As a long-term owner of Ford Motor (NYSE:F) stock with plans to hang onto my Ford shares as long as it keeps paying an above-average dividend, I’ve been watching the recent headlines about the company more keenly than most.
I’m concerned about the fact that Moody’s cut its credit rating on Ford, but I’m encouraged by the fact that Moody’s still deems the company itself “stable.”
Now more than ever though — after hearing fresh commentary from both sides of the table — I’m quite convinced that nobody really knows what Ford’s going to look like a year from now, let alone three years from now.
I do know this, however: If you liked Ford stock before Moody’s lowered its opinion of its debt, you’re not crazy if you still like it now. I still do.
The Downgrade Is Already Reflected in F Stock Price
As a reminder of the specifics, a little over a week ago, bond-rating agency Moody’s lowered its rating on Ford Motor’s bonds from Ba1 to Baa3, putting it into the so-called “junk” category. Moody’s is, of course, concerned about the company’s waning earnings and cash flow that comes as the carmaker takes on a rather massive $7 billion (at least) restructuring.
It definitely makes sense to be concerned about that.
But while F stock price temporarily tumbled on the day Moody’s announced the call, by the end of that day, Ford stock was on the mend. It’s held its ground in the meantime as well. What gives?
Most likely, the debt downgrade came as no real surprise to the owners of Ford stock. Indeed, with F stock priced at 6.7 times the company’s projected operating earnings and yielding 6.5%, the shares are valued as if an apocalypse is inevitable. That’s been the case for awhile.
The value of Ford’s bonds plunged in the wake of the credit downgrade, but only because the cost of insuring them jumped dramatically after they officially became junk bonds.
The Fix is Already Out of Reach
Whatever the case, even Moody’s hedged its call by explaining how Ford could repair its credit rating. The agency noted, “factors that could contribute to an upgrade include a robust progress in the initiatives that it is undertaking as evidenced by: a North American automotive EBIT margin sustained above 9%; full compliance with US and European emission requirements based on the profitability and market acceptance of its electrified vehicles; and total automotive EBIT margin exceeding 7% (excluding special items).”
Moody’s message went on to say “Another element important for a ratings upgrade is an operating structure that is robust enough to sustain the total automotive margin above 4% during an approximately 20% cyclical downturn in unit shipments, while controlling the cash burn to preserve automotive cash above $10 billion.”
Those standards sound perfectly reasonable. Except they aren’t.
Take, for instance, EBIT margins in excess of 9% for the company’s North American arm. The unit hasn’t been able to reliably produce margins above 9% since 2015, when “peak auto” was in full swing. That was a cyclical statistical outlier. Meanwhile, last quarter’s automotive EBIT margin was less than 4% in a car-buying market that’s sleepy but still active. A 20% downturn would undoubtedly crimp that figure even further.
The bar seems set impossibly, and somewhat arbitrarily, out of reach for Ford, despite its clear stability.
And equity analysts don’t exactly agree that Ford stock needs to reach those metrics to be deemed a quality holding, by the way. Analysts’ average price target of $10.73 for F stock is 15% higher than its current level. Those same analysts, on average, are still modeling the same earnings per share that Ford mustered last year. However, the average 2020 EPS estimate calls for an increase of 8.5%.
Pundits have also been concerned about the sustainability of Ford’s dividend. InvestorPlace columnist Mark Hake believes the regular dividend is in jeopardy, while Luke Lango likes Ford stock, expecting its dividend to be sustained by improving auto sales. Let’s also not forget that the company has been getting out of geographical markets that have been bleeding money. That will raise cash flow and its net profits, despite the huge, one-time cash costs that come with those steps.
And again, even Moody’s still rates the company itself as stable, yet for some reason believes Ford will struggle to service its debt. Go figure.
In short, nobody really has a clue what to make of Ford now, as it’s a moving target. If you liked Ford stock enough to own it two weeks ago though, very little has actually changed in the meantime. The noise is just that … noise.
As of this writing, James Brumley held a long position in Ford. You can learn more about James at his site, jamesbrumley.com, or follow him on Twitter, at @jbrumley.