Ford Returns to Investment Grade

Ford (NYSE: F  ) hit another big -- enormous, in some ways -- milestone on its turnaround path on Tuesday, as Fitch Ratings upgraded the company and its financing arm to investment-grade credit status.

The upgrade to BBB-minus, the lowest credit rating that can be considered investment grade, marks Ford's first visit to the exalted land of the creditworthy since its debt was downgraded to "junk" status in 2005.

Assuming the other ratings agencies follow suit soon, it'll be a big deal for Ford, and a big victory for its leadership. But what does it mean?

What does a credit upgrade mean?
Simply put, a credit upgrade means that Ford will pay less to borrow money from now on. It will likely be able, if it chooses, to restructure its existing debt at more favorable rates -- a move that could save it hundreds of millions of dollars a year. It also means that more institutions (think: mutual funds, pension funds, etc.) will be able to invest in bonds issued by Ford.

Ford's credit default swaps -- a type of derivative security used as default insurance -- dropped significantly in price shortly after Fitch issued the upgrade on Tuesday morning, and Ford bonds trading on the secondary market should rise in price as the market digests the news.

The upshot for shareholders? While shares were up modestly on the news, mostly it's another important sign that Ford's turnaround remains on track. It is likely to show up in Ford's bottom line over the next few quarters, as the company's reduced borrowing costs are reflected in earnings.

Why did Fitch upgrade Ford now?
Fitch said in a statement that its analysis "included a focus on the impact a severe automotive market downturn would have on Ford's credit profile." For a cyclical company like Ford, which has historically gone through feast-and-famine cycles as the economy has bobbed up and down, the greatest risk is during a severe economic downturn. Indeed, the most recent severe downturn nearly killed Ford -- and drove its longtime rivals General Motors (NYSE: GM  ) and Chrysler into bankruptcy court.

Why does this happen? Generally speaking, automakers' profits drop during downturns, as consumers put off new-vehicle purchases -- and often, choose smaller, less expensive (and less profitable) models when they do need to buy. Meanwhile, the automaker needs to cover its high fixed costs, and it needs to continue developing its future products -- a new car or truck can take three years or more to go from concept to production, and heavy investment is required all along the way.

The ability to sustain constant investment
General Motors cut its product-development spending to the bone during its downward spiral, and many other automakers, including Toyota (NYSE: TM  ) to some extent, reduced spending when the economy went south in 2008. Ford, which had borrowed everything it could back in 2006, was able to keep development going at full speed even during the worst of the economic crisis. The result was the company's current acclaimed range of products -- products that were able to steal sales and market share over the last couple of years as competitors rushed to catch up.

Long story short, after a detailed look at Ford's current financial situation -- including its cash position, which exceeded its remaining debt by about $10 billion as of the end of 2011, and its access to lines of credit -- Fitch concluded that Ford would be able to keep all of these things going through another severe downturn.

That's good news. If I were Ford CEO Alan Mulally, or just-retired former CFO Lewis Booth, I might be tempted to open a bottle of really nice champagne tonight. I expect they, and the team of Ford managers that made this happen, would say that there's still a lot of work to be done. But this is one more sign that Ford, after decades of struggles, is on the right track.

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Fool contributor John Rosevear owns shares of Ford and General Motors. Follow him on Twitter at @jrosevear. The Motley Fool owns shares of Ford. Motley Fool newsletter services have recommended buying shares of Ford and General Motors and have recommended creating a synthetic long position in Ford. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Read/Post Comments (9) | Recommend This Article (16)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 24, 2012, at 12:56 PM, mistacy wrote:

    With F due to report earnings within a few days, I find it very interesting that Fitch has decided to upgrade F credit status now versus waiting for the report to come out to the public. It smells like insiders know good news are coming. I have been long F for a while. It may finally pay off some time soon.

  • Report this Comment On April 24, 2012, at 1:02 PM, foolerthanmost wrote:

    waiting for this stock to go up has been like watching paint peel. maybe the market will finally pay a higher multiple.

  • Report this Comment On April 24, 2012, at 1:19 PM, TMFMarlowe wrote:

    @foolerthanmost: My IRA feels your pain. It's certainly not Ford's execution that's holding the stock back. We shall see.

    Thanks for reading.

    John Rosevear

  • Report this Comment On April 24, 2012, at 5:07 PM, DJDynamicNC wrote:

    I'm glad F remains undervalued. I am very long on the company and eager to continue to pick up shares at lower valuations.

    It's an ideal time to be stocking up.

  • Report this Comment On April 24, 2012, at 6:40 PM, dockofthebay wrote:

    The market responded to the credit upgrade with a yawn today. I remain long on Ford, but short on patience.

  • Report this Comment On April 24, 2012, at 6:54 PM, CaptainWidget wrote:

    I'm a car guy from the beginning, and the biggest sign of Ford's turnaround to me was it's flagship ponycar, the Mustang. The 2011 model, for the first time in about 40 years, was the quickest, best performing, best looking, AND best priced out of all sports cars in that range. It takes a Corvette priced at 30K+ more expensive to compete with it on the track, which says a lot.

    From a product perspective, they're finally back on track. I think they still have some things to correct behind the scenes, but in the long term, I think Ford has made the right moves and put the right people in place to crawl back to the top.

  • Report this Comment On April 24, 2012, at 9:17 PM, TMFMarlowe wrote:

    @dockofthebay: Earnings come out on Friday. Market won't do much for the stock before then.

    Thanks for reading.

    John Rosevear

  • Report this Comment On April 25, 2012, at 12:32 AM, dgmennie wrote:

    The article "How to Fight Back in the War on Retirement" is not accessible in today's Motley Fool newsletter. Cannot get it to open. Cannot read. What is the problem????

  • Report this Comment On April 25, 2012, at 7:00 AM, TMFMarlowe wrote:

    @dgmennie: I'm not sure what's going wrong for you, but that article is here:

    http://www.fool.com/retirement/general/2012/04/24/how-to-fig...

    John Rosevear

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