story looks like it's stuck in the mud.
Ford Motor Co. (
raced from under $2 in early 2009 to above $18 in early 2011. A
move toward the $25 mark started to become the next target for many
analysts, myself included. Instead, shares have drifted steadily
lower and now trade below $15. Even at that lower level, shares are
heavily shorted. Many analysts clearly expect the stock to fall
even further, but their logic looks flawed.
After losing a cumulative $7.5 billion in 2008 and 2009, Ford
earned a hefty $6.7 billion ($1.91 a share) in 2010. By late last
year, analysts started to wonder if $2.50 a share or even $3 a
share in profits might be possible by 2012. Now a series of
headwinds have altered that view. Short sellers increasingly aver
that Ford's profits may actually drop in 2011 and 2012. They note
prices are rising even faster than Ford can increase prices.
What these bears are missing is the
part of the equation. Ford looks set to sell even more cars in
2011, leveraging incremental gains off of its massive base of fixed
costs. (Industrywide, Merrill Lynch expects U.S. vehicle sales to
rise 21% in 2011 to 14 million .) In fact, the gains from increased
car sales are likely to be somewhat larger than the drag associated
with pricier raw materials.
Let's do the math.
A typical vehicle contains about $3,500 in raw materials. Steel
accounts for roughly 30% of that and rubber another 20%. Yet the
recent spike in commodities figured to take the total raw material
cost up by $800 to about $4,300. But in the past two weeks,
commodity prices have cooled a bit, and the raw-material cost
disparity now looks to be closer to $400.
That's a key figure for Ford. The company has recently hiked prices
on many models by an average of $200, and projections of higher
sales volume this year, which generate robust incremental profits
on each extra feature sold, could more than offset the $400 drag.
Add in the fact that incentives are quickly dropping (they were 19%
lower in the first quarter compared with a year ago), and the
average selling price is actually more than $1,000 higher for a
The Japan factor
It's also become increasingly clear that Japan's woes related to
the recent earthquake and tsunami will have a clear, positive
effect on the U.S. auto industry. The amount of Japanese vehicles
sitting on dealer lots is shrinking fast, with expectations that
some models will run out by June. By then, Ford,
and other non-Japanese manufacturers should be able to pick up some
throughout the summer, perhaps setting the stage for third-quarter
results that are noticeably stronger than current forecasts
suggest. A reduced supply of Japanese vehicles carries another
implication, as Merrill Lynch's analysts note: "Although this is a
near-term pressure on volume, it is also a positive for pricing."
Unlike short sellers, which have been anticipating an outright drop
in profits this year, most Wall Street analysts believe Ford's
profits will be flat in 2011 and 2012, as rising sales volume
roughly offsets spiking commodities. But as noted earlier,
commodities are pulling back a bit and sales volume could prove to
be impressive if the company can take market share from the
Japanese auto makers.
This is why I think theprofit view is too conservative. I
increasingly suspect Ford can earn closer to $2.25 a share this
year, roughly 15% above 2010 levels. First-quarter profits topped
estimates by 24% and Goldman Sachs looks for continued
outperformance: "We expect 2Q and 3Q
to be positive catalysts illustrating the company's ability to
drive earnings growth even in a rising commodity price
environment." If Ford could earn $2.25 a share this year, then
shares would trade for less than seven times that view.
Yet a price-to-earnings (
) ratio may not even be the best gauge, since Ford's earnings
before interest, taxes,
(EBITDA) is far higher than its
earnings per share (
, thanks to a high degree of amortization and interest expense.
Ford shares trade for less than four times consensus 2011 EBITDA
forecasts. Do the short sellers really think this stock is
The other part of the Ford story can be found on thebalance sheet .
The company is now minting massive sums of cash, which should
enable Ford to start paying dividends in 2012 and eventually push
its cash level north of $40 billion by the end of 2013 (from a
recent $21 billion).
Action to Take -->
Look for many of these themes to be covered during Ford's annual
meeting with analysts, on June 7. By then, Ford should have a clear
read on potential market share gains from Japanese rivals and on
the impact of the recent pullback in commodity prices on itsbottom
line . Management is also expected to discuss a possible boost to
an investment-grade rating for its bonds by the end of this year or
early 2012. This should set the stage for even lower borrowing
costs and reduced interest expense at the company's credit
Taken together, these tailwinds could help Ford's shares resume
their interrupted upward trajectory. If that happens, then look for
short sellers to cover their positions, creating even more buying
pressure -- and that $25 target may become a reality.
-- David Sterman
Disclosure: Neither David Sterman nor StreetAuthority, LLC hold
positions in any securities mentioned in this article.
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