Ford Motor Company Financial Analysis and Stock Valuation

Ratio Analysis

Ford Motor Company (NYSE: F) has been subject to considerable fluctuation in its finances over the past five years. The company rejected government bailout money in order to maintain control of the company. Since that point, Ford has experienced something of a renaissance, and its financial performance reflects this. The following report analyzes Ford's financials, the prevailing economic conditions, and the company's competitive position, and provides an analysis of Ford's stock price. Figures used are drawn from MSN Moneycentral, and the Investopedia model of ratio analysis is applied throughout (Loth, 2011).

The first set of ratios to be calculated is the liquidity ratios. Ford's current ratio is 2.6, its quick ratio is 2.44, and its cash ratio is 0.39. In 2007, the ratios were as follows: current ratio was 1.7, the quick ratio was 1.59, and the cash ratio was 0.37. This shows that the company's liquidity has improved in the past few years. Receivables make up the largest portion of current assets by far, which explains why the difference between the quick ratio and the cash ratio is so large while the difference between the current ratio and the quick ratio is comparatively small.

Ford has shrunk in size over the past few years. During this period it has shed debt, but as it has also reduced its assets, it is necessary to calculate the debt ratio in order to determine the degree to which Ford's capital structure has actually changed. The company's debt ratio in 2010 was 1.00, compared with 0.98 in 2007. The intervening years show that debt increased slightly during the economic downturn, with the debt ratio ballooning to 1.07 during 2008. Thus, despite having negative equity and a debt ratio higher than historic levels, Ford has made progress in the past year. Most of the debt is classified as long-term debt, and the biggest components are debt owed by Ford Financial, which accounts for half of all long-term debt (Ford 2010 Annual Report, p. 75).

The automobile business is typically a high-volume, low-margin business for major players. Ford's gross margin in 2010 was 15.6%, compared with 6.4% in 2008 and 2.1% in 2006. This indicates that the company has exerted better control over its pricing to consumers and over the prices it pays its suppliers. The operating margin in 2010 was 4.4%, compared with operating losses in 2008 and 2006. Although the higher gross margin contributed to this improved performance, so too did cost-cutting: Ford's selling, general, and administrative expense as a percentage of revenue was 9.1% in 2010, compared with 16% in 2008. The net margin for 2010 was 5.1%, compared with net losses in both 2008 and 2006. Losses in those years were in excess of $12 billion, so the turnaround has been impressive. Ford earned a better net margin than operating margin primarily through "other" transactions and by being the recipient of an income tax payment in 2010.

The next category of ratios is the operating performance ratios, which indicate the efficiency of the company's operations. Ford's receivables turnover is 17.7 times, which equates to approximately 20 days. Inventory turnover is 19.9 times, and asset turnover is 0.7 times. The latter figure is low because of the high fixed-asset component of the company's structure. Both the receivables and inventory turnover figures are well above the industry average, a credit to Ford's recent performance improvements.

The investment return ratios measure the degree to which the firm's assets, equity, and invested capital are converted into profit. Ford recorded a return on assets of 3.7% last year, which is superior to the industry average of 2.5%. The return on invested capital was 5.6%, which is superior to the industry average of 4.2%. The company did not record a return on equity, since its equity remains negative. While Ford outperforms on these ratios at present, it has underperformed industry averages over the past five years. This indicates that Ford is beginning to overcome its past troubles, shifting from being a relatively poor performer to a relatively strong one.

Overview of Current Economic Climate

Based on these ratios, Ford's performance has improved over the past couple of years. Its liquidity has improved, and the company has returned to profitability. Ford has also improved its operational efficiency. However, Ford's financial statements still show some weakness. The company continues to carry negative equity, which particularly affects the return on equity and debt ratio. If Ford's financials continue to trend in their current direction, the value of the company's equity should improve.

While much of Ford's relative success or failure is determined by the company's own actions — its beta of 2.38 would indicate as much — the company is still subject to prevailing economic conditions. The company saw its performance decline in 2008 and 2009 during the depths of the recession as consumers either delayed automobile purchases or bought cheaper cars in response to economic uncertainty (Miles, 2010). In addition, there is a significant degree of cross-price elasticity of demand between different models of automobile and the price of gasoline. As a result, in addition to major economic indicators such as GDP, unemployment, and durable goods orders, Ford is also influenced by gas prices. Because the company operates worldwide, Ford is vulnerable to economic changes in a number of different markets. However, as the key Western markets in North America and Europe account for 72% of volume sales (2010 Annual Report), localized economic conditions are less relevant to Ford's future than the prevailing conditions in the world's developed economies.

The Congressional Budget Office forecasts generally slow growth for the American economy over the next two years. The forecast for real GDP growth is 2.7% in 2011 and 3.1% in 2012, levels not dissimilar to those in 2010 — a year in which Ford was able to turn a profit. The CBO also forecasts that unemployment will continue to improve slowly, dropping to 9.2% in 2011 and 8.2% in 2012. It is worth noting that after the CBO published these expectations in January 2011, it was announced that the unemployment rate had already reached 9.0% in April, ahead of the CBO's projections (BLS, 2011). There are no projections for durable goods, but durable goods orders surged in April by 2.5%, indicating strong growth and strong consumer confidence, as durable goods encompass all goods designed to last more than three years (Dougherty, 2011).

The other major economic variable affecting Ford is the price of gasoline. When pump prices are high, consumers want to trade down to more fuel-efficient cars. Previously, this was bad news for Ford as the company lost business in its higher-margin truck segments in favor of smaller cars. Now, however, Ford has a hybrid in its lineup, and consumers may shift to the hybrid in response to higher fuel prices. Gas prices are currently at high levels, and there is evidence that these levels are sticky — resisting attempts by OPEC to bring prices down to the cartel's preferred range (OPEC, 2011). The Fusion Hybrid is a relatively new product, first launched in 2009, so there is insufficient evidence to determine cross-price elasticities for this vehicle. This lack of data creates conditions of uncertainty for Ford's planning.

Brief Overview of the Auto Industry

In total, the auto industry represents around 10% of the United States economy and employs around 25 million people worldwide, making it one of the largest industries on the planet (Automotive Online, 2010). The industry is comprised of a handful of global players combined with some strong regional players. Many of the latter — and some of the former — receive significant government support in their homelands. Even in North America, automakers receive substantial government support, which skews competition away from a strictly monopolistic competition model. The world's leading automakers in 2004 were GM (10% market share), Toyota (7.9%), and Ford (7.7%) (Ibid). There is evidence that Ford is aiming to grow its share of the global market; its joint venture in China saw sales increase 84% in Q1 of 2010, for example (Rosevear, 2010).

In general, the auto industry is considered mature in Western markets and growing — sometimes rapidly — in the developing world. Production is often located in the world's major markets, in part to avoid tariffs and other trade barriers that generally discourage the importation of cars into major economies. Foreign firms like Ford often must enter emerging markets via joint ventures, as local governments frequently encourage the development of a domestic auto industry for reasons of both job creation and national security. According to the International Organization of Motor Vehicle Manufacturers (OICA), the list of major auto-producing markets features most of the world's developed and developing economies (OICA, 2011). According to Ford's 2010 Annual Report, the company produces in the US, Canada, the United Kingdom, China, Thailand, Argentina, India, and Brazil, covering most of the major auto markets.