If you thought that the great auto recovery had turned into peak auto, you might be right. Moody’s has issued a negative rating outlook on the Baa2 rating for Ford Motor Co. (NYSE: F). This might go unnoticed by most investors, but if Ford’s long-term credit ratings were to drop more than just one small notch and go under Baa3, then Ford’s debt would then be considered “junk bonds.”
Ford has had its share of disappointments. Its head of China left the job after just a few months of being there, and Ford had a bit of a disappointment on earnings when so many other companies are reporting great earnings. And Ford even experienced a slight drop in 2017 U.S. sales.
As far as why Moody’s is souring on Ford now, numerous issues were brought up. Moody’s cited a more challenging operating environment acting against Ford, noting rising incentives, softening demand in North America, higher commodity costs and increased spending to expand its portfolio of electric vehicles. All of this adds up to pressure against what would otherwise be a solid financial position.
One issue that was also addressed was the challenges Ford is going to face in implementing its “Fitness Redesign” initiatives. And the company allowed erosion in many of the operating disciplines over the past 18 months that had bolstered the company following the 2009 restructuring of the North American auto sector. Another issue to worry about is the industry move toward vehicle electrification, autonomous driving, and ride sharing.
Perhaps the real issue here is that no fix looks to be coming soon. Moody’s said that it now expects Ford’s operating performance to remain under pressure into 2019. Several factors could contribute to the longer-term success of the programs in 2018 and also could support a stabilization of the outlook:
1) the successful launch of vehicles in Ford’s robust 2018 new product pipeline;
2) a strengthening in operating margins during the second half of 2018 on the back of the new product rollout;
3) a material improvement in working capital and other asset management initiatives that will improve cash generation;
4) further improvement in product mix and net pricing globally.
While Ford’s progress in the areas that could stabilize the company would be constructive in restoring metrics that could support the Baa2 rating by 2019, it sounds more like the winds are against Ford rather than behind its back.
Ford also shares a risk that the entire auto industry faces in the need to allocate capital judiciously across an expanding range of potential investment opportunities. These were listed as geographic markets, vehicle categories, drive-train technologies, joint ventures/partnerships and the various business models related to ride-sharing. The risk is that this capital reallocation process could come with sizable restructuring expenditures if Ford decides to exit major businesses, product categories or markets. Moody’s said of this risk:
If such restructurings occur, they could place additional pressure on Ford’s already weak near-term financial performance and on its liquidity position. This added stress would have to be balanced against the timing, magnitude and certainty of the anticipated restructuring benefits.
Moody’s also noted that prospects for an upgrade of Ford’s ratings through 2020 are very modest. That being said, Ford was said to currently have a “sound liquidity position supporting its automotive operations” with 2017 gross liquidity totaling $37.4 billion at the end of 2017, made up of $26.5 billion in cash and marketable securities and $10.9 billion in committed credit facilities. Ford’s automotive debt maturing during the next 12 months also approximates only $3 billion.
Investors might ignore what the credit ratings agencies have to say about a company barely above the investment grade line at this time. After all, the market has been on fire and consumers seem to be more than optimistic. What seems like a large risk that Moody’s had addressed is if there is a sudden interruption in the great U.S. and global economic recovery, or if all that new lower-tax spending fails to materialize into car sales. That would only act to exacerbate what is already seen as unwanted pressure.
If it seems like a stretch to think that Ford could face junk bond ratings, look elsewhere at other ratings agencies. Fitch’s long-term issuer default rating is already at BBB- for senior unsecured debt. S&P is a tad better with its long-term issuer rating at BBB and a Stable outlook.
Ford shares were last seen down just 0.4% at $11.08, which may not be too bad on a day when the Dow Jones Industrial Average was also down 1.4% and the S&P 500 was down 1.1%. Ford’s 52-week trading range is $10.47 to $13.48, and its consensus analyst target price is $12.47. Its dividend yield is now over 5%.