Is This the Answer to Ford's Mess?


Tell me how this makes sense: On the one hand, Ford (NYS: F) is investing billions -- at least $5 billion, so far -- to build nine new factories in its "Asia Pacific Africa" region, including huge new manufacturing sites in China. And here in the U.S., it's adding overnight shifts to several already-busy factories, hoping to squeeze out more copies of hot-selling models, like the Focus and Explorer.

On the other hand, the Blue Oval says that it has too much manufacturing capacity in Europe, where it lost $404 million last quarter amid grim economic conditions that have crushed new-car sales.

Too many factories in one place, not enough in others. Isn't there some way to square this circle?

Solving Ford's Europe problem won't be that simple
It's not that simple, of course. While building cars in Europe for export elsewhere is an appealing idea at first glance, regulatory, logistic, and legal hurdles likely make it problematic. To take just one example, China's hefty taxes on imported cars, imposed to encourage manufacturers to build locally, would likely make imported bread-and-butter cars, like Ford's Focus compact, too expensive to be competitive.

But Ford clearly has to do something in Europe, as its losses are unlikely to erase themselves anytime soon. The Blue Oval's European sales were down 10.6% for the year through July. That's worse than the overall market's 7.1% plunge. Ford has chosen to cede market share rather than engaging in the margin-killing deep-discounting war going on in some countries, as rivals Fiat (OTC: FIATY) and Volkswagen (OTC: VLKAY) battle fiercely for a smaller pool of buyers.

Holding the line on margins, even as sales fall, is a strategy right out of the "One Ford" playbook that restored Ford to profitability in the U.S. But that playbook also says that Ford's production must be matched to actual market demand, a frequently-heard refrain from CEO Alan Mulally and his key lieutenants.

As with rival General Motors (NYS: GM) , which is known to be considering one or more factory closures in Europe, analysts say that Ford needs to close some factories, plain and simple. A recent Morgan Stanley report estimates that Ford is using just 63% of its production capacity in the region. That's not sustainable: Auto factories typically break even when running at about 80% of capacity.

Of course, as GM has discovered, it's hard to close factories in labor-friendly Western Europe. But it sure looks like Ford will have to bite the bullet. Or will it? In recent days, Ford executives have hinted that the company is considering other routes.

Can Ford deal with over-capacity without closing factories?
John Fleming, Ford's global manufacturing chief, told Automotive News recently that "there are a lot of ways to tackle over-capacity without shutting a factory."

Fleming was coy about what exactly Ford might have had in mind -- though he did note that Ford is in expansion mode in other parts of the world, which might have been a hint. Ford's controller, Stuart Rowley dropped another hint, when he told analysts on Monday that cutting costs won't be enough. "Look at our North American business," Rowley said, pointing out that Ford continued to invest heavily in new products, even through the worst of the U.S. economic downturn.

That investment has paid off in a big way for Ford, as the company has -- for the first time in a while -- popular, competitive products in just about every segment here. Many of those same products are sold in Europe, of course, and they do pretty well. But it's possible that Ford will look to develop additional products to expand its offerings -- and use up some of that excess capacity -- in the Old World.

The upshot: Regardless of the plan, expect action soon
Unlike old rival GM, which has made a very drawn-out (and very public) drama out of its efforts to stem losses in Europe, Ford is likely to keep its cards close to its chest until it is ready to move.

When will that be? Let's put it this way: I will be surprised if the last week of October, when Ford is likely to report third-quarter earnings, comes and goes without an announcement of at least part of a comprehensive plan for Ford Europe. And we may well see something before then. Stay tuned.

Thanks, in part, to concerns about Europe, Ford's stock has been under pressure lately, dropping to levels not seen in years. But the company is still performing very well at home, and is investing heavily for growth abroad. Have these short-term pressures created an incredible buying opportunity, or are there hidden risks with the stock that investors need to know about? To answer that, one of our top equity analysts has compiled a premium research report with in-depth analysis on whether Ford is a buy right now, and why. Click here to get instant access to this premium report.

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