Shares of Ford Motor Company (F -1.57%) plunged last week, after management warned that a worsening semiconductor shortage will knock out roughly half of the automaker's planned production for the second quarter. While supply constraints should moderate in the second half of the year, Ford doesn't expect to get back to normal production rates until 2022.
This supply chain mess will dent Ford's profitability and cash flow in 2021. However, the company's excellent first-quarter results highlight its potential to emerge as a much more profitable company in a year or two.
A fantastic quarter all around
The chip shortage cost Ford about 17% of its planned production in the first quarter. Normally, that might have weighed heavily on its earnings. But because the chip shortage is crimping supply across the entire auto industry and demand remains quite strong, Ford was able to offset the lost production with higher pricing -- and thus higher profits -- on the vehicles it did sell.
In its core North American market, wholesale volume fell to 533,000: down 29% from the 753,000 wholesales Ford logged in the first quarter of 2019. Nevertheless, revenue fell just 9% compared to the first quarter of 2019, reaching $23 billion. This enabled Ford to post a $2.9 billion operating profit in the region -- up from $2.2 billion two years earlier -- giving it a stellar 12.8% operating margin.
Cost-cutting efforts and similar moves to limit discounting and focus production on the most profitable vehicles also boosted Ford's results outside of North America. Its other regions collectively earned a $454 million operating profit. There's still a lot of room for improvement, but these results marked a step in the right direction. (In 2019, Ford lost money in every region of the world outside North America.)
Lastly, Ford's finance subsidiary continued churning out strong results, earning $1 billion before taxes. Stimulus programs have reduced delinquency rates in the U.S., while record used vehicle prices have led to a string of gains for the leasing business.
The net result was a record adjusted operating profit of $4.8 billion, or $3.9 billion excluding a big gain on Ford's stake in electric truck maker Rivian. Adjusted earnings per share of $0.89 crushed the analyst consensus of $0.21.
Short-term pain expected
Three months ago, Ford estimated that the semiconductor shortage would crimp its full-year adjusted operating profit by between $1 billion and $2.5 billion. Unfortunately, the shortage has gotten a lot worse since then, due to a March fire at a plant operated by Renesas: a top supplier of automotive chips.
Renesas resumed production at the affected plant in mid-April, but at just 10% of its usual capacity. Renesas hopes to boost production to normal levels by the end of May, but that target could easily slip into July. Ford therefore expects supply constraints to continue into the second half of 2021. Its forecasts assume that it will lose 10% of its planned production in the back half of the year.
As a result, Ford now expects a $2.5 billion hit from the chip shortage, limiting its full-year adjusted operating profit to between $5.5 billion and $6.5 billion. Considering that the company posted an adjusted operating profit of $4.8 billion last quarter, this implies very weak profitability for the rest of the year -- including a loss in the second quarter.
Focus on the long term
This downbeat forecast for the second quarter (and 2021 as a whole) explains why Ford stock dropped 9% last Thursday. Yet investors appear to be overreacting. After all, Ford still expects to earn a solid profit and generate positive free cash flow this year. The automaker also has $31 billion of cash on its balance sheet and $47 billion of liquidity in case it suffers any additional setbacks.
Meanwhile, Ford is positioned to deliver fantastic results over the next few years. With the chip shortage likely to crimp industrywide supply throughout 2021, automakers will benefit from pent-up demand in 2022. That will allow them to ramp up production while still keeping discounts below historical levels. These favorable industry conditions could even continue into 2023.
Additionally, one of Ford's most important new products -- the Bronco -- hasn't even started to reach customers yet. Several other new products are still in the ramp-up phase, as well. Those new products will provide a company-specific revenue and earnings tailwind next year. Ford's restructuring moves outside of North America should also support higher profitability abroad in 2022 and beyond.
In short, Ford's excellent first-quarter results demonstrate the company's future earnings potential -- whereas temporary headwinds explain its weak outlook for the rest of the year. That makes the recent dip in Ford stock look like an excellent buying opportunity.