Chrysler Deal Heralds
New Direction for Detroit
Cerberus Takes Gamble
On Union Concessions;
GM, Ford May Benefit
By GINA CHON, JASON SINGER and JEFFREY MCCRACKEN
May 15, 2007
By effectively agreeing to give away 80.1% of Chrysler Group to private-equity firm Cerberus Capital Management LP, German auto maker DaimlerChrysler AG has set the table for a potentially far-reaching restructuring of Detroit's faltering auto giants.
The New York investment firm and the German auto company have set an ambitious goal: to work with the powerful United Auto Workers union to restructure the $18 billion that Detroit's No. 3 auto maker estimates it will eventually owe for UAW retiree health-care benefits. Daimler, Chrysler's German parent, was unwilling to shoulder that burden.
Many big airlines and steelmakers have chosen to file for Chapter 11 bankruptcy protection to reduce such liabilities. If Cerberus can devise a formula for doing so outside of bankruptcy court, Ford Motor Co. and General Motors Corp. would almost certainly try to follow suit, potentially affecting some $95 billion in total retiree health-care obligations. Discussions among Big Three executives are under way at "the highest levels," one person familiar with the situation says.
Daimler's deal with Cerberus, announced yesterday, represents a watershed moment for both the U.S. auto industry and the burgeoning private-equity sector that is transforming global finance. Detroit's Big Three have been struggling for years to cope with fierce global competition and rising retiree and health-care costs. Private-equity firms like Cerberus, which often buy public companies and slash costs, have amassed large war chests of capital and have been aiming for bigger and bigger targets. With Chrysler, Cerberus is betting that it can run one of the nation's largest industrial companies more effectively as a private company.
"People say, how can you turn this around and we can't?" said Cerberus Chairman John Snow, former Treasury Secretary, in an interview. It will take patience, he said. "It might take a couple of years to really show the results. And public companies don't have two or three years."
Cerberus appears to be betting on several things: that the U.S. economy will remain strong enough that consumers will spend freely; that Chrysler's negotiations with unions will be fruitful; and that the company will produce vehicles that consumers want.
Investor excitement about the potential for private-equity investors to reshape Detroit was running high yesterday. Shares of Ford and GM surged in New York Stock Exchange trading. With stock-market valuations of $15.7 billion and $16.7 billion respectively, Ford and GM are potential targets for private-equity buyers, especially if their retiree health-care liabilities can be engineered to more manageable size.
Members of the Ford family, which controls 40% of Ford's shareholder voting power through a special Class B stock, met recently with investment bankers to discuss the future of their holdings. A lawyer for the family said yesterday the family isn't discussing the sale of any of its controlling stake. Last year, GM repelled an effort by Las Vegas billionaire Kirk Kerkorian to steer the company into an alliance with Nissan Motor Corp. and Renault SA. Although Mr. Kerkorian later sold his stake in GM, some analysts say GM could again become a target for private-equity investment.
For both Cerberus and Chrysler, the stakes are enormous, and the outcome is far from certain. The UAW represents about 50,000 of Chrysler's 80,000 workers, as well as many other workers in the industry. Several weeks ago, UAW President Ron Gettelfinger criticized private equity as companies that "strip and flip."
Last month, the UAW refused Cerberus's demands for wage and benefit cuts for new hires at parts supplier Delphi Corp. Mr. Gettelfinger called the situation "a mess." Cerberus is likely to pull out of an investor group that agreed to buy Delphi out of bankruptcy protection.
But yesterday, in the aftermath of a meeting Saturday in Germany with DaimlerChrysler Chief Executive Officer Dieter Zetsche, Mr. Gettelfinger struck a surprisingly conciliatory tone.
In an interview with Detroit radio station WJR -- a medium he often uses to get messages out to UAW members in Michigan -- Mr. Gettelfinger said that Mr. Zetsche and Chrysler CEO Tom LaSorda had told him Saturday that "the status quo for the Chrysler Group was no longer an option." In a news conference yesterday afternoon, Mr. Gettelfinger explained that until Saturday, his position had been to fight to keep Chrysler within DaimlerChrysler. He was told then that wasn't possible. He said several times that he had to work with "the hand I was dealt."
For Chrysler workers, the deal is likely to raise fears for further job cuts. In February, the auto maker said it would shed about 13,000 workers and idle a sport-utility-vehicle factory in Delaware, part of a plan to cut production capacity by 400,000 vehicles a year. Cerberus officials didn't disclose plans for further job cuts yesterday. Analysts expect Cerberus to consolidate Chrysler's consumer-finance business with GMAC Financial Services, a similar unit it previously purchased a controlling stake in from GM, which could result in job cuts. Chrysler's CEO, Mr. LaSorda, told employees there are no new job cuts planned in relation to the deal.
Benefits for active and retired union workers, however, are certain to be a big issue. Rising health-care costs have bedeviled Chrysler as its ranks of retirees have grown and health-care inflation has hovered around 10% in recent years. Cerberus is expected to pressure the UAW to make substantial concessions, which could raise the costs of prescription drugs and health-care premiums for about 84,000 UAW retirees and dependents.
Cerberus has a history of profiting by acquiring companies and assets others have left for dead. To finance its Chrysler bid, it plans to raise as much as $65 billion to refinance the auto maker's current debts, most of which rest with its financing arm. If it succeeds, it would be the largest-ever fund raising for a leveraged buyout, people familiar with the deal said.
Daimler's decision to sell Chrysler marks a dramatic retreat from a global-expansion drive begun in the late 1990s under former CEO Jürgen Schrempp. Mr. Schrempp's plan was to build on Daimler's base in luxury cars and heavy trucks by acquiring high-volume vehicle marketers in North America and Asia. In addition to engineering a $36 billion merger with Chrysler in 1998, it sought a controlling stake in Japan's Mitsubishi Motors Corp. and an alliance with Korea's Hyundai Motor Corp.
His bets went sour one by one. In 2004, Daimler unwound its investment in Mitsubishi after the Japanese company posted huge losses. Daimler sold its 10% stake in Hyundai the same year. Chrysler, meanwhile, stumbled into the red in 2000, requiring a costly restructuring.
Chrysler bounced back under Mr. Zetsche, thanks to hot models such as the Hemi V8 powered Chrysler 300C sedan and Ram pickups. But it posted huge losses again last year, in part due to rising gasoline prices and intensifying competition. The UAW's refusal to give it the same health-care concessions it had given to rivals GM and Ford, coupled with rising pressure from shareholders, sealed the decision to sell Chrysler.
"This decision is for us -- and above all for me personally -- not easy," Mr. Zetsche wrote in an email to employees. "It is, however, when viewed objectively, the only right one."
Cerberus beat three major competing bidders to snare the deal: the Blackstone Group LP and Centerbridge Capital Partners; Canadian auto-parts maker Magna International Ltd., and Mr. Kerkorian's Tracinda Corp.
The proposed Cerberus deal, which is expected to close in the third quarter, calls for Daimler to put up $650 million -- effectively paying to get rid of an asset it acquired in 1998 for $36 billion. But Daimler will be able to erase Chrysler's $18 billion in pension and health-care liabilities from its books.
Cerberus will make a capital contribution of $7.4 billion to the new Chrysler holding company, Chrysler Holding LLC. Of the total, $6.05 billion will be put into Chrysler -- $5 billion into the industrial operations and $1.05 billion into financial services -- and DaimlerChrysler will get $1.35 billion. But Daimler said it expects to pay out $1.6 billion to Chrysler before the deal closes to subsidize its negative cash flow. Daimler also will loan the new company $400 million. Upon shareholder approval, DaimlerChrysler will be renamed Daimler AG.
Mr. Zetsche said the elimination of liabilities and risks for Daimler weighed more heavily in the talks than price. The deal still has to be approved by Daimler's supervisory board, which is scheduled to meet Wednesday. "That had greater power and influence on the future balance sheet," Mr. Zetsche said.
For now, Cerberus has said it will work with Chrysler's existing management team, led by Mr. LaSorda. But Cerberus has on its payroll a team of former senior auto executives it can call upon for advice. They include former Chrysler Chief Operating Officer Wolfgang Bernhard, former Ford Vice Chairman David Thursfield, former Ford sales executive Robert Rewey and former Chrysler sales and marketing executive Gary Dilts.
Cerberus's chairman, Mr. Snow, said at a news conference at Daimler's headquarters in Stuttgart, Germany, that Chrysler would be better served outside the public glare of quarterly earnings statements and analyst commentary. "Our approach is fundamentally long term," he said.
Cerberus, named after the three-headed dog of Greek mythology that guards the gates to the underworld, was founded in 1992 by Stephen Feinberg, a former Drexel Burnham Lambert executive. Until recently, it was best known for buying distressed debt in the U.S., Japan, South Korea, Germany and elsewhere, then turning a profit by renegotiating or foreclosing on the loans. It also provided expensive financing to troubled companies.
In recent years, it has begun buying companies. It purchased a failed bank in Japan in 2000. It has been especially active in the auto industry. Last year, it bought 51% of GMAC from GM. It recently bought parts maker Tower Automotive in a $1 billion deal, and it owns seating-fabric maker Guilford Mills and Peguform Group, a German-based manufacturer of plastic parts.
To snare the Chrysler deal, Cerberus had teams of lawyers, bankers and accountants working at the New York and German offices of law firm Shearman & Sterling. Over the past two weeks, Daimler began focusing on the Cerberus offer over two others, according to two people involved in the transaction. Mr. Feinberg was deeply involved in negotiating sessions. "He was very direct, with no posturing or big ego," said one person involved on the Daimler side.
For Cerberus, the key to making the deal work will be the UAW. Chrysler has estimated internally that Japanese auto makers like Toyota Motor Corp. enjoy a labor-cost advantage of as much as $30 an hour, once all benefits and job-security provisions are taken into account. More than half of that gap is from benefits related to retirees, such as health care, pensions and group life insurance.
Chrysler estimates that without a fundamental change in its UAW contract, the gap will rise to $45 an hour by 2009 -- an average labor cost of $94.77 an hour for Chrysler, including benefits, versus an estimated $50.50 an hour at Toyota, Nissan and Honda, which have far fewer U.S. retirees and don't pay pensions.
Chrysler, GM and Ford hope to persuade the UAW this summer to agree to a potentially revolutionary retiree health-care plan similar to one reached at Goodyear Tire & Rubber Co., say three people familiar with auto maker plans. At Goodyear, the United Steelworkers union agreed to let Goodyear shift $1.2 billion in future health-care liabilities to a fund managed by the union. In return, Goodyear contributed $1 billion in cash and Goodyear stock to the fund, known as a voluntary employees beneficiary association, or VEBA. For Goodyear, the deal eliminated uncertainty over whether health-care costs would rise faster than projected, along with the possibility of a future face-off with the union over benefits.
The three auto makers, with about $95 billion in combined future union and current health-care liabilities on their corporate balance sheets, have been "in talks at the highest levels on doing something like the Goodyear deal," says one person familiar with the matter. A Goodyear-style deal, or a hybrid of it, would close "a little more than half" of the Big Three's labor-cost gap with Asian competitors, this person says.
GM is said to be pushing the hardest to create what is being called a "Big Three VEBA," which would set up a separate union-managed fund, which the auto makers would back with billions of dollars. J.P. Morgan Chase & Co. has estimated such a fund could be set up with $55 billion to $65 billion from the auto makers.
That would make the UAW one of the largest private-sector providers of health care in the U.S. Detroit's auto makers, which have roughly one million union retirees and dependents, are considering several different Goodyear-like models. They have to weigh the long-term financial viability of such a fund, and whether the UAW could sell such a deal to its members, say three people familiar with the Big Three's plans.
The auto makers have been making none-too-subtle comparisons to the steel industry, warning Mr. Gettelfinger and other UAW leaders that Detroit's auto makers could face Chapter 11 bankruptcy proceedings if they can't reduce their labor costs and close the gap with Toyota.
"This deal by Cerberus sets things up for very significant changes in Detroit," says Pete Pestillo, former CEO of auto-parts maker Visteon Corp., which was part of Ford, and the Ford executive in charge of UAW talks. "It will shake up GM and Ford as well." Cerberus, he says, doesn't "soldier on with bad contracts. They shine things up and sell. Ron had been against private equity, and I think he will find out firsthand now why he was against it."
New Direction for Detroit
Cerberus Takes Gamble
On Union Concessions;
GM, Ford May Benefit
By GINA CHON, JASON SINGER and JEFFREY MCCRACKEN
May 15, 2007
By effectively agreeing to give away 80.1% of Chrysler Group to private-equity firm Cerberus Capital Management LP, German auto maker DaimlerChrysler AG has set the table for a potentially far-reaching restructuring of Detroit's faltering auto giants.
The New York investment firm and the German auto company have set an ambitious goal: to work with the powerful United Auto Workers union to restructure the $18 billion that Detroit's No. 3 auto maker estimates it will eventually owe for UAW retiree health-care benefits. Daimler, Chrysler's German parent, was unwilling to shoulder that burden.
Many big airlines and steelmakers have chosen to file for Chapter 11 bankruptcy protection to reduce such liabilities. If Cerberus can devise a formula for doing so outside of bankruptcy court, Ford Motor Co. and General Motors Corp. would almost certainly try to follow suit, potentially affecting some $95 billion in total retiree health-care obligations. Discussions among Big Three executives are under way at "the highest levels," one person familiar with the situation says.
Daimler's deal with Cerberus, announced yesterday, represents a watershed moment for both the U.S. auto industry and the burgeoning private-equity sector that is transforming global finance. Detroit's Big Three have been struggling for years to cope with fierce global competition and rising retiree and health-care costs. Private-equity firms like Cerberus, which often buy public companies and slash costs, have amassed large war chests of capital and have been aiming for bigger and bigger targets. With Chrysler, Cerberus is betting that it can run one of the nation's largest industrial companies more effectively as a private company.
"People say, how can you turn this around and we can't?" said Cerberus Chairman John Snow, former Treasury Secretary, in an interview. It will take patience, he said. "It might take a couple of years to really show the results. And public companies don't have two or three years."
Cerberus appears to be betting on several things: that the U.S. economy will remain strong enough that consumers will spend freely; that Chrysler's negotiations with unions will be fruitful; and that the company will produce vehicles that consumers want.
Investor excitement about the potential for private-equity investors to reshape Detroit was running high yesterday. Shares of Ford and GM surged in New York Stock Exchange trading. With stock-market valuations of $15.7 billion and $16.7 billion respectively, Ford and GM are potential targets for private-equity buyers, especially if their retiree health-care liabilities can be engineered to more manageable size.
Members of the Ford family, which controls 40% of Ford's shareholder voting power through a special Class B stock, met recently with investment bankers to discuss the future of their holdings. A lawyer for the family said yesterday the family isn't discussing the sale of any of its controlling stake. Last year, GM repelled an effort by Las Vegas billionaire Kirk Kerkorian to steer the company into an alliance with Nissan Motor Corp. and Renault SA. Although Mr. Kerkorian later sold his stake in GM, some analysts say GM could again become a target for private-equity investment.
For both Cerberus and Chrysler, the stakes are enormous, and the outcome is far from certain. The UAW represents about 50,000 of Chrysler's 80,000 workers, as well as many other workers in the industry. Several weeks ago, UAW President Ron Gettelfinger criticized private equity as companies that "strip and flip."
Last month, the UAW refused Cerberus's demands for wage and benefit cuts for new hires at parts supplier Delphi Corp. Mr. Gettelfinger called the situation "a mess." Cerberus is likely to pull out of an investor group that agreed to buy Delphi out of bankruptcy protection.
But yesterday, in the aftermath of a meeting Saturday in Germany with DaimlerChrysler Chief Executive Officer Dieter Zetsche, Mr. Gettelfinger struck a surprisingly conciliatory tone.
In an interview with Detroit radio station WJR -- a medium he often uses to get messages out to UAW members in Michigan -- Mr. Gettelfinger said that Mr. Zetsche and Chrysler CEO Tom LaSorda had told him Saturday that "the status quo for the Chrysler Group was no longer an option." In a news conference yesterday afternoon, Mr. Gettelfinger explained that until Saturday, his position had been to fight to keep Chrysler within DaimlerChrysler. He was told then that wasn't possible. He said several times that he had to work with "the hand I was dealt."
For Chrysler workers, the deal is likely to raise fears for further job cuts. In February, the auto maker said it would shed about 13,000 workers and idle a sport-utility-vehicle factory in Delaware, part of a plan to cut production capacity by 400,000 vehicles a year. Cerberus officials didn't disclose plans for further job cuts yesterday. Analysts expect Cerberus to consolidate Chrysler's consumer-finance business with GMAC Financial Services, a similar unit it previously purchased a controlling stake in from GM, which could result in job cuts. Chrysler's CEO, Mr. LaSorda, told employees there are no new job cuts planned in relation to the deal.
Benefits for active and retired union workers, however, are certain to be a big issue. Rising health-care costs have bedeviled Chrysler as its ranks of retirees have grown and health-care inflation has hovered around 10% in recent years. Cerberus is expected to pressure the UAW to make substantial concessions, which could raise the costs of prescription drugs and health-care premiums for about 84,000 UAW retirees and dependents.
Cerberus has a history of profiting by acquiring companies and assets others have left for dead. To finance its Chrysler bid, it plans to raise as much as $65 billion to refinance the auto maker's current debts, most of which rest with its financing arm. If it succeeds, it would be the largest-ever fund raising for a leveraged buyout, people familiar with the deal said.
Daimler's decision to sell Chrysler marks a dramatic retreat from a global-expansion drive begun in the late 1990s under former CEO Jürgen Schrempp. Mr. Schrempp's plan was to build on Daimler's base in luxury cars and heavy trucks by acquiring high-volume vehicle marketers in North America and Asia. In addition to engineering a $36 billion merger with Chrysler in 1998, it sought a controlling stake in Japan's Mitsubishi Motors Corp. and an alliance with Korea's Hyundai Motor Corp.
His bets went sour one by one. In 2004, Daimler unwound its investment in Mitsubishi after the Japanese company posted huge losses. Daimler sold its 10% stake in Hyundai the same year. Chrysler, meanwhile, stumbled into the red in 2000, requiring a costly restructuring.
Chrysler bounced back under Mr. Zetsche, thanks to hot models such as the Hemi V8 powered Chrysler 300C sedan and Ram pickups. But it posted huge losses again last year, in part due to rising gasoline prices and intensifying competition. The UAW's refusal to give it the same health-care concessions it had given to rivals GM and Ford, coupled with rising pressure from shareholders, sealed the decision to sell Chrysler.
"This decision is for us -- and above all for me personally -- not easy," Mr. Zetsche wrote in an email to employees. "It is, however, when viewed objectively, the only right one."
Cerberus beat three major competing bidders to snare the deal: the Blackstone Group LP and Centerbridge Capital Partners; Canadian auto-parts maker Magna International Ltd., and Mr. Kerkorian's Tracinda Corp.
The proposed Cerberus deal, which is expected to close in the third quarter, calls for Daimler to put up $650 million -- effectively paying to get rid of an asset it acquired in 1998 for $36 billion. But Daimler will be able to erase Chrysler's $18 billion in pension and health-care liabilities from its books.
Cerberus will make a capital contribution of $7.4 billion to the new Chrysler holding company, Chrysler Holding LLC. Of the total, $6.05 billion will be put into Chrysler -- $5 billion into the industrial operations and $1.05 billion into financial services -- and DaimlerChrysler will get $1.35 billion. But Daimler said it expects to pay out $1.6 billion to Chrysler before the deal closes to subsidize its negative cash flow. Daimler also will loan the new company $400 million. Upon shareholder approval, DaimlerChrysler will be renamed Daimler AG.
Mr. Zetsche said the elimination of liabilities and risks for Daimler weighed more heavily in the talks than price. The deal still has to be approved by Daimler's supervisory board, which is scheduled to meet Wednesday. "That had greater power and influence on the future balance sheet," Mr. Zetsche said.
For now, Cerberus has said it will work with Chrysler's existing management team, led by Mr. LaSorda. But Cerberus has on its payroll a team of former senior auto executives it can call upon for advice. They include former Chrysler Chief Operating Officer Wolfgang Bernhard, former Ford Vice Chairman David Thursfield, former Ford sales executive Robert Rewey and former Chrysler sales and marketing executive Gary Dilts.
Cerberus's chairman, Mr. Snow, said at a news conference at Daimler's headquarters in Stuttgart, Germany, that Chrysler would be better served outside the public glare of quarterly earnings statements and analyst commentary. "Our approach is fundamentally long term," he said.
Cerberus, named after the three-headed dog of Greek mythology that guards the gates to the underworld, was founded in 1992 by Stephen Feinberg, a former Drexel Burnham Lambert executive. Until recently, it was best known for buying distressed debt in the U.S., Japan, South Korea, Germany and elsewhere, then turning a profit by renegotiating or foreclosing on the loans. It also provided expensive financing to troubled companies.
In recent years, it has begun buying companies. It purchased a failed bank in Japan in 2000. It has been especially active in the auto industry. Last year, it bought 51% of GMAC from GM. It recently bought parts maker Tower Automotive in a $1 billion deal, and it owns seating-fabric maker Guilford Mills and Peguform Group, a German-based manufacturer of plastic parts.
To snare the Chrysler deal, Cerberus had teams of lawyers, bankers and accountants working at the New York and German offices of law firm Shearman & Sterling. Over the past two weeks, Daimler began focusing on the Cerberus offer over two others, according to two people involved in the transaction. Mr. Feinberg was deeply involved in negotiating sessions. "He was very direct, with no posturing or big ego," said one person involved on the Daimler side.
For Cerberus, the key to making the deal work will be the UAW. Chrysler has estimated internally that Japanese auto makers like Toyota Motor Corp. enjoy a labor-cost advantage of as much as $30 an hour, once all benefits and job-security provisions are taken into account. More than half of that gap is from benefits related to retirees, such as health care, pensions and group life insurance.
Chrysler estimates that without a fundamental change in its UAW contract, the gap will rise to $45 an hour by 2009 -- an average labor cost of $94.77 an hour for Chrysler, including benefits, versus an estimated $50.50 an hour at Toyota, Nissan and Honda, which have far fewer U.S. retirees and don't pay pensions.
Chrysler, GM and Ford hope to persuade the UAW this summer to agree to a potentially revolutionary retiree health-care plan similar to one reached at Goodyear Tire & Rubber Co., say three people familiar with auto maker plans. At Goodyear, the United Steelworkers union agreed to let Goodyear shift $1.2 billion in future health-care liabilities to a fund managed by the union. In return, Goodyear contributed $1 billion in cash and Goodyear stock to the fund, known as a voluntary employees beneficiary association, or VEBA. For Goodyear, the deal eliminated uncertainty over whether health-care costs would rise faster than projected, along with the possibility of a future face-off with the union over benefits.
The three auto makers, with about $95 billion in combined future union and current health-care liabilities on their corporate balance sheets, have been "in talks at the highest levels on doing something like the Goodyear deal," says one person familiar with the matter. A Goodyear-style deal, or a hybrid of it, would close "a little more than half" of the Big Three's labor-cost gap with Asian competitors, this person says.
GM is said to be pushing the hardest to create what is being called a "Big Three VEBA," which would set up a separate union-managed fund, which the auto makers would back with billions of dollars. J.P. Morgan Chase & Co. has estimated such a fund could be set up with $55 billion to $65 billion from the auto makers.
That would make the UAW one of the largest private-sector providers of health care in the U.S. Detroit's auto makers, which have roughly one million union retirees and dependents, are considering several different Goodyear-like models. They have to weigh the long-term financial viability of such a fund, and whether the UAW could sell such a deal to its members, say three people familiar with the Big Three's plans.
The auto makers have been making none-too-subtle comparisons to the steel industry, warning Mr. Gettelfinger and other UAW leaders that Detroit's auto makers could face Chapter 11 bankruptcy proceedings if they can't reduce their labor costs and close the gap with Toyota.
"This deal by Cerberus sets things up for very significant changes in Detroit," says Pete Pestillo, former CEO of auto-parts maker Visteon Corp., which was part of Ford, and the Ford executive in charge of UAW talks. "It will shake up GM and Ford as well." Cerberus, he says, doesn't "soldier on with bad contracts. They shine things up and sell. Ron had been against private equity, and I think he will find out firsthand now why he was against it."
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