joint venture to 1.2 million units by 2015.

In Thailand, we opened the Ford Thailand manufacturing facility in Rayong, increasing our annual capacity in that market to 425,000 units. Now I would like to turn it over to Bob, who will take us through more details of our financial results. Bob?

Bob Shanks

Thanks, Alan, and good morning to everybody. Let's start with slide seven which walks our pre-tax operating results to net income. As Alan mentioned, pre-tax operating profit was about $1.8 billion. Pre-tax special items were a negative $234 million including losses on the sale of the two ACH businesses he mentioned earlier, as well personal and dealer actions. Additional detail is provided in appendix three.

The provision for income taxes was $557 million, and net income attributable to Ford was about $1 billion. Consistent with prior guidance, we expect our full year operating effective tax rate to be similar to 2011. Let's now turn on slide eight to our pre-tax results by sector. Total company second quarter pre-tax profit of $1.8 billion consists of $1.4 billion for the automotive sector and $447 million for financial services.

As shown in the memo, total company pre-tax operating profit was about $1 billion lower than last year, with both sectors contributing to the decline. Compared with the first quarter 2012, total company pre-tax profit decreased by about $500 million, explained primarily by lower automotive results. Slide nine highlights the key market factors and financial metrics for the total automotive business. In the second quarter, wholesale volume revenue were lower than a year ago, explained primarily by Europe.

Pre-tax operating profit and operating margin were lower as well, more than explained by lower results in Europe, South America and Asia Pacific, Africa. As shown in the memo below the chart, total automotive first half pre-tax profit was $3.2 billion with an operating margin of 5.6%, both lower than a year ago. Volume and revenue also were lower in 2011.

Slide ten summarizes the $900 million decrease in second quarter total automotive pre-tax profit from 2011 by casual factor. The profit decline is explained mainly by higher cost related primarily to product and capacity launch this year, investment for future growth and higher commodity cost including hedging effects. Market factors including reduction in stocks and exchange were also unfavorable.

As shown in the memo, pre-tax profit decreased by $400 million compared with the first quarter more than explained by higher cost. More details on the quarter-to-quarter change are included in Appendix 6.

Slide 11 shows second quarter pre-tax results for each of our automotive operations as well as other automotive. Automotive sector profit of $1.4 billion is more than explained by North America. The combined loss for our other operations was $465 million which was somewhat better than our recent guidance. The loss in other automotive mainly reflects net interest expense and an unfavorable fair market value adjustment primarily on our investment in Mazda. We expect full-year net interest expense to be between $0.5 billion and $550 million.

Let’s turn now on Slide 12 to our automotive business in North America. Second quarter wholesale volume and revenue were roughly the same as a year ago and pre-tax operating profit at $12 billion was higher than a year ago, with operating margin at 10.2% also higher. This is a second consecutive quarter with profit exceeding $2 billion and operating margin exceeding 10%.

U.S Industry SAAR increased from 12.4 to 14.4 million units while our U.S. total market share was 15.6%, 1.7 percentage points lower than a year ago. As shown in the memo below the chart, North America first half pre-tax profit was $4.1 billion with an operating margin of 10.8 both higher than a year ago. Volume and revenue also were higher than 2011.

Slide 13 shows the $100 million increase in second quarter North America pre-tax results compared with 2011 by casual factor. Profits were $100 million higher than the strong results of last year; higher net pricing, improved contribution cost and other factors were offset partially by higher structural cost for growth. And on the favorable volume and mix including an adverse change in our U.S. dealer stocks. As shown in the memo, pre-tax profit decreased by $100 million compared with first quarter more than explained by higher cost, higher volume was a partial offset.

Our outlook for North America is unchanged, we expect significantly higher full-year pre-tax profit and operating margin compared with 2011 as consumers continue to respond to our strong product line up including a recently launched all-new Escape. Next up is the all-new Fusion which launches later in a year. In addition to exciting products, we remain committed to maintaining our competitive cost structure as we grow our business.

Side 14 shows our U.S. market share. Our total market share in the second quarter at 15.6% was down 1.7 percentage points from the same period last year. This is explained by lower share in both retail and fleet segments. The lower total share primarily reflects the impact of discontinued product such as Ranger and Crown Victoria. New competitive entrance in the small car segment and Japanese competitors, rebuilding inventories after the Tsunami impact in the second quarter of last year.

Our retail share of the U.S. retail industry at 13% was down eight-tenth of a percentage point from the first quarter reflecting five-tenth of a percentage point of share performance and three-tenth of a percentage point of segmentation changes. The share performance was driven by small cars and Ranger while the segmentation change was mainly in full size pickups.

During the quarter we continue to discipline approach, we have been using in recent years to maximizing the profitability of our sales and our revenue per unit, while foregoing marginal business that will leave us without adequate supply. As a result, we ended the second quarter with our inventory in great shape and an overall adequate data supply.

We have also been focused on adding capacity this year in several facilities to support the growing industry volumes and our new product launches. Specifically, we are adding 400,000 units of annual incremental capacity by the end of this year, with most of the actions launching in the second and third quarters positioning us well going into 2013.

Let’s turn now to South America on Slide 15. Second quarter wholesale volume and revenue decreased by 12% and 21%, respectively. In addition to the lower volume and favorable exchange was a factor affecting the net revenue recline. Pre-tax profit and operating margin were slightly positive declined substantially.

South America Industry SAAR and our market share were down slightly. And as shown in the memo below the chart, South America first half pre-tax profit was $59 million, substantially lower than a year ago. Volume and revenue also were lower than last year.

Slide 16 shows the $262 million decrease in second quarter South America pre-tax results compared with the 2011 causal factor. The lower profit is explained by lower volume, higher cost and unfavorable exchange. And although net pricing was higher, it was constrained compared with recent periods, by the more intense competitive environment. As shown in the memo, pre-tax profit decreased by $49 million compared with first quarter, more than explained by higher cost, mainly structural cost related to the developing and launching new products in the region.

Although we continue to expect South America to be profitable for the full year, we now expect the level to be substantially lower than 2011. This reflects increased competitive pressures, weakening currencies and changes in government policies effecting areas such as trade and access to foreign currency.

We are continuing to work out actions, to strengthen our competitiveness in this changing environment looking at all areas of the business to improve our operating results. These actions include fully leveraging our ONE Ford plan, including the introduction of an all new line-up of global products over the next two years. Starting with the launch of Ranger, EcoSport and Fusion in the second half of this year.

Slide 17 covers Ford Europe. Second quarter, wholesale volume and revenue declined 15% and 21% respectively, reflecting primarily lower industry volume and market share along with production adjustments to maintain dealer stocks and appropriate levels. Exchange was also a contributing factor adversely affecting net revenue. Pre-tax results and operating margins, went from a profit and positive margin in 2011 to a loss and negative margin this year.

Industry SAAR for the 19 markets that we track in Europe, decreased from 14.9 million to 14.3 million units. Our market share of 7.7% was down six-tenth of a percentage point, reflecting primarily lower passenger cars share and an environment of increased competitor pricing activity and our relatively higher price position. As shown in the memo below the chart, the first half Europe loss of $553 million compared with the profit a year ago. Volume and revenue declined compared with last year.

Slide 18 shows the $580 million decline in second quarter pre-tax results for Europe compared with 2011 by causal factor. Most of the change reflects unfavorable market factors. Volume was unfavorable due to lower industry share and associated stock changes. Net pricing was lower as the industry responded to excess capacity with higher incentives. Higher contribution costs also contributed to the profit decline.

As shown in the memo, pre-tax profit decreased by $255 million compared with first quarter, explained by unfavorable market factors and higher costs. Given the deteriorating external environment in Europe, we now expect our full year loss in Europe to exceed $1 billion. The magnitude of the loss will be affected by a variety of factors including the overall economic environment, competitive actions and our response to these developments.

We fully understand the seriousness of the situation in Europe and we view the challenges the industry faces as more structural than cyclical in nature. While we are affected significantly because of our strong presence in the region, we fully understand what it takes to be profitable and to generate an appropriate return on our investments. We have faced very challenging situations in other parts of our business before, and addressed them successfully to our ONE Ford plan.

We will do the same now in Europe, which is an important and valued part of our plans. We are reviewing all areas of our business in Europe to address the near-term challenges while ensuring we are building a strong foundation for the future. It is pre-mature to discuss details of what our plans may be in response to the situation in Europe, but we will continue to communicate our plans at the appropriate time with all of our stakeholders.

Now let's turn to Asia Pacific, Africa on slide 19. Second quarter wholesale volume and revenue improved 11% and 10% respectively compared with a year ago. Pre-tax results and operating margin on the other hand were lower. Industry SAAR increased from 27.6 million to 33.7 million units, and our share at 2.6%, declined three-tenths of a percentage point, reflecting Japan industry recovery, deterioration of the commercial vehicle industry in China, and lower small car market share in both China and India.

As shown in the memo below the chart, the first half Asia Pacific, Africa loss was $161 million compared with a profit a year ago. Volume was about equal to 2011 while revenue was higher.

Slide 20 shows the $67 million decrease in second quarter Asia-Pacific Africa pre-tax results compared with 2011 by casual factor. Market factors were strongly positive but they were more than offset by higher cost associated with new products and investments to support higher volumes and future growth as well as other factors. As shown in the memo, Asia-Pacific Africa pre-tax results improved compared with first quarter more than explained by higher volume.

Although we incur the first half loss in Asia-Pacific Africa, we do expect the results to improve in the second half due mainly to favorable volume and mix as we benefit from added capacity in China and Thailand and the new Focus and all-new Ranger.

Slide 21 covers 2012 second and third quarter production. In the second quarter total company production was about 1.5 million units, 49,000 units lower than a year ago. This is 25,000 units lower than prior estimate reflecting lower production in South America and Asia-Pacific Africa. We expect third quarter total company production to be about 1.4 million units up 69,000 units from a year ago more than explained by higher volumes in North America and Asia-Pacific Africa.

Although, third quarter production in South America is expected to be about the same as last year, this includes substantial production reductions in Venezuela and response to restricted availability of foreign currency. Compared with second quarter, third quarter production is down 45,000 units reflecting seasonal summer shutdowns in both North America and Europe.

Turning now to Slide 22, our Automotive gross cash and operating related cash flow, you can see that we ended the quarter at $23.7 billion in Automotive growth cash an increase of $700 million from the end of the first quarter. Automotive operating related cash flow was $800 million and our cash flow before financing related changes in dividend was $1.3 billion.

Net debt inflows in the quarter of $400 million includes drawdown of low cost loans for development of advanced technologies. We also made payments of $800 million to our worldwide funded pension plan in line with our previously disclosed long-term strategy to derisk our funded pension plan. Of this $0.5 billion reflects discretionary payment to our U.S. funded plan. Dividends paid in the quarter totaled nearly $200 million. In the first half, our operating related cash flow totaled $1.7 billion and gross cash improved $800 million.

Slide 23 summarizes our Automotive sector cash and debt position at the end of the second quarter. Automotive debt was $14.2 billion compared with $13.7 billion at the end of the first quarter reflecting additional draw downs of low cost loans for advanced technologies. We will make our last draw on these loans by August with payment beginning in September. We ended the quarter with net cash of $9.5 billion and Automotive liquidity of 33.9 billion, both increased when compared with first quarter.

Turning now to Ford Credit. Slide 24 shows the $166 million decrease in second quarter pre-tax results compared with the year ago by casual factor. The results are more than explained by fewer lease terminations which resulted in fewer vehicle sold at a gain and a lower financing margin. The decline in financing margin is explained primarily by the run off of higher yield in assets originated in earlier years.

As shown in the memo, Ford Credit’s pre-tax profit decreased by 414 million compared with first quarter. Ford Credit remains a strategic asset for Ford delivering high levels of quality and customer satisfaction with operating efficiencies that are among the best.

For full-year 2012, Ford Credit expects to project full-year pre-tax profit of about $1.5 billion and total distributions to its parent between $0.5 billion and $1 billion. Ford Credit now projects managed receivables at year-end to be in a range of 85 to $90 billion and managed leverage of 8-9:1 for the foreseeable future. This is a decrease from the prior target of 10-11:1 and is consistent with the goal of achieving and maintaining a strong investment grade balance sheet.

And with that I’d like to turn it back to Alan who will cover business environment and our 2012 planning assumptions.

Alan Mulally

Thank you, Bob. To summarize on Slide 26 is our view of the business environment. Overall, we expect 2012 global GDP growth to continue in the range of 2 to 3%. Global industry sales are projected to be around 800 million units up about 5% from 2011.

U.S. economic growth is expected to range from 2% to 2.5% this year, with industry sales supported by increase in new placement demand given the older age of the vehicles on the road. Brazil economic growth is projected to range from 2% to 3%. This is supported by fiscal and monetary policy easing to stimulate the economy.

In Europe we expect weak conditions to continue with several European markets undergoing fiscal austerity programs to achieve debt restructuring. China and India have experienced broad based weakness in growth rates which has prompted some policy easing., including interest rate cuts and increased government spending. We expect more policy actions are likely to stabilize economic growth in these countries.

Slide 27 summarizes our first half results and our planning assumptions and key operational metrics for 2012. Industry volumes are in change from prior guidance, although U.S. industry volume, based on recent months results could be at the lower end of our forecast range. We expect U.S. and Europe full year market share to be lower compared with 2011 and continue to expect quality to be mixed. We maintain our guidance in the following areas. For Ford Credit, a pre-tax profit of about $1.5 billion, for automotive structural cost, an increase of less than $2 billion compared with 2011, and positive full year operating related cash flow.

Given business conditions primarily in Europe and South America, we now expect automotive pre-tax operating profit and automotive operating margin to be about equal to or lower than 2011, and total company pre-tax operating profit to be strong but lower than last year. We also now expect capital spending to be lower at about $5 billion, reflecting mainly efficiencies.

Finally, on slide 28, we summarize our ONE Ford plan, which is unchanged. We will continue to aggressively restructure the business to operate profitably at current demand and the changing model mix, accelerate development of new products for our customers and value, finance our plan and continue to improve our balance sheet, work together effectively as one team leveraging our global assets.

Total company first half profit was strong, driven by our business in North America and by Ford Credit. We have challenges in South America as a result of changes in government policies that are having an adverse impact on our business, combined with a more competitive environment. Europe is significant challenge due to a very tough external environment, a situation we expect to continue for the foreseeable future. And in Asia Pacific, we have continued to execute our aggressive growth plan as we implement our plan to serve customer everywhere, with a full family of best in class vehicles.

We have made tremendous progress in recent years by executing the fundamentals of our ONE Ford plan, and we are working towards our mid-decade guidance. Looking ahead, our plan will continue to guide us as we work to sustain our strong North American operation and grow our important Ford Credit business, while addressing the diverse challenges and opportunities we have in other parts of the world. We are still in the early stages of reapening the benefits of our ONE Ford plan, our road map to deliver great products, a strong business, and a better world.

We remain confident in our ONE Ford and our ability to deliver profitable growth for all. And with that we will be pleased to take your questions.

George Sharp

Thanks, Alan. Now we'll open the lines for about a 45-minute Q&A session. We'll begin with questions from the investment community and then take questions from the media. In order to allow as many questions as possible within this timeframe, please keep your questions brief. Katina, can we have the first question, please?

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Adam Jonas representing Morgan Stanley. Please proceed.

Adam Jonas - Morgan Stanley

Bob, first quarter for you. Peugeot just reported first half numbers today and then made comments saying that pricing in Europe was no longer deteriorating as bad as it was earlier this year. I just want to see if in real time, whether you share that sentiment on European pricing.

Bob Shanks

We have seen through the course of year pressure on margins from increasing incentive levels. Also we are seeing a lot of activity in terms of short cycle sales. We have tried to find a sweet spot between sort of share and volume and contribution margin. And in fact one of the reasons why you saw -- in fact it is the major reason why you saw a share drop for us in the second quarter, because we were trying to make sure that we don’t fully play in the increased incentives that we were seeing around us. I don’t think our experience is out, we are seeing the fall off in incentive activity, in fact, if anything I think that we are seeing that increase as we go through the year. But with the great product set we have got, we have already launched a number of new things in the first half including the one leader EcoBoost, we have got the B-MAX coming, we got the new one-ton Transit coming, Ranger starting to hit the market, Kuga at the end of the year. We feel we are going to have a lot arsenal to be able to compete effectively and what is a very, very difficult environment, but pricing is difficult.

Adam Jonas - Morgan Stanley

And question for Mike Seneski. You guys have given the full-year target for Ford Credit 1.5 billion, you did point 9 in the first half, so, that implies a second half run rate maybe a third lower than you were doing in the first half. Is that really an intentional thing, am I reading the 1.5 billion a little too literally. Do you really expect that Ford Credit profit in real-time really just fall off a cliff in the second half, because that’s what implies (inaudible).

Mike Seneski

In the second quarter we had an 8 basis point loss ratio compared to the previous quarters including the reserve impact, this is worth at least $50 million, good news really we weren’t expecting. I don’t really know where credit losses are heading but if they look like last year for the second half we are comfortable with the about 1.5. Obviously if credit losses are lower than that all else equal we should beat the 1.5 billion.

Adam Jonas - Morgan Stanley

Finally, Alan question for you, your stock (inaudible), it's a price level we haven’t seen since December 2009 which is a year where Ford made like 110 AVPS sitting a 9 billion of net overall debt. I’m not asking to be a sale side analyst here but, as an industrialist and a business leader what you read into that, what do you think the market is missing about Ford here. That’s my final question. Thanks.

Alan Mulally

Well, I think it's in the context of very tough business environment worldwide, and I think people are starting to appreciate that we have a tremendous presence and operation in Europe. We have made money there for 6 and last 8 years but they are seeing this very significant deterioration in the economy in the industry and so I think that’s weighing our people’s mind and also the changes in South America. I think it's more of the volatility of the world, having said that Adam, I think people really do appreciate the value creation potential for going forward by supporting the customers all around the world and even during the toughest of times, we continue to restructure our operations to operate profitably at the lower demand the current demand. And also we are accelerating the investment in these new products around the world. So, I think both things are in play, right. I think the best thing we can do for value creation is o continue to implement the Ford plan of delivering a viable exciting profitable growing company. I think that will be appreciated overtime.

Operator

The next question comes from the line of Brian Johnson representing Barclays Capital. Please proceed.

Brian Johnson - Barclays Capital

Just want to continue building on what Alan said with the economic worries around Europe. So, you think pricing isn’t getting much better, where do your inventory stand, where do you think the competitor inventory stand and is there are any possibility to get through sort of pricing trough at any point this year?

Alan Mulally

Let me get started and then let’s get some more perspective from Bob. The most important thing about our plan and there has been or will be is for us to match our production to the real demand that has served us well or dealers well, the customers well, the residual values. So, we expect the Europe itself as you see, we continue to decrease our production to match that real demand, and then it continue to work the cost structure addition to the new products. And we are very, very pleased with the dealer stocks we have today, because we have been following that fundamental plan. Bob, you like to add little bit more on the pricing.

Bob Shanks

Yes, just to add, going back o comment that I made to Adam in his question, one of the things I think that gives us a bit more pricing powers we go into the second half as the new products because we clearly can price a new products. And so in addition to the B-MAX which is an all new entry , we got as I mentioned C-MAX coming in with one leader FOX engine, we’ve got the Kruger coming, the Transit coming. In Russia we’ve got new products. We have got TH!NK coming across the board. So I think, we feel much, much better about pricing as we go into the second half. And as Alan said, we have maintained day supply in very, very good shape, really across the world. We have got a bit of an issue in China that we need to address which we will do so in the third quarter. But stocks are in great shape in Europe and the team there has done an excellent job of staying ahead of what's happening around them in terms of overall stock situation.

Brian Johnson - Barclays Capital

And just quickly on the cost side. I sort of recognize what you are saying about structural cost and not wanting to communicate before you deal with stakeholders. I guess two things. One, when can we expect anything around maybe these things you talk about with the stakeholders. And then second, are there cost actions outside of labor and capacity around commodities, material, other structural costs that we could expect sooner progress on in and what would the pace of that be.

Alan Mulally

Well, we will not be providing any indications about specifics, sort of what our plans might be or timing, but as I mentioned to someone earlier today, we are clearly looking at the situation in Europe with a great sense of urgency and we are kind of all over the issues that we have got and worked at the plans to put the business on a firmer foundation going ahead.

The only I would like to just sort of maybe add to what you just said, as we are doing that, and as we are thinking about the applications of the ONE Ford plan and the challenges that we have there. It isn’t just a cost story here, there is tremendous opportunities for us on the revenue side in addition to the cost side, working on products, working on brands. Clearly, cost is something that we are going to have to address because our outlook is that the industry going forward is not going to recover to where it had been the previous five years or so.

So clearly we have to address that. But this is going to be a holistic response to serious business situation. And if I were you guys I would go back and look at what we did in North America which was a comprehensive plan that addressed really what were Ford issues, more so than external issues. Here its bit of us but it’s a lot of external issues that we are going to have to respond to and we will do so with our ONE Ford plan.

Operator

The next question comes from the line of Matt Stover representing Guggenheim. Please proceed.

Matt Stover - Guggenheim

Two questions. I believe, Bob, in your comments you described North American profits as being significantly higher in the second half as you bring out the new capacity and the product launches. I can see the improvement for margin versus 2H last year. But would you describe the margins progression versus the first half of this year as you launch those facilities and new products.

Bob Shanks

Yeah, it’s a good question, Matt. What we have talked about in terms of North America is that we will have significantly better results for the full year compared with last year. We have not provided any specific commentary on the second half with regard to North America. I think the way I would think about North America is it’s running on all cylinders, clearly as you just noted the first and second quarter. Those were record in terms of profits and operating margins, is the best that we can tell.

So running extremely strongly. All elements of the business are contributing. And as we think about the second half of the year, we have got the Escape that we have literally just launched, so that’s going to help us out in the second half of the year. We have also got the Fusion coming on stream for which we have very high hopes for. When you think about Fusion and Escape, those are two of the biggest segments in the industry here. So we are very excited about the twosome there pushing the business forward. And we have got MKZ coming for Lincoln and the added capacity. So we feel very, very good about the second half of the year, in fact the whole year. And I think you will see strong results from that part of the business throughout the year and margins as well.

Matt Stover - Guggenheim

Would it be too much of a stretch to think that margins could stay flat in the second half?

Bob Shanks

I think the margins -- all I would say is you are going to see strong margins in North America throughout the year.

Matt Stover - Guggenheim

Okay. And the last question is. On Europe, you took a $190 million incentive adjustment. How much of that was associated with inventory?

Bob Shanks

Very little with inventory. I mean this is simply us, again going back to my earlier comment, recognizing that the pricing environment has slid as the year has progressed and trying to get sort of that balance and that sweet spot between volume share and net pricing and in particular, we are seeing that to be a very difficult situation in Southern European markets.

Operator

Your next question comes from the line of Patrick Archambault representing Goldman Sachs. Please proceed.

Patrick Archambault - Goldman Sachs

Actually I just wanted to piggy back a little bit there on Matt’s question. Maybe on the aggregate level, I mean it looks like at the high end of your guidance, if profitability on the Automotive side were to be fairly even with last year again at the high end of your guidance that would imply a pretty meaningful increase in margins year-on-year in the back half. If I’m correct. And maybe I don’t know if you want to take this question either, sort of in aggregate volume price cost store, if it's easier to take it by region, but I’m just trying to get a better sense of what would be driving that year-on-year improvement?

Alan Mulally

That’s a very good observation, if you go back and look at the last couple of years, we clearly saw our profits and our margins sort of decline as the year progressed, second half in particular, and I think it was pretty much sequential if I remembered correctly. But when we look at this year, I think we might have touched on this a bit in the first quarter call, we think that we are going to see a different situation this year. We got the added capacity coming on stream in North America, we’ve got more capacity that we just launched in China and Thailand, and the weight of our product launches this year and the impact for those launches is really a second half phenomena compared with the first half phenomena. Last year we also were hit by commodities, and the second half the year that just became bigger headwinds as the year progressed this year, it's much more benign. So, I think we feel much more comfortable about at the favorable impact all those factors will have on our second half relative to what we saw last year. So, your observation is correct, we do expect compared to last year to see the business hold on better in the second half.

Patrick Archambault - Goldman Sachs

And then one, I think you mentioned in the update on the quality of that, the outlook was still mixed, can you just maybe just bring us up to speed, how the efforts are progressing there, what kind of cost implications are there if any materials ones to think about?

Alan Mulally

The thing interesting about that is on the TGW side which is what thing has gone wrong, which is what that metric is really about. We are seeing really strong improvement in South America and Europe and in Asia-Pacific Africa, we are going to be probably about flat in North America and that is because of the fact that the issues that we had on MyFord Touch and MyLincoln Touch along with some of the power train issues associated with the dual-clutch transmission that’s in the Fiat and Focus. We’ve put software upgrades and fixes in on those which really didn’t have much effect until we got into later part of the model year. We are seeing very positive results particularly from the software upgrades on the entertainments and connectivity systems that I just referenced. We are seeing big improvement in customer satisfaction and the consumers are telling us that they really appreciate the changes that we have given them, but the interesting thing is when you go to the cost side, however, this isn’t translating into cost, but cost per unit or warranty spend, we are actually seeing good news on the cost. So, while the TGW is going to be about flat in North America for the total business on the cost side including North America, we expect to see good news on warranty.

Patrick Archambault - Goldman Sachs

And then by next year, these fixes that you have put in place, you would expect to see a pretty good improvement there.

Alan Mulally

Yes.

Operator

Your next question comes from the line of Rod Lache representing Deutsche Bank. Please proceed.

Rod Lache - Deutsche Bank

First question is just on this plan for fixing Europe, like you alluded to unlike North America you can’t really count on a significant improving external environment. Do you think that there is an opportunity to reduce your European cost structure by $1 billion overtime to get to breakeven kind of on your own accord. It seems like that would be a pretty big drop, you have got about 35,000 hourly people maybe 2 billion of hourly cost and 1.2 billion of D&A, that would be a pretty big percentage versus that. Or do you really have to say that only part of this can be accommodated to cost and really you have to count on improving pricing and volume from the new products.

Bob Shanks

That’s a good question. And it goes back a little bit to what we were talking about earlier. I think when you look at any significant restructuring that you have to do in the automotive business, you generally, if you are facing that type of challenge, you are going to have to hit all part of the business in order to set it right and give it a firmer foundation for a profitable growth in the year ahead. And that’s what we are going to have to do in the case of Europe.

Well, we have to improve the breakeven from the cost side of the business, yeah, of course we are going to have to do that. Because our expectations in terms of what the industry is likely to generate in terms of overall volume is not as robust as what we might have thought a year or two ago. We also are seeing much more competition coming into Europe in terms of what the Koreans are able to do now because of the free trade agreements. So that aspect of the external environment has brought in a new element of competition as well.

So we are going to have to be leaner in terms of our cost. But we really strongly believe and we have got the experience of this in North America. If we had just gone after a cost in North America, we would not have been talking about $2 billion of profits in second quarter. It’s got to be a revenue story which is not only brand but also product. And it’s going to have to be a cost story. We intend to work both aspects of the business, to put the business right going forward.

Alan Mulally

Rod, I would just like to add a little bit to what Bob said on the product side too, because clearly with our ONE Ford plan and our complete family now of vehicles, especially in the B to C, the CD size or the compact pickup, and the commercial vans. We have a lineup that we have never had before. And this is going to allow us to dramatically improve our market coverage in Europe also. And as we have talked also that the quality of the brand continues to improve not only with the product but also with the success of doing a strong business that Ford is having.

So clearly we are going to work the cost structure just like we did, we have around the world. But I think the other part of it is that we want to continue to work the -- we see great opportunity using our ONE Ford plan to work the revenue side also. And even on the cost side, Rod, like we have talked about. The fact that we are moving to our global platforms and the efficiency that we get for developing, I mean, plus the B, the C, the CD size, the compact pickup and the commercial vans, that’s going to be accounting for nearly 80% of our volume worldwide. All made simply in different locations around the world.

So we are going to get efficiency as we continue to implement that plan also.

Rod Lache - Deutsche Bank

Okay. And can you comment on the -- there seem to have been a pretty big variance between production wholesales in North America in the first half, is that something that reverses? Are you sitting on an inordinately higher level of inventory kind of within the company? And then just some comments on commodity inflation and structural costs. Earlier in the year you had talked about flat commodities. Looks like its up so far but a lot of spot prices are down. And on structural cost the inflation rate of only $600 million, looks like it’s running quite a bit below that $2 billion or less than $2 billion number that you have thrown out there. Any additional color on those items?

Alan Mulally

Make sure I don’t forget, so remind me if I do. I think you have got three questions here, and they are all good. In terms of the first question, as you know, production versus wholesales, always sort of flip-flopping back and forth between each other as you quarter-to-quarter. I think it was affected in the second quarter because of the launches that we had in North America. So that’s, well, I believe to be the biggest factor there.

There is nothing funny about stock levels. We did have a little bit higher levels inventories, we were working through the launch and you saw that in our working capital, effect. But that was just sort of a onetime factor that we are already through. So I think that’s probably what's happening there.

In terms of commodity costs, we are up I think through the first half. Our expectation is as we go forward because as you know commodity prices have been declining as the year has progressed so a good portion of this increase you are seeing in the first half is actually hedging effect. And what we think is going to happen in the second half is we will start to benefit more fully from the lower commodity cost on the portion of our buy that isn’t hedged. And if you remember we had the big hit in commodity hedging last year in second half which will shield us as we look at the second half of this year on a year-over-year basis.

So we still think for the full year it’s not going to have a material impact on our business including a hedging affects.

And in terms of, were you asking about structural cost, the third question? In terms of structural cost as we look at the full year, we still feel comfortable with our guidance of below $2 billion, we do think that there will be an increase in structural cost as we move into the second half of the year because of the product launches and capacity increases. The impact that has on both manufacturing and advertising and sales promotion. So, we think we will see more coming on the stream as the year progresses, but pretty much in line with that 2 billion or less number.

Operator

The next question comes from the line of Chris Ceraso representing Credit Suisse. Please proceed.

Chris Ceraso - Credit Suisse

A couple of things, maybe first, a big picture question. We have heard from some of the industrial and consumer related companies that we talked to that they are already starting to see some tentativeness or [paralyses] on behalf of their customer’s because of the election of the fiscal cliff. Are you seeing any of that currently, do you think that’s a risk in second half, maybe even just from your commercial fleet customers can you talk about that?

Alan Mulally

I think that from our perspective we try to point that out with our guidance, we clearly are going to be higher than what we thought for the U.S. based on the continuing expansion of the GDP, but at that lower end of the 14.5, because we are seeing a little bit of softness, but overall even though it's a slower recover that we had from past recessions, we are seeing that expansion around 2 to 2.5%. And also Chris, the age of vehicle is really playing into this, I think the average age is over 10 now maybe even close to 11 years old. And the vehicles we have now you can make an economic argument to economically replace your older vehicles with a value to get from the increase in fuel economy over the liability unless maintenance. So, we are starting to (inaudible) plan that we are seeing more and more of the consumers want to move up to the new vehicles. And from the fleet customers good consistent steady demand and again we probably have the best product line now for them also. So, good steady demand there also.

Chris Ceraso - Credit Suisse

Any update on the pension situation on the buyouts, to take rates what are you expecting there and have you considered maybe offering an annuity option like some of other pension sponsors have?

Alan Mulally

Actually not too much more to say on our lump sum initiative, we’ve just sent out the initial offers or the individual information to the first group of employees or retirees rather that are eligible for the lump sum. So, we don’t know yet what their reaction is going to be, so, just kicking that often we will probably have more to say as we get into the latter part of the year. In terms of annuitization, it is something that we have looked at as we were developing all of the strategies around our pension derisking, isn’t something that we thought at the time that we wanted to pursue. It's still not something that is part of our plan, but I wouldn’t necessarily take it off the table. But not something that’s currently in our thinking.

Chris Ceraso - Credit Suisse

And then just last quick one. On the bridge that you provided for North America on slide 13, you showed that volume and mix was a negative. Your production was up about 27,000 units year-over-year about equal between cars and trucks. So, that should be a plus, is it a minus because of a difference between wholesales and productions which you mentioned briefly on the call or was it a function of a mix within the mix. In other words, a year ago, may be you had particularly strong cars and trucks and you couldn’t match that this year?

Alan Mulally

It was the production versus wholesales. As you know our profits are based in wholesales.

Operator

Your next question comes from the line of Itay Michaeli representing Citigroup. Please proceed.

Itay Michaeli - Citigroup

Just two quick questions on Europe; one, can you talk about the cadence of the results throughout the quarter, what as June like proportionally, or the other two months. And then why the contribution cost 182 million negative in the quarter. I thought that maybe we would come in a bit better, just given the volume in the quarter?

Bob Shanks

I don’t think there was anything of note in the month. I mean, good Lord, our quarters have so much volatility when you look at month-by-month, my head hurts. So, I don’t think there is anything that I’d have read from looking at the individual month.

When you look at the contribution cost, you know they were up $180 million or so. And it was kind of spread into three relatively equal segments. We had about $60 million of commodities including hedging and kind of talked about that already. We had $40 million or so from material excluding commodity and the majority of that was related to products including some Stage V emissions cost increases on commercial vehicles. And so that will be -- you have to kind of think about that also in relationship to what we will see coming down the stream in terms of product pricing to the extent that we can recover any of, that type of increase.

And then finally, we had about $80 million of increase which was largely in warranty. And that was the non-repeat of a good news item that we had a year ago on some warranty accrual adjustments.

Itay Michaeli - Citigroup

That’s helpful. And then just lastly, I think you mentioned that the tax rate for 2012, I may have missed it earlier, so can you share that. And then also do you expect Asia-Pac to be profitable in the second half of the year?

Bob Shanks

Yeah, we think that the operating effective tax rate will be -- for the full year about the same as it was last year, and that was about 31% or so, if I remember correctly. 31%-32% -- 32%. So that’s what we are seeing at the moment for the full year. In terms of the second half for Asia Pacific, Africa, we think it will be better, and substantially better than it was in the first half but we are not making any characterizations about any absolutes.

Operator

Your next question comes from the line of Ryan Brinkman representing JPMorgan. Please proceed.

Ryan Brinkman - JPMorgan

Hi, good morning, thanks for taking my question. In regards to North America, where you guided to 8% to 10% margins over the long run. I am just wondering if you think that could be potentially conservative, given the margins that you have been able to achieve since establishing that guidance range. In particular the margins you have been able to achieve just in the last two quarters and at this point in the cycle. You know I am thinking as we ramp from maybe 14 million SAAR to a more normal perhaps 16 million, that ought to provide you with some ability to leverage fixed cost. The higher tier 2 wage workers etcetera. Am I thinking about that wrong?

Bob Shanks

Well, first of all, welcome. I don’t think I have had a chance to talk to you before, so kind of welcome to the Group here. I think in terms of margins, the way I think about it, step back from, you know after North America. But if you look at any of the guys that are kind of generating the best in the business on margins, sort of 8%, 9%, 10%, that’s the level that you seem to be able to achieve on a sustainable basis. You will see quarters where you can do maybe a little bit better, but that seems to be a level that it’s really, really good. It’s very strong.

We have demonstrated the ability so far this year to do that, through the first half. I think the full year will look very, very strong and within the range that you are talking about certainly. As we go forward, what you have to think about is what's going to happen if we go up to 16 million units or more, you are going to see more costs come in because we are going to have to put more capacity in. We are continuing to invest in the business so that will affect other parts of our cost structure as well.

You will undoubtedly see competitive activity that will affect our ability to go above and beyond through the levels that you are talking about. I think that’s sort of some of the natural brakes, if you will, that effect the company once its start to reach that level of performance. And we not capping it ourselves. Trust me, we are going to go for as much as we can get. But I think that’s going to be a factor. And then for us as well in North America as you know, our expectation is that full size pickups will be smaller as a percent of the total industry going forward. And that is a very profitable segment of the industry and so we will probably have a bit of a drag on our business in terms of sort of segmentation mix.

Ryan Brinkman - JPMorgan

Okay. That’s helpful.

Bob Shanks

If we can go for more, Ryan, we are going.

Ryan Brinkman - JPMorgan

Good luck to you. On the lower CapEx guidance, does it relate to Asia Pacific, is it more global in nature? And will you characterize it as scaling back of investment or simply a matter of doing more with less?

Bob Shanks

The latter. We haven’t -- we obviously what's behind the factors that are giving us the ability to do more with less. It’s not because we have cut anything or delayed anything, it’s because we have generated more efficiencies as we have tried to do more with less, and that’s what we are seeing so far this year.

Ryan Brinkman - JPMorgan

Okay. And then last question, we talked about the fact that the issues you are facing large structural, how would you characterize the issues that you are facing in South America in terms of structural versus cyclical. And do you think over time you can return to the type of profitability in that market which you enjoyed even just a year ago?

Alan Mulally

South America is completely different story and it's not one single thing. When we look at the business and the pressures that were under there, it's probably four different things, one is and we talked about this in the first quarter. It is a region, it's a protected region and if you are inside the walls of that region, you are able to in general and years passed we may make really good return and a good profit and so we are seeing more and more players who want to participate that. So, many of them have announced plans to come into the marketplace, to add capacity and players inside the walls of South America have also indicated plans to increase capacity. So, there is more pressure coming from added capacity and added competition.

The second thing, that’s happened is the governments have, it's not one government, the governments have thrown a few curve balls over the last six months or so, generally in the areas of trade policy and access to foreign currency. We have setup our business such that we could take advantage of free trade agreement that were in place primarily between Argentina and Brazil and Mexico. And those trade agreements have been challenged and to some extent at least temporarily suspended and that obviously had an adverse effect on our ability to compete along the lines that we had expected in terms of where we built vehicles and to supply those vehicles to the markets in which we were planning to sell them. So, that’s not something we can respond to overnight as you can imagine because of the footprint that we put down.

And then the third area is in currencies we have seen weakening currencies in Brazil in particular and that had a pretty dramatic impact on the business and given us some headwinds in terms of competing.

Bob Shanks

Ryan, I might just add little bit to your comment about the product development and the capital investment. When we all put together the ONE Ford Plan nearly six years ago, we knew the foundation will be based on continuously improving our cost structure and operating profitably at the changing model mix and different volumes around the world. But the other main piece of it is to accelerate the development of the new products that people really do want in value. And we made a brand promise and a commitment to our customers that with Ford you could be able to get a full family of best in class vehicles and we [even mentioned that to them also]. So, for the last six years we have absolutely fully funded our product development plan to deliver that brand promise and even during the worst of times we have never backed off on the investment in the future which is a life line in this business. And the piece that you see there by us cutting down little bit on the careful investment for this year is a net of (inaudible) of our increase in the efficiency of developing and introducing these vehicles worldwide, but just as a main intent in our plan you will never see us back off on the investment in the future.

Operator

Ladies and gentlemen, at this time we would now like to welcome questions from the media community. (Operator Instructions) Your next question comes from the line of Dee-Ann Durbin with the Associated Press. Please proceed.

Dee-Ann Durbin - Associated Press

If you could just briefly talk about the Escape launch, you had two [recalls] in two weeks and in some quarters that might be seen as a quality symbol. And I’m just wondering how you view that launch within Ford.

Alan Mulally

Clearly, it's a really important vehicle and a very important launch in response first of all has been fantastic to the vehicle people. Absolutely, I love the functionality, the quality, the fuel efficiency, the safety features and of course, the value. So, we are very pleased, the response is getting on the [recalls] as you know when we found out that we had a defective part in the fuel line, we move very, very decisively to take care of our customers. And as you know we are picking up the vehicles, we have given them (inaudible) we are going to take care of fixing that and we will do it very, very fast. And we are very disappointed to find that defective part, but clearly we are going to make it okay really quickly.

And on the other issue associated with the pedal size, now that was something that we also found that we want to improve just to follow our standards. And so again we have a fix in place and we are implementing that very aggressively too. But, again, very important launch for us going forward. And kind of a neat thing too about it, Ian, is that the fact that we are attracting new customers with that vehicle. Because it’s such a tremendous improvement. And we are going to be turning them in around five days too.

So I wouldn’t characterize it at all as a more fundamental issue in the quality, but we are actually going to keep moving decisively to make it great for the customers.

Operator

Your next question comes from the line of Karl Henkel representing Detroit News. Please proceed.

Karl Henkel - The Detroit News

Bob, you mentioned earlier about the European situation continuing for this foreseeable future. But can you really make a long-term decision with the complete uncertainty and variety of variables right now surrounding the external environment ecumenically. Or do things kind of have to settle down before something that long-term can be made?

Bob Shanks

Well, that’s a good point. I mean we always have to have a base assumption. Right. There is always volatility in our business, in fact there is lot of volatility in our business. So we have to make a call in terms of sort of a base line assumption. And then as we develop our plans and we have done this, for example in North America, you have got to build in enough of a cushion if you will, in terms of the overall structure of the business that you establish, revenue and cost and so forth, that you are satisfied that you are able to be profitable even in an environment that may be as less robust as your baseline assumption. And that’s certainly what we are going to do in the case of Europe.

So it’s a good point but we got to assume something. And we will do that and then we will make sure that we can have a good business even on the downside in terms of external assumptions.

Operator

Your next question will come from the line of Keith Naughton representing Bloomberg. Please proceed.

Keith Naughton - Bloomberg

Alan, do you need to close a plant in Europe?

Alan Mulally

Well, as we discussed this morning, we think it really is a structural issue and not cyclical. And so we are going to bring to bear all of the elements of the ONE Ford plan on the revenue side and the cost side. So we have nothing to announce more today. But as we further develop the plant or turn to profitable growth we will include all the stakeholders.

Operator

Your next question comes from the line of [Mathias Ruge representing Financial] please proceed.

Unidentified Analyst

I also want to ask for the plants in Europe. There are two plants in Germany and others in other countries. Can you rule out that you are thinking about closing a plant in Germany or is every option on the table.

Alan Mulally

Well, I think that we need to -- we are going to have a very robust plan to return to serve the customers, our customers in Europe and have a strong business too. And as we have talked about today, our ONE Ford plan is very proven in that respect. Because it includes both the revenue side by having the products and people really be one in value but also having a cost structure that allows us to produce the vehicles with a reasonable return.

So we are going to work all those elements of the plan just like we have with Ford all around the world. And our ONE Ford plan really gives us some competitive advantage because of our global products and our common designs, our common manufacturing processes and being able to make the vehicles in different locations simultaneously. So I will have more later as we develop the details of that plan with all the stakeholders.

Unidentified Analyst

As far I know you are just using like 65% of your capacity, product capacities in Europe right now. Do you think that this will go on like that in the next years, or is it just let's say for a year or so and you are keeping the plants open because you think that you will use the higher percentage of actual capacity pretty soon.

Alan Mulally

Well, I think, first of all you can calculate utilization in lots of different ways, but to your point, absolutely, we have over capacity now. And I think the other thing to your point is that we are assuming that this is a structural issue not a cyclical issue. It’s not going to come back fast and we are going to be saved by volume, because we think it really is a structural issues that needs to be addressed. I think you are seeing the same view point from most of the automobile companies and so as we go forward, as we pointed out we will continue to match our production to the real demand which means bringing the production down, because the demand start there, keep the dealers stocks in line, protect the value of the brand and the residual values.

And then again you use the revenue potential of the ONE Ford Plan with our global products, heavy more market segments with terrific vehicles. And also we continue to work our fundamental cost structure as we pointed out, and we develop the details of that we are going to share with everybody just like we did in North America.

Operator

Your next question comes from the line of Nathan Bomey representing Detroit Free Press. Please proceed.

Nathan Bomey - Detroit Free Press

We hear a lot from the unions in Europe, they don’t really seem to be willing to move too quickly. I’m just wondering d you think you need to join the chorus of people who are putting more pressure on the unions and the labor councils in Europe. I mean (inaudible) out there putting a lot of pressure on them, do you need to kind of join that chorus (inaudible).

Alan Mulally

I think part of the ONE Ford Plan that work so well for us, is we include all the stakeholders including the unions, and as you know watching the transformation of North America, what everybody really cares about is being a viable exciting profitably growing company, because that is the only way that we can continue to provide growth and great jobs and great careers. And the worst thing that any business can do is to continue to lose money and go out of business. And so what we have found is that if we include everybody, we share what the realities are, we develop a plan together to deal with the current reality, but also with an eye for a long-term viably growing company that is the best for everybody. And we have gotten a tremendous response from all of the stakeholders involved when we approach it that way. So, we are going to do the very same thing, we will continue to do very same thing in Europe to include everybody in the solution.

Operator

The next question comes from the line of Mike Ramsey representing The Wall Street Journal. Please proceed.

Mike Ramsey - The Wall Street Journal

So, two questions; one, Alan you mentioned this and you talked about a lot with leveraging the ONE Ford Plan and the ability to build on common platforms. After these new vehicles launch the Fusion and the Escape, which are now integrated with Europe. Can you now build and export to Europe Mondeo in Mexico, Flat Rock or an Escape in Louisville and send it to Europe, giving the opportunity that if you had to close the plant in Europe you can do that without any issue. That’s question one. And question two is, when do you stop, when do revenue and sales in China start to overcome the expenses, do you have a sense of when that will start to not be a loss. And will switch the other side.

Alan Mulally

On your first question, on your first question Mike, clearly one real advantage of the ONE Ford Plan is their ability to serve the different markets around the world with common platforms, but also with the [top hats] that people really do want. So, technically absolutely, we can move the vehicles around. But also we have to take an account with the transportation cost are in the freight and the other things that go with doing that. And we will continue to look at that, but the most important thing, we respect to your question about Europe is that, we continue to work on the fundamental cost structure for our operations there along with the revenue side.

On Asia-Pacific, Mike, which really about the Asia-Pacific plan of course is that we are (inaudible) this capacity but also are bringing in the new vehicles, and we are timing at pretty close to the market and you can see that in the financial numbers that even with the large investment we are making we are seeing very close to profitability. And so, I think it goes right with the vehicles and the production capability. We are in the midst of bringing on nine new plants, we are going to be going from 5 vehicles in China for example to 15 vehicles. Where we are going to be going from maybe 30% market coverage up to nearly 65% market coverage. So you can just see all this next few years and like that mid-decade guidance that we provided. And as the production comes on and our ONE Ford vehicles are implemented, then the profitability and the [cost reduction[ in the company will just follow that over this next few years.

So we are very pleased with the progress we are making today and it’s going to be a very, very important contributor to Ford’s growth plan going forward. Katina, we have time for one more question?

Operator

Thank you, sir. Your next question will come from John Murphy representing Bank of America/Merrill Lynch.

John Murphy - Bank of America/Merrill Lynch

Two quick questions here. First, (inaudible) pricing compression, it’s been positive for a while now but only slightly so. Given your focus on keeping inventory lean and all these new product launches, would have expected to be a little bit better. Is it the kind of thing that we are sort of going to see accelerate as we go through the second half of this year and we see this all new Fusion launch on top of really the first product in the product renaissance, the old Fusion. And we’ll sort of get this redoubling of good product or all new product on top of the really good product and we will see some real pricing momentum in the second half of this year and maybe even more so going forward. I am just trying to understand why pricing hasn’t been a little bit better given your lean inventory and very good product launches.

Bob Shanks

I am really glad you asked that question because I just wanted to make that point. When you look at slide 13 and you look at that net pricing of $100 million, year-over-year you look at that. And your reaction could be exactly what you described. But I think what you have to think about is a year ago -- you know a year ago, think about what the situation was like in North America and in the U.S. You had the Japanese that really had incredibly constrained supply. The market was really able to leverage and use it pricing muscles if you will.

And to me, what it says -- and we haven’t had a lot of new products in the first half in North America. And a lot of the pricing comes with new products. So to me the message is, we have been able to hold on that pricing which could have been shorter term in nature because the Japanese clearly are back in the market place with adequate supplies of stock. We have held on to that and added pricing.

And when I think about the second half of the year, we have got quite a bit of new product coming in play. And I think that you will see us able to generate additional and incremental pricing compared to what we saw in the first half. Having said that, I think, John, we have to remember that over the last number of years as we restructured North America and worked on the brand and improved the product, we have seen dramatic closing of the discount versus our key competitors that we had for the Ford brand over that period of time. So that one element of pricing recovery probably doesn’t bear to the extent that it was over the past five-six years.

John Murphy - Bank of America/Merrill Lynch

Okay. That’s incredibly helpful. Then just the second question on cash levels. It seems like you are bouncing around between $9 billion and $10 billion and that seems to be your net cash target. A lot of the free cash flow looks like you will generate in the second half of the year is going to get sopped up by your pension contributions. I was just wondering if that’s correct and when we will see potentially more return of value to shareholders. Do we need to get through these contributions to the pension plan, continue to generate free cash flow and then see -- should this increase in the first half of next year or could we see this more specifically in the second half of this year.

Bob Shanks

Another good question. We don’t specifically have a target for net cash if you will. But in terms of capital allocation, we clearly have a lot of mouths to feed and we have got a pretty sophisticated and I think a well thought through capital allocation strategy and it touches on all the areas that you have talked about. So what we try to do is to balance business needs and business opportunities with those of all the various stakeholders and make sure that we think we have got the right balance. And that’s something that we update and look at regularly and we will continue to do that.

And in terms of dividends, in terms of buybacks and that sort of thing, nothing to announce differently today versus where we are, but it’s certainly something that we are looking at constantly. And if we have something new to say we will share that with you.

John Murphy - Bank of America/Merrill Lynch

All else equal, Bob, that $3.5 billion that’s going to the pension plan is a pretty good sort of full stop on putting money into the pension plan, I think it’s a big contribution. I mean we shouldn’t expect more going into the pension plan after that in the near term. Is that correct?

Bob Shanks

Well, we are going to have substantial pension contributions over the period because we are substantially under-funded, and most of what you will see over the coming years is mandatory in nature in terms of what we have to do. So we will continue to have a pretty heavy requirement for pension contributions over the next several years.

Now we have got in the 3.5 billion or so that you just talked about, we have got $2 billion of voluntary contributions this year. And that was part of our strategy and our long-term strategy around pension derisking. And we are not saying anything about that aspect of our contributions going forward. But in total they will be significant in the years ahead. Because we have got to close that gap that we had at the end of last year which, if I remember correctly was in under-funded status in total of about $15 billion.

Alan Mulally

And John as you know, it’s just so good for the business to remove that volatility of the balance sheet so that we can really focus on the automobile cycle.

George Sharp

Okay. That concludes today's presentation. Thanks to everyone for joining us. We are done.

Operator

Thank you. Thank you ladies and gentlemen for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.

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