As two of the Big Three U.S. auto makers slip closer to oblivion after months on government life-support, Ford Motor Co. is conspicuously chugging along on its own. A treasury that bet heavily on liquidity and was willing to pay dearly for it played no small part of Ford's relative success. By stockpiling cash, the treasury bought Ford both staying power and room to maneuver in the current crisis. This spring Ford tapped its cash hoard and the equity value that the strong cash position was supporting to wipe $10 billion in debt off its balance sheet.
"Basically, we spent $3.5 billion in cash and stock to buy back $10 billion in debt," explains David Brandi, Ford's assistant treasurer. "Obviously, our debt load was pretty heavy and we needed to strengthen our balance sheet, which we had been doing incrementally with transactions in 2007 and 2008. As the credit markets got increasingly stressed and the price of our securities fell, it was a real opportunity for us to use a mix of cash and equity to take out a sizable chunk of our debt." The debt erased included unsecured convertible debt ($4.3 billion), public unsecured bonds ($3.6 billion) and a secured term loan ($2.2 billion), he adds.
Ford mixed shrewd cocktails of cash and equity to match the tastes of its various creditors. In buying back debt at a premium to its trading value but at a deep discount to par, Ford offered bondholders primarily cash, rather than stock they likely would have sold, says Paul Efron, advisory director at Goldman Sachs and one of Ford's senior investment bankers. Convertible holders got mostly stock. "The natural equity takers got equity, which suited them and allowed many to close out short positions. The natural cash takers got mostly cash," Efron says. "Instead of carving up the company in a confrontational restructuring, this was an orderly capital markets transaction."
It was a stunning deal that was only possible because Ford had loaded up on cash when markets were easy. "It is a pillar of our corporate strategy to build liquidity when it is available," says treasurer Neil Schloss. "In 2006, lenders were lending to companies like us at attractive rates and light covenants, so we took on debt to lock in $23 billion of additional liquidity. Now that's allowing us to support our product line while our competitors are forced to cut theirs."
That landmark financing in 2006 was the key, Efron observes. "The downturn for auto makers had already started. Ford was losing money. They were seeing how cash burn can accelerate. Treasury and the CFO decided that it was time to batten down the hatches.
"It wasn't an easy choice. They diluted shareholders with a convertible offering," he says. "They took on a lot of interest expense and a negative spread on cash they didn't immediately need, but they had foresight. The market for leveraged finance was much better then."
So 2006 laid the groundwork for 2009. "If they hadn't done the 2006 financings," Efron continues, "they wouldn't have had the cash to spend, and without the cash, they'd have had to rely on equity, which would have meant turning the keys over to the creditors. They reduced debt without destroying shareholder value. The market reaction was quite positive." The stock went from $1.87 on March 4, the day the debt restructuring was announced, to $3.77 on April 6, the day the plan's completion was reported. "They bought back secured debt at 47% of the face value," he adds. "Recently it was trading at 56%."
How Ford's go-it-alone strategy plays out in the long run remains to be seen, of course. "Compared to GM/Chrysler," said the North American equity research team at J.P. Morgan in an April 20 report, "we suspect Ford may be motivated to fight harder to avoid bankruptcy given the added incentive of avoiding a loss of family control. While this might be good near-term for existing equity . . . Ford longer-term could end up with an uncompetitive cost structure relative to a 'quick-rinsed' GM and/or Chrysler." Still they conclude that Ford "probably has a decent shot at avoiding government aid."
The auto maker's CFO, Lewis Booth, who stepped into the role only last November, has played a key role in empowering treasury in its bold moves this year. In addition to the debt buyback, Ford's liquidity obsession prompted the company to draw down nearly all of the $10.5 billion that was available under its revolving credit agreement, negotiated as part of the 2006 refinancing. It was a vote of no confidence in the banking system at a time when confidence in banks was shaky. "We had close to $11.5 billion, but $890 million of that disappeared in minutes when Lehman Brothers failed. It showed us just how fast credit could disappear," Schloss says. So Ford cashed out the facility before more financial institutions could fail.
It wasn't an easy call, he says. "We knew the decision would have a negative impact on the overall markets and some real impact on us. We had been watching the financial markets closely," he explains. "Things started to look a little better in October and November but got worse in December. We didn't want to risk losing another bank, so we decided the prudent move was to clear it all out. We studied the procedures so that we could execute it cleanly. And we made sure our investment team was ready to invest that much cash." Only a small amount that was tied up supporting a letter of credit is left, he says.
Banks were struggling to preserve their own liquidity, so Ford gave all its credit banks advance notice--but not too much. In the day or two before drawing down the facility, Schloss, Brandi and others on the treasury staff who deal with banking relationships called each of the banks. "We didn't want to burn the relationship guys," Schloss says. "Relationships are still very important to us. We were prepared for some pushback, but they were all very understanding."
The draw-down of the credit facility on Feb. 3 went smoothly. As various members of the syndicate wired their part of the commitment to J.P. Morgan Chase, the agent bank, it wired the funds to Ford.
"They drew down the revolver to be sure they could get the money," Efron says. "They didn't need the cash immediately and it carried a negative spread, but Ford was willing to pay for assured liquidity, a strong financial footing and control over their balance sheet. The big 2006 financing also came with a negative spread. Other companies weren't willing to pay that price."
For the funds drawn down, Ford is paying LIBOR plus 2.75%, Brandi reports. The money was invested in safe but low-yielding Treasury and agency securities and bank time deposits, all placed by Ford's own investment staff. For the first quarter, Ford's average annualized return on its investments was less than 1%. As a cash investor, Ford plays big but simple. Even before the draw-down, its treasury was managing $30 billion of cash investments for Ford Motor and Ford Motor Credit Co. combined. Ford uses no funds or outside managers and takes virtually no risk. Because Ford is such a conservative investor, it had no problems a year ago when some supposedly liquid instruments froze. "We had no auction-rate preferreds, no money funds," Brandi says. "We don't have a credit shop, so we don't go where the credit quality is complex. Conservative liquidity management is in our DNA."
Ford's liquidity build-up and timing were both smart and lucky. Tilting the balance in Ford Motor Credit's financings more toward unsecured credit and less toward securitization back when the credit markets were liberal is the one thing that Schloss thinks treasury might have done differently. "It would have been nice to have done a little more term financing a few years ago if we'd known what would happen to the markets," he says.
In hindsight, not every deal that looks good at the time turns out to be a winner, Efron says, but for Ford, "I can't say at this point we should have done anything differently. In 2006, there was concern about what Alan Greenspan called 'irrational exuberance' in the financial markets. Ford was worried about missing the window to borrow in a friendly market. There were a lot of discussions, but when they decided to do it, the Ford treasury people drove hard to get the deal done before Christmas that year. It was blood, sweat and tears. Then the markets fell apart and a deal like that became impossible."
As a result of Ford's big bets, "we have enough liquidity to fund our business operations through the end of 2009, even if the market for auto sales in the U.S. falls 20% below projections," Brandi says.
While Ford has steered clear of government loans, its treasury worked closely with the government to help revive the asset-backed commercial paper market with the first term asset-backed securities loan facility (TALF) deal, a $3 billion offering sold on March 25. "The Fed and Treasury approached us and asked about how they could make the TALF program work," Schloss reports. "Ford Motor Credit has been a big issuer of asset-backed securities since 1989, and they thought we would be a good candidate to get the TALF program working." Under TALF, the Fed lends money to investors to buy asset-backed securities at attractive rates "It was a fair amount of work," Brandi says, "but we were delighted to be among the first issuers to enter that market and hope to use it again."
Ford's treasury was also a major player in putting together a financial deal that could result in critical cuts in labor costs. "When we saw the terms of the [federal] loans to GM and Chrysler, we saw how the competitive environment was shaping up and moved quickly to redo our agreement with the UAW first," Schloss says. "With all that talk about shared sacrifices, we laid out our work plan for the union and renegotiated an agreement in principle that reduces our cash liability."
Ford's stronger equity gives it a clear advantage in negotiating equity-for-debt and equity-for-cash swaps, he points out. The other U.S. auto makers are struggling with bondholders and the union over who gets what equity and what the equity is worth, with the government waiting in the wings to stake its claim to equity if borrowings can't be repaid, Schloss adds.
Although Ford turned down a government bailout, its actions brought it into line with some of the requirements other car companies met to get the first loans from the Bush administration--notably retiring debt, negotiating a competitive wage scale and reducing the union healthcare liability--Efron says. "They started negotiating with the union and struck a wage deal that made them competitive. They also negotiated an agreement that would let them cover half the healthcare liability with stock instead of cash--a safety valve they can use if they have to. They looked at ways to reduce unsecured debt. They voluntarily did many of the things required of the others."
"Protecting the equity value of the company was critical to getting the UAW to accept shares in lieu of cash for the healthcare obligation," Schloss says. Having cash to spend to retire debt "allowed us to get the UAW deal done. We will watch the way things develop and take whatever actions we need to stay competitive," he adds. "If that means renegotiating our deal with the union, we can do that."
In May, Ford announced a move to raise still more cash with an offering of 300 million shares. Taking advantage of its relatively strong stock price (around $6 a share when the offering was announced), it hopes to raise enough cash to reduce substantially its cash obligations to the union healthcare trust.
Ford also followed its own GPS when it chose to keep its finance captive captive. Unlike some auto makers, Ford considered its financing arm--Ford Motor Credit--to be mission-critical and held onto 100% ownership, which gives Ford "a huge advantage in assuring financing to car buyers," Efron says. Conserving liquidity means that working capital is tightly managed at Ford. Having a captive finance company means that Ford Motor has little working capital tied up in receivables. Although liquidity can be tight in parts of the automotive supply chain, days payable have changed little, Brandi reports. Inventory is important but not a treasury responsibility, he adds.
Risk management has also become more complex. "Since the Lehman failure, everyone has been paying close attention to counterparties," Schloss says. "We have more conversations with counterparties and, as credit quality has declined, hedging has become a bigger issue for us."
All those challenges have created a new environment. "We have an experienced team behind us, but none of us has ever experienced anything like this. There really is no precedent we can follow," says Schloss. "Skill sets are learned from experience, and we're all learning new skills."
"We have to be a step faster than we were before," says Brandi. "It's been a morale booster." Ford's success relative to its U.S. rivals has pushed morale even higher, he notes. "We all feel that treasury is making a significant contribution to the company's performance. The adrenalin has really been flowing."
To capitalize on the new opportunities to raise morale and season young treasury staff, Schloss and Brandi assigned extra people to the team responsible for the recent refinancing so that they could learn from the once-in-a-career experience.
Nine-to-five, Monday-through-Friday has gone out the window. "We've worked a lot of Saturdays and Sundays, put in a lot of late nights," Brandi observes. But that doesn't necessarily mean that the lights have been burning through the night in Dearborn. "With today's communication technology, the hours may be long but you can do most of the work from home," he notes.
In planning its strategy, Ford treasury got all the help it wanted from Wall Street. "Between Ford Motor and Ford Motor Credit, we give the Street a huge amount of work and pay a lot in fees," Schloss says. "That gets us the best talent available and makes this job fun. We can draw on more resources on the Street than smaller companies, which means that top bankers are always available to suggest ideas and help us test our ideas. We all push and shove and test to get the right combination."
In spite of this enthusiasm and early success, Ford remains a struggling company and its treasury faces further tests. "We still have work to do on our balance sheet," Schloss says. "We're still looking for ways to strengthen it."
"There's still a lot of wood to chop," Efron observes. "They're operating in a very difficult sales environment, but with their more robust capital structure, they have a real shot at being an industry survivor."