Ford Motor Co Earnings Call Insights: Incremental Margins and $2 Billion Loss

Ford Motor Co (NYSE:F) recently reported its fourth quarter earnings and discussed the following topics in its earnings conference call.

Incremental Margins

Brian Johnson – Barclays Capital: I want to ask a half financial, half kind of management strategy philosophy question, and it really is around the North American margins, which are great, but I think there’s always an expectation out there that as revenue grows, we should see – one might see incremental margins above current margins and hence margin expansion. So if I look at your guidance for 2013, you’re implying revenues are up with higher market share and a rising market. You’re implying profits are up but you’re implying margin’s flat. So I guess the question for Bob is how do you – just what is mechanically going on with incremental margins? And then really for Mark and Alan it’s how do you think about bringing incremental revenue to the bottom line versus reinvesting it in a brand and a product line and future technologies?

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Alan Mulally – President and CEO: Sure, Brian. We’ll start with Bob.

Robert L. Shanks – EVP and CFO: I think first of all, let’s all acknowledge 10% is a great margin. And I think the consistency that the business has demonstrated through all four quarters of 2012 shows the strength of the business, which as we’ve indicated in the guidance, will continue into ’13. We are expecting growth both from an industry perspective and from higher share, so your premise is correct that you would expect the leverage to generate an even higher margin. The main thing that’s affecting North America and I’ll say relatively capping the margin at about 10% is when I touched on the third quarter we have about $0.75 billion of non-cash structural cost increase around three areas. Back in ’05 we amended our healthcare plans and generated substantial cost savings. We amortized that through 2012, that ran off last year and this year as a result, we pick up if you will or we lose the benefit of that amortization to the tune of about $275 million. Secondly, in 2008 we impaired our assets in Europe; that also was amortized in North America, amortized also through 2012 that ran off last year. So the effect of that going away is over $200 million. And then lastly pensions. We have increasing pensions of over $300 million related to record low discount rate of last year. I had also mentioned that we are continuing to invest in even more growth in future so as the year progresses you will start to see higher engineering expense. We also have the 400,000 units of additional capacity that we put on-stream last year, so that’s several I think it’s four different shifts that we added last year which brings cost as well of course is bringing the revenue that you talked about. So, the results of all of that is what is essentially is keeping that margin to 10%. And I just would remind you that all of those things I just went through with the exception of the shift affects are non-cash which is one of the reasons why while the profits are guided to be about flat. We do expect our operating related cash flow to be even stronger this year than it was last year.

$2 Billion Loss

John Murphy – Bank of America Merrill Lynch: I had a couple of quick questions; first on Europe, if you could just run through the same kind of thought process you just went through for North America, because your highlighted debt accelerated DNA was a bit hit in the fourth quarter and will be through 2013. Just trying to get an idea of what that is and if there are any other costs that might be loaded into that $2 billion loss number for 2013 that you’re looking for?

Robert L. Shanks – EVP and CFO: I think maybe Steven can add some color and texture, when I’m finished. Just to give you a feel about what’s going on there and how we’re looking at it. First of all, I think we have to remind ourselves that we’re looking now at an industry that’s probably in the lower half of the range that we’ve provided of $13 million to $14 million. So let’s say $13 million to $13.5 million and we did $14 million last year. So the industry is continuing to decline. We think $13 million will be the trough. Our expectation is that we’ll start to improve after 2013, but it is going down. So that clearly is – and that’s a bit new news to us versus what we said in October and one of the key issues behind the increase and the loss that we’re guiding to for 2013. In addition, we’ve got restructuring related cost on a year-over-year basis of $400 million to $500 million in 2013 versus 2012 and we also are seeing higher pension expense of probably about $200 million related to the low discount rates which were even lower than they were in the U.S. So those are some of the big things that are happening. The other thing that we probably have not mentioned and may not be aware of, we meet our all investments in the business to turn it around, because we do believe that the industry will turn around and with the actions that we’ve outlined, we are going to get to a profitable growing Europe for Ford Motor Company. As part of that and to reconfigure our plans, there is an opportunity cost that sort of underline the 2000 results and that we had to defer the launch of the Mondeo a year. It would have launched in 2013. It’s now not going to launch till 2014 and that has the effect of – I guess it’s an opportunity cost of about several hundred million dollars. So, all these things are what’s generating the loss that we’re guiding to next year, but again, John, looking at all of this as investments and a stronger better business for Europe just as the same way that we looked at similar type of actions in North America.

John Murphy – Bank of America Merrill Lynch: Maybe just to ask a broader question because it sounds like there is a lot of incremental investment for future growth that’s coming in 2013 and we’ve seen this benefit actually come through in North America and you actually realize the margins you’ve been talking about. As we think about these margins internationally, I think, you guys in your sort of (indiscernible) targets are looking around for about 8% international margin. Obviously, you’re going to be far off of that in 2013. Do we hit a point in ’14, ’15 or ’16 where all this investment starts to tail off relative to the size of the revenue base and we just get this real step up, because I think that’s kind of what we are struggling with here. We understand the pressures in the short-term, but just trying to really understand when we might see that real benefit that you had clearly have illustrated you can do it. You did it in North America. I’m just trying to understand when this kind of pressure, forget about market forces, but this pressure from investment and growth really kind of tails off?

Robert L. Shanks – EVP and CFO: That’s a good point. I think you’ve made the point about North America. Let’s talk about Asia Pacific, which is sort of like along the path because we are seeing tremendous improvement in wholesale revenue and share in 2013 and yet we are still looking at sort of breakeven-ish type results, a small loss, and we are seeing the same thing for ’12 and we are seeing the same thing for 2013, but you are seeing the top line growth, but we’ve got seven plants under construction right now in Asia Pacific and we’ve got a lot of new products that will be new to the market that we are in the process of developing that clearly are affecting us in terms of costs, but the revenue is yet to come. So, think of Asia Pacific as on the way and we are seeing the top line results and we do expect to have meaningful contribution in terms of profitability to the Company by the time we get to mid-decade and it certainly will be contributing to that guidance that we’ve given around the Company’s operating margin. You’ve got Europe that’s starting. You’ve got an economic environment on top of that as I just mentioned that’s in recession, likely to be recession for the full year and extremely low industry volumes. So, we’re just starting that journey as you know and as we’ve said, these things don’t happen in three months, six months or even a year. But we will get there and these costs that we are incurring, I mean, we think of them as investments, will give us the ability to be profitable. Now, by mid-decade are we going to be getting an 8% or 9% margin in Europe. No, we think that’s a 6% to 8% margin that’s further out. But we do think we’ll be above the zero line starting to generate some profit back to the Company. In South America, a little bit different. I think we are starting to see some stability we think for the moment around the changing trade policies that we saw last year. But this year, we’re expecting very substantial adverse exchange effects from an expected significant devaluation in Venezuela and we are also thinking that we’ll see a substantial weakening of the currency in Argentina that’s going to affect us. So, the story in South America is a little different. We are starting to see some stability around some of the issues that affected us last year, but this year we are going to see big impacts from currency. So, each business is kind of in a different place, but I think things are starting to come together and we certainly see the ability to generate the types of margins that we’ve talked about in the years ahead.

A Closer Look: Ford Motor Company Earnings Cheat Sheet>>