Link to the Real. It Pays.
When you buy well everything else is just managing. Didn’t we say that last time? What’s the goal again? Buy low and sell high–at least higher. Right. That’s “fundamental.” Ford’s focusing on fundamentals. Over the past six months F’s share price has climbed 80%. You’ve heard. Well, Wall Street’s been shining the light, and investors have been watching, and betting, on Ford.
On October 28th the embattled Dearborn-based automaker reported a glittering third quarter. Crowd’s roared, investors moshed. Ford posted adjusted EPS of $065 a share, and thus beat on absolutely everything. The automaker more than doubled their year ago quarter’s $0.34, and tripled the consensus estimate of $0.18, or $0.22, depending on who you’re looking at. And?
How can life be bad when you’re doubling your year-ago quarter’s EPS, tripling consensus EPS estimates, growing revenue by 2.3%, and beating that consensus as well by $1.8 billion? How about also growing your EBIT by nearly 5%–490bps? Looked at another way, F grew adjusted EPS by 91.2% year-over-year. And?
What is the legitimate takeaway on this company’s sparkling third quarter? Firstly, very nice. But Ford’s a big ship and big ships turn slowly. Ford is also not a shiny new startup ramping earnings for the very first time. On its’ face, a 91.2% jump in EPS is eye-popping, but it’s often the “law of small numbers.” An EPS metric of $0.01 that grows to $0.02 equals a fast 100% move. Small numbers. For Ford this result is the coalescence of complex fortunate events, combined with execution success. It’s one quarter amid the relatively early days of a wholesale and yet unproven restructuring. And the share price growth? Ironically, any play on F now could be viewed as “chasing.” The long-term chart below places Ford’s newest chapter into stark perspective.
Ford remains a turnaround attempt, one yet struggling deep within the ugly guts of hyper-costly restructuring efforts. It’s a company battling for its’ soul while luxuriating in a somewhat transitory glow. Q3 was a marvel of wider car market strength, in part a result of unusual product scarcity. That scarcity created great ASPs(average sale price), and Ford enjoyed a splendid product mix. That part was by design. But so what?
The trade war and this Fa King virus created the scarcity–particularly due to supply chain disruptions. The recent glamourous Wall Street attention has driven investor fixation and betting, yet won’t power manufacturing success, or restructuring glory. Only monster cannons stuffed with cash and time can drive manufacturing turnarounds, and a single quarter of goodness is only a teaser.
Ford’s indeed changing. It’s madly electrifying or reintroducing absolutely everything. They’ve electrified the Mustang–now the gleamy pin-you-to-the-seat Mach E, and the lighter all aluminum F-150 out next year. Soon will come the iconic Bronco redo, and the EV versions of the hyper-successful commercial vans, the “Transit” and it’s smaller sister the “Transit Connect.” Love those.
Ford’s been the recipient of an unholy gift box. How? Q3 was in large part driven by the filthy Coronavirus. How? Who wants to ride in the COVID car pool? One good sneeze or cough and you’re done–your family also. Think flu too. Most also hope to avoid any public transport. Some say both housing and autos are being driven by a pandemic exodus from large congested cities. The burbs look good once again. We also know that the average car on U.S. roads today is statistically old.
Ford’s near term success is not intermediate or longer term success. For Ford, the future remains a mystery in the oven. Large picture. Declining international auto sales, staggering sticker prices, and execution risk, all loom very large. U.S. automakers also face unionized labor costs that don’t lean on foreign car makers to nearly the same degree. Automakers have also been heavily applying big, expensive incentive packages, and 0% financing to drive sales. All cut into profits. What happens when rates rise?
Fact. New cars are mind-bendingly expensive and to a degree “discretionary.” That’s precisely why the used car market is absolutely a raging fire. Here’s one more. Ford’s October brought along with that giddy blowout EPS beat a change at the helm. Jim Hackett’s gone now as head coach, and James Farley’s in. Think football, or basketball. How often have you seen a team switch head coaches and dominate in the play-offs, or even make the play-offs? Same same.
Is Ford a good trade? Ford’s a speculative trade enjoying an uptrend driven by specific, transitionary, market conditions. It’s a pivot. Ford’s share price has been in a steep and ugly decline for more than five years. As a trade Ford’s most attractive when using call options–longer dated, in-the-money call options. Even cheaper would be a call spread. Buy an in-the-money call, and sell a call far enough above that to create a margin. Call spreads reduce both the risk, and price of the play, dramatically. Options do clearly limit the potential return.
Ford’s cheap–dirt cheap on price-to-cash flow, and price-to-sales. Yet it’s cheap for many reasons. All turnaround stories require time–serious time–multiple years typically. We see Ford as no different. Ford will not be paying you for your time, as the company was forced to eliminate a fat dividend in order to preserve capital. Such was only wise, but creates less reason for you to wait. Furthermore, restructuring is expensive and doing so in manufacturing even more so. For example. The botched revamped Explorer required a retooling of 96% of production line work stations.
We firmly believe that Ford will regain its’ stability and vitality, and over time provide attractive returns for shareholders. Along the way significant volatility is, we feel, almost a guarantee. We view the share price as extended, and the story itself as speculative. Ford is not a pattern trade, such as the Goldman play we covered last time. Ford’s a speculative up-trend play, near-term, one already up 80% in just six months. That’s a big move for any stock. Thus, in the near term we see Ford more as a downside risk, and here’s why.
Ford’s just had a tremendous run, one more akin to an IT play. Yet, it’s a capital-intensive low-margin manufacturer in turnaround. Ford’s impressive climb from the depths of the COVID collapse is now reaching pre-COVID levels. That creates three problems. Former support and resistance levels will now all function as resistance. Secondly, anyone who rode shares down, will now be highly tempted to exit when their troublesome position reaches even. Thirdly, any buyer who bought the collapse now has a big win. Many will chose to cash out prior to crashing into multiple levels of resistance which now lie directly above. See the chart below.
On December the 26th this year millions of unemployed Americans are scheduled to lose unemployment benefits. No sign from Washington exists now to suggest otherwise. Additionally, millions of service sector jobs lost since March are unlikely to return, ever. Sadly, many speculate that both U.S. employment, and thus the economy, have been altered for the foreseeable future. Think remote work and the automat-style digital restaurant. Further, automobiles rank as the second most costly item on any household’s buy list, second only to a home. Savings and stimulus checks reach only so far. Lithia Motors CEO Bryan DeBoer was recently asked where Americans are getting the money to buy cars. He responded “People aren’t gong to Starbucks anymore on the way to work.” Yeah, that must be it.
Both the auto industry and share prices are driven by fresh money joining in. There’s only so much of that around. Again, we feel Ford will return to robust health. Yet, better entry points will be offered. Market wide pull-backs offer the perfect opportunity to enter, at lower levels. Any investor willing to wait for a better price, and wait two years for the story to unfold, will likely be paid very well, for taking this risk. Is Ford a good investment? Yes, as a speculative play below $8.