In many respects, the auto industry remains in a funk. Industry
sales remain well below previous peaks, competition has never been
more fierce, and the need to spend heavily to develop future
technologies like electric cars are all creating profit headwinds.
In that light,
Ford Motor's (
just-announced second quarter pre-tax income of $2.1 billion is
quite remarkable. It's hard to find another company that has made
so many smart moves to escape the clutches of creditors and win
back the hearts of consumers.
We took a look at Ford
back in early June. Shares have risen +15% since then, but the
biggest gains lie ahead. That's because Ford is on the cusp of
becoming an earnings powerhouse. And if you have a three-year time
horizon for an investment, this is shaping up to be a two-bagger
from current levels.
Quarterly Results Set the Bar
A look at last Friday's quarterly earnings release gives a sense of
where Ford is now -- and where it's headed. The auto maker earned
$0.68 a share, 70% higher than the consensus estimate. But we've
seen this before -- Ford has blown past estimates for six straight
quarters. It's not because analysts are incapable of extrapolating
sales and cost trends to develop accurate forecasts, it's just that
Ford keeps uncovering more ways to exceed the high bar it has
In some quarters, management finds ways to reduce costs even faster
than analysts had expected. In other quarters, Ford is able to
maintain price increases that exceed even the most bullish
forecasts. This time around, Ford surprised the street by positing
very impressive profits on its small cars, which historically carry
low profit margins. The fact that Ford delivered $2.1 billion in
pre-tax profits in the second quarter represents not just an
improvement on recent results, but is better than any full-year
profit the company has posted in nine of the past 10 years.
At this point, Ford no longer needs to keep delivering unexpectedly
good news. It simply needs to maintain its current operational
metrics and let the economy do the rest. During the next few years,
analysts expect car sales to rebound as unemployment slowly falls
and aging cars need to be replaced.
Nearly 17 million cars and trucks were sold annually throughout
much of the last decade. That figure stands at around 11 to 12
million today. We may never see industry volumes surge back to that
17 million mark, but if they rose to 14.5 million, or +25% above
current levels, then Ford's profits could make a dramatic upward
move. This is a business with very high fixed costs, so each
incremental car sold brings plenty of profit to the
. Cars typically carry $2,000 to $3,000 in gross profits, while
trucks can generate twice that amount.
It's worth noting that recent results contain very tepid truck
sales, in large part because people working in the construction
trade are sitting idle, awaiting an upturn in housing and
commercial construction. When construction activity gets back on
its feet, so should demand for these high-margin trucks. Ford
stands ready for that upturn, having just released a new line of
F-Series Super Duty trucks.
Building a head of steam
The fact that Ford was able to post break-even results in 2009 was
considered a minor miracle in light of the cross-currents roiling
the global economy. As analysts began to look into 2010, few
thought the company could earn upwards of a dollar a share. A
string of great quarters has put that concern to bed. Look for 2010
forecasts to rise very sharply in coming weeks, from the current
$1.35 consensus to past the $1.70 mark. Forecasts for 2011 per
share profit could approach $2.25 and in 2012 or 2013, depending on
drops and auto sales pick up, EPS could approach $3.00.
Action to Take -->
Of course, cyclical businesses never garner a high
ratio, but isn't Ford worth more than four times potential 2012 or
2013 profits? A target of six implies +50% upside, but I'm betting
investors eventually come to believe that Ford should be worth
eight to 10 times that long-term profit view, meaning the stock
price could at least double from here.
-- David Sterman
David Sterman has worked as an investment analyst for nearly two
decades. He started his career in equity research at Smith Barney,
culminating in a position as Senior Analyst covering European
banks. David has also served as Director of Research at Individual
Investor and has made numerous media appearances over the years,
primarily on CNBC and Bloomberg TV. David has a master's degree in
management from Georgia Tech. Read More...
Disclosure: Neither David Sterman nor StreetAuthority, LLC hold
positions in any securities mentioned in this article.
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