Ford Migration To Battery Electric Vehicles A High-Stakes Proposition

Summary

• A “mixed” first quarter portends more tough comparisons for the automaker for the rest of 2022.
• While semiconductor supply may improve in the second half, material and components costs will remain high.
• The Federal Reserve plan to shrink its balance sheet poses a major risk of lower economic activity as well as cooling demand for vehicles.
• Timing to capitalize on Ford shares suggests waiting until recent price slide stabilizes, perhaps once economic growth picks up.
• This idea was discussed in more depth with members of my private investing community, Auto/Mobility Investors. Learn More »

Ford Launches F-150 Lightning Electric Truck

Bill Pugliano/Getty Images News

No one can accuse Ford Motor Co. (NYSE:F) CEO Jim Farley or Executive chairman Bill Ford Jr. of lacking ambition or boldness. The plan to rapidly replace much of the automaker's internal combustion fleet with battery electric vehicles (BEVs) is daring in its comprehensiveness.

If Ford pulls this feat off - two million BEVs annually by 2026 - it will constitute one of history's great stories of industrial and technological transformation. Right up there with the horse and buggy's replacement by the Model T.

With Ford's creditworthiness weak, the plan assumes sufficient internal profit and cash generation to pay for multi-billion-dollar battery plants and new BEV architectures. Any financial hiccup, such as a major recession that likely would trigger major losses, will delay the plan or force basic strategic rethinking.

"Mixed" first quarter

Ford's first quarter financial results, announced last week, and the gathering signs of economic troubles ahead should remind investors that automaking remains a cyclical, capital intensive business whose strategies always will be subject to numerous uncertainties.

Key metrics in the first quarter reflect the fact that Ford is experiencing shortages of semiconductor chips and dramatically higher cost for basic components and materials. Competition is tougher than ever, evidenced by Ford's loss of market share compared with a year ago. At the same time, the GDP numbers for the quarter were in decline.

Like its cross-town rival General Motors Co. (GM), Ford has withdrawn from or shrunk itself in most overseas markets such that two thirds of Ford's revenue now comes from the U.S., where it relies principally on its F150 pickup truck to produce the overwhelming majority of the company's profit. But its market share fell in the quarter across the board.

Against this backdrop of difficult operating conditions, Ford is endeavoring to overhaul the corporation's talent pool and culture, hiring more software and fewer mechanical engineers, using technology to draw closer to customers with "always on" responsiveness, and developing a raft of new products and services tied to data.

F-150 Lightning "Power My Trip" (Ford)

In late April the company confirmed a report in the Detroit Free Press that it was reducing engineering headcount in the U.S. by 580 workers, 350 salaried and 230 furnished by agencies. A month earlier, Farley announced a restructuring of the company that included two teams - Ford Blue, dedicated to internal combustion engines - and a second, Ford Model e to BEVs. The headcount reduction came from both teams, the company said. Farley, during the earnings call last week, spoke of closing a "talent gap" with aggressive hiring.

Unfortunately for Ford, the entire automotive industry is in the process of closing the talent gap caused by the comprehensive shift toward BEVs. In addition to the major incumbents, who are searching high and low for battery chemists, software engineers and the like, dozens of BEV startups around the world are chasing them as well. Even Tesla (TSLA), well staffed for the BEV revolution, has the related headache of trying to retain talent while the rest of the industry is spending prodigiously to hire it away.

Rent, don't buy

A funny, incisive quip I've heard from some Wall Street analysts with knowledge of automaking is that "automotive stocks are meant to be rented (or leased), not owned." That is to say, one must eschew conventional wisdom about not timing markets and actually make good decisions when to buy and when to sell automotive stocks - in contrast to Berkshire Hathaway-type names that are meant to be held for long periods of time or maybe forever.

The point may be illustrated by looking at a chart of Ford's stock price since the mid-1980s, when shares were selling roughly for a split-adjusted $2. The stock rose to more than $35 a share in March of 1999, delivering a nice return (including dividends) that well outpaced the S&P 500 Index. Those who sold Ford shares at that point later were gratified, owing to the fact that shares would return to $2 territory just nine years later, during the depth of the Global Financial Crisis.

Ford shares 1984-2002 (Fidelity)

Those who bought Ford shares at the depth of the crisis in the spring of 2009 enjoyed a seven-fold increase in the share price just a year later. But if those same brave souls decided to hang on for the next decade, they would have seen their stock drop to $8 on the eve of the pandemic and another 50% a month later.

From the post-COVID collapse in March of 2020, when Ford bottomed at about $4, they ran higher amid BEV excitement to nearly $26 a share. At this writing the shares have declined about 50% to under $13.

Electrification isn't enough

I've been reading comments from Seeking Alpha users who see Ford's massive investment in BEVs is a sign that the company can and will capitalize in a mobility future that is highly electrified and digital. Introduction of the Mustang Mach-E has been successful apart from Ford's being forced to cut off new orders for the 2022 model in April due to outsized demand and limited production capacity. As Ford executives might say, it's a good problem to have. But it's still a problem, because a company can't sell vehicles it can't build.

I do believe the industry is moving toward battery electrification, though at a fairly slow rate that may require decades more of investment in charging infrastructure. True, gasoline prices are rising - but car owners may not be yet ready to switch to batteries en masse. This reality requires a more measured approach, which I believe is being pursued effectively by Toyota Motor Corp. (TM).

Ominously for Ford and other carmakers, the Federal Reserve is preparing to undertake a massive downsizing of its balance sheet via interest rate hikes and a "run-off" of maturing Treasury securities in order to reduce inflation, which is at a 40-year high. Perhaps in anticipation of tight money, the U.S. economy already has notched a quarter of negative growth. For now, consensus among economists is that the U.S. economy will skirt recession - but the risks are rising. Even if a recession is avoided, demand for vehicles and other consumer goods could weaken.

Against this economic and historical background, a prudent investor must ask whether this is the right time to load up on Ford shares. The automotive sector globally faces more risk than upside opportunity at the moment. If uncertainties surrounding military conflict in Ukraine, lockdown in China, semiconductor shortages and other logistics attendant to BEV migration are resolved, there will be plenty of time to "rent" Ford shares for the next runup. Thus, I rate the stock a "hold."

Analyst’s Disclosure: I/we have a beneficial long position in the shares of TM either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.