I like chicken. I like watermelon. But on separate plates. Nobody wants a chicken - watermelon smoothie.

Investors like electric vehicles. Investors like the cash generated from internal combustion engine business. But the market has been underappreciating the stock value of Ford Motors company, which had been smoothy-ing the electric vehicle business with the internal combustion engine business.

Until now ...

On Wednesday this week, Ford Motors (F) announced they will divide the business into 2 distinct units/ divisions. The electric vehicle (EV) division will be known as “Ford Model e.” The traditional, internal combustion engine-focused (ICE) group will be called “Ford Blue.” You can read the company's news release here. Investors took this news very positively, shares traded up nearly 9% on Wednesday, but shares remain more than 20% lower from highs made in Jan 2022.

Company wrote in the released statement: "Last May, Ford President and CEO Jim Farley introduced the Ford+ plan, calling it the company’s biggest opportunity for growth and value creation since Henry Ford scaled production of the Model T. The formation of two distinct, but strategically interdependent, auto businesses – Ford Blue and Ford Model e – together with the new Ford Pro business, will help unleash the full potential of the Ford+ plan, driving growth and value creation and positioning Ford to outperform both legacy automakers and new EV competitors."

Speaking on the event, President and CEO Jim Farley said: "This is about new talents, new capabilities and then focusing that on the areas that we need to catch up and pass competitors like Tesla. Not just on the creating the product, not just on the supply chain, but also on the customer experience. That's what Model e is going to do."

Key points:

• Create distinct electric vehicle and internal combustion businesses to compete in both EV sector and traditional auto sector.

• Increase EV investment to $50 billion through 2026, a substantial increase from the $30 billion through 2025 announced around this time last year. This speaks to their confidence in the ability to deliver strong cash flow in the coming years.

• Increase production of EV to 2 million vehicles annually by 2026. This speaks to their ability to navigate the supply chain environment to produce more cars. This is important in terms of market share in the EV sector, because U.S. EV sales forecasts expect there to be ~2 million vehicles sold in 2026. The 2 million that Ford is committing is globaly, but the US is going to be a big part.  

• Total company's adjusted EBIT margin to reach 10% by 2026 compared to 2021's EBIT margin of 7.3%. This speaks to management's ability to turn the business around, making it more profitable, and willing to promise that to shareholders.

The plan

Ford Blue will build out company’s iconic portfolio of ICE vehicles to drive growth and profitability. This unit will provide hardware engineering and manufacturing capabilities for all of Ford. Meanwhile, Ford Model e will accelerate innovation and delivery of breakthrough electric vehicles, develop software and connected vehicle technologies and services for all of Ford. 

This in no way means there will be 2 separate companies. Ford Blue and Ford Model e will operate as distinct businesses, but share relevant technology and best practices to leverage scale and drive operating improvements; along with Ford Pro, all three businesses are expected to have discrete reporting metrics by 2023. This will allow investors to see how each individual business performs, therefore applying appropriate/ reasonable valuation multiples.

The move will streamline operations for the EV business that has been preparing to take off and about to bloom, thus allowing it to maximize profits. Farley will serve as President of Ford Model e, in addition to his roles as CEO and president of the entire company. Doug Field, a former Tesla and Apple executive, will be the Chief EV and Digital Systems Officer for Ford Model e. The fact that Jim Farley is also serving as President of Ford's EV division speaks to the motivation and mission of Ford that is focused on an electric and clean future. 

Rejecting a spin-off

We’re especially glad that management didn’t spin off its EV unit into an entirely separate company. Ford and General Motors (GM) both faced calls to do just that, in order to capture the higher value given to EV startups. It makes sense for Ford to stay this way because Ford’s internal combustion engine business still generates most of the company’s cash — at the same time the EV unit needs hefty investment.

The Bottom Line

We believe the multiple expansion underlying our investment thesis in Ford is just getting started. This move from management at Ford indicates they themselves want a better multiple for their stock. Management wants to be transparent to investors: here's how much money we're earning from each unit, so please value them appropriately.

Now here's the interesting part for Ford stock: valuation multiple. Even after a big move in the past two days since the announcement, Ford is still trading at roughly 9 times 2022 estimated earnings of $2.06/share and 8 times 2023 estimated earnings of $2.30/share. The dislocation here is that even after all the transformation that the company has shown, all the potentials that resulted, commitment for higher profitability ... Ford's forward P/E is still at historical levels. In other words, the market is valuing Ford of today the same as Ford of 2019, 2018, 2017, .... Obviously this is definitely not true, therefore, Ford stock is at an incredibly attractive valuation here and should absolutely be bought. For our own portfolio, we're evaluating expanding the weighting of this position to around 20%.