Ladies and gentlemen, thank you for standing by, and welcome to Ford Motor Company's briefing on 2016 second quarter financial results. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. I would now like to turn the conference over to Mr. Ted Cannis, Executive Director of Ford Investor Relations. Please go ahead, sir.
Thanks very much, Kayla. Good morning, welcome everybody for our second quarter 2016 financial results. As a reminder, copies of the press release and the presentation slides are available on Ford's investor and media websites. The results discussed today include some non-GAAP references, and these are reconciled to the most comparable US GAAP measures in the appendix to the slides. Today's discussion includes some forward-looking statements about our expectations for future performance. Actual results may vary, and the most significant factors are included in our presentation. As a reminder, Ford Credit will be holding a call at 11:00 A.M. today to review its second quarter results. Later today we will be filing our 10-Q. As discussed in our July 15th Ford University presentation, we are no longer providing sector financial statements.
Instead, as you'll see in the presentation, in our 10-Q as well, we are reporting segments focusing on automotive, financial services, and other business activities. Prior period amounts have been revised to reflect our reportable segment change. Presenting today are Mark Fields, our President and CEO, and Bob Shanks, our Chief Financial Officer. Also participating are John Lawler, Vice President and Controller, Neil Schloss, Vice President and Corporate Treasurer, Paul Andonian, Director of Accounting, and Marion Harris, our Ford Credit CFO. Mark, over to you.
All right. Thanks, Ted. Good morning everyone. Well, you can read our numbers and our comparisons with last year on slide three. What I'd like to do is provide some context for the quarter. Overall it was a strong quarter. In fact, it was one of our best second quarters ever. While pre-tax profits are down compared with last year's record second quarter, revenue was up 6%. We grew the top line. Global market share declined outside of North America, but share was up in the U.S. and Canada. Our automotive operating cash flow was an all-time quarterly record. Europe's pre-tax profit almost tripled from last year, and North America and Ford Credit remained strong. Now, combined with our first quarter record, we achieved record first-half pre-tax profits and operating margins for both the company and for North America.
We continue to expect another strong year, and we're committed to our full-year guidance of company pre-tax profit and operating margin equal to or better than last year. At the same time, we now see a number of risks that the entire Ford team is working hard to mitigate to achieve our guidance. We'll explain more as we go through the information this morning. Turning to slide four, we remain absolutely focused on the four drivers of shareholder value, and I'm pleased to say we made progress on each. As I mentioned, we grew our top line, and we announced actions to continue to grow our core business, including new global SUVs and also positive sales momentum at Lincoln. We also continue to pursue emerging opportunities, such as our investment in Pivotal, which will further strengthen our cloud-based software capabilities.
Our returns were strong, as I just reviewed. In terms of risk, we received a rating upgrade by Fitch. Our business units outside of North America collectively were profitable for the third consecutive quarter, and we achieved $1.6 billion of cost performance in the first half versus our plan. In terms of rewards, we distributed regular dividends of $600 million to our shareholders. Slide five shows some of the other highlights in the quarter, and I won't go through each of these, but as you can see, they span everything from awards for new products and engines to progress in our quality efforts to the launches of products and connected services. I will just point out in quality, the J.D. Power IQS survey, Lincoln came in at number 7 and Ford came in at number 11.
Both improved and really puts an exclamation point on the efforts that our team has around continuously improving our quality for our customers. Let's turn to our view of the global business environment and how we see it on slide six. At the macro level, we're seeing higher levels of economic uncertainty. Financial markets and the sterling and euro are affected by Brexit, and global interest rates have been reverting to recent lows. U.S. growth is improving after a weak start that we saw at the beginning of the year, but we are seeing signs of a maturing U.S. recovery. We do expect continued growth in China, albeit that's supported by government stimulus measures, but we're also seeing increased pressures on margins. While conditions in Brazil remain difficult, Russia is actually showing some signs of stabilization.
For Ford specifically, our risks are around lower pricing and higher incentives than we expected in the U.S. and China. A softer, although still strong U.S. retail industry. The effects of Brexit on our operations in Europe. A more difficult external environment across many of our markets in Middle East and Africa. A weaker Chinese RMB and lower than expected auction values for smaller vehicles, at least in the U.S. With that, I'd like to have Bob take us through our performance, and I'll come back at the end and cover our outlook. Bob?
Okay, thank you, Mark. We'll start on slide eight, which is our key financial summary. What I'd like to do is just highlight a few of the key metrics in the first column on the second quarter, then I'll do the same for the first half period, which is the third column. As Mark said, it was a strong quarter for us and to demonstrate that, if we look at the company adjusted pre-tax results, you can see $3 billion, which was down 9% from a year ago, but it was, as Mark said, one of the strongest second quarters that we've had. If you go down further to net income attributable to Ford at $2 billion, that was also down 9% and adjusted earnings per share down 4%. If you go to the bottom of the chart, you can see the liquidity metrics.
I'll come back to those later, so I won't go through them individually at this point, but you can see they were very strong. If you look at the year-to-date column, let's hit the same lines on the chart. Company adjusted pre-tax results is $6.8 billion. Remember, we had the best ever first quarter. When we combine that with this strong second quarter, we ended up with a record for the first half, $6.8 billion. That was up 35%. Net income, $4.4 billion. That was up 33%. The adjusted earnings per share for the first half at $1.20, up 45%. Let's go on to the next slide nine. Here what I want to focus on are the absolutes before we get into some of the details within both the automotive segment and Ford Credit.
Looking at the automotive segment, you can see the strong result in North America at $2.7 billion. It was down about 5%. Europe was clearly a highlight among all the business units in the quarter. It was up 3 times from where we were last year, the best second quarter result ever, and that included some impact from Brexit, which I'll talk about in just a minute, but really a great result in Europe. If you look at financial services, that includes a $400 million profit from Ford Credit. It was down, and I'll explain what was behind that. If you look at the other business units, they were all in losses. South America, $265, down a bit. Middle East and Africa down also at a $65 million loss. We had our first loss in Asia Pacific in 13 quarters at $8 million.
That decline was driven largely by China, and we'll talk about that later in the presentation as well. I will highlight here all other. That's one of our new segments. That is primarily in this quarter net interest expense. Let's go on to slide 10. As usual, we'll look at the key metrics for the automotive sector. Very strong absolutes across the board, but when you look at the comparisons versus last year, some mixed results. Wholesale is flat, revenue up 5%, market share, Mark explained that, was down everywhere but in North America. The operating margin was a strong 7.7% and the result at 2.8%.
If you look at the very bottom of the page, we've provided you with the same metrics and the year-over-year changes for the first half, you can see very strong performance right across the board with the exception of market share where we were down just a touch. Let's go on to the next slide 11, and we'll start breaking the automotive segment down. This is a view of what happened on a year-over-year basis that resulted in the decline of $130 million. When you look at it overall, you can see that market factors, which is volume mix and net pricing, was down. That was driven by higher incentives, and that was mainly in the U.S. We will talk about that when we get to the North American slides. You can see exchange was an issue of $269 million.
We did have some favorable cost performance, that was largely driven by commodities. In other to the far right, that was largely the gain on sale of an equity investment I'll touch on a bit when we get to North America. Let's go into North America on slide 12 and look at the key metrics. Again, very strong quarter for North America. The top line was essentially flat to very slightly up in the case of revenue. Market share flat, but as was already mentioned within that, the U.S. was up and that was higher fleet performance, but also we had very strong retail share improvement for F-Series. Canada was up, Mexico was down. That's how we ended up with sort of flat on a year-over-year basis.
When you look at margin, 11.3%, that was down 0.9%, but obviously at over 11%, that's an outstanding level of efficiency and performance for the North American operations and then $2.7 billion. If you look down at the bottom of the slide, really strong results in the first half, best ever for North America. We had very strong growth. We grew the share, 12.1% margin and $5.8 billion in profit, up 31%. Really strong performance in the first half for North America. Let's go to the next slide and look at what happened in the quarter on a year-over-year basis. Here, the story is largely around incentives. If you look at the market factors, you can see that they were down on a net basis driven by the incentives.
Essentially what we're seeing is over time, and particularly as the U.S. industry has started to plateau and we're starting to get to a more mature part of the economic cycle in the U.S., we've seen sort of a very gradual rising, very modestly rising level of incentives for the industry, and we have been increasing along with that. What you also have happening on a year-over-year basis, which is maybe a little bit unique to us, is the fact that a year ago, we had very low incentives for the F-150. Because if you remember, we were coming out of the launch of Kansas City. I think it was around May when we got to full production. We had very tight incentives, very high ATPs on F-150. We've become more normal, if you will.
We're still in a good position relative to our peer set within the, particularly our domestic peers, in terms of ATPs for F-150 as well as incentives. There was a factor of that in our incentives as well. There's no question that we've seen an increase, and that is more than what we had expected when we developed our plan at the beginning of the year. When you look at the costs, we were favorable on costs overall. That was, again, driven by incentives, or rather, commodities. Most of the good news on commodities in the company occurred in North America. To the far right, you can see the good news from that equity sale, which was the OEConnection sale that occurred in the quarter, and that benefited North America. Before we leave the slide, I just want to go back to mix.
Mix is a very important part of the story across many of the business units, but certainly North America was one of the stronger stories. That's product mix in the case of North America. When I get to Europe, you're going to see the same thing along with good news on series mix and options. A very important part of what's happening as we're seeing sort of the car recession, but this has actually been part of our strategy to focus on higher margin, more profitable vehicles, but also where the consumers are going. The other thing I would just note on this slide is that we have ticked up in warranty cost. You can see that in the call-out box, the Takata recall. That was about $100 million.
I just want to digress for just a moment to say, our approach inside Ford is, unfortunately, recalls are a normal part of business. We do not put recalls in special items or exclude them from margins or exclude them from operating results as some of our other competitors do. It is, again, unfortunately, a normal part of business. We will report them in operating results. We always have, we always will. If there is something of consequence that occurs, we'll just call it out and you can make your own judgments in terms of whether that's a run rate or not. Certainly they're lumpy.
Just a little bit more color on the U.S. industry. Obviously, as Bob mentioned, as it still remains at fairly healthy levels overall, the competitive environment has increased as growth has slowed and the retail industry demand has weakened, as we saw in the second quarter. This has resulted in higher industry incentives with, if you look at the retail industry sales rate, it's actually declined three out of the last four months. The bottom line is that we've seen a tougher pricing environment this quarter, and we will face one going forward. As Bob mentioned with the car segment, the most impacted as various competitors look to protect their share.
Okay, let's move on to slide 14 and we'll talk about South America. In South America, this is a story that is very much what it's been the last number of quarters. External conditions, particularly in Brazil, continue to be pretty challenging. We saw a decline in the top line. You can see double digits. In the case of revenue, you can see it was down 17%. That decline is entirely due to the weaker currencies. Market share was down as we focused on the most profitable parts of our portfolio amid increasing discounts across the industry. You can see the results in terms of margin and pre-tax results. This is largely what you're also seeing in the first half. I will say that the team continues to do a good job of focusing on the things that it can manage, particularly on cost.
If you go to the next slide, on slide 15, you can see the results of that. We once again delivered very strong cost performance. If you think about last year, we delivered over $400 million of good news on cost performance. We had good news in the first quarter, another good tranche of performance here in the second quarter. As you can see just to the left of that, we continue to see difficulties in pricing enough to be able to offset the effects of high local inflation and the weaker local currencies. Industry still an issue, as you can see in the volume and mix. The balance sheet actually helped us this time. This was the strengthening of the Argentinian peso.
We are seeing good things in Argentina as the new government is really getting traction in terms of turning that economy in a better direction. That gave us some good news in the quarter. Okay, let's go on to Europe, which as I mentioned earlier, was a bright spot for us. If you look at wholesales and revenue up double digits. Share actually declined a little bit. That was market mix. The Southern European markets grew, if you will, disproportionately. Our share performance there is a little below the average of what it is in Europe, that affected us. Margin was 5.8%, which is very good performance, and the profit that I touched on earlier.
If you look at the first half, we made $900 million in the quarter, a margin of 6%, and you can see very strong growth at the top line as well, and share was flat. This was a really great story. The other thing I want to highlight, we're committed to Russia. We stayed in Russia. We've been working to make sure that we're responding to the environment in Russia, and it's paying off. Within the good news that we saw in the quarter, Russia was actually a good part of that. On that note, let's turn to the year-over-year on slide 17. You can see the improvement of $300 million. It was market performance. It was a favorable cost performance. In the case of exchange, this is the first time that you'll see us talking about Brexit.
We had bad news of about $60 million on the balance sheet related to the weak sterling. One of the things that's important to note is that our strategy on hedging for the company is to go into a year with certain of our key currencies completely hedged from an operational exposure point of view. We came into the year with the sterling and the euro completely hedged. We don't see any issues relative to the weakness of the sterling on an operating basis for the balance of the year. We have about 60% of next year's exposure already covered, and there's a little bit that's also covered all the way out into 2018.
When we talk about the Brexit effect later, you have to remember the $60 million because there is an impact in the second half that we'll talk about that's related to a weaker industry.
Just a little bit more on the Brexit. Obviously, it's important because 30% of our sales in Europe are in the U.K. We're closely monitoring the situation and of course, engaging with key stakeholders. That includes, as you could imagine, looking at consumer confidence levels amongst other indicators. If you reflect the industry back in the first quarter in the U.K. was at a record, but we saw that growth starting to decline in the second quarter ahead of the Brexit. So far, as we look at July, by our reckoning, the industry is actually up in the U.K., but on a retail basis, it's down. As we look going forward, the industry could be down 5%-10% for the rest of the year, depending upon which outside forecast you look at.
Even within that, we'll continue to work to deliver consistent market performance, including, obviously continuing our strong growth in commercial vehicles.
This is probably the best place to talk about the ongoing effect of Brexit.
We will talk about second half a little bit later in the presentation, we are expecting to have headwinds of about $200 million this year associated with Brexit. It's just $60 million with another $140 million-$150 million related to a weaker U.K. industry. When you get into 2017 and 2018, we see the impact on Ford being somewhere in the range of $400 million-$500 million in each year. That is related, again, to weak industry or weaker industry in the U.K. You start to pick up a little bit of the bad news on exchange because of the fact that the hedging is only 60% in place for next year and less than that in 2018. That's what we're looking at.
We're not going beyond that in terms of what happens once they actually leave because there's just too much uncertainty, particularly around what will happen with tariff barriers. Let me explain that. Let's go on and we'll talk about the Middle East and Africa on slide 18. This is a story of just a bad business environment. If anything can go wrong, it seems like it has. It's low oil, it's weak currency, it's just political strife. In South Africa, we've seen labor disruptions. It's just, you name it's happening. The result has been really weak industries. We're seeing declines of 30%-40% in some of our markets. In some of the countries, access to currency and so forth, it's pretty difficult. You can see the effect of that has only been a modest increase in the loss.
The team's actually done a great job of working on the costs it can control because it does import most of the vehicles that it sells from other business units, they've actually done a great job on cost and they've done a good job on pricing. If you look at the market share, while it looks like it's down, and in fact it is, that is driven by the growth of the Iranian industry, which we don't participate in. The overall region is down 300,000 units. Within that, Iran is up 300,000. If we take Iran out, the team has actually increased our share by 6/10 of a point. They're really doing a great job on share, on cost, the headwinds across the region are just so large that we're kind of swimming in place at the moment.
Okay, let's go on to Asia Pacific. Asia Pacific is an interesting story. We saw a decline in wholesales. Some of that was expected because we did have a planned 8-week shutdown of our Chongqing number 1 assembly plant that was for a complete overhaul of the paint booth there. That was expected. Frankly, there were performance issues at Ford as well. There were also issues in terms of industry segmentation that we'll touch on. If you look at revenue was up 17%. We did see a decline in market share. That was China. If you look at the margins, obviously we were just below breakeven in margins and pre-tax results. As I mentioned earlier, the first loss we've had in quite a number of quarters. If you look at the year-to-date results, we've seen the top line grow share as well.
Again, our operating margin and pre-tax results down from a year ago. I would highlight on the far right of the slide our China joint ventures on an equity after-tax basis contributed about $300 million of profit. That was down about 28%. We still have very healthy margins there at 16.1%. I think that was down about 1.2 points from where we were this time a year ago. What we have on slide 20 is a bit of what happened in terms of market share in China in the period which really drove what happened in the region. If you look at the far left, last year we did 5.3% China. We're down about 0.9 of a point. You can see the factors that drove that. Half of it was basically external.
Industry mix, what that means, the mix of the industry was stronger on passenger vehicles. It was weaker on commercial vehicles. We have joint ventures that participate, 2 different ones that participate in each one of those. The segmentation issue is that within commercial vehicles, it was down, but it was actually up in the very low margin mini commercial segment, which we don't participate in. If you think about the part we participate in, it was even lower. That was the effect that it had on our share from both the industry mix change and then the segmentation within commercial vehicles.
On performance, we were off 0.4 of a point, and that was largely around weakness in the C segment and small utilities where we're seeing a lot of competition from the domestics that are really coming up strongly and with really better products. It was a difficult situation for us. We also had some go-to-market strategies, frankly, and the team immediately saw these issues. They actually started to occur in March. Immediate action was taken to address these issues. You can see looking at the share in April, May, and June, we started to get back on track and we feel like the second half of the year is going to be better for us and supported in part by a number of new product launches that are important that will help us.
Just again, a little bit more texture on that as we look at the movement during the quarter. In terms of our performance, we've also focused on the quality of our market share. Our mix of more profitable vehicles, such as medium and large cars and SUVs and premium cars, now account for about 40% of our sales in China. That's up 5 points versus last year. As Bob mentioned, we've taken actions to improve our market performance, and we have a number of important launches. The Taurus with a 1.5-liter engine, it will be the only large car eligible for the purchase tax incentive. The new Kuga, the new Mondeo, the Lincoln MKZ and Continental. The majority of these launches will benefit us in the fourth quarter, not so much the third quarter.
Let's go to slide 21, and we'll see what happened in terms of the year-over-year results. I'm going to explain what you can see. I'm going to explain to you what we had expected because it's relevant to what we just talked about. You can see market factors were slightly negative, both pricing and then you can see volume mix pretty flat. Within that, there actually was quite good news on mix. With that mix and other, it was more like around $60 million-$70 million of favorable mix, and that's along the lines of what Mark talked about. When you look at the cost performance, it was up. We expected it to be up. It actually isn't up as much as what we had expected. Exchange, this is a story of a weaker renminbi.
As Brexit has occurred and it affected the sterling and the euro, the Chinese are now kind of targeting their currency against a basket of currencies, not just the US dollar. As those weakened, we saw the Chinese start to push down the renminbi in response to that, and that had an effect on us. What we had expected to see in the quarter, we didn't expect a loss, obviously, was the fact that we'd have stronger market factors. The net pricing in China has been worse than what we thought. We thought 5%-6%. Actually, year-to-date it's approaching 7%, or high sixes. We're at about 7% or so. We think this will mitigate in the balance of the year because if you look at last year, the decline was largely sort of from this point through the rest of the year.
We think it will mitigate and will end up at the high end of that range. When you look at the volume and mix, that was the share issue that we talked about. Team's all over it. We're working on it. But that's really what happened to us in Asia Pacific in the quarter. Let's go on to slide 22. We'll turn to Ford Credit. Ford Credit grew. That's the first two metrics, double digits, and that was really around the world. If you look at the pre-tax results, the $400 million, that was down 21%. I'll show you why in just a minute. If you look at sort of the portfolio performance, very healthy FICO scores in a good place. Delinquencies up a bit, although I'll say something about that in just a minute in terms of credit losses.
The loss receivables up 15 basis points, actually about where it's been the last two or three quarters. It's just up a bit from the last two or three, up more from a year ago. Starting to approach what the level of LTR that we saw before the Great Recession. This is just getting back to sort of normal levels. It's not an issue, per se. All right, let's go on to the next slide and look at the year-over-year. The decline was largely around lease residuals and credit losses. In terms of lease residuals, it's really two things, and it's in the call-out box. If you look at the residual gains and losses, you can see on a year-over-year basis the decline. These are vehicles that come back. Do we lose money or do we gain money?
We actually gained money on the returned vehicles in the quarter. We just didn't gain as much as we did a year ago. That's how we end up with the negative number. In terms of supplemental depreciation, this is a reflection of lower auction values and a projection of lower lease-end values, particularly for smaller vehicles. We have adjusted our depreciation glide path to those new lower endpoints, and that's what's reflected there. When you look at the credit losses, this is largely around a couple of things. You can see the charge-offs. Those are the vehicles that we actually repossessed and then we took back to market and resold, and you can see there was a decline there of $34 million, and then we had to increase the reserve by $31 million.
The thing I wanted to mention on this is a number of things going on in here, but while the delinquencies are up a little bit, what we're seeing happen is that the number of people who actually default once they are delinquent, if you will, is increasing versus where it has been. It's not a level that's of concern. It's actually just coming back again to a level that's more normal. I think there's been a number of articles from banks and others around that. That's one of the factors. The other thing is that the severity. When we do take them back to the auction market, the severities are greater, in part because of what I mentioned in terms of the lease-end values of the vehicles are lower overall.
But also because of the longer terms, the portfolio people are turning the vehicles a bit earlier, and so the severities are greater. Because of all of those factors, we also have had to increase the reserve in addition to the fact the business is just bigger. We have to increase the reserve in line with just the larger business. Okay, let's go to the next slide. This is looking at trends. I'm just going to talk to the two on the right. I think I've already covered the two on the left. The two on the right I've covered. We said in the first quarter that our lease penetration would decline. It did by three points in the second quarter. We think again for the full year, it will be lower than it was in the first quarter.
You can see that we dropped a bit more than what the overall industry did. In the lower left, this is around what we talked about, the auction values. This is a constant mix, so it's mixed the same as the second quarter. You can see that we are pretty flat in terms of our values in the second quarter compared to the first, but down from where we were a year ago, and that's largely around the smaller vehicles. Let's turn now to cash flow. Cash flow, a very, very good story for us in the quarter. It was the best ever in the quarter and the half, $4.2 billion operating in the quarter, $6.9 billion in the half. It was driven by the profit, but also you can see that we had favorable working capital and we had favorable timing differences.
When we look at the full year, we do expect that the $6.9 billion will come down. What we achieved in the first half will come down because we do see negative cash flow in the second quarter, largely driven by the third quarter, and we'll come back to that in just a minute. We think largely this is around the fact the working capital and the favorable timing differences will reverse by the time it gets to the end of the year. I will note on this slide, we're taking our capital spending projection down. The guidance had been $7.7 billion. We're taking that down to $7 billion. It's largely around efficiencies on programs that are coming to a conclusion, and we're seeing we deliver them more efficiently and also lower non-product spending. Let's go to the balance sheet summary. This is a new slide.
We've developed this to capture all the balance sheet metrics. The only thing I'll say here is the automotive balance sheet, very, very strong. Ford Credit continues to be well-capitalized and strong as well. Finally, in terms of pensions, we're still on track to have the pensions largely funded and de-risked by the end of the year. Now let's switch gears and let's talk more now about what lies ahead, not only in the second half, but for the full year, and we'll touch very briefly on 2017. Of course, talk more about that at Investor Day in the middle of September. What this slide basically says is compared with our prior expectations or prior guidance, when you look at GDP, we now expect global U.S. and Europe GDP to be somewhat softer than what we had expected.
Brazil and China pretty much in line with what we've expected since the beginning of the year. When we look at industry volume, we do think the global industry volume is likely to be a bit higher than what we had expected. That is driven by primarily China, but also Europe is doing a bit better than we had expected at the high end of the range that we guided to earlier in the year. The softness is in the U.S., that is largely on the retail side of the business and also in Brazil. Now let's go on to two special attention slides that we provided to help you understand the second half, but also our view of the full year. The first thing I want to highlight is when you look at the far left, that's the $6.8 billion company profit in the first half. Record results.
Fantastic. What is in there, though, is important to understand. A lot of the issues and risks that we will talk about for the full year, they were there in the first half. They started to appear as the first quarter and then the second quarter unfolded. We offset those risks with $1.6 billion of favorable cost performance versus what we had expected at the beginning of the year. It wasn't an easy quarter or easy half. We had to work to get there. The important message of this is that those risks flow into the second half. For us to deliver the guidance that we're committed to deliver for the full year, we have to do that all over again. We're going to have to deliver stronger actions on cost.
We're going to have to go back and look at the top line as well and find every dollar of revenue that we can get. That's what that next to last bar represents, the profit improvement actions. We do that, and we're committed to doing that, then we're able to deliver the guidance, which again, we're committed to do, and that's what the right-hand bar reflects. What we're highlighting in between there with the red bars are the factors that are going to drive to a lower second half than is normal. Second half is normally lower. That's what the first red bar represents. There's some other actions in there that I won't go through individually, other than I'll touch on Super Duty that will give us a lower second half than what would be normal. Super Duty is a very, very important product.
It's high volume, it's very high margin. It's a big changeover because we have not had a complete redesign of this product for 19, 20 years. It's going into a big plant. It's aluminum, it's a new frame, it's powertrain upgrades, it's new features, it's new technologies. We really haven't touched a lot of this product for 19 years. When we make this change, obviously, it's going to have an impact in the quarter from the launch effects and so forth, the cost. Even as we go through the quarter, we expect to have some impact because we do think we'll have lower contribution margins coming out of this than what we had going in.
Still very high contribution margins, among the best in the portfolio, the new product, which will be far superior than the one that we have today, and certainly position the product to be a winner and a leader over the next decade and meet the regulatory requirements that we have to meet. There will be lower contribution margins when we come out of the launch, and that will flow through into the fourth quarter and the forward years. What will happen over time is we'll start to get the cost reductions which we normally get, which is what benefited the older F-Series over the course of that 19-year cycle. It will also drive a weaker than normal third quarter along with some of these other factors. To put that into context, usually the third quarter is about a quarter of our full-year results.
It's likely to be half of that or lower, and that's largely around the F-Series effect. Let's go to the next slide. Some of those risks that we talked about that were in the first quarter largely, or first half, and that flow through into the year shown here, it's around higher Ford and industry incentives. We've talked about that. They're up, we're up in line with that. The weakness or the softness in the U.S. retail industry, we see the second half actually being softer than the first half on an absolute basis. Again, that is its retail. These are absolutely strong levels. They're just not as strong as what we had expected. In fact, looking into 2017, we think that we'll see further softness as the cycle matures. If you go down the page, Middle East and Africa, I've already talked about it.
That's going to continue the situation that we're facing. We are responding to that. In Asia Pacific, the lower net pricing, the weaker exchange, we saw that, we're still dealing with it. Then Ford Credit. We have addressed the U.S. auction values, but it will give us a lower second half in line with what we saw in the first half when we earned over $900 million. The opportunity is Europe. We made a lot of money in Europe in the first half. Surely we have opportunity versus what we had expected at the beginning of the year, we have to deal with Brexit, we talked about that already. We see these risks. We have seen them since the beginning of the year. We've been dealing with them very successfully.
We will do so in the second half, that is work that is still yet ahead of us. Mark will talk to that in his comments, which I'll turn over to him now.
Great. Thanks, Bob. As you can see on slide 30, we remain committed to our 2016 guidance, as we mentioned, we're facing risks to achieving that. Now I'd like to talk about what we're going to do about it. If you go to slide 31, it shows you the improvement actions that we already have underway in the company. To start, as we match production to demand and be very consistent around that will help reduce manufacturing costs. We've implemented an aggressive company-wide attack plan on costs, as Bob mentioned, it builds on the considerable cost progress that we achieved in the first half of the year with that $1.6 billion in cost improvements that we delivered versus our plan. As you can imagine, it looks at everything from material costs to marketing and selling efficiencies to freight and admin reductions.
At the same time, we have to put special attention on our go-to-market plans in the U.S. and China to deliver even more revenue and cost opportunities. In addition, we're also utilizing our expanded data and analytics team to really pinpoint immediate areas of improvement in our market factors, including better volume and mix and pricing, which will in turn drive revenue. Finally, we have a number of significant vehicle launches around the world this year, and we are challenging our team to deliver even more revenue and cost opportunities as we launch those vehicles and take advantage of those launches. We're aggressively executing on all these actions, and of course, we'll provide an update on our progress during our Investor Day on September 14th. In summary, in turning to slide 32, again, I'd like to put the quarter in context for you.
We had a strong second quarter. We had record cash flow, and we had a record start to this year. At the same time, we're seeing more pressure throughout the business for the remainder of the year. Some of it, as we discussed, is expected, such as the launch of the Super Duty in North America, and some of it is not expected, such as the higher Ford and industry incentives in North America, a softening of the U.S. retail industry, and uncertainty in Europe due to the Brexit effects. As a result, we're calling the second half of this year, and particularly the third quarter, to be much weaker than normal. I just want to caution you against using the second half of the year as an indicative run rate for 2017. It isn't.
We expect 2017 to be another solid year for Ford, despite the likely absence of growth in the U.S. industry volume and Brexit effects in Europe. I think you know us very well. The Ford team remains committed to delivering our plan for this year, but we also have a long track record of calling risks as soon as we see them and acting decisively to deal with them, and that's exactly what we're doing today. With that, we'd love to take your questions.
As a reminder, to ask a question, please press star followed by the number 1 on your telephone keypad. We will pause for just a moment to compile a Q&A roster. Your first question comes from the line of Brian Johnson from Barclays.
Good morning.
Morning.
I want to talk a little bit about North America. A couple of related questions. First, we talked about the inventory situation at the end of 1Q. We certainly tracked how it's developing during 2Q, and even backing out Super Duty safety stocks, it looked like coming into the quarter, there was a fair amount of inventory. How much of the incentive activity has been related to working that down and perhaps versus sort of broader trends? Then, what's your thinking on the trajectory of industry sales, particularly retail sales, through the second half and into 2017?
Well, Brian, let me take the second half of your question. Bob will take the first one on the industry sales. Here's how I think we'd characterize the market. If you recall, the vehicle sales for the industry grew at a really good pace in the early stages of the economic recovery. If you recall, it actually outpaced the overall economic growth at the time. While the industry remains at fairly healthy levels, the competitive environment has intensified as that growth has moderated and as we've seen some of the softness in the retail demand. In that environment, you've seen, as we said, incentives creep up, and we've been about in line with that.
Also, I think what it will result in, probably for the remainder of this year, Brian, is a fairly volatile kind of SAR factor from month to month, because that will be influenced by any particular OEM or brand that wants to increase their incentives to maybe juice their market share or whatever. The bottom line is we expect in the second half of this year that the retail industry to be lower than the year ago. As we get into 2017, obviously, we'll talk more about that in the future. As Bob mentioned, we do expect the industry to be probably slightly down in 2017.
Okay. Brian, on your question around the inventory and our incentives related to that, I go back to what we talked about at first quarter and also the last chat that we had in March. We knew that we would be at higher levels of inventory, particularly in the early part of the year because of two factors. One, we had to prepare for the Super Duty launch, which we touched on. Also because of the fact that many of our plants are running at three crew, as a result, there will be periods where it's low absolute volume months where the inventory will be, from a day supply level, high, but it's to support the higher volume months of the year, particularly in the spring and the end of the year, end of the summer and so forth.
We're comfortable with the levels that we've been at. The thing that's kind of interesting in terms of responding to the softness, it's not been around incentives. It's been making production adjustments, because if you look in the first half, you wouldn't see this, but I'm telling you this. If you look at the wholesales that we had planned, they are higher or were higher than what we actually delivered because even as we saw some of the softness that we've talked about occur in the first half of the year, Joe Hinrichs and the team are making production adjustments along the way. We ended up with lower wholesales in the half than what we had expected. That's how we primarily deal with that.
It's just adjusting production to demand, that's what we'll do in the second half, which is what Mark talked about in his comments. The incentives, I think, are different. The incentives are really sort of an environmental issue, if you will, across the industry. For us, I think there's a piece of what I talked about earlier around the normalization in this period versus a year ago of F-150.
Okay, just a quick follow-up. When you talk about incentives, I guess, A, a housekeeping. Are the incentives adjustment you made here just based purely on what happened in the quarter or are you at all forward-looking into the amount of incentives that would have been either anticipated for 3Q or booked or in place on June 30th, continuing into July? Second, just broadly, are you seeing the SUV, excuse me, CV market beginning to see greater incentive activity, not just the sedan market?
When you look at it overall going forward, as we said, Brian, one of the risks that we're calling out is lower pricing and higher incentives here in the U.S., That's based on the softness that we're seeing in the retail market. As you look at the data across the industry, cars, utilities, and trucks, you can see as a % of the transaction price, all of them are going up, cars the most because of what's happening with the segmentation. In terms of commercial vehicles, not so much. That's still relatively balanced.
Okay, thanks.
Your next question comes from Joseph Spak from RBC Capital Markets.
Thanks for taking a question. First one is, Bob, you made a comment about looking for every dollar on the revenue side. In light of a higher incentive environment, I guess one way is to just move a little bit more volume. Can you just talk about the go forward sort of discipline on incentives in the U.S. environment?
Thanks, Joe. We're going to stay very disciplined in matching production to demand. When you look at our approach going forward, as we mentioned, you will see some production adjustments in the second half and in the third quarter, and that's based on the fact, our view of what we see is the retail industry going forward. We're just going to stay very disciplined around that, Joe.
Yeah. Joe, I would just add, there are a lot of ways to get an extra dollar out of revenue, and mix is a really, really important one. If you look at the automotive segment and the year-over-year change, we picked up over $700 million of good news just from product mix with a little bit of good news in series mix and options. That's something that we're very focused on. It's been part of our strategy in North America, in Europe, and Asia Pacific. Mark touched on it. The other thing I don't want to leave unsaid, the great work that our global data insight and analytics team is doing.
We're bringing new analytical tools to the table to help the marketing sales teams be really focused and targeted in terms of where to find that extra dollar that's sitting there, but maybe we're not capturing it because of a lack of insight in terms of the specificity with which we can put all the tools together to get it and bring it back home. That's exactly what that team has been helping us do, particularly in the U.S., but now starting to do so in Europe and China as well.
Okay. I guess just following on that conversation, you're talking about the U.S. environment, it's a little bit tougher, maybe slightly down, but the guidance in the back half in North America implies something about 6.5% as you mentioned, sort of in pricing and incentive way a little bit. I guess, given sort of what you're seeing from an industry perspective in just a little bit of a tougher environment, does that give you any pause for your breakeven analysis longer term? Or maybe am I underestimating the impact of Super Duty in the back half? Maybe you could give a better sense of what you think margins would be in the back half if you didn't have the Super Duty changeover.
Yeah. I'm not going to go there in terms of giving you a view on margins. I think, clearly they will be lower. There's no question about that, because the second half will be lower. They usually are lower in the second half. This will be a weaker than normal second half. That is what's going to happen. I would just go back to 2014. If you think about 2014, North America had lower margins than it had been running at because of the launch of F-150, and then they bounced back up in 2015, particularly the second half and then early this year. What we're seeing is a really big launch. It's not going to take as much volume out as those launches did because we've learned so much from them. It's a really big launch and it's going to have an effect.
It's really around all these other issues and the softening of the industry, the higher incentives. Those are the things that we're working on. I would actually call them sort of early signs of the maturation of the cycle. The structure that we put in place in North America was designed to give us good results and good performance when things get tough, and it is getting a little bit tougher. That's what we're seeing. I think the structure of the business is good. Oh, by the way, remember that $1.6 billion of cost performance we talked about, a lot of that was delivered in North America. We're keeping up, if you will, in terms of the structure of the business with what we're seeing happen.
I think we're in good shape in terms of the robustness of their structure and prepared for that eventual downturn.
Okay, thanks.
Your next question comes from the line of Adam Jonas from Morgan Stanley.
Thanks, good morning, everyone.
Good morning.
You probably saw Fiat Chrysler's ending production of all cars in the U.S. by Q1 2017 on the grounds that they couldn't justify the use of capital for products they don't make any money on. While recognizing that Ford is on a completely different level of scale of passenger cars in the U.S. vis-a-vis Sergio's house, are you at least somewhat sympathetic to what Mr. Marchionne is saying? How much money do you actually make in small and mid-sized cars in the U.S., and can one make the case that over time, Ford too could be car-less in your U.S. plants?
I think overall, as you can expect, Adam, we look at how we spend our capital very carefully to make sure that we're earning a good return on it. When it comes to our portfolio, we've said very clearly it's important to have a full portfolio and cars in particular to adjust to any changes we see in consumer demand in terms of the economy, in terms of the regulatory environment. Those are just a few of the things that we look at as we're making investment decisions across our portfolios, including small vehicles.
Okay. The second question is on Ford's strategic position in small, downsized engine and fuel-efficient vehicles. The emphasis on smaller, lighter and more fuel-efficient vehicles, we know that all good auto companies with an eye on the long term have to do this type of thing. It's really existential. Thinking nearer term, does this strategy, it seems to work a lot better when oil is $100 a barrel or gas is $4 a gallon. I'm just curious if you see any link between fuel prices and consumer buying preferences that could be creating some near-term headwinds to that strategy, even recognizing it's the right one longer term. Thanks.
Thanks, Adam. As usual, we have to live in today, and we have to take a long-term view. Overall, what we're seeing is literally across every segment, whether gas is $4 a gallon or whether it's $1.50 a gallon, fuel economy is still an important purchase criteria for folks because they have long memories. What we're seeing in terms of the take-up of our EcoBoost engines and the take-up of our smaller displacement engines, like our one liter, which has won International Engine of the Year for five years in a row, we're seeing very good take-up of that. We think going forward, that is exactly the right strategy.
Yeah, you could have some customers on the margin that say, "Well, gas is low, so I'll purchase a bigger engine." For the most part, whatever they purchase, they want good fuel economy here in the U.S. and globally.
Adam, I just would add that we're a global enterprise. Almost half of our volume is outside the United States.
Of course.
Due to taxation approaches outside the United States, the fact that oil prices are low has not really changed gas prices. It's an extremely important consideration outside. It's an important part of what we have to do not only here, but also in serving customer demands elsewhere in the world, right?
Thank you, Mark and Bob. One quick one. Third one, sorry. Do you guys think autonomous cars are a little bit overhyped in the market here? That's it. Thanks very much.
Do I think they're overhyped in terms of the level-
In terms of media perception and the type of activities you're seeing from your competitors in acquiring assets and building them and the amount of press releases and CNBC time devoted to the topic. Just a more of a market commentary. Just curious of your opinion. Thank you.
Well, as you know, we're working very hard on autonomous vehicles. Listen, whenever there's something new and shiny and sexy, I think sometimes the media does tend to write about things maybe in flourishing ways. We're just going to stay very focused on our plan. As you know, as a company, there's a lot of announcements going on right now by a lot of competitors. I just want to be really clear, we are not in a race to make announcements. We are in a race to do what's right and best for our customers and best for our business, period.
Thank you.
Thanks.
Our next question comes from the line of Colin Langan from UBS.
Oh, great. Thanks for taking my question.
Hi, Colin.
It's very helpful to see the first half versus second half walk, when we think about it year-over-year, obviously mentioned earlier, it seems like a pretty massive year-over-year deterioration. I think almost like $2 billion. I remember last year you had some UAW signing bonuses in Q4. Can you help maybe bucket on a year-over-year basis the big items that are dragging things down? Obviously, the Super Duty would be one. You actually did take a full-year production. I don't know how that's looking into H2. Then, commodities that you mentioned getting worse versus the first half. Is that actually going to be a drag year-over-year? What are the big items that are causing this weakness?
Well, I guess the first thing I just want to correct you on, there's no down because if there was a down, we're not meeting our guidance. Our guidance is to equal to or improve on what we did last year. Our expectation and our commitment is that is not what's going to happen. We have risks that we have to mitigate, which is what we talked about throughout the call. Our commitment is that we will, as we did in the first half, we will find ways to improve. That is not the plan. That's not where we would expect to end up or hope to end up. To your question, Colin, what you will see, overall, particularly in the second half, you'll see a bigger than normal cost increase. That will also be something that you'll see for the full year.
We had great performance on a year-over-year basis in the first half. Some of that's because it was a relatively quiet product period for us, if you will, overall globally. When we get into the second half, we have Super Duty, we've got the Continental, we have some of the launches in North America that will take place in China. Very importantly, and we'll talk more about this when we get to Investor Day. That was one of the bars on that waterfall chart, which was around product investment. We have been seeing an increase in product investment from Ford over the last number of years, actually, as we got bigger, we expanded the portfolio, invested more in technologies. We went into new markets. We added capacity, particularly in emerging markets. Going forward, we're going to be completely replacing the C platform.
We're going to be completely replacing the CD platform. We are investing heavily in electrification. Adam's point around autonomous vehicles, that's underway as we speak. There's regulatory requirements that we have to meet which bring with it added investment as well. You will see an increase in both capital spending and engineering, and you see some of that even in the second half relative to the first half. What we're showing you is an increase that's higher than normal. Normally, we see that happen, it's even higher than normal. As we go into next year, that will be a factor. You will see higher cost overall in the year versus a year-ago. That will largely occur in the second half of the year. We don't expect to be down by the time we get to the end of the year.
That's the risk, our commitment is to offset that.
The other thing, just one other thing. The other thing that's affecting us half to half is, as we mentioned earlier in the year from some of our fleet sales, particularly rental car sales, they were very front-loaded because the rental companies wanted to buy at the beginning of the model year. I think half to half, it's about 170,000-ish less wholesales, if you will, because of-
The fleet
the fleet.
Yeah.
Got it. Kind of related, you mentioned in the first half there was $1.6 billion in costs to offset headwinds. What are the major headwinds? Just so I'm clear, is it really pricing and FX issues? Are those the issues? It seems like-
Yeah, if you look at.
actually came in better in the first half.
Yeah, if you look at that slide that shows the full-year outlook and then shows the arrows up and down by region, Slide 29, most of those issues were actually in the first half as well. The incentives in the U.S., the industry in the U.S. on the retail side was weaker than what we had expected. The external issues in Middle East and Africa, the pricing in Asia-Pacific and China, we talked about that specifically in the quarter. The weaker exchange, the auction values, all of that was in the first half. It will flow through into the second half. We offset it in the first. We're committed to offsetting it in the second, along with Brexit issues, which are unique to the second half. That's what we were talking about and conveying.
Got it. Just one last question. On Slide 13, there's that $1 billion-ish of incentives. I remember last quarter, there was a big chunk related to the F-150 sort of catch up, and it was around, I think, $500 million. Is that an issue again in that big number? Is that?
No, that was more of a stock accrual effect in the first quarter. I think there's maybe a little bit of that in the second quarter, but nothing like what it was in the first quarter. It's more normal, if you will.
Okay. All right. Thank you very much.
Okay.
Our next question comes from the line of John Murphy from Bank of America Merrill Lynch.
Good morning, guys.
Good morning, John.
To follow up sort of on the pricing and incentive discussion in the U.S. It sounds like the environment is getting a bit tougher, but I was just wondering if you could demarcate or parse it out via cars and trucks. Given the cap util levels on SUVs and trucks are very high in the plant level and inventories particularly high, just seems kind of curious if there would be real pressure on pricing there. I could understand the car side, but just trying to understand where you're seeing this in the model mix as well as why you think this is coming in at this time.
Well, we've seen it across all the sectors. It hasn't been unique to any particular sector. As Mark mentioned, it's been particularly prevalent in cars because of, I can't remember who used the term, but car recession. I think that's a good way of thinking about it, actually. We have seen that, and that has had an impact in that segment. Frankly, it's been across the board. It's just been sort of a slow, very modest increasing level of incentives across the industry that's affecting the industry. I wouldn't call out any particular segment, frankly.
Okay. Then just a second question, Bob. You alluded to the Super Duty having a lower contribution margin. Is that really just around the launch in the early days, and as you get a few years in, you think it might have a similar contribution margin as the old Super Duty? Or is there something structural that's going on with the truck and the content in it that would provide.
Yeah, no, it's not structural. Your question's spot on. We have cost reduced the Super Duty for 19 years, if you will. Obviously, we did some things. There were some moderate changes along the way, powertrains and so forth. It's not like we didn't do anything, but we did. We haven't done a ground up, and this is what this is. If you think about it, almost all the parts are going to be new or carry across from the F-150. We're going to get a scale benefit because of the strategy that we're deploying. You're right. What will happen once we get it in production, we will start to benefit from cost reductions on the new parts. Not only will Super Duty benefit, but so will F-150 because of the carry across commonality between the two.
Just the flip side of that, John, just speaking about the revenue for a moment. In this segment, in the full-size pickup segment, our customers pay for capability. We talked about that when we launched the F-150, and we've seen that across the board in terms of our ATPs, in terms of our lowest levels of incentives versus the competition. People pay for capability. When you look at the investments that we've made in the new Super Duty, because it is going to be the most capable, we think that is going to pay benefits on the revenue side of it. As Bob mentioned earlier, we invested in this platform for a cycle, not just a freshening in terms of capability, meeting fuel economy requirements, et cetera. We took the long view on this.
We've made the investment, and I think will pay benefits for us over the next good number of years.
That's incredibly helpful. Just lastly, and I know you guys very much do care about shareholder returns and the stock price, so I don't mean to. This is an interesting question. As you look at all the things that you have to deal with fundamentally in the business and all the issues that you're facing and opportunities, which there's a lot of good stuff out there, do you table sort of your view on what's happening with the stock in the short term and just look at this and say, "We've got to execute through the cycle, and on the other side of the cycle, we'll ultimately get paid for this," and you kind of put that view of the volatility in the stock aside for now? I'm just curious because the stock is having some wild swings here, and I'm just curious how you're thinking about it.
Do you react to that or you just say, "We got to keep executing. We'll get through the other side of the cycle after we go through a downturn, and the stock will be rewarded at that point for it"?
Well, I think it's kind of like when you're having a bad golf game, you just kind of play through it. I think in our case, we're going to stay really focused on just delivering the business. Of course, the stock price is very important to us. Again, I get back to those four elements that we showed in one of the charts. We review that with our team every single week. How are we doing on growth, on returns, on de-risking the business, and on providing rewards for our shareholders.
That's very good to hear. Thank you very much.
Okay. Thanks, John.
Your next question comes from the line of Itay Michaeli from Citi.
Great. Thanks. Good morning, everyone.
Good morning.
Just on North America, as you kind of look at the kind of changing business climate that you described, I'm curious on a normalized year basis, clearly after you get to Super Duty and the seasonality in the second half of the year, how are you thinking about margins there relative to I think the prior communication was at 8%-10% range in North America. Just curious on the latest thoughts on that range.
That has not changed, Itay. That continues to remain our goal is 8%-10%.
Okay. If we think about the competitive environment, does it at all change your plan to potentially quick change your plans to increase capacity in North America around 2018, or is that plan still intact?
Well, our plans kind of remain intact as we've talked about. Part of as we look forward and as we've talked about, we're going to be introducing four new SUVs into segments that we don't compete in today. As you know, we've made the announcement to build a plant down in Mexico for small vehicles. We're pretty comfortable with the plans that we've laid out and we've talked about before.
Great. Just lastly, are most of the second half mitigating factors in North America, and if so, what are the puts and takes in the Asia-Pacific outlook for the company in the second half of the year?
Again, if you look at the slide, I'd say in terms of magnitude, yes, North America. We also highlighted the risks in Middle East and Africa. Although a small region for us, we had expected a profit, or a loss for the first half. If you think about that for the full year, that's an offset that we have to create. Asia Pacific, we think that we've got a plan to get us moving in a more positive direction than certainly we were for the first half. In terms of magnitude, it's really North America. When I say North America, I think you kind of put Ford Credit with it because this is around U.S. auction values in the U.S., so it's largely around the U.S., actually.
Just, again, a little bit more color on what we're doing in China in terms of what you asked. Clearly, as Bob mentioned, we had some sales operation issues, which the team has gotten a hold of. As you look at the launches, the product launches in the second half of the year, as I said, most of these will benefit fully in the fourth quarter. It's not only the launches that I mentioned, the Taurus with the 1.5-liter engine and Mondeo and Kuga, we're going to have improved availability of our 2-liter version of the Edge. The Edge has done extremely well in China. People are really clamoring for the 2-liter engine. We've broken through some capacity constraints recently, so we'll have better availability of that. That plays into the growing segment. We'll have better availability of Explorer.
Also on the cost side, Bob mentioned we faced competitive pressure in the C segment. A lot of that is from the domestic competitors. We have had an intensive focus on our Escort and our EcoSport in terms of attacking material costs. You'll see that play out during the second half of this year.
That's very helpful. Thanks, Mark and Bob.
Thanks.
Your next question comes from the line of Ryan Brinkman from J.P. Morgan.
Hi, good morning. Thanks for taking my question.
Hi, Ryan.
Question is on Asia Pacific outside of China. If you look at slide 19, still extremely strong margin in China. I think the implication here is that the consolidated operations outside of China lost maybe a little over $300 million in 2Q or upwards of $1.2 billion annualized. Firstly, what drove that softer performance? How should we think about it moving forward? Should the losses start to mitigate as Australia manufacturing winds down? I can't imagine that all of that relates to Australia, obviously. Are there additional actions that you need to be taking or are already starting to take, maybe in India or Thailand, for example?
Let me take that one. When you look at the loss for the quarter, the JVs generated the $295 million. There are other, I mention this every quarter, there are other parts of total China. You've got Lincoln, you've got the Ford imports. You've also got engineering that Ford is incurring that the JVs pay back through royalties once the vehicles are in production. Those sort of sit in a central pot, if you will, in Ford of China. Actually, when you look at overall what happened on a year-over-year basis, most of the decline actually was in China. Some of that was at the JVs. We talked about the 28% decline, it was the other factors as well. When you look at the balance of Asia Pacific on a year-over-year basis, it was largely the Indian operations was a factor.
That was very much in line with our plan. In fact, when you think about what happened versus what we'd expected, the operations outside of China in the second quarter did a bit better than what we had expected. It really was around China.
That's very helpful.
Bigger China, not just the JVs, bigger China.
Yep. Then just last question on Brexit. Again, thanks for the color that you did provide. I think it might be a little hard or likely too soon to say, but at this point, is there any reason to reevaluate or need to reevaluate the 3%-5% pre-tax margin that was indicated by, I think, 2020 at the 2014 Analyst Day, or sort of more recently, some of the discussion about 6%-8% margin longer term in the region?
Yeah, we're still shooting for those, Ryan. Clearly, as I said, as a team, you know us. We're going to look at what the world throws at us, and we're going to act decisively on it. We're going to have to see how Brexit plays out, it'll just provide more motivation for the team in terms of keeping us competitive and also at the same time putting us on that path to sustain profitability as we think about Brexit. This is going to play out. It's not only an issue of seeing how this plays out in what the trading relationships are going to, how they're going to play out. It's also the timing because clearly once they start the clock on the Brexit negotiations, it's about two years. We have to look at all that, and we're scenario planning.
We're accounting for Brexit in the results that we've shown here and the outlook, and we'll talk about that at the Investor Day as well. We'll put that all in there.
Okay, thanks a lot.
Your next question comes from the line of Pat Archambault from Goldman Sachs.
Thanks for squeezing me in. Yeah, just I guess a follow-up on China. It sounds like you are expecting a sequential improvement, let's just go through that. Is that both year-over-year as well as sequentially from first half to second half? As we think about the list of items, there has to be a pretty big impact from the non-recurrence of that downtime at that one large plant. You talked about products, in slide 20, it does seem like while pricing is still negative from April to June, your slide makes the point that it's moderated. Just wanted to see if we were tabulating all the items and thinking about that correctly.
Yeah, I think what you should expect to see in the second half, I think we'll have a very strong fourth quarter as we did last year in China. Some of that is just seasonal as you start to build to prepare for the Chinese New Year, the following early in the year, it's time to the product launches. I think when you think about the profitability in the second half from Asia Pacific, which, and of course, China still drives much of that, I would think it to be concentrated largely in the fourth quarter.
The items that we listed off, those are the ones, right? I mean, basically product pricing being bad but not as bad and the lack of downtime, I guess.
We do think that the negative pricing we've seen year-to-date will start to moderate, and that's in part because of the comp from last year is a bit different in the second half than it was in the first half.
Got you. My last question is Brazil, and South America specifically. It's an unusual thing to ask a question about upside risk and potential improvement, you cited improving fundamentals in Argentina, also Brazil, strangely enough has seen sort of a second derivative improvement across most of its macro metrics and currency has started to appreciate. Maybe just your perspective on how that plays into your outlook there, and maybe it's a little bit too early to think about changing things.
I think it's a little bit too early because despite some of the things that you mentioned, we have not seen the improvement in the SAR factors and in the sales, and as you saw from the data. That really has to ultimately start playing itself out in consumer confidence and into industry sales, and we're not seeing that yet.
Got it. Even from a currency side, I guess it's just too nascent, I suppose?
Yeah.
Okay. All right. That's all I had for you guys. Thanks.
Okay. Thanks.
Your next question comes from Rod Lache from Deutsche Bank.
Hi, everybody.
Hey, Rod.
A couple things on North America and one on China. Just first, at a very high level, could you just give us what your perspective is on what is driving the moderation in the North American retail market versus the run rate we were seeing in the back half? More generally, there was a thematic view that automakers would be more price disciplined as demand moderates given all the capacity changes and structural changes in the market. Obviously here we are looking at a 3% price decline year-over-year, with very slight moderation in volume. I know part of that for you was the F-Series, but how should we be thinking about the trajectory of price deflation that you would be expecting in a North American plateau?
Can you give us a little bit more color on what you expect for pricing in the back half?
Let me take the first half of the question on what's driving the moderation. I think it's a number of different things. Obviously, Rod, you've seen, as I mentioned earlier, kind of that pent-up demand go away. Now it's really about replacement value. In addition, you've seen used car prices go down. When used car prices go down, obviously there's an impact on the new car market. When you look at some of the elements that are driving the retail business, there's been extended payments, there's been higher leasing, the low interest rates. That plays itself out over time, and you can see our strategy around that, particularly in some of the leasing numbers that Bob showed earlier. I think those are some of the factors.
Probably, there might be a factor of the noise that's going on right now here in the U.S. around elections and what that means, because there's lots of things being said. That could impact it as well.
Rod, on the question of price discipline, that's a very good question. I actually think the industry continues to be quite disciplined. I think we need to put in context what's happened. I think we're in transition. If you go back and think about what's happened since 2009, the industry has grown way in excess of GDP over that period of time. We've all benefited from very robust growth of the industry. It is now plateauing. I think the industry and all the players in the industry, we have to kind of pivot. We have to transition, and I think that's what's occurring. The reason I'm encouraged to think that that will occur successfully is the fact that not only us, but everyone, all the big players are very focused on margins. They know that's important. They know that's what counts.
They're focused on that. I really believe that ultimately that will be the driver of decisions around how aggressively people go after a pie that isn't growing, frankly, anymore. The other thing that's probably different than it's been over the last two or three years is the yen. The yen has started to strengthen from the levels it had reached. I think it got to about a 120 level. It's been 100, 103, 105. That certainly puts some constraints on the Japanese participants in the market in terms of maybe some of the benefits and the windfalls of the weaker yen that they were deploying that just isn't there anymore. I think it'll probably take some time, I think that the discipline that we've seen will stick, and we'll get used to the new environment.
That'll play out over time.
It'll play out. Yeah. It's not going to happen overnight, obviously.
Can you give us any color on the expectations for pricing in the back half? Then on China, the pricing was effectively down 6%, even with the 500 basis point decline in the taxes, which is effectively another price cut for consumers. I know that the comps get easier in the back half of 2016 versus the back half of 2015, but is there any concern on your part that As you look out to 2017, if some of the temporary tax benefits moderated, actually for automakers, the pricing environment becomes more challenging.
Well, when you look on the moderation, clearly at the end of the year, the purchase tax reduction is expected to expire. It's an interesting question because, if you look at the Chinese SAAR in the second quarter, I think it was like 26.5 million units. It's incredibly strong. Part of it is could you argue, are people rushing to buy cars with six months to go on the purchase tax incentive reduction? I think at a SAAR at that level, and I couch that because the official Chinese numbers coming out from the government are not available. This is based on the manufacturers getting together and sharing their data. Based on that, we do think that it's a sign of the strength of the market.
What that will mean for pricing next year, I don't have a hard and fast thought on that, but I am encouraged by the level of sales that we're seeing well before the purchase tax incentive ends.
Okay.
Rod, on your question about what are we expecting for the balance of the year here, I would just say we're expecting the continued trend that we've seen, which has been very slow, modest increases, so we're kind of baking that into our outlook. We'll see what happens.
Great. Okay. Thank you.
Our next question comes from the line of James Albertine from Consumer Edge Research.
Thank you. Good morning.
Good morning.
I had two quick ones. One on the credit side of the business and the other just to go back to the U.K. for a moment. First on credit, looking at your average FICO score, you're not in the business, it seems, of focusing too much on subprime. From an observational perspective, and to tie together what you said about retail sales earlier being somewhat softer, what are you seeing, if anything, that would suggest some weakness coming from the subprime side of the market? Is that a leading indicator that could suggest sort of further tightening as we think about credit for the back half of this year and into next year?
Well, let me just give a high-level response, and then I'll ask Marion Harris, our CFO, to add any color or texture. As we show on slide 24, I think this is our point of view from just looking across the industry there. There continue to be articles about subprime problems or a big increase in subprime. We just don't see that. It certainly hasn't been the case for us in terms of our high-risk mix. As you can see on slide 24, it's been absolutely constant over quite a number of years, actually, not just the periods that we're showing here.
That certainly has not been something that is a factor in terms of our own results and our own business, I think it's fair to say that we haven't seen a particular boomlet or a problem across the industry, maybe you could add some texture on that.
That's right, Bob. We're not seeing any leading indicators that suggest that there's any kind of particular problem emerging. You said it earlier, the increased credit losses we're seeing are coming from some of the delinquencies that are moving towards default. Again, it's off of a very low base that still remains around historic lows on the delinquency side. As the subprime goes, we've seen subprime mix within new vehicle sales be very constant for a long period of time. In fact, it was down just a bit in the second quarter, but not anything meaningful, and we're not seeing anything that's troubling from our portfolio, and we buy a full credit spectrum.
Okay. I appreciate that. Thank you so much. On the U.K., understanding that July and August are somewhat lower seasonal months when you look at unit sales every year, then September, there tends to be a big registration changeover period that drives unit sales in that respect. I'm wondering, are there any indicators this far into the third quarter that would sort of allow us to take a view on September? In other words, are maybe orders up or down or flat, and how should we think about that, if at all? Maybe it's just a false indicator.
Well, I think you're right. Obviously, because of the plate change, September is an important month. Clearly, we got to be cautious about looking at a specific month, even if it is a plate change month, to understand what's going on in the marketplace. I think it's still too early to tell. As we mentioned, we're seeing some less footfall traffic in our dealers, for example, in the London area or in Scotland. In other parts of the country, it's a little bit different. I think it's going to play out over the next number of months. Our view is that the industry is going to come down to a certain degree.
Understood. Thank you again for taking the questions, and best of luck.
Okay. Thanks, James.
Our next question comes from the line of Emmanuel Rosner from CLSA.
Hi, good morning, everybody.
Good morning.
Just one additional question on China, and it's regarding your strategy. Obviously, a lot of big shifts in industry dynamics going on there. If we look at sort of your performance in the quarter, it seems like a decent amount of sort of share loss, and you sort of explained that well. The margins are still obviously incredibly high, at least by sort of global automaking standards. Is part of your strategy there or even sort of your whole strategy to essentially refocus on the profitable part of the market, in the context of very deep competition and pricing pressure on other parts, and therefore basically, maximizing margin, even if that means losing some share?
Well, as you know, Emmanuel, our first and foremost focus is on our operating margins and not necessarily just market share. I think in China, we've worked hard in putting out a full family of vehicles across the spectrum there. Our opportunity going forward is in the areas where we underperformed this past quarter, like in the C segment and the small SUV, is to work on our costs, work on the product appeal, and really leverage, as you mentioned, the strength that we've seen in mid-size cars, large cars, and SUVs. As I mentioned earlier, some of the better availability of some of those vehicles. It's really working both of those elements.
Okay, that's helpful. I guess just more broadly, looking at 2017, you were importantly cautioning against using the second half as sort of your new run rate, which obviously makes a lot of sense with what you have going on with the Super Duty. Looking just beyond just the Super Duty factor, you're essentially talking about potentially larger risks or downside from Brexit as well as a U.S. auto industry that may be modestly down, pricing pressure both in China and sort of like in the U.S. What are sort of like the big pieces or big factors that looking into next year should be more positive and essentially argue that 2017 would be a better year?
Well, I'll just mention a number of them and Mark can chime in and we'll talk obviously more about 2017 and beyond in the middle of September. First of all, we'll get out of some of the one-time unique issues that we saw in the second half and maybe to some extent in the first half. You'll also see, I think it does appear, and there's articles that are being written about it, that the emerging market downturn perhaps globally is beginning to bottom out. I talked about the fact that Russia is already improving in terms of our own portfolio. There was a question earlier around South America. Our early view anyway is that there could be very small levels of growth there next year. Nothing to write home about, but it would be great to see a positive number with no brackets around it.
That would be perhaps the beginning of a turn there and decline of the increased losses. That's going to help. We're going to have, again, as we always do, a lot of product launches. I think going back to the earlier question around the portfolio, we really are focusing our investments very specifically to where we can make money. I think that will be a phenomenon that will be even in sharper focus going ahead, and I think that will benefit. For example, the four new SUVs that we've talked about globally. Those are in the sweet spot of where consumers are going. Those are higher margin products. That will start to help us as we move ahead. The cost.
We will see cost increases, I'll call them, that are healthy to support the growing business and certainly to be a leader in all these emerging opportunities ahead. Other than that, we are going to be, as we have been, very focused on efficiencies and driving non-essential costs out of the business. We did that very successfully in the first half. We need to do that in the second, we're going to do that going forward as well.
The only other thing I'll add is to Bob's point of focusing on where we make money and taking appropriate actions. Next year, we're closing our facility, our assembly facility in Australia at the end of this year. That will pay benefits for Australia's performance next year. We're exiting, it's not big, but we're exiting the markets of China and Indonesia.
Japan.
I'm sorry. Sorry, Indonesia and Japan, that will pay benefits. We're really starting to get very focused on this.
Perfect. Thank you.
Thanks.
There are no more questions at this time. I hand the call back over to Ted Cannis for any closing remarks.
Thank you very much, everybody. You can find our information on the website as described before. Thanks very much.
This is the end of today's call. You may now disconnect.