Ford: The Bottom Is In, But Don't Buy
- I remain confident that Ford has little downside from here.
- Investors should stay on the sidelines because fundamentals are still deteriorating.
- The market is pricing in bad news, but we need good news.
- The new CEO and the potential steel tariff create uncertainties that could pressure the stock.
- More clarity is needed regarding the timing of a cyclical upswing before Ford can become a solid buy.
In my previous article I talked about why you should not buy Ford (NYSE:F) at 52-week lows, but now I am saying that the bottom is in, am I contradicting myself? The answer is no. While I believe that Ford doesn’t have much downside at these levels, I still don’t think now is the time to buy.
Bottom Is In, But Hold Your Horses
I say this with confidence because the stock actually popped on what looked like terrible June U.S. sales figures (-5% year over year). It hasn’t done much since then, but the fact that the market is rewarding the stock despite what is a clearly a persistent trend of sales deterioration tells me that negative news have been priced in already.
While long-term holders can take a breather, I would still caution against excessive optimism. The problem is that even though investors seem to be stomaching bad news well, the idea is that the bad news will eventually stop coming. No one is investing in Ford believing that sales will fall 5% annually over the long-term. Given this, I believe it is improbable that investors will continue to reward poor sales with persistently higher stock prices as we go forward. We must see fundamental improvements, not just “better than expected.”
There is also uncertainty regarding how the reduction in sales will flow to the bottom line. We know that the management is actively monitoring the cost structure and making cuts as necessary, but I’m sure that there will still be a significant amount of operating leverage involved. Even if we assume 90% Non-GAAP pre-tax profit sensitivity due to the company’s efficient restructuring (which is a very aggressive assumption), every 1% decline in sales would still lead to a 2.4% drop in pre-tax profit based on 2016’s financials.
Although the stock price is not reflecting this opinion, I believe that Mark Fields ran the company quite well. It is still unclear to me how the new CEO will add value other than creating more hype for “Future Ford.” The idea is that Ford could potentially replicate the success of Tesla (TSLA), but there is only one Tesla, and Elon Musk already snatched the brand equity. Furthermore, innovations will be cost centers in the short term, and it is unclear how the market will reward this strategy.
Recently there has also been more chatter regarding a potential steel tariff, which will no doubt inflate Ford’s cost of raw material. President Trump will have to make a difficult decision here as protecting American manufacturers is one of his key economic objectives, but a steel tariff doesn’t benefit everyone. As with most proposals, I expect substantial delay in its passage; but as we’ve all experienced in the recent past, uncertainty alone is enough to scare people away, à la what the border tax proposal has done to retail stocks.
While I believe that Ford has hit a bottom in the near-term, I do not think now is the time to buy. We have to accept the fact that the macro environment is getting worse, even if it is just “less bad” than what the market had anticipated. Furthermore, there are still plenty of uncertainties that give investors easy excuses to sell. Until we can get more color on the timing of a cyclical rebound (i.e. reversing the trend of declining auto sales), I believe that it’s best to stay on the sidelines for now.
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