Negotiation excercise vf


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Negotiation exercise between Daimler (another group) and Chrysler (Us) for M&A Course

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Negotiation excercise vf

  1. 1. Discussion materials8th Nov 2011 Confidential
  2. 2. Table of Contents Overview of Daimler-Benz A.G. The Auto Industry in 1998 Why a deal with Daimler makes sense for Chrysler? Points of Negotiation  Negotiating Exchange Ratio  Valuation  Form of payment  Re-Organization of the Board  Management succession  Executive Compensation  Worker Compensation Contracts Evaluation of Benefits for Chrysler  Product Complement Matrix  Combination Analysis
  3. 3. Executive Summary We are delighted to present our findings about the proposed merger between Daimler-Benz A.G. and Chrysler. Based on discussions with management we arrive at an exchange ratio of 0.9 We believe that given the cross-border nature of merger between the two, there are several points for Chrysler to negotiate on – exchange ratio, management structure, executive & worker compensation, accounting treatment and tax treatment to maximize value for Chrysler and Daimler shareholders
  4. 4. Our TeamAkshay Gautam Siddhartha Vinay Kumar Abhimanyu Manpreet Singh Pratik Gupta Bhargava Talwar Team Leader Chief NegotiatorInvestment Investment CFO, COO, Director Director Banker Banker Chrysler Chrysler Strong Commitment to a favorable deal to both Daimler and Chrysler
  5. 5. Overview of Daimler-Benz A.G. Overview Business by Segments & Geography Daimler Benz A.G (“Daimler” or the “Company”) is Germany’s largest 5% manufacturer & distributor of passenger cars, commercial vehicles, air 21% 11% 3% plane engines, space systems and has a 38% stake in Airbus 1% 30% 12% consortium Segments: The Company produces cars for passenger segment, trucks 9% 6% in commercial segment, engines for aerospace and provides services and directly management business such as rail systems, automotive 61% electronics etc. 41% Vertical Integration: The Company is vertically integrated to the tune of 40% and procures the rest of its raw materials from its suppliers Europe Passenger Cars Plants: The Company has 46 production facilities globally out of which North Am South Am Commercial Vehicles 21 are in Europe, 10 in North America and 7 in Asia Africa Aerospaces Distribution Network: 58% of its sales office were located in Europe, Services Australia 11% in North America and 15% in Asia Others Directly Managed Business Highlights Shareholding Pattern Recent Restructuring Type: Public. ADR trades on the NYSE Company Year Type Headquarters: Stuttgart, Germany Founded: 1926 17% Ford Heavy 1997 Acquired to 22% Duty Trucks strengthen Employees: Over 2,00,000 employees across Europe (83%), North America (7%) Operations presence in trucks 13% and South America (6%) Fokker – 1996 Closed Down the Revenues (LFY): US$69 Bn Aircraft loss making unit Units Sold: 2.8Mn Passenger car units in 48% Maker 1997 Divisions: Passenger cars (luxury cars), AEG 1993 Sold Off the loss commercial vehicles (minivans and trucks), Deutsche Bank (Electrical making unit aerospace (engines), directly managed Institutional Investors Engineering (railcar engines) and services Emirate of Kuwait business) Others
  6. 6. Overview of Daimler-Benz A.G. Management Board Structure Compensation Jurgen Schrempp  The Company has a two-tier board  Executive Compensation was reviewed by CEO, Daimler-Benz structure - a management board called the Supervisory Board and did not allow  Previously was a deputy Vorstand and a supervisory board called exercise of stock options as compared with member of the Aufsichtsrat the American Firms Management Board for  The Vorstand comprises solely of executives  Jurgen Schrempp was paid US$2 Mn Daimler-Benz charged with a company’s day-to-day  Factory workers in Germany were operations unionized which led to high labor costs Dr. Manfred Gentz  The Aufscihstrat represents the company’s ($30/hour) Corporate Finance CFO largest shareholders and its workers –  Currently the CFO of almost 50% of Aufscihstrat was filled with Daimler-Benz A.G. labor representatives  Previously on the board of  Deutsche Bank has a sizeable ownership of Commerzbank the stock and presence on the board Financials 1995A 1996A 1997A 1998E 1999E 2000E 2001E 2002ERevenues $71,517 $68,606 $69,302 $76,122 $83,637 $91,922 $100,458 $109,801EBITDA $834 $4,509 $5,325 $5,849 $6,427 $ 7,063 $7,719 $8,437EBIT $ (5,668) $945 $2,028 $3,602 $4,295 $4,996 $5,682 $6,386Interest expense $822 $558 $521 $1,259 $1,276 $1,298 $1,314 $1,330Net income to common $ (3,978) $1,782 $4,493 $2,030 $2,566 $3,090 $3,598 $4,117EV/EBITDA 60.0.x 11.1.x 9.4.x 8.6.x 7.9.x 7.3.x 6.8.x 6.3.xEV/EBIT NM 53.0.x 24.7.x 2.4.x 2.7.x 2.8.x 2.9.x 2.9.xP/E NM 20.0.x 8.0.x 17.7.x 15.1.x 13.5.x 12.4.x 11.6.xEV/Sales 0.7.x 0.7.x 0.7.x 0.7.x 0.6.x 0.6.x 0.5.x 0.5.x
  7. 7. The Auto Industry in 1998The Auto Industry is going through dynamic phase where time and cost pressureswere rampant, customer tastes are ranging and companies are looking to go globalOvercapacity Dev. Costs Supply Chain Market Access Legal Factors The Auto Industry is  The costs can be  Large car  Ability of niche car  Being large and showing signs of defined as manufacturers are manufacturers is in global in size and excess capacity development and typically seen as doubt and access to scope is assumed to Factories with production costs capable of exerting newer product lines lower the cost of suboptimal returns  Costs of development buying pressure on and new raising debt and have been closed are typically fixed for their suppliers as they geographical markets equity for the firm down with production a line of cars and buy materials in bulk is often touted as and broaden the shifting to low cost large manufacturers  By working closely reasons for the same range of financial development countries can amortize these with suppliers, car  Companies acquire if markets Overcapacity has led costs over a large manufacturers can the production lines of  Some countries have a to intense price volume of cars leverage their the target are strict regulatory competition among  Production costs are expertise and other complementary regime and large the existing players typically variable sources of competitive  Market access is global firms are seen Consolidation among  Attempts to shorten advantage governed by two as being able to the players, where the the development time  Vertical Integration is factors – reduce the nation’s excess idle capacity have resulted in costly also seen by many as manufacturing v/s regulatory clout would be taken out, is development cost adding value importing domestic seen as imminent  a  A cars and presence of  A  a a distribution network Consolidation in the automobile industry
  8. 8. Why a deal with Daimler makes sensefor Chrysler? Feature Complementary Strength Geographic Chrysler dominant in NA Bargaining Presence will complement DB’s 3 Power position in EU Product Chrysler had been portfolio catering to lower cost car 3Cost reduction Quality segments, while Daimler-opportunities improvements Benz focused on luxury segments Quality Daimler-Benz, known for Positive Synergies improvements its exceptional quality, 2 would bring in its quality experience Technology Product Bargaining Daimler-Chrysler will transfer portfolio Power have better bargaining 3 power with suppliers Cost reduction Daimler-Benz and Geographic Presence opportunities Chrysler can cut costs at a 4 global level Technology Daimler-Chrysler will be transfer able to share technology 3
  9. 9. Points ofNegotiation
  10. 10. We negotiate on the following… Exchange ratio Form of payment & type of acquisition Accounting treatment Tax-treatment
  11. 11. Negotiating Exchange Ratio Step 1: Estimation of firm valuations Step 3: Figuring out our limits We generate 3 growth scenarios for both Daimler &  Walk-away exchange ratio: We assume that given our Chrysler true valuations, what will be the exchange ratio which will – Base case: We use moderate positive & negative fetch us a gain of at least 20% of synergies – we call this growth assumptions to generate a Hi & Lo valuation our ‘Walk-away’ exchange ratio for both the firms  If the exchange ratio is more than our walk-away ratio, the – Bearish: We use high negative growth assumptions gain to Chrysler shareholders will be more than 20% of – Bullish: We use high positive growth assumptions synergies – we justify this higher exchange ratio using a We estimate valuations and the share prices for Daimler & higher than true valuation for Chrysler and a lower than Chrysler in these scenarios using three methods: APV, true valuation for Daimler WACC, and CCF  Best-case: We agree on our Bullish valuation for Chrysler, We estimate synergies between Daimler & Chrysler Bearish valuation for Daimler, and we take 100% of the synergiesStep 2: Figuring out the ‘true’ valuation Step 4: Nailing the deal We believe the average Base Case valuations to be the  Our initial demand is for an exchange ratio somewhere true valuations of Daimler & Chrysler close to our ‘Best-case’ The objective of negotiations now is to get the maximum  We may negotiate for a lower exchange ratio as the premium we can get over Chrysler’s true valuation for our discussions proceed Chrysler shareholders  In any case we don’t accept anything below our walk- During negotiations, we will push for a higher than true away exchange ratio valuation for Chrysler and a lower than true valuation for Daimler
  12. 12. Chrysler Valuation – Base Case Taking an average of the various valuation methods in the base case the value of Chrysler comes out to be $61.92 per share* 110.00 100.00 90.00 Expected cash flow 80.00 is high due to an infrequent decrease 70.00 in working capital 60.00 50.00 Current share 40.00 price = $34.81 30.00 WACC Equity APV WACC Equity APV P/E P/CF P/B Unusual low book Residual Residual value of Chrysler due to high portion of intangibles Terminal Value by constant Terminal Value by multiples growth method methodNote: * Valuation by P/CF and P/B have been considered as outliers and thus removed from the calculation.1. Assumptions used: Growth rates ranged between 2.5% and 3.5%, Terminal EBITDA multiples between 3.5 and 4.5, Terminal P/E between 8and 9. 2 For valuations using multiples, the ratios viz. P/E, P/B and P/CF are assumed to be equal to the global average of peers. 3 Marketcap valuation is considered to be at the undisturbed price when the bid was announced for the first time
  13. 13. Daimler Valuation – Base Case Taking an average of the various valuation methods in the base case the value of Chrysler comes out to be $84.44 per share 170.00 Mainly due to high book value of 150.00 Daimler shares. However, this has 130.00 been considered the way it is 110.00 Current share 90.00 price = $79.75 70.00 50.00 30.00 WACC Equity APV WACC Equity APV P/E P/CF P/B Residual Residual Terminal Value by constant Terminal Value by multiples growth method methodNote:1. Assumptions used: Terminal growth rates ranged between 3.5% and 4.5%, Terminal EBITDA multiples between 6 and 7, Terminal P/Ebetween 12 and 14 (this is different from 16 as considered in excel, because implied terminal growth rate of 5% in that case was deemed to benot practical). 2 For valuations using multiples, the ratios viz. P/E, P/B and P/CF are assumed to be equal to the global average of peers. 3Market cap valuation is considered to be at the undisturbed price when the bid was announced for the first time
  14. 14. Bull & Bear Case The average value of Chrysler in Bull and Bear case is $85.57 and $42.40 respectively, whereas the same for Daimler is $94.61 and $56.33 per share Chrysler Daimler 120.00 120.00 110.00 110.00 100.00 100.00 90.00 90.00 Current share price = $79.75 80.00 80.00 70.00 70.00 60.00 60.00 50.00 50.00 Current share price = 40.00 $34.81 40.00 30.00 30.00 WACC Equity Residual APV WACC Equity Residual APVNote:1. Assumptions used for Chrysler: For Bull case, current revenue growth is taken as 8% while the perpetual growth is at 4%. For Bear caseboth current revenue growth and perpetual growth rate is taken at 2%. 2 Assumptions used for Daimler: For Bull case, current revenue growth istaken at 10% and perpetual growth rate is 5%. For Bear case current revenue growth rate is 4% and perpetual growth rate is 3%. 3 Marketcap valuation is considered to be at the undisturbed price when the bid was announced for the first time
  15. 15. Synergy Calculation The total value of Synergies, as calculated fundamentally is $17.2 Billion; market expects synergy to be have a lower bound of $12.8 Billion Fundamental calculation of Synergies Synergies as expected by the market Ra Asset (US$ Mn) Tax Chrysler Daimler Chrysler 10.20% 41907 38.4% Undisturbed Price 34.81 79.75 Daimler 10.30% 73437 40% Current Price 38.75 99.63 Merged Entity 10.24% 115345 39.4% Shares 648.40 516.70 Past value ($ Bn) 63.7 1998 1999 2000 2001 Current Value ($ Bn) 76.6 Saving (US$ Bn) - 1.40 2.20 3.00 Change ($ Bn) 12.8 After Tax - 0.85 1.33 1.82 Terminal - - - 21.1 The change provides a lower bound to the Discounted - 0.70 0.99 15.51 value of synergy as expected by the market. Change = Expected Synergy * Probability of NPV (US$ Bn) 17.20 MergerNote: Synergies after 2001 are expected to grow at the rate of inflation (1.5% per annum). Synergies are discounted at the weighted averageexpected returns on the asset
  16. 16. Negotiating Exchange RatioOur walk-away exchange ratio is 0.605 shares of NewCo for 1 share of Chrysler Negotiation Details Our walk-away assumptions are Base-Case valuation for both Chrysler ($61.92 per share) & Daimler ($84.44 per share) as true valuation and Chrysler shareholders gaining 20% of synergies. We think given Daimler’s major representation in the board, Chrysler shareholders should get at least 20% synergies for passing control to Daimler directors. As we pitch Chrysler at a higher than Base-Case valuation and Daimler at a lower than Base-Case valuation, we will try to get a higher exchange ratio than 0.605. If, say, the exchange ratio we pitch is 0.800, then the gain to Chrysler shareholders as perceived by Daimler will not be very high if we manage to agree Daimler on a higher valuation for Chrysler compared to the base case. But we know that the true gain to Chrysler shareholders will be high because the true valuation of Chrysler is less than that agreed in the deal In all cases other than Base-Base and Base-Bull, the gain to 25 23.4 Chrysler as perceived by Daimler is less than the true gain to Chrysler. (Which is good for negotiation.) True Gain Agreed valuations are the 20 true valuations – Perceived 16.7 gain = True Gain 16.8 15.5 Gain ($ billion) 15 13.1 9.8 10 8.6 6.2 8.6 8.6 8.6 8.6 8.6 8.6 8.6 8.6 Agreed valuation for Daimler 5 is more than its true valuations Perceived Gain – Perceived gain > True Gain 0 Bull-Base Bull-Bull Bull-Bear Bull-Market Base-Base Base-Bull Base-Bear Base-Market Share Price Scenarios: Chrysler-DaimlerFor this chart, for each share price scenario (e.g. Base-Bear), we calculate an exchange ratio assuming the synergies are shared 50:50 (i.e. the perceivedgain is $8.6 billion – 50% of total synergies of $ 17.2 billion). Based on this exchange ratio and the true valuations we calculate the true gain.
  17. 17. Accretion / Dilution Analysis There will be a substantial EPS dilution to the Chrysler shareholders if the merger takes place at the estimated conversion ratio. However, the expected synergies can bring this dilution down starting from 1999; recommended conversion ratio, thus is 0.9 1997 EPS 1998 EPS 1999 EPS 80% 80% 80% 60% 60% 60% 40% 40% 40% 20% 20% Accretion Accretion Accretion 20% Conversion Ratio Conversion Ratio 0% 0% 0.50 0.70 0.90 1.10 1.30 0.50 0.70 0.90 1.10 1.30 Conversion Ratio 0% -20% -20% 0.50 0.70 0.90 1.10 1.30 -40% -40% -20% Daimler Chrysler Daimler Chrysler Daimler Chrysler -60% -60% -40% 1997 EPS of Daimler is a 1999 EPS contains a part of the synergy misrepresentation due to 1998 EPS will be diluted for gains ($1.4 Bn) and so the dilution is less extraordinary income. Hence it Chrysler for any conversion ratio for Chrysler. A conversion ratio of 0.8 will should be considered for the EPS less than 1.25 produce zero dilution. For later years the accretion / dilution analysis (when Synergy is expected to be $3 Bn, the dilution will be further reducedNote: Accretion is calculated as the percentage change in the Earnings of the merged company that are allocated to the one old share of themerging entities. It is assumed that each Daimler shareholder will get one share of the merged entity
  18. 18. Form of payment All stock deal Tax free for Chrysler shareholders All cash/cash & stock ×Shareholder who want to Chrysler shareholders who exit will have to wait as want to exit get fair price market currently under- (can’t sell in market as it is pricing Chrysler currently under-pricing) × Shareholder has to pay tax
  19. 19. Re-Organization of the Board Supervisory Board 2 German worker Unions (IG Metalls) 5 DB 6 German Works CouncilBoard members of 5 Chrysler 1 Other current Daimler Board of directors Benz 1 Chrysler Worker Union ( UAW) 1 Chrysler Worker Union ( UAW) Management Board Eaton Schrempp Due to German laws clearly Chrysler is loosing out: Hence may be more Chrysler directors should be part of the supervisory board
  20. 20. Management succession Daimler-Benz A.G. Chrysler Corporation German corporations are governed by a two tier board system  Board met frequently-15-18 times in a year, 12 people in the consisting of a board of management (“Vorstand”) and the board: Stature of board members medium except for AT&T CEO supervisory board ( “Aufsichtsrat”), codetermination through works  Kirk Kerkorian held 13.6% equity council whose president is by default the vice chairman  No cost cutting on this front 20 member supervisory board with 10 employees and 10  Plant level Chrysler executives and engineers not to be replaced shareholders: Powerful board members like Deutsche bank CEO by Daimler executives and emirates of Kuwait ; 10 member management board  Equal pay for equal work policy would cause the senior executives Since the company would be incorporated in Germany for utilizing and board members to leave tax credits ( from earlier losses) 2 tier board would follow  Robert Eaton earned more than whole management of Daimler Negotiation points from Chrysler’s points of view Co-CEO, twin listing, two headquarters structure for 5 years , Shareholder committee for Chrysler shareholders from US to discuss business strategy on a month by month basis Not more than 2 Chrysler executives would be moved for each manufacturing location and the manufacturing plant heads and lead engineers would not be replaced by Daimler executives Chrysler product team model to be retained as such and after a time of 3 years to be replicated across the merged entity Compensation and incentives structure for Chrysler to be retained as it is for employees and managers Competency matrix and skill assessment of all employees to be done on a new appraisal process jointly approved by the combined boards so that criteria is objective and fair Defining the roles ,responsibility and authority of the key executives for at least a period of 5 years from the possible date of merger
  21. 21. Executive Compensation Daimler-Benz A.G. Chrysler Corporation $2 million take-home pay of Jürgen Schrempp  $11.5 million take-home pay of Robert Eaton German corporations are not legally bounded to disclose  Impressive incentive based pay plans with huge variable executive pay packages upside Executive and Management Compensation does not include Negotiation points from Chrysler’s points of view Contingent/severance payments: To Eaton and other executives ( US$3 Mn and US$24 Mn for Eaton) Chrysler stock plans: Managers and executives should be able to cash out the stock options rather than trading them for shares of Daimler- Chrysler. Eaton would receive US$66 Mn, Mr Lutz US$25 Mn , other executives in the range of US$10+ Mn Employee benefits: Negotiation for the period for which current and former employees of Chrysler get retiree, medical and life insurance benefits that are at least as favorable in the aggregate as the compensation and benefits they were entitled prior to Chrysler effective time Employment continuation agreements: Severance packages plus benefits accorded negotiation if job loss is because of the merger Incentive compensation plan Equity based compensation plan: Discussing and negotiating the clauses No equal pay for equal work policy as European conservatism with profits and salaries ( egalitarianism ) might kill the entrepreneurial culture Getting a boost for the Alabama plan after it joins the UAW union
  22. 22. Worker Compensation Contracts Merger of Equals and merger of growth philosophy to be followed: No changes in the first 5 years of operation of Daimler Chrysler for American assets Worker Compensation Worker Unions Assets closure ( Plants) The compensation to American workers  Union (IG Metall) to invite 2  Scale down on Chrysler developing would be standardized as per the representative s of the United Auto economies plans should be at a minimum prevailing market based competitive Workers (UAW) to take one of the level wages in United States three IG Metall’s positions and represent  Retooling of non-German plants which Employee benefits such as pensions, Chrysler’s labour union on this board cater to middle and lower segment medical facilities, insurance and other  Daimlers non-unionized American assets according to Daimler technical quality benefits to remain unchanged from the to be under UAW standards to be strictly avoided pre-merger days: No cost cutting on this  No joint negotiations by the union with  No closure front the management. American issues to be  Brand bias : Successful and robust Plant level Chrysler executives and exclusively negotiated by UAW Chrysler models to be given preference engineers not to be replaced by Daimler  A over Mercedes models . Dodge Neon executives car to replace Mercedes A Class and Operating manuals and plant hierarchy Mercedes A plant to be put up for from Chrysler to be applied in German strategic buyers or liquidation sale plants and not the other way around  A  a Need to balance German work ethics, laws v/s innovation and the cow-boy style of Americans
  23. 23. Evaluating Benefits to Chrysler & Daimler
  24. 24. Evaluation of Benefits for ChryslerType Details of benefits and possible valuation of those benefitsBoost European  Components and small engines from DB can help Chrysler to launch small cars in Europeposition  Markets share of Chrysler cars in Europe expected to increase from 1% after the merger  Chrysler would enjoy complementary benefits from the sales networkImproved  Daimler pumped a quarter of its budget in R&D and wanted economies of scalequality from  Ceramic brakes, cruise control and other enhanced safety featuresD-B engineering  Risk: Road map for technology share/roll out to be drawn before benefits can be realizedBroadens line  Chrysler existing models were medium to low prices and were suitable for its segmentto luxury end  Risk Factor: The divergence in the positioning of the brands is quite significantProduction  European capacity does not come cheap for Chrysler ( $ 30/hour + benefits)capacity  Risk factor: It depends which models of Chrysler would be made European compliant andoptimization finally launched in the markerDistribution  Both companies can use each others sales network and distribution channelsnetwork  Chrysler to benefit more as 93% of its sales came from North AmericaThe benefits will accrue to Chrysler if:1) It is a merger of equals2) Its product platform structures are retained3) The technology transfer from Daimler is swift4) Distribution channels in Europe are made available. Chrysler does not benefit significantly form capacity optimization.Estimates of combined savings range from $1.4 Bn to $3 Bn ( after 5-6 years of integration)
  25. 25. Product Complement Matrix Market Segments Compact Medium Upper Luxury Pickup Minivan Sport/ Level UtilityHigh 4 4 4 4 4 4 4Medium 4 4 4 4 4 4 4Low 4 4 4 4 4 4 Daimler Benz 4 Chrysler
  26. 26. Combination Analysis Market cap in US$ Mn120000 104378100000 77904 80000 60000 51481 49704 44850 40000 34287 26422 20000 11151 0 Toyota Motor Daimler-Chrysler Daimler-Benz General Motors Ford Motor Honda Motor Chrysler Nissan Motor The merger of Chrysler with Daimler would give it the opportunity to become the second largest car manufacturer (by market value)
  27. 27. Strategic Alternatives For ChryslerType Particulars Benefits to Both Benefits to Chrysler Benefits to DaimlerMerger  Exchange of stock  Reduce  Gains share in EU  Gain share in USA with joint redundancies  Improved quality  Align cost structure ownership in the  Learning from  EU manuf. Base  US manuf. Base new company other  Improved tech.  Borrows creative  Better capacity  Expand to luxury styling utilizationAlliance  Both remain  Autonomous autonomous  If implemented  Command and correctly, similar to Control difficult to vertical integration prevent  Pick & chooseJoint Venture  Form a jointly  JV committed  Improve quality  Helps maintain owned separate resources on the and tech. working costs while gaining entity ground with Daimler tech. from ChryslerPreferred  Viewed as being  Ability toRelationship transactional in disengage is easy nature and of for both should shorter term things go wrong
  28. 28. Thank You 