Ford Motor Q3 2021 Earnings Call Transcript

AlphaStreet
Provided by AlphaStreet
October 27, 2021
Skip to Questions & Answers
Operator

Good day, ladies and gentlemen. My name is Erica, and I will be your conference operator today. At this time, I would like to welcome you to the Ford Motor Company Third Quarter 2021 Earnings Conference Call. [Operator Instructions]

At this time, I would like to turn the call over to Lynn Antipas Tyson, Executive Director of Investor Relations.

Lynn Antipas Tyson
Executive Director of Investor Relations at Ford Motor

Thank you, Erica, and welcome to Ford Motor Company's third quarter 2021 earnings call. With me today are Jim Farley, our President and CEO; and John Lawler, our Chief Financial Officer. Also joining us for Q&A is Marion Harris, CEO of Ford Credit.

Today's discussions include some non-GAAP references. These are reconciled to the most comparable U.S. GAAP measures in the appendix of our earnings deck. You can find the deck along with the rest of our earnings materials and other important content at shareholder.ford.com, including some updated videos and proof points around our Ford+ plan for growth.

Today's discussion also includes forward-looking statements about our expectations. Actual results may differ from those stated. The most significant factors that could cause actual results to differ are included on Page 23. Unless otherwise noted, all comparisons are year-over-year. Company EBIT, EPS and free cash flow are on an adjusted basis, product mix is volume weighted.

A quick update on our IR events for the balance of the year, we have five. On Monday the 1st -- November 1, Wolfe will host a fireside chat with John Lawler and Hau ThaiTang, our Chief Product Platform and Operations Officer. On the 18th of November, Barclays will host a virtual fireside chat with Ted Cannis, our CEO of Ford Pro. In December, on the 3rd, Goldman Sachs will host a virtual fireside chat with Lisa Drake, our Chief Operating Officer for North America. On the 3rd, Credit Suisse will host fireside chat with Hau ThaiTang. And finally, on the 9th, Deutsche Bank will host a virtual fireside chat with Alex Purdy, our Director of Business Operations Enterprise Connectivity.

Now I'll turn the call over to Jim Farley.

James D. Farley
Chief Executive Officer at Ford Motor

Thank you, Lynn. Hello, everyone, and thanks for joining us today. While, this month marks one year since we began executing our Ford+ plan. It creates growth, value and it allows us to win in the emerging area of electric and connected vehicles. We built a strong team that combines top leaders from Ford with world-class talent recruited from outside of our company, specific talent, specific people that are largely outside of our industry. This leadership team is committed to this plan, and we are accelerating our progress.

Ford+ is not a tag line. It's not advertising. It's a larger, more ambitious way to think about our business and how we bring value to our customers. We're creating iconic and distinctive products that only Ford can do; increasingly, always on relationships with our customers and ever improving user experiences, all while creating value for our shareholders. We're fully vested in this future and we're taking big swings. Key to the plan is harnessing the power of connectivity. We're designing a new generation of fully networked vehicles not delegated to our supply chain but done inside the company to revolutionize the experience of owning and operating Ford vehicle. That's embedded technology to unleash unlimited innovation.

We're scaling the number of vehicles capable of over their updates. We'll be moving from 1 million vehicles today to 33 million by 2028. That's scale. At the same time, we're moving aggressively to lead the electric vehicle revolution, substantially expanding our battery production as we speak today in U.S. In fact, we already announced plans that will give us enough battery production to meet our mid-decade goal of 141 gigawatts, which is enough to build more than 1 million battery electric vehicles a year, and I think we'll need more.

Our $7 billion investment in BlueOval City in Tennessee and the BlueOval SK battery park in Kentucky sets a new standard for scale, sustainability, advanced manufacturing and training the next generation of technology leaders. At the same time, $1 billion of investment in our Electrified Center in Cologne, Germany, will allow us to go all-electric soon. That center will be all electric by 2023.

We're making final preparations to launch the F-150 Lightning, the defining zero emission version of America's best selling vehicle for the past 40 plus years. Our all-electric Mustang Mach-E is a hit with customers not just in the U.S., but around the world, bringing a stunning number of new customers to the Ford brand. Over 90% of the Mach-E owners say they would recommend a Mach-E to other customers, critical as a new generation of battery-electric customers make new brand choices. Our challenge now is to break production constraints and increase availability to meet this incredible demand both in North America and in Europe and also in China, the biggest EV market in the world where we are just starting production of Mach-E. We believe the global demand just for Mustang Mach-E could approach about 200,000 vehicles a year.

We've created new organization, Ford Pro, to change and power the future of work with compelling commercial vehicles, distribution and services, while growing revenues to Ford. In the few weeks, we will start production of the new E-Transit, an electric version of the world's best selling commercial van. And in the third quarter alone, FORDLiive, Europe's new connected uptime center, which I wish you could all see, for our commercial customers, helps customers in the U.K. secure additional uptime, preventing about $8 million of lost revenue and associated cost for our valuable customers.

We're reinventing icons like Bronco and creating new ones like Maverick. In fact, the all-new Maverick, 42 miles per gallon, I might add, is the first standard hybrid pickup in the United States. It's also America's most fuel-efficient hybrid pickup. This is the strongest, most compelling lineup I've ever seen from any mass-market brand in my career. And we are creating a spring-loaded future as we emerge from the chip shortages and COVID constraints.

We continue to make important strides in the technology and go-to-market strategy for autonomous vehicles. In the second quarter, we told you about a new partnership with Argo AI and Lyft. And in the third quarter, we announced a new partnership with Argo AI and Walmart. This is Walmart's first-ever multi-city autonomous delivery service, and it will be anchored in cities where we already have operations; not the easiest miles in one city, but multiple cities and hard miles. In addition to making a real progress on autonomy vehicles, operating domains, SDS, we fully support Argo AI's aspiration to access public capital.

To build this future and generate the margins and cash flow we need to fund Ford+, we had to turn around our automotive operations and improve our competitiveness. Our results in the third quarter show we are making significant progress. In fact, company-wide, we achieved an 8.4% EBIT margin, including 10.1% in North America. Those margins, I will remind you, are in line with our targets for 2023. More importantly, our operations outside of North America are likely to post the best performance in four years. Please note the performance in South America, largely driven by our success of our global redesign. We've been able to achieve this while thoughtfully managing our supply chain for short-term sustained -- sustainable improvements, including semiconductors and prioritizing high demand and high profit vehicles.

Now before I turn it over to John, a few thoughts. I believe we have the right plan to drive growth and unlock unprecedented value. You are already seeing the favorable change in the slope of our earnings and cash flow. There is more to come. Given the strength of our business this year, we are increasing our full year adjusted EBIT guidance to between $10.5 billion and $11.5 billion.

As we plan in earnest for next year, we're excited and energized about the opportunity in front of us and clear that we have so much more work to do to deliver on Ford's potential. The word I would leave you with is focus. The competitive environment has never been more interesting and tough. And we intend to live up to our promise to compete like a challenger, focusing on our top priorities to unlock Ford+ growth with customers at the very center of everything we do.

Now I'll turn it over to John who will take you through our results for the quarter, our outlook for the full year, our capital allocation priorities and our expectations heading into next year. John?

John Lawler
Chief Financial Officer at Ford Motor

Thank you, Jim. Now in the face of continued industry-wide semiconductor constraints, we stayed focused on our plan, strengthening our portfolio and investing in opportunities fundamental to growth and value creation. We delivered a solid quarter with $3 billion in adjusted company EBIT and a margin of 8.4%. Free cash flow of $7.7 billion was as we expected, up sharply on a sequential basis, driven by the positive working capital effects from higher wholesales in EBIT. We ended the quarter with strong cash and liquidity at over $31 billion and $47 billion respectively.

Now across our automotive business, our playbook remained consistent as we optimize production for customer orders, new launches in our most profitable vehicles. And as expected, on a sequential basis, our wholesales improved dramatically as chip supply for Ford improved. We also remain disciplined with incentive spending and mix management, which on a year-over-year basis, more than offset chip-related declines in volume.

Ford Credit delivered another solid quarter with $1.1 billion in EBT as auction values continued to remain strong and credit losses continue at near-record lows. For the fourth quarter, we're assuming a sequential increase in wholesales. We also expect continued healthy mix and net pricing and solid results from Ford Credit, although not as strong as the third quarter. Headwinds include inflationary impacts on commodities and freight, and we also expect planned sequential increases in our Ford+ modernization investments, including customer experience and IT.

Now let me share with you some highlights from the quarter before I turn to guidance, capital allocation and our preliminary view of 2022. With improved chip supply, North America wholesales increased sequentially by 67% as the team prioritized launches, customer orders and high margin units, while reducing the number of vehicles built, but waiting for chips. Demand remained strong for our exciting vehicles. The order bank we are building paid off in the third quarter, representing 28% of our retail sales in the third quarter and reaching a high of 31% in September. And our overall customer orders increased over 50% from the second quarter to more than 100,000 orders, excluding Bronco. With a 10.1% EBIT margin in the quarter, North America is now at a 9% margin year-to-date, just 100 basis points shy of our 2023 target of 10%.

South America marked its eighth consecutive quarter of year-over-year improvement in EBIT, and the business run rate is now approaching breakeven. The region also launched its new commercial vehicle organization with the introduction of the new transit, which is manufactured in Uruguay. This transit is the first light commercial van to market in Brazil that includes connectivity as a standard feature.

In Europe, the underlying trajectory of our business continues to strengthen, though the adverse impact from chips has masked this improvement. In the third quarter, the business lost about 50,000 units, which would have had a substantial favorable impact on EBIT. Our leadership, as the number one commercial vehicle brand, continued in the quarter along with an extremely robust order bank.

In China, Lincoln continues to perform well, extending its success in the most profitable segment, Luxury. With retail sales up 24% year-over-year, in fact, Lincoln has doubled its share of the China luxury market over the past 18 months. Our newly created BEV organization opened its first 13 direct-to-consumer Ford Select city stores with a total of 25 expected to open by year end.

In IMG, our leadership team in India made the difficult decision to end manufacturing following accumulated operating losses of more than $2 billion over the past 10 years. Going forward, we will focus on importing iconic vehicles including EVs, and overall, IMG had a solid quarter capitalizing on our strengths, including Ranger.

Now as Jim highlighted, the underlying strength of our business supports increasing our adjusted EBIT guidance for 2021 to between $10.5 billion and $11.5 billion, and that's despite a lower than anticipated improvement in chip availability in the second half of the year. Consistent with our adjusted EBIT guidance through this year, our updated guidance for 2021 includes the $900 million non-cash gain on our investment in Rivian in our first quarter adjusted results.

So let me spend a minute on Rivian. Now in the event that Rivian completes its IPO, we will record any gain on our investment in any subsequent adjustments as special items. Accordingly, we will recast the $900 million non-cash gain from adjusted EBIT in the first quarter to a special item. If Rivian completes their IPO in the fourth quarter, we will make this change when we report our fourth quarter earnings on February 3, 2022.

Our guidance for 2021 adjusted free cash flow is unchanged at $4 billion to $5 billion, reflecting the higher EBIT, but less favorable improvement in working capital and timing differences. Now this is due to lower than anticipated volume than previously assumed in the back half of the quarter, and that's as a result of chip constraints. We do expect free cash flow to increase with higher production and the associated improvement in supplier payables and other timing differences.

So now let me turn to capital allocation, which again, is the foundation of our value creation framework. Our capital allocation discipline is driving a strong core business and balance sheet that provides the flexibility to invest in new growth opportunities as we deliver our Ford+ plan. Ultimately, it ensures we return value to our shareholders, both in the form of a higher share price and dividends.

Today, we announced the reinstatement of our dividend. Our board has approved restarting a regular quarterly dividend of $0.10 per share in the fourth quarter of 2021. Importantly, the dividend reflects our confidence in the improving run rate of the business and our ability to fund all of our calls on capital including the growing investment in electrification and the trajectory of our Ford+ plan. The dividend was also sized to ensure we maintain appropriate optionality to manage continued uncertainties in the external environment.

To give you a better sense of our calls on capital between 2020 and 2025, we expect total capital expenditures of about $40 billion to $45 billion or a run rate of roughly $7 billion per year. Now over the same time, we expect to invest over $30 billion in BEVs. And of the investment in BEVs, about 50% is capex, 25% is expense and 25% is direct investments. And these numbers, they will be dynamic and we are confident we have ample financial flexibility to increase our investments even if BEV adoption further accelerates.

Now let me share with you our early thinking about 2022, a year which like this one, is likely to experience some industry crossroads that could drive a range of outcomes. Now we typically don't talk about the upcoming year this soon, and we're not yet prepared to give financial guidance, but we do want to share how we're thinking about next year given the dynamic operating environment.

Ford's underlying strengths give me great confidence we can build on our results in 2021. First, our portfolio of products and services is exceptional, and we have a significant amount of new products coming to market spanning our iconic high volume nameplate. Second, our industrial base gives us significant optionality as the adoption of electric vehicles accelerates. Third, driven by the chip shortage of roughly 4 million in wholesales we are likely to deliver this year, fall significantly below our capacity. And based on our current assessment, we believe our wholesales to be up about 10% in 2022, but that number is very dynamic and changes almost weekly. And fourth, the effects of our global redesign, which is largely completed are now evident and substantial. We have drastically derisked and rationalized our global footprint and product lineup, vastly improving our earnings and cash generation power in the process.

Now for headwinds next year, it's difficult to predict the interplay between semiconductor-related constraints, volume and pricing, and this will continue to remain dynamic. For 2021, we expect commodities to be up $3 billion to $3.5 billion and they could be up another $1.5 billion in 2022, largely driven by steel and aluminum similar to this year. There will also likely be other inflationary costs, but it's too early to size that right now.

Ford Credit is likely to be lower as strong auction values will be moderated by a smaller inventory of vehicles and lower lease and return rates. And lastly, we're obviously going to continue to invest in our Ford+ plan for growth and value creation. And this includes, in customer-facing technology, connectivity, our always on relationships with customers and electrification. And of course, we believe the long-term payback from those investments will be substantial.

Now that wraps up our prepared remarks. And if you perceive that the upfront portion of these calls is becoming more efficient, well, you're right. And that's a function of us being very specific with you and our team about what's truly important and our confidence in executing effectively against those things and reporting accordingly. We'll use the balance of the time to hear and address what's on your minds. Thank you.

Skip to Participants
Operator

[Operator Instructions] Your first question comes from the line of John Murphy with Bank of America.

John Murphy
Analyst at Bank of America Merrill Lynch

Good evening, everybody. Thanks for making the call the efficient. It's going to be tough to limit to one question, but I will. As you think about the 10% increase you're talking about in 2022 wholesales, and if we could focus on North America and just assume you're going to do about 2 million units this year in '21, give or take, we're only talking about 200,000 units of increase next year. There is an assumption that price and mix will deteriorate as incremental units are produced as semi shortage is relieved. But given that that's still going to be a relatively low -- a very low level of production, do you believe that price and mix are really going to actually come under pressure next year? And aren't we really going to stay in a very tight environment that you're selling through and not even building inventory, if that's true, which means that price and mix might stay very strong next year and you will still get the benefit?

John Lawler
Chief Financial Officer at Ford Motor

Thanks, John. John here. You're right, it's going to remain dynamic, and that's what the interplay is going to be. Volume increases for the industry, if they're higher, we'll probably see more pressure on price. If they remain as they are today and we see a moderate increase, I think you're going to continue to see strong pricing and mix continue through next year. So that's where we have to stay disciplined and we have to stay very focused on managing that well so that we can have, as you said, the play through next year relative to what happens from an overall volume standpoint, and we're focused on that. So I agree with you. That's going to be one of the key dynamic elements for next year.

John Murphy
Analyst at Bank of America Merrill Lynch

And just to follow-up on that. I think right now based on awards, you have about 213,000 units in dealer inventory. Your pre-COVID travel rate was about 650,000 units. As you think about ultimately getting into a time where you can rebuild or restock that inventory, where do you think that runs? And how much opportunity is there to try to maintain some of this mix and price discipline to offset any cost inflation and then also invest in the future?

John Lawler
Chief Financial Officer at Ford Motor

Yeah. So if you look at where we ended in September, we ended at about 20 days supply in the U.S. and we're watching it very closely from a day supply standpoint. As we talked about last quarter, our historical day supply was somewhere around 75 days. We're not going back there. As Jim said, we're going to be very disciplined and we expect to be in the 50-day supply when we're fully, fully at full capacity and we're running and producing everything that we can. So that's going to be the key.

The other thing I would say, John, is that the move, as we talked about in our remarks, to having more of our sales come through orders, online orders in the order bank. That's really important for us to manage our day supply. So it's a less of a ground stock pushed through and it's customer demand pull through based on the orders, and we had over 100,000 orders at the end of the quarter and that's grown since then in our order bank and that played well for us in the third quarter. 139,454 orders as of as of today.

John Murphy
Analyst at Bank of America Merrill Lynch

It sounds like you're on that. And maybe if I could sneak one in, just on cap allocation, a real quick on the dividend, I mean, why now? And then I'll hop back in the queue.

John Lawler
Chief Financial Officer at Ford Motor

Yeah. It's just the underlying strength of the business, John, and we're not capital constrained. We're able to fund our initiatives for growth. We know that there aren't going to be other opportunities that surface. We're confident that we can fund those. And we're focused on total shareholder returns. Not only stock appreciation, but also the dividend. And so given the strength of the business, the board elected that we would restart the dividend this quarter.

John Murphy
Analyst at Bank of America Merrill Lynch

Great. Thank you very much.

Operator

Your next question comes from the line of Dan Levy with Credit Suisse.

Dan Levy
Analyst at Credit Suisse Group

Hey, good evening. Thank you for taking the question. I would just like to ask a question on the shape of recovery in volumes. A, is this magnesium shortage going to cause any term -- any sort of near-term supply disruption for you? I mean, we've heard some draconian comments that it could just outright, stop European production. And just maybe you can give us a sense broadly of how you anticipate the shape of recovery in terms of volumes? At what point do we get -- or is your baseline expectation that the chip shortages fully mitigated that you can be back at full run rate production?

James D. Farley
Chief Executive Officer at Ford Motor

Yeah. So from the magnesium standpoint, when we look at that, we are seeing price pressure on aluminum broadly. We saw that all year and probably see a little bit more price pressure due to the magnesium issue. But our sheet metal suppliers, our sheet aluminum suppliers don't purchase magnesium from China for North American production. So we don't see that having any significant impact or any impact on us.

We do see the chip issue continuing to run through '22. As we said, it's very dynamic. Right now, you ask us what we think the sequential increase in supply will be year-over-year. We think we'll have about 10% more, but that's changing weekly, and we're doing everything we can to get our hands on as many chips as we can. But we do see that running through 2022. It could extend into 2023, although we do anticipate the scope and severity of that to reduce as we move through '22 into '23.

Dan Levy
Analyst at Credit Suisse Group

Great. Thank you. The second question. I'd like to do now sort of a bit more strategic. I think if we just look at the pace of progress at Ford, just both financially and in terms of EV, AV, all things digital and just what we're seeing today is just it's far greater than what we saw 12 or 18 months ago, which is actually pretty impressive given that large organizations just takes time to really affect change. So I just want to -- I'm trying to understand, how much of what we're seeing today was something that was always there and it's just only starting to come to the surface now, we're sort of getting the fruits of prior initiatives or has something fundamentally changed in the past 12, 18 months? What does this tell us about the pace of change at Ford over the next comparison, maybe just to be a bit more specific, because I know you can take that in number of ways? Maybe you could answer that specifically to what we're seeing on product and planning on the business transition to EV?

James D. Farley
Chief Executive Officer at Ford Motor

Thank you for your question. A lot of the product we've been working on for several years, we made the tough choices. I would say the answer is, we have a plan. It's not advertising or PR tag line, it's our plan. Everyone in the company knows what we have to do. We are out of time and we have focus. We need to get 8% margin, like we did this quarter as a company regularly because we have to fund the high growth BEVs and digital business. It's not to make more money. Yes, it is that, but it's motivated in the mission of transforming Ford through these digital products.

So running the ICE business for cash, getting serious about our cost, our quality, our launches, our 8% return, it's all mission and the team knows the plan. And I think the culture is starting to change, to be quicker, more accountability, less bureaucracy and that mission permeates through the company. I'm probably the worst person to ask whether something has changed because it sure has changed for me and my leadership team. But to me the proof is in the putting like our third quarter. And whether we've really changed as a company will be proven out in our numbers over time like they have the last year.

Dan Levy
Analyst at Credit Suisse Group

And just to be more specific on the product front, because I think we're seeing a much faster pace of product. Is the time of development products -- like, how much have you accelerated that? Meaning, typically in the past we would hear of three and a half to four year of drawing board to product in showroom. Is there a new normal for what that is?

James D. Farley
Chief Executive Officer at Ford Motor

If we make up our mind and we come together as a team, like we did on Maverick, it could be just two years. We did -- we knocked 20 months after the Maverick development. They required the leadership team to not have the hand wringing on the studio for six months like we normally did. I think that's a new proof point. But the question I ask myself is a little different. When we see a technology change like this, like BEV, it's not just the speed of your product creation, it's, can you be flexible and agile in your industrial system like in manufacturing?

We have three complete hits on our hands; a Mach-E with 200,000 units of demand, that's -- we have the Lightening with over 160,000 orders and the E-Transit is completely sold out. So how I like to think about it is not just the product creation speeding up, it's whole company. And we have to do our job to break constraints now so that we can deliver hundreds of thousands of battery-electrics next year. That to me is the proof of our change, not just how fast the product creation process works.

Dan Levy
Analyst at Credit Suisse Group

Great. Thank you very much. Very helpful.

Operator

Your next question comes from the line of Ryan Brinkman with J.P. Morgan.

Ryan Brinkman
Analyst at J.P. Morgan

Hi. Thanks for taking my question. I thought to ask a few on the order bank, just given the commentary that it grew 50% sequentially in 3Q, excluding the Bronco. So can you talk about the benefits of the order bank? How it helps to optimize your operations? And what kind of pricing or other trends you might be seeing with regard to the order bank? And then how much of the increase in orders do you think may stem from the currently very strong new product cadence or from the currently low inventory environment? And what avenues are there available to drive orders as industry conditions eventually normalize?

James D. Farley
Chief Executive Officer at Ford Motor

Thank you so much for your question. I'll ask John to comment. From my view, the order bank model that we're going to in North America that we're in right now has benefits across the patch. We are an incredibly complicated company. And so having an order bank allows us to push simplification into the order, the customer-facing options, which we need to do, and it reduces cost and improves our quality.

Number two, it eliminates the need for expensive conquest-fixed marketing. Number three, it's incredibly helpful for industrial system. You cannot imagine, Ryan, how much money we waste by not -- by guessing what our launch mix is for a new product. When you have a order bank, especially for new models, you could capacitize the high series mix that are very profitable right in line with customer demand. So it's incredibly cost effective and it allows you to address the long tail revenues that we have lost in the past because of our ground stock model.

And the last one is, it's lower cost. There is less parts hanging around. We can manage our industrial system and our manufacturing in a leaner way. The question really is, how we maintain it, as you said, as the market improves? And the way we're looking at that is not just having a day supply target in the past that we've managed, but actually putting in the infrastructure to maintain or prefer a order-based system. That means we train our system to put in orders. We reward people for putting in orders. We dynamically price for customers so that they are incentivized to keep ordering versus buying off the lot.

So it's going to be a journey. It's been a very rewarding one so far. And we're just beginning. This is the model we have to go to as most of our business or majority of our business goes battery-electric and digital. It's the right loyalty model.

Ryan Brinkman
Analyst at J.P. Morgan

Okay, great. Thanks. And then just as a quick follow-up to that. It seems that was discussed earlier that product development times are speeding up, maybe particularly with regard to EV. So lighting, for example, seem to come together very fast. Another trend seems to be that automakers are revealing their EVs for a longer period of time before the actual start of production maybe because they're so eager to show, consumers are so clamoring for them. Does that mean that you think that order banks and order in advance might be even more popular with electric vehicles? What are you seeing with regard to that?

James D. Farley
Chief Executive Officer at Ford Motor

The move to a digital product means we have to go to 100% loyalty model. So the reason why you're seeing us launch battery-electrics early is very simple, it's our Super Bowl ad. Our new Super Bowl ad, our new Detroit Motor Show is our reveal, because it starts the clock on reservations. And you have to do it early enough so your industrial system gets informed by the results of your reservation. That's the closed-loop that has to happen. We need to open it early enough so that our industrial system can react to the orders and we don't waste money and take advantage of long tail revenue. And it's a more controlled environment than a broadcast media advertising on the Super Bowl.

Ryan Brinkman
Analyst at J.P. Morgan

Very helpful. Thank you.

Operator

Your next question comes from the line of Rod Lache with Wolfe Research.

Rod Lache
Analyst at Wolfe Research

Hi, everybody. I have just two questions. So first, you've got a lot of growth that you're targeting in BEVs and digital businesses, so it's not surprising that we would see some structural cost inflation. What we're seeing right now is actually really benign. It's $200 million in the quarter, considering what you've got going on. But maybe can you talk a little bit about how we should think about the feathering in of those additional structural costs which presumably come in ahead of the revenue? So how should we think about that as we look out to the next year or two?

John Lawler
Chief Financial Officer at Ford Motor

Yeah, Rod. We'll start to see those come in as we get into '22 and then they will feather into '23 as we continue to ramp our investments and our plan, our priorities, not only in the products to BEVs, but also as we're building out our customer-facing technologies, our connectivity, etc. So yeah, you will see that start to come in on a year-over-year basis next year and it will continue in through '23.

Rod Lache
Analyst at Wolfe Research

Can you just give us any sort of brackets around what -- I mean, you did mention that 25% of that EV spending will be expense. But any sort of thoughts on the magnitude of that, what that headwind is?

John Lawler
Chief Financial Officer at Ford Motor

I'm not ready to do that today for '22 and going through '23. We're completely targeted on getting to that 8% in 2023, so we'll manage it within that. But today, I'm not ready to talk in that level of detail about it.

Rod Lache
Analyst at Wolfe Research

Okay. And I was a little surprised about the comment about just 10% volume growth for next year. It seems to me like the Renesas fire and Texas storms alone might have knocked 200,000 units off of your production in Q2. And it wasn't too long ago you guys were routinely doing over 700,000 units a quarter. So do you have any thoughts that you might be able to share about when would you be able to get back up to that kind of a level of production? And if so, when should we expect that to happen?

James D. Farley
Chief Executive Officer at Ford Motor

Right. So I think what you'll find is that as you look through 2020 through the first half, we'll have less supply then through the second half. And as I said earlier, we see this mitigating over time. It may extend into 2023, but I would say that we should be back up and running based on what we're seeing today and a run rate, the end of next year into '23. And then in 2023, we'd start to rebuild our inventories. But it's dynamic, Rod. And it's hard to make a pinpoint call at this point in time. What we wanted to share with you what we're seeing is that we're seeing about 10% for next year. And we see that the chip constraints are going to still hit us. It's going to still be a factor next year. So we have to keep managing as we are this year.

Rod Lache
Analyst at Wolfe Research

Got it. Okay. Thank you.

Operator

Your next question comes from the line of Brian Johnson with Barclays.

Brian Johnson
Analyst at Barclays

Two questions. First a quick, not quite housekeeping, but definitely balance sheets question. As you restated the dividend, I think at the level, just could you maybe talk us through the investment-grade rating implications and timeline to get there that you can say that you and the board considered when setting that?

John Lawler
Chief Financial Officer at Ford Motor

So we're going to continue to work and focus on improving our business, right? Our target is to have an investment-grade balance sheet, but that's going to come by improving the business, and you're seeing the strength of that come through. And so that's what we're focused on. What the rating agencies decide to do with our rating, they will manage that, that's up to them. What we're laser focused on is improving the run rate of the business, improving our performance, improving our overall metrics. And eventually the rating agencies and the ratings will take care of themselves.

Brian Johnson
Analyst at Barclays

Okay. Second question. As you think about that 10% volume increase rough guidance, a couple of things. One, where do you see fleet sales coming back as you kind of bring that up? And second, are you going to take a different attitude towards fleet sales than in Ford of the past? I remember Don Leclair saying he had two factories making touristers and rental car companies were about the only buyers of them. So -- but there's also really rental cars, but maybe some of the government business that's not pleased, it's not quite the same. And kind of related to that, as you kind of think about prioritizing production, are their models where you're more comfortable you'll get good price retention in other models, and I'm going to pick on like a skate maybe that have a lot of competition in this segment, and as capacity comes back, less likely to hold price compared to our Bronco?

James D. Farley
Chief Executive Officer at Ford Motor

So it's interesting because I remember those days when Don probably made that comment about rental fleets and that they were low margin, etc. I think what you're finding is business models are changing and the fleet business is evolving just like everything else in our industry. And we see that there could potentially be a positive fleet business where they could make good money. And so we're not going to shy away from that if we seek that it's right for our brand and we think it's right for the bottom line. And so we're going to continue to look at fleets differently, we're going to continue to think about vehicles as a service. And what that potential holds for us is that business model changes, and we'll see where that takes us. But we're not going to go back to the times where we're putting in capacity, we're pumping out units, selling them at little to no margin for rental cars. That's not going to happen again.

Brian Johnson
Analyst at Barclays

And how to think about price retention? I'm sorry.

James D. Farley
Chief Executive Officer at Ford Motor

It's okay. I was just going to say, our fleet business now -- now that we've rationalized the company, our fleet business is very strategic for us. It's also very profitable. It certainly varies in Europe and North America and China. Different fleet segments have different profitability. The one thing I would ask you to think about is that most of the fleet that matters at Ford is commercial vehicles. And the most important commercial vehicles for us is small, medium-sized businesses, and those are very profitable business for us. For transit, for super duty, that's where Ford excels in the fleet business and it's smaller fleets. It's not big fleet sales.

So the texture of this is that we're revenue managing the company very carefully. We know the margins by geography even within the country, and we know by distribution channel. So this is a very thoughtful approach for us. But strategically, especially because of the Pro business and its profitability, we want to make sure we have -- we're a reliable partner with fleet customers. They do business with companies that are reliable. They don't come in and out of the market. They do business with companies that have a full range of products, a full range of services. That's why Marion is investing in Ford Pro and why we're vertically integrating our services. So I think we have a really good profitable fleet business around the world. We look at the margins very carefully. But it's strategically very important for the company to be a reliable partner.

Brian Johnson
Analyst at Barclays

Okay. And in terms of price retention and how that's going to vary across your product line?

James D. Farley
Chief Executive Officer at Ford Motor

Well, John, I think you should answer that one in terms of how we revenue manage in a constrained environment.

John Lawler
Chief Financial Officer at Ford Motor

Yeah. So as you would expect, we're very conscientious about the dynamic of the supply and demand and the impact that that has on the pricing. And we look at this on a daily basis, managing our incentives, looking at if we should be taking top-line pricing given the inflationary pressures we're seeing. And as we talked about, we're not going to go back to the old habits of loading up the dealers with stock and then looking through the push through for sales. We're going to focus more on orders coming through online, specific orders to customers being satisfied, understanding what their demands are, simplifying the system. And with all of that, we expect to retain quite a bit of the price. Now, will it mitigate as we go through next year as supply and demand becomes more imbalance and into '23? Yes, but our job is going to be to manage that and retain as much pricing as we can, while providing customers good value for those products. So it's something that we look at very closely on a daily basis.

Brian Johnson
Analyst at Barclays

Thank you.

James D. Farley
Chief Executive Officer at Ford Motor

In the Escape business, we now have another player called Bronco Sport in the segment. It's incredibly profitable and people really appreciate the product. We are not in the business of commodity products in that segment anymore. We changed. We made an investment several years ago.

John Lawler
Chief Financial Officer at Ford Motor

Right.

Operator

Your next question comes from the line of Colin Langan with Wells Fargo.

Colin Langan
Analyst at Wells Fargo & Company

Great. Thanks for taking my question. I just want to clarify, I thought your original guidance was that the first -- the second half was supposed to be up in volume, 30%. I mean, I'm not sure if I'm misreading it, it sounds like Q3 maybe up a bit from Q4. So is that 30% still not accurate? Obviously, it's kind of important when you think about the 10% into 2022 what base we're going off?

James D. Farley
Chief Executive Officer at Ford Motor

Yeah. Colin, that's a great question. Thank you. Now we did say last quarter that we expected the second half to be up about 30%. It looks like it's going to be up somewhere around 15%. And so what you're seeing flowed through is the strength we had in the quarter relative to the top-line and other actions that we took relative to cost, etc. So when you look at that walk, that bridge between Q3 to Q4, we expect market factors to be positive. We said we think volume is going to be up sequentially about 10%. We also see a little bit stronger mix continuing. And then of course you'll have some product-related cost, production-related costs associated with that. But net-net, market factors net of those costs to produce the increased volumes is going to be positive.

What we're seeing from a headwind standpoint, if you look at Q3 to Q4, are commodities. We expect that on a quarter-over-quarter basis, they're going to be up about $700 million. And if you look at that, so far year-to-date, we've seen about $1.6 billion of commodities hit us. And when you get to the fourth quarter, you can get the cumulative effect that on a year-over-year basis commodities are going to be up about another $1.5 billion in the fourth quarter. So year-over-year, up $1.5 billion, sequentially up $700 million.

And then we are going to see some higher warranty costs on a sequential basis in the fourth quarter for things that we have to take care of around extended warraties and a little bit higher coverage is. But again, on a year-over-year basis our warranty will improve in the fourth quarter. In full year, on a year-over-year basis, our warranty we expect to be good about $1.4 billion.

Colin Langan
Analyst at Wells Fargo & Company

Got it. That's very helpful.

James D. Farley
Chief Executive Officer at Ford Motor

So does that help you with the bridge?

Colin Langan
Analyst at Wells Fargo & Company

Yeah. No, that's great. I just -- secondly, in terms of the redesign plan that's been out for a while, is India the last major step? I mean, is this going to sort of -- is this it or next quarter may be the last time we see these slides? Just kind of curious or is there more still coming?

James D. Farley
Chief Executive Officer at Ford Motor

Well, I think we're in good shape for now. Obviously, the acceleration of the BEV business and our ICE assets will be I think the next big transition for the whole industry, not just Ford. But Ford specifically, India's really the principal region, country where we have struggled over time. And it's really great to see the progress the team is making in India and the very vibrant position we'll now have with the new lineup. And I'd just like to highlight the progress in North America for this quarter. John, when is last time we were profitable in South America?

John Lawler
Chief Financial Officer at Ford Motor

I believe it was 2013.

James D. Farley
Chief Executive Officer at Ford Motor

So let's hang that in the air for a second, 2013.

Operator

Your next question comes from the line of Joseph Spak with RBC.

Joseph Spak
Analyst at RBC Capital Markets

Thank you. Maybe just one quick one on the free cash guidance, which I think you maintained despite the EBIT guidance went higher. So is there something going on with working capital? Because you're saying you're releasing more vehicles, so I wouldn't think that would actually be positive factor in the fourth quarter as well as I'm curious what the offset is?

John Lawler
Chief Financial Officer at Ford Motor

Yeah. So what we're seeing there is that we've got the EBIT coming in, right, that improvement, but the less favorable improvement in working capital and timing differences hitting us in the quarter, because we have lower than anticipated volume in the back half of the quarter due to the chip constraints, and so we get with that working capital at the end of the year. So that's what's happening to us on the free cash flow. So it's a timing issue.

Joseph Spak
Analyst at RBC Capital Markets

Okay. And then I want to go back to some of the announcements you've made over the past couple of months and I know you talked again about the spend today. You're not spending more than $30 billion, and I appreciate the breakdown you gave of sort of how you're spending that. Maybe this is just me, but I actually find it still fairly difficult to track what exactly you're spending over the coming years, because I believe some of that has already been spent. So is it possible to maybe just say like of that $30 billion, what's being spent, like starting next year through the middle of the decade?

John Lawler
Chief Financial Officer at Ford Motor

So of the $30 billion, when you look at the cap, very little -- we said about half of that was cap. Very little of that has been spent through 2021 relative to the $13 billion -- to the $15 billion, about half of it. Of course, you're going to see the expense front-loaded because that's primarily the engineering that we have in developing the battery-electric vehicles. And then the direct investment, which is about 25% of it, that's for things like the integration of JVs and those types of things. And you saw those announcements this quarter with our plan in BlueOval SK, the battery plant. So that's how we're going to unfold that BEV spending over time.

Joseph Spak
Analyst at RBC Capital Markets

Okay. That's helpful. I appreciate it.

Operator

Your next question comes from the line of Itay Michaeli with Citi.

Itay Michaeli
Analyst at Smith Barney Citigroup

Great, thanks. Good evening, everybody. Just two quick ones from me. First, is there any update on the BlueCruise deployment, including through OTA, maybe some initial customer feedback?

James D. Farley
Chief Executive Officer at Ford Motor

Great. Thank you. We're shipping with Mach-E F-Series now BlueCruise as they leave the factory. And we're going to be OTA-ing BlueCruise in the first quarter. We wanted to improve the customer experience, so we've pushed it back in terms of an OTA because we want it to be much simpler for the customer than was originally planned, and that takes a little planning to consolidate. Often these Level 2 systems require multiple updates to the car. We want it to be very simple. That took a little bit more work on our team's part. And so it's available as we ship products now. And as an OTA, it will be in the first quarter and it will be a lot simpler to use and get that OTA and update for the customer than it was originally planned. Does that answer your question?

Itay Michaeli
Analyst at Smith Barney Citigroup

Yeah. Thank you, Jim. That's very, very helpful. And then maybe just a super quick follow-up, just a point of clarification. Thank you for the 2022 initial indications. In the release, you mentioned you expect to build on the strong performance in 2021. I am just curious if that -- if we should interpret that as you expect to grow EBIT-adjusted year-over-year in 2022?

John Lawler
Chief Financial Officer at Ford Motor

Yeah. So we're not going to give a number at this point, Itay. But what we're saying is that the strength of our new product lineup, our high volume nameplates and the strength of what we're seeing from Mach-E, as Jim said, we think there's about demand for 200,000 units. We've got the Bronco, Maverick, E-Transit, and F-150 Lightning are coming. It's the best lineup that we've had. And so that's going to be a tailwind for us for sure as we go into next year.

And you're seeing that come through this year, and we're going to build on that. But we're also going to have to manage the headwinds that we've talked about and the other puts and takes. But what we can tell you is we are laser-focused on getting to the 8% target in 2023. And so we will manage into next year. These are the types of things we're seeing from a puts and takes standpoint, strength, the tailwinds and then the headwinds. And we will manage that next year and we'll be on the path next year towards our 8% target in 2022.

Itay Michaeli
Analyst at Smith Barney Citigroup

Great. That's super helpful. Thank you.

Operator

Your next question comes from the line of Emmanuel Rosner with Deutsche Bank.

Emmanuel Rosner
Analyst at Deutsche Bank Research

Hi. Thank you very much, and good evening. Two questions please.

James D. Farley
Chief Executive Officer at Ford Motor

Good evening.

Emmanuel Rosner
Analyst at Deutsche Bank Research

Hi. Two questions. The first one, very pleased to see beyond target for this 8% margins by 2023, big focus of the company and clearly showing some progress there. How should we think about the impact on this from the margins on your electric vehicles? Obviously, the scale takes some time to build up, but you are going through that right now, and probably has some level of visibility. So what are -- what's really the thinking around trajectory for margins on some of your EVs? And to what extent it will or will not impact overall company margins? And potentially, how do we think about it beyond 2023?

James D. Farley
Chief Executive Officer at Ford Motor

Thanks. Such an important question for the company. I'd like John to comment on the margins. Right now we have three high volume, very well accepted battery-electric vehicles on our hands; Mach-E, E-Transit and the F-150 Lightning. So the way we look at it is, we want to grow this business really fast. Just the Mach-E demand itself we think is 200,000 units, that do not include the Lightning or the E-Transit.

So our first job is of course post job one customer experience improvement, post job one simplification and improvement of the cost of the vehicle and post job one quality improvements using the data off the vehicles. But perhaps our biggest job in my opinion is to break the constraints we have in manufacturing and our supply chain so we can get these products out to these customers.

That post job one orientation is quite different than how we historically looked at the ICE business where we wait to a minor change or something later to make those changes. The constraint for Mach-E right now is batteries. We think we can break some of those constraints by working creatively with our China team and get our batteries from China. So stay tuned. And I'll ask John to comment on the margins.

John Lawler
Chief Financial Officer at Ford Motor

All right. Well, as we talked about last quarter, Mach-E is EBIT profitable today, but we also know that the margins are not as strong as our ICE margins. And so we're working on that. Over time, we expect as we scale, as you said, and as the technology costs come down, we will grow those margins. And ultimately, we do expect with these connected vehicles, these connected bands that the profit margins will be better than what we're seeing on ICE today, but that's over time.

Emmanuel Rosner
Analyst at Deutsche Bank Research

Thank you. And then my second question was on Argo. So very encouraged to see that you would like to encourage them as supportive of accessing the public markets. How do you envisage the future relationship between Ford and Argo to be? How important is that going to be as part of your overall business model?

James D. Farley
Chief Executive Officer at Ford Motor

Mission critical. For us, the truly disrupt personal ownership. We have to democratize shared mobility. And the self-driving and mobility in the driven world are absolutely mission critical for the company and disruptive itself. I am really proud of the team's progress. It's different than our competitors in the space. We've gone to the most difficult miles in four or five different cities.

Our mapping, our SDS deployment and the algorithms are built to be scaled for production deployment. So we're not going to a small market area and easy miles like others, we're taking on the toughest problems now and building our capability for scaling quickly. And I think that's always been our approach. The relationship with Argo and us and Volkswagen is very close, but we do see us moving into more of a production mode now and we're really ready for that. And we think this will take more capital and little more time. And we think the access to public capital is really mission critical for our journey.

Emmanuel Rosner
Analyst at Deutsche Bank Research

Thank you.

Operator

Your final question comes from the line of Adam Jonas with Morgan Stanley.

Adam Jonas
Analyst at Morgan Stanley

[Technical Issue] Nobody has I think explained as [Technical Issue] the way you have, right? So you get kudos for that. You're saying some of the competitors make some critical investments in the downstream to make up for that customer experience; Volkswagen buying your car and some stocks, including ones that you know pretty well kind of part of it. So is there any gap in your strategy as you go always on and really the full service? Is there anything that you want to vertically integrate to [Technical Issue]? Thanks.

James D. Farley
Chief Executive Officer at Ford Motor

Great question. Our philosophy is different. We think partnership on the demand layers for autonomy and pre-autonomy is mission critical for our always on strategy. Are there pieces missing that we're working really hard on? You bet. We're not going to talk about them today though.

Adam Jonas
Analyst at Morgan Stanley

All right. Then just a follow-up for me on your dealers. They're crushing it. [Technical Issue]

James D. Farley
Chief Executive Officer at Ford Motor

Well, this is also really important. First of all, I would say the heart and soul of Ford's strategy is our commercial business. In that business where vehicles are highly utilized, our dealer network is one of our most important advantages versus the new competitors. I will give you some statistics. We have 650 dedicated commercial, mostly service centers in the United States and 850 transit centers across Europe. So that will take a lot of time and a lot of money for someone to recreate.

Every one of those dealers has multiple bodybuilders that can call design for those trades and those vocations for our Ford vehicles. So the dealer body is not only important for the after sales experience and making sure those vehicles can be serviced, but it's also mission critical for the outfit of those products. So the dealer network is absolutely strategically critical for our leadership and maintaining that as we go to digital connected vehicles for our commercial customers.

There's no doubt that many customers want a three or four click, very easy service experience on the retail side, and we're working really carefully on that, including a simple e-commerce platform. And actually in China, our BEV business already has 25 direct stores by the end of this year. So we're starting to experiment. I think our dealers has served us really well. I'm very proud of them. I'm especially proud of our commercial dealer, and we are very vigilant. You can imagine, I get lots of emails every day about transaction prices from customers on our hottest products. And we all feel obligated to represent the brand professionally for our customers.

Adam Jonas
Analyst at Morgan Stanley

Thanks, Jim.

Operator

[Operator Closing Remarks]

Corporate Executives
  • Lynn Antipas Tyson
    Executive Director of Investor Relations
  • James D. Farley
    Chief Executive Officer
  • John Lawler
    Chief Financial Officer
Analysts

Alpha Street Logo