Please ensure Javascript is enabled for purposes of website accessibility

Ford's Stock: One Serious Problem

By Daniel Miller - Apr 7, 2013 at 12:30PM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

The scariest thing when investing is not fully understanding important issues that may lurk hidden in financials. Here's one explained, and how it affects Ford investors.

Cancer is deadly for many different reasons. For one, it often lies undetected, while causing bodily harm for a lengthy amount of time. Ford (F -5.54%) has a similar problem, one that doesn't fully show up on the balance sheet or financials and often goes unknown among investors: an underfunded pension.

It's important that investors are aware of this issue, and since the underfunded pension can be a little complicated, I'll explain it step by step, tell you how it could be turned into a positive, and what Ford's plan to tackle the problem is.

Grasping the size
To give you a sense of how large the underfunded pension issue is, since it doesn't fully show up as a number on the financial sheets, I'll compare it to automotive debt, as both are obligations due from the company.

Ford's roughly $86 billion in total debt is misleading, because that includes the financial division, where it takes on huge loans at low interest rates and dishes the money out to consumers for financing. The profit in this sector nearly offsets Ford's losses in Europe. So if you take out the financial division, which adds approximately $72 billion of debt to the books, you find that Ford's real automotive debt sits at about $14 billion. Remember that number.

In contrast, it's estimated that Ford's pension is underfunded by about $18.7 billion. That's more than its automotive debt, and it's only about $6 billion shy of the massive $23.4 billion private loan it took out (and eventually paid back) before the recession hit. Ford put up its legendary Blue Oval as collateral on that loan. It's a big number.

Now, don't panic, Let's look at why this pension number is so large, how it will change going forward, and what Ford is doing about it.

What inflates the number
Low interest rates are supposed to be a good thing. They certainly allowed Ford to borrow money cheaply and use it to offer discounts to help sell cars or other company interests. But these rock-bottom rates also inflate the underfunded pension number, because they cause Ford to lower its discount rate, which essentially defines how large pension requirements need to be. Ford had to lower its rate from 4.6% to 3.84%, appearing to wipe out any progress it made on paying into the pension funds over the past year. 

But hang in there, There is good news, too!

From debt to surplus
Let's say that in eight years, the housing market has steadily improved, the automotive market has been healthy, the economy is more stable than ever, and politicians are working together in harmony. Well, OK, scratch the part about the politicians. Anyway, imagine, too, that interest rates have risen for the past few years and the discount rates have followed. This hypothetical situation would significantly change the look of Ford's underfunded pension. It would narrow the gap, and it's possible that if Ford had been diligent in paying into the fund, the company could actually be looking at a pension surplus! This is a real possibility, and can you imagine how the stock price would react if it happened?

Bottom line
Back here in the real world, interest rates are likely to be low for at least two years, so what is Ford doing now to fix this issue? In 2012 it paid $3.4 billion into the fund. It's been executing a plan to offer buyouts to salaried workers, which knocked off about $1.2 billion in obligations. And it's committed to putting $5 billion into the fund this year, with plans to have a fully funded pension by mid-decade.

If Ford handles this underfunded pension just as it dealt with its pre-recession loan -- which, again, is now paid off -- this goal is certainly achievable. If discount rates rise, even a surplus is possible. Either way, the issue should be much easier to deal with in the future. I'm bullish on the automotive industry and its companies, and I'm especially bullish on Ford.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Ford Motor Company Stock Quote
Ford Motor Company
F
$12.78 (-5.54%) $0.75

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning service.

Stock Advisor Returns
349%
 
S&P 500 Returns
122%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 05/19/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.