By on November 6, 2009

(courtesy imcdb.org)

We tore David Cole a new one the other day, when the leader of the manufacturer and union-supported Center for Automotive Research suggested that trimming GM and Chrysler dealers wasn’t such a good idea—based on some schmoozing with his pals. Never let it be said that I won’t trot-out a dubious source when it suits my editorial needs, especially when it comes to bashing Ford. Just kidding. I love Ford. My first three cars were Fords. I want Ford to succeed. I am not, however, blind to the fact that Uncle Sam shoveled $10 billion worth of no-to-low-interest twenty-five year loans in FoMoCo’s direction. Nor am I Detroit News columnist Daniel Howes; I will not predict sunshine and roses simply because there’s a government-sponsored break in the clouds hanging over the Glass House Gang. TTAC commentator Mark MacInnis shares my skepticism, with a nod to Mr. Cole . . .

Amidst all the hoopla yesterday about Ford’s quarterly profit, was this little nugget, which doesn’t bode well for their future. “‘That puts Ford at a competitive disadvantage,’ said David Cole, chairman of the Center for Automotive Research in Ann Arbor, who estimated that servicing Ford’s debt adds more than $1,500 to the cost of every vehicle the automaker sells in the United States.” Now, Ford sells as many or more cars worldwide as they do in the U.S., so the cost advantage per-vehicle is actually less than this hyped number. But it’s still what? A six percent or seven percent cost dis-advantage? That’s BEFORE the labor costs, which are higher than GM since the UAW repudiation of Ford’s contract do-over. And higher than Toyota’s and Honda’s. Still. So, add it up, and Henry’s company has to build vehicles ten percent more efficiently or ten percent more desirable to overcome that debt-related disadvantage. A formidable task. So, before we all start congratulating Ford on dodging the bullet, we better watch out for that ricochet . . .

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23 Comments on “David Cole: Ford’s Debt Adds $1500 to Cost of Every Vehicle...”


  • avatar
    rnc

    Ford received $6 billion from the DOE not $10 billion. The cost per/car is significantly less than $1,500 (and that is at 10m SAARs)and when you add in the increase in average MSRP and the decrease in incentives (+) the $5 billion in savings starting next year from the VEBA (+) the benefits from the One Ford plan, it really doesn’t work out to a huge cost disadvantage. And when you take into consideration that last Q they generated enough free cash flow to pay down $2 billion in debt early and still add another $2 billion…

    And in terms of Toyota and Honda I would love for someone to calculate the Yen appreciation effect, I am willing to bet that it is more severe than what Ford is dealing with (and yes I know that they manufacture in the US, but a majority of the cost structure is located in Japan.)

  • avatar
    Boff

    We’d need to know the comparable debt servicing cost/unit figure for other automakers to make any sense of this story.

  • avatar

    Boff – I agree. This story is lacking in comparative data, which isn’t a trademark of Robert’s writing. I’d think most manufacturers have some kind of debt costs they need to factor into their pricing.

  • avatar

    I’m with Boff. Nearly every company, much less every automaker, has debt.

    Also, is all of this corporate debt, or is some of it Ford Credit debt that was used to fund car loans?

  • avatar
    Pch101

    I’d think most manufacturers have some kind of debt costs they need to factor into their pricing.

    Correct. That’s a glaring deficiency in Mark MacInnis’ comment. Manufacturing concerns all carry debt.

    The comment also misses how the turnaround game is played. Here it is in a nutshell:

    Step 1 — Cut costs by increasing efficiency and focusing the business on what it does best, cutting out the extras that drag it down. If possible, cram down debt.

    Step 2 — Increase earnings. Get the market to be willing to pay more for those earnings (i.e. get the stock price up.)

    Step 3 — Sell more stock to reduce debt and/or use the improved credit rating to refinance debt.

    Mulally seems to have done reasonably well with Step 1, and is moving through Step 2. You can see what his next move will be.

    Debt reduction undertaken too quickly can be a drag on a turnaround, because capital is scarce and is needed to build the top line.

    If Ford was to focus now on paying off debt, there would be no cash left to build the business. That mistake might appeal to debt-conscious bean counters who aren’t charged with running a business. But to those in operations who are trying to generate earnings, focusing on debt at the expense of future production, marketing, etc. would be a fatal error.

  • avatar
    KixStart

    It seems to me that Ford doesn’t have to build cars 10% more efficiently than everyone, just 10% more efficiently than Chrysler or GM. If they’ve got good product, they should be able to steal sales from them for some years and grow their volume. There’s a real backlash against GM for going on the dole.

    I believe there’s still a significant element of domestic preference in the market, which Ford should be able to exploit. Just don’t do it shamelessly and continually, like GM. With their quality rep improving, some sales may come back from the better Asian makes, too.

    I’m not saying everything’s coming up roses but they’re not at death’s door, either.

  • avatar
    Pch101

    Also, is all of this corporate debt, or is some of it Ford Credit debt that was used to fund car loans?

    As of the first half of 2009, interest expense for the automotive side was $850 million, while it was $2.77 billion for the finance side.

    http://www.sec.gov/Archives/edgar/data/37996/000114036109017928/form10q.htm

    If you assume annual interest expense for automotive of $1.7 billion (double the first half amount) and annual global sales of about 4 million vehicles (a low ball estimate based upon first half sales), you end up with $425 per vehicle.

    The financial services side was able to generate positive earnings during the second half, so it appears to be supporting itself. Again, if Ford can continue to increase its earnings, its credit rating should improve and reduce its relative interest expense, while some of the increases in net cash flow could be used to pay down some of the principal.

  • avatar
    ohsnapback

    I believe there’s still a significant element of domestic preference in the market…

    With all due respect, outside of Michigan, Ohio, and possibly Indiana, I’ve observed a significant element of import brand preference, and this is doubly true on both coasts.

  • avatar
    mtymsi

    Speaking of other manufacturers debt, what is GM and Chrysler’s factoring in the federal paybacks? It has to be astronomical compared to Ford.

  • avatar
    ohsnapback

    Speaking of other manufacturers debt, what is GM and Chrysler’s factoring in the federal paybacks? It has to be astronomical compared to Ford.

    They’ll probably never have to pay back a significant chunk, or if they do, it will amortized over a very long time line.

    There’s no doubting that GM and ChryCo shed an incredible amount of debt vis-a-vis their prepackaged bankruptcies, and that they also were able to lasso the UAW in that process.

  • avatar
    Juniper

    If you don’t like low/no interest loans, you must hate Toyota, Honda, Nissan. Since you are all finance number happy lately, check out their debt and how little it costs to service it. Do the math.

  • avatar
    Mark MacInnis

    To be fair, my post was not written as, and was never intended to be, an in depth analysis. Nonetheless, my point still remains.

    A quick look at comparative financials available on-line shows that, at 6/30, Ford’s L/T Debt was $133 BN, vs. total assets of $200 BN. Ford notably has NEGATIVE retained earnings of roughly $10 BN (all #s are US $)

    At 3/31/09, ToMoCo had HALF the L/T debt…$64Bn US, and $295 Bn in total assets. So, by any measurement, Toyota has a MUCH healthier balance sheet, and $65BN, give or take a billion, less debt.

    Also, Toyota world wide has far more vehicles over which to amortize that debt…..then, factor in the impact of the Japanese Keiretsu system,where Toyota for all intents and purposes OWNS their own banks, and the banks are deeply invested in Toyota’s success, which translates into lower rates, if needed, less restrictive loan covenants, if needed, and generally better terms. Ford’s (and America’s manufacturing companies in general) banking relationships are much more arms-length (not sayin’ that’s a bad thing….just reality.)

    So, I did the math. It’s right enough for government work. Anyway you slice it, Ford’s high debt structure is a SERIOUS drag on resources and a LARGE per-unit cost disadvantage for them.

    Any questions? Schools out….ring the bell.

  • avatar
    Pch101

    Toyota has a MUCH healthier balance sheet, and $65BN, give or take a billion, less debt.

    I think we know that. That isn’t really the issue.

    Toyota is suffering from a cyclical downturn, while Ford has been in need of a massive restructuring. The problems are different, and the starting points are different.

    Your view is backward looking. The challenge for Ford is to generate earnings that it can use to improve its standing. Debt reduction is a gradual process that occurs during its turnaround period. If it prioritized debt repayments over growth and restructuring, that would destroy the business, leaving it with a bucketload of debt **and** no means to service it.

    You’re also missing the point that Ford retired almost $30 billion in LT debt during the first half of 2009, so it’s not as if the balance sheet has been completely ignored. But the priority appears to be on operations, as it should be.

    I’m personally not convinced that Ford has a strong portfolio of revenue generators, but the degree of progress in cleaning up the financial mess is unmistakable. The issue for Ford is whether this is fast enough. The odds look pretty good from here, although success is not guaranteed.

  • avatar
    TomH

    Cole is only stating the obvious. The Fed erased the debt and leveraged labor deals at two out of three US automakers. Assuming the US market is somewhat of a zero sum game, the Fed also diluted Ford’s sales opportunities by propping up its two non-viable domestic competitors.

    WCF may live in Ann Arbor, but don’t be shocked if he votes a straight Republican ticket in the next couple of election cycles. Ford got screwed in this deal.

  • avatar
    Mark MacInnis

    @Pch101 :

    “I think we know that. That isn’t really the issue.”

    Au contraire, mon ami….it is PRECISELY the issue. The auto industry is much more than many others extremely cost-competitive. Especially now, since Ford has gotten it’s quality “on par” with the best of the world. Rational consumers will always buy the car that is the best perceived utility per dollar, other things being equal. Other things BEING equal, Ford will have a difficult time competing on PRICE, BECAUSE of the debt they carry in relation to the other automakers…not just Toyota, but a post-bankruptcy GM…(Fiat-Chrysler, or Far-Cry, is dead brand walking.) And to those that say that Ford just has to beat GM and Far-Cry, well, what about Honda,Hyundai, & Nissan? Ford wants to be a world player, they have to compete with the world.

    My point still remains. Ford’s debt, and the interest they will pay annually in real dollars, will continue to be a COMPETITIVE cost dis-advantage to them…against other OEM’s that don’t have that cost. Axiomatic. So, Ford’s cars will have to OUTPERFORM in other facets, in order to entice an increasingly COST-CONSCIOUS consumer to choose Ford. Or, Ford will have to accept lower Margins.

    Axiomatic.

    I never said they couldn’t do it. I just wrote that ONE profitable quarter maketh not a resurrected company…..the hangover effect of their debt, when their competitors don’t have NEARLY that amount, is and will continue to be a competitive problem. Until it’s paid for, or OTHERWISE disposed of.

  • avatar
    adonasetb

    A question as much as a comment – I’ve heard it said by those that have no idea what they’re talking about that the Japanese government supplemented the coffers of Toyota and Honda until they made solid inroads in the USA automobile market – are those rumors true? If they are true then how is the support of Ford by the US govt any different or worse than what happened in Japan? If we’re faulting Ford for accepting Govt funds then why are we also pulling the trigger on Toyota, Honda etc.?

  • avatar
    Pch101

    Ford’s debt, and the interest they will pay annually in real dollars, will continue to be a COMPETITIVE cost dis-advantage to them

    You don’t follow what’s happening at all. And in the process, you’ve overstated the implications of the debt because you missed the structure of the debt and how much of it is on the financing side of the company. Just so long as the company can lend money for more than it costs it to borrow it, the financing arm should be profitable and able to cover it.

    To retire debt, there needs to be mechanisms to do so. There are a few basic options:

    -Restructure it (cram it down)
    -Increase cash flow to service more of it
    -Raise equity to retire it

    Ford has already undertaken the first effort. It is endeavoring to increase the second. Eventually, it seems likely that it will undertake the third.

    Pointing at the balance sheet is nice, but it needs to be placed in context of how it can be ultimately fixed. Balance sheets can ultimately only be repaired through earnings. To think otherwise is the sort of backward looking approach that bean counters who are divorced from operations and don’t understand turnarounds would be inclined to take.

    In the last 2 1/2 years, Ford has already reduced its debt by $39 billion, despite losses. With an improved credit rating and the ability to generate cash from equity, it is a matter of getting that under control. But the priority now should be on achieving profitability, not on debt repayments.

  • avatar
    SherbornSean

    This is more evidence that the playing field is simply unbalanced. Japanese competitors — specifically Toyota, Honda and Nissan — which have done so much to destroy American industry should be forced to take over Ford’s debt.

    Never mind the fact that this debt was the only way Ford survived the past year.

    Bus seriously, I wish the Dearborn gang well. But they need to pay down their debt the same way the rest of us do: by taking in more cash than they pay out.

  • avatar
    ihatetrees

    KixStart :

    It seems to me that Ford doesn’t have to build cars 10% more efficiently than everyone, just 10% more efficiently than Chrysler or GM. If they’ve got good product, they should be able to steal sales from them for some years and grow their volume. There’s a real backlash against GM for going on the dole.

    There’s an opportunity here for Ford to tweak GM and Chrysler. They’ll have to be subtle – so dancing on their bankrupt graves would be counter-productive. Mulally or some Ford exec may want to ‘accidentally’ mention “Government Motors”, “Welfare Motors” or “Zombie Car Makers” – especially if Barney, Nancy, and Obama start making noises about more taxpayer help for their pet car makers.

  • avatar
    guyincognito

    @ PCH,

    I see what you are saying but it is hard to argue that it is more difficult to generate profits when you have a cost per vehicle disadvantage versus your competitors. Certainly I agree that Ford wouldn’t be better off paying down their debt at the expense of generating future revenue and it would be nice to know how much of a cost disadvantage Ford’s debt actually adds. Still, Ford is facing many challenges right now. To me, this is simply highlighting another.

  • avatar
    PeteMoran

    This is more evidence that the playing field is simply unbalanced. Japanese competitors — specifically Toyota, Honda and Nissan — which have done so much to destroy American industry should be forced to take over Ford’s debt.

    Is this a variation of the “Perception Gap” argument?

  • avatar
    Pch101

    it is more difficult to generate profits when you have a cost per vehicle disadvantage versus your competitors.

    One of the points that I have made here is that Mr. MacInnis is grossly overstating that expense. The $1500 figure is essentially wrong when you see how the debt is allocated. Feel free to look at the link of the financial statements to see the details on the numbers.

    Another point is that the debt is being reduced over time, so any such disadvantage should be temporary if cash flow can be generated, debt refinanced at lower rates, and debt terms renegotiated.

    As has been the case with all of the domestics, Ford’s most striking problem is with revenue. The Ford brand is still weak, so it sells cars for less money than the competition. Part of this is expressed in the form of incentives, which are still well above the industry average: http://www.edmunds.com/help/about/press/159666/article.html

    Ford does seem to making headway on the pricing front. Mulally seems to have figured out that it is better to sell fewer cars for more money, than it is to take the GM approach of building to maintain market share while generating losses. But the brand building process takes time. The challenge for Ford is to hold the debt at bay so that it can improve its pricing power enough to build the earnings that will ultimately used to repay the debt.

  • avatar
    Accords

    Maybe its just me..

    But I dont see the same problem involving the debt rising the price of every car.

    I see it is..
    Actually SELLING THE DAMN CAR at the PRICE it went on sale as..

    Meaning.. NO REBATES!


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