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Daimler to Sell Bulk of Chrysler to Equity Group

May 14, 2007 at 6:15 PM EST
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MARGARET WARNER: In 1998, the $36 billion merger between Germany’s Daimler-Benz and Detroit’s Chrysler looked like a dream corporate marriage.

JURGEN SCHREMPP, Chair, Daimler-Benz: Today, we are creating the world’s leading automotive company for the 21st century, DaimlerChrysler.

ROBERT EATON, Chair, Chrysler Corporation: We believe this is just the beginning. We are leading a new trend that we believe will change the future and the face of this industry.

MARGARET WARNER: But today it’s the face of DaimlerChrysler that’s changing, as Daimler announced it is selling off money-losing Chrysler to a New York private equity firm, Cerberus Capital Management, for $7.4 billion. DaimlerChrysler chief executive Dieter Zetsche spoke to reporters in Stuttgart, Germany.

DIETER ZETSCHE, CEO, DaimlerChrysler: With this transaction, we have created the right conditions for a new start for Daimler and Chrysler.

MARGARET WARNER: Cerberus chairman John Snow, a former U.S. treasury secretary, said his firm is committed to returning Chrysler to profitability.

JOHN SNOW, Chair, Cerberus Capital Management: We think as you do that, at this particular point, at this particular point in Chrysler’s history, there may be opportunities in the private sector, the private world, the world of private investment, that create more room for growth and expansion, that allow management to focus with greater intensity on the day-to-day business of producing better cars.

MARGARET WARNER: Under the deal, Cerberus takes over 80 percent of Chrysler, as well as roughly $19 billion in pension and health care liabilities for Chrysler workers. Daimler will retain a 20 percent share in Chrysler.

Founded in 1925, Chrysler was long one of America’s big three automakers, along with General Motors and Ford. But despite its popular Dodge and Jeep brands, it lost $1.5 billion last year and slipped to fourth in U.S. sales, behind Toyota. In February, it announced a restructuring plan that will shed 13,000 jobs.

Cerberus, founded in 1992, today has $25 billion in private capital assets under management. It specializes in buying and turning around distressed companies. It currently owns some 50 of them, ranging from Air Canada to Formica Corporation. Last year, Cerberus bought GMAC, the financial arm of General Motors.

United Auto Worker union leaders had objected to selling Chrysler to a private equity firm, but over the weekend, the American UAW reversed course. UAW President Ron Gettelfinger spoke to reporters today in Detroit.

RON GETTELFINGER, President, UAW: You’re dealt a hand. Now we maintained — and I would still maintain today — that we would prefer that the Chrysler Group stay under the umbrella of Daimler, but that’s not going to happen.

MARGARET WARNER: Gettelfinger said he hoped Cerberus would pump an infusion of capital into Chrysler and would honor labor agreements made with the union.

Chrysler's financial condition

Csaba Csere
Car and Driver Magazine
I think the managements of the two companies, rather than concentrating on the synergies and making this merger work, were distracted by the problems in their own divisions.

MARGARET WARNER: And for more about this deal and what it means for Chrysler's future, I'm joined by two journalists who watch the worlds of finance and autos. Andrew Ross Sorkin covers mergers and acquisitions for the New York Times. He edits the paper's financial news blog, "DealBook."

And Csaba Csere is editor-in-chief of Car and Driver magazine.

Welcome to you both.

Andrew Sorkin, how did the DaimlerChrysler merger-marriage come to this, with Chrysler worth so little and such a burden that Daimler just wanted to unload it?

ANDREW ROSS SORKIN, New York Times: Well, you know, it started with a great dream, but it was a dream that they couldn't really turn into reality. And that was really pairing German engineering with the marketing prowess of an American icon.

But it never really worked, because the cultures clashed, and the savings, the synergies that people always talk about in the merger world never happened. They just could not cut those costs.

But more importantly, the pension costs that Chrysler ballooned in ways that I think no one really imagined in 1998. Today, the company has $18 billion in pension liabilities. And in many ways, DaimlerChrysler today is giving away Chrysler. In fact, they are paying, if you actually do the math and back it out, something like $650 million to Cerberus to take this off their hands and take this noose off their neck, if you will.

And I think, you know, while we can talk about automobiles and American icons, this deal has more to do with pension liabilities than it has to do with cars.

JUDY WOODRUFF: Csaba Csere, do you agree with that analysis? And how bad a shape is Chrysler in right now?

CSABA CSERE, Car and Driver Magazine: Well, I agree with a lot of that analysis, but it's also worth looking back to what happened at the time of the merger.

Chrysler's top management, that had done a very good job with the company in the '90s, essentially all left after Daimler took over the company. So there was a whole new management team that had a very difficult time getting going with the new company environment.

Also, Chrysler had kind of peaked right about at the time of the merger, and then their product cycle slowed down, sales slowed down. They were immediately under profit pressure.

And a similar thing was happening with Mercedes. Mercedes had expanded tremendously in the late '90s. They ran into some quality problems. And over there, there was also profitability pressure.

And I think the managements of the two companies, rather than concentrating on the synergies and making this merger work, were distracted by the problems in their own divisions. And that didn't help make this succeed.

Impact of private equity takeover

Andrew Ross Sorkin
The New York Times
Chrysler is going to remain a very public company in the sense that there is a union that I'm sure is going to hold their feet to the fire.

MARGARET WARNER: So, Andrew Sorkin, why would now a private equity firm, Cerberus, think that this is a good deal for them, that this is worth doing, and that they can actually make a difference in Chrysler when Daimler couldn't?

ANDREW ROSS SORKIN: Well, that is the $18 billion question, if you will. You know, when you look at what Cerberus can do as a private company, to the extent you believe it, they should be able to focus more on Chrysler than DaimlerChrysler as a huge bureaucracy ever could.

As was just discussed, there were so many different issues going on throughout DaimlerChrysler over the past decade, frankly, that I think there has never been the kind of focus that you need. And when you have this much money on the line, you can tell that Cerberus should be paying a lot of attention to this.

Cerberus has been focusing on the auto market industry for the past year and a half, really believing that this may be the bottom. And when you look at the price that they're paying, as I discussed before, they're actually getting paid to buy this business. If they can just eke out a little bit of a profit, they will do very, very well.

But at the end of the day, probably, I think to make this work it's going to end up being about cuts, cost savings, and that means job cuts. When you talk about LBOs or private equity firms, the dirty secret has always been that it requires job losses. And for this to work, that is probably what's going to happen.

MARGARET WARNER: And, Andrew, just explain very briefly now -- Chrysler will now become a privately held company, is that right, no longer traded on the exchange?

ANDREW ROSS SORKIN: Absolutely. It will become a privately held company. And one of the things that private equity says is a benefit is that private firms don't have to report their quarterly earnings, so they don't have to focus on a lot of these issues.

But at the same time, Chrysler is going to remain a very public company in the sense that there is a union that I'm sure is going to hold their feet to the fire. And it is an American icon, an American brand that people are going to pay a lot of attention to.

So it's unclear whether they're really going to get all of the benefits that they might otherwise have if they were truly a private company that nobody was paying attention to.

Cerberus and autoworkers unions

Csaba Csere
Car and Driver Magazine
Chrysler and all the car companies are going to be looking for more flexible work rules, perhaps a bigger contribution to health care costs, and other things that will help put them on a financial footing.

MARGARET WARNER: Csaba Csere, do you think the fact that Cerberus is a private equity firm gives them a lot more flexibility, the ability to maybe turn Chrysler around in a way that, if another auto-related normal, ordinary manufacturing company had taken over, couldn't? And if so, how?

CSABA CSERE: Well, I tend to agree that the private equity company can maybe be a little more ruthless about cutting costs.

MARGARET WARNER: Why?

CSABA CSERE: For example -- well, there's a huge union issue. The cost of health care and pensions are very, very high. And, in fact, you know, Chrysler has been doing better than Ford and GM. And in the last couple of years, the UAW has made some health care concessions to Ford and GM that they didn't make for Chrysler, because Chrysler was financially better off.

Cerberus is going to push very hard for those sort of concessions now, and harder than Daimler could, because Daimler was also in the car business. Daimler had German unions, and they couldn't push one union harder than another union. Cerberus is in a little bit better position to do that.

And they're going to be looking at this very closely, because this is a contract year for the UAW. The contract is up later on this summer. And Chrysler and all the car companies are going to be looking for more flexible work rules, perhaps a bigger contribution to health care costs, and other things that will help put them on a financial footing.

MARGARET WARNER: But what is your understanding of what Cerberus' legal obligation is to the retiree portion of this, both retiree health and the pensions?

CSABA CSERE: I think they are totally obligated at this point to fulfill the terms of that contract, but one other option that a Cerberus might have and might be willing to execute, or at least threaten, is to put the company into bankruptcy, to allow those contracts to be renegotiated. That's a very, very extreme step, but it's a step that a Mercedes never would have taken, while a Cerberus could consider that.

Chrysler's future

Andrew Ross Sorkin
The New York Times
It really is unclear what this new model is about. They have not done too much explaining, but, again, as a private company, they don't necessarily have to.

MARGARET WARNER: Andrew Sorkin, John Snow today, the chairman of Cerberus Capital, kept saying at the press conference today, kept talking about a new model, and how the management of Chrysler would now be able to focus not just on quarterly returns, but on the bigger picture.

But how does that really translate? What kind of a decision could the management make now that they couldn't make if they were worried about the quarterly bottom line?

ANDREW ROSS SORKIN: Well, I think that there might be investments that you might make in the underlying business that, for example, could have hurt a particular quarter, because it would have made profits look even worse than they already are. There are kind of longer-term decisions that you can make as a private company, because you don't have the analysts and the investors pummeling your stock, saying, "Why are you doing this now?"

So I think there are things that you can do as a private company. But let's also remember, this is the same management team. Tom LaSorda, who currently runs Chrysler, is going to continue running this company. So it really is unclear what this new model is about. They have not done too much explaining, but, again, as a private company, they don't necessarily have to.

MARGARET WARNER: Csaba Csere, is there buzz in the industry that this could ultimately lead to the demise of Chrysler? Is that way premature? I mean, is there any guarantee here that Chrysler will continue as a major automaker?

CSABA CSERE: Well, I don't think there is ever any guarantees about anything, but I think it is very premature to think of Chrysler going away here.

Cerberus is saying all the right things. Chrysler, as large as their pension and health care liabilities are, is actually in better shape than Ford and GM in that regard. Chrysler's market share loss in the last several years is smaller than either of its domestic competitors. And Chrysler has a lot of potential here, so I don't think there's any buzz there.

I think what people want to see is Cerberus in it for the long-term or not, because one difference in the car industry from a lot of other businesses is it is a very long-term business. If we decide to build a new car today, it's going to be three to four years before that actually appears in a showroom. So the sort of quick turnaround and sell and flip a company in two or three years is just out of the question with a major car manufacturer.

MARGARET WARNER: And, Andrew Sorkin, 10 years ago, this I think would have been an inconceivable scenario, that a private equity firm, totally privately held, would be taking over a major auto manufacturer. How deeply are private equity firms now into major companies in America's industrial and manufacturing sector?

ANDREW ROSS SORKIN: Well, I think that is probably, if you look at this as a watershed moment, that's what it is, because you have private equity firms buying companies that were unimaginable, even five years ago, even two years ago, the idea that you could get into Detroit and deal with unions and deal in a very public environment with something private equity was not going near.

But, you know, if you go and look at what's happening in the past year, TXU, the big energy company in Texas, is a takeover target that was just acquired. Harrah's, the casino company, one of the most regulated businesses, frankly, in the country, in Nevada, the gaming licenses and everything else, also taken over. Sallie Mae, the financial services company that makes loans, another regulated business.

So private equity has already gone after the low-hanging fruit, and to continue trying to get these returns and use the money that they have in their coffers they have to go after bigger and bigger targets, and increasingly that means more public targets like this.

MARGARET WARNER: All right, Andrew Ross Sorkin and Csaba Csere, thank you both.

ANDREW ROSS SORKIN: Thank you.