Case Study: Chrysler

I. Statement of the Problem In 1998, a merger of German automaker Daimler Benz AG (Daimler) and the American auto giant Chrysler Corp. (Chrysler), presented as “merger of equals” took place. However, after almost a decade, the once hailed as “the marriage made in heaven” turned out to be a complete failure and ended in May 2007. The merger of Daimler and Chrysler failed to live up the name due to clashing corporate cultures of the two companies, strategic missteps, and radical changes in trends of US auto industry.

Chrysler’s decreasing profits was due to huge legacy of health-care cost, shift in consumer demand, increasing fuel prices and competition from Asian carmakers. The struggling and loss-making Chrysler was sold to New York-based private equity firm Cerberus Capital Management, L.P. (Cerberus), for $7.4 billion, acquiring 80.1% in Chrysler, including its financial service business Chrysler Financial. Daimler remained having a 19.9% stake in Chrysler.

At the time Cerberus took over, Chrysler was already in the midst of a turnaround plan that includes the elimination of 13,000 jobs and a huge investment of $3 billion a year for new product development to meet shifting consumer demand. Would this private equity firm, Cerberus be able to turn around the distressed Chrysler and be its holy grail?

II. Areas of Consideration The value of the deal to buy 80.1 percent of Chrysler’s stake was $7.4 billion, leaving Daimler with 19.9 percent stake to the new Chrysler. Cerberus, taking over Chrysler had a financial commitment including $5 billion in Chrysler’s operations and another $1.05 billion in its financial service business while Daimler received $1.35 billion. However, Daimler had to pay Cerberus $650 million because of the restructuring cost it would incur until the deal was completed.

Another critical and negative component of the deal was Chrysler’s unfunded health care liabilities. The agreement states that the new Chrysler would assume all the estimated $18 billion health care obligation owed to the workers and retirees of United Auto Workers (UAW).

III. Alternative Causes of Action Cerberus is looking at and very excited about the possibility of taking Chrysler Financial. Cerberus acquired 61% of GMAC Financial Services, GM's former vehicle financing unit. It is expected to merge Chrysler's financing arm with GMAC to create a massive auto lender and then eventually sell the combined company to a large bank.

Another Strategy of Cerberus is to sell Chrysler to an automotive company in the future. Like what it usually does to its previous acquisitions.

IV. Discussion Cerberus is fully aware of the significant challenges that will come with them because of the decision they’ve made in buying Chrysler from Daimler. One of these is the huge liability of Chrysler to UAW, which will be assumed by Cerberus. The Cerberus tries to make a deal with the union.

They are expected to ask the union to share the cost, which would help the U.S automobile industry recover from the high costs and hold their own against better, lower-cost competitors. The continuous decrease in profits of Chrysler is mainly because of the shift in consumer’s demand because of oil price. Consumers are settling with fuel-efficient automobiles which are usually produced by Asian car manufacturers. Asian firms also had an edge because of the cost advantage, as compared to Chrysler which pays huge labor costs.

Given all the challenges that comes with acquiring Chrysler, Cerberus believes that a major turnaround would happen and they would make a profit out of Chrysler. Cerberus plans to support Chrysler’s long term plan, its intentions to spend about $3 billion a year on new product development. The new Chrysler is planning to make new investments in fuel-efficient vehicles, including line of V6 engines.

Given this plan of action, Cerberus would have to invest heavily in product improvement for models that Chrysler was currently selling and in new models to strengthen Chrysler’s position ”Cerberus is the right strategic buyer for Chrysler, with a long-term commitment to Chrysler's growth and success.

They are committed to working constructively with both union leadership and Chrysler's management team to help Chrysler realize its full potential. There are no new job cuts planned in connection with this transaction announced today.” Cerberus, being a private company will give Chrysler a chance focus its position on long-term plan recovery, rather than just short term results. A private investment firm like Cerberus will provide management with the opportunity to focus on their long-term plans rather than the pressures of short-term earnings expectations.

V. Recommendation / Conclusion No one said it would be risk-free. "We believe Chrysler is poised for better results," Snow said, but he conceded that "it won't be easy." It is really a risky investment to be considered by Cerberus, a highly cyclical business at the peak of a cycle. But if Cerberus and Chrysler play it right, the deal might work, and there could be big rewards.