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Should BMW Buy Volvo?

Despite denials of formal talks, an acquisition of Volvo would make sense for BMW and help struggling current owner Ford

Executives at both Ford Motor (F) and BMW said on May 29 that there have been no formal discussions between the two companies about the German carmaker acquiring the ailing U.S. automaker's Volvo car business. The possible sale was initially reported by Swedish daily newspaper Göteborgs-Posten and then Financial Times of London.

Executives talked to BusinessWeek on and off the record about the reports, insisting that there have been no deal discussions at the top of the company. But a BMW executive speaking not for attribution said it was "certainly possible that BMW had been studying an acquisition of Volvo as a matter of normal business planning when we know a business is potentially for sale."

Ford spokesman Tom Hoyt said: "Ford is not in discussions with BMW or any other company regarding Volvo. We have seen this kind of speculation for the past year, as Ford has been assessing our operations and portfolio—as any good business does and we will continue to do."

"Exploratory" Communication

Ford is undergoing a massive restructuring after losing $12.6 billion last year. Its Premier Auto Group (PAG), which is made up of Volvo, Jaguar, and Land Rover, lost $327 million last year. Last year's results also included Aston Martin, but Ford sold 90% of that brand to an investment group, Prodrive, earlier this year (see, 3/13/07, "After Aston, Could Jaguar Be Next?"). Ford does not break out profit figures for its individual brands, but Ford executives say privately that Volvo closed out last year around break-even. Jaguar lost money. Land Rover posted an operating profit.

Executives at Ford and BMW described any communication between the two companies as "exploratory." Of the three PAG brands, Volvo is the most valuable to Ford, according to industry consensus. Merrill Lynch (MER) estimates that all three brands could bring Ford more than $9 billion. Between $7 billion and $8 billion of that would come from Volvo.

The reasons for potentially low prices for Jaguar and Land Rover are their expensive labor contracts as well as a strong currency in Britain, where all the vehicles are all made. That makes them undesirable from a financial standpoint to Ford as well as to potential suitors.

Looking for Efficiencies

Ford Chief Executive Officer Alan Mulally has defended ownership of the three brands, including endorsing their future product plans. But executives inside Ford who spoke off the record regard that stance as mere posturing to keep potential buyers interested. Mulally, said one Ford executive close to the CEO, views the luxury brands as "expensive hobbies for Ford." Mulally, who came to Ford from Boeing (BA) last September, has talked consistently about building up the Ford brand globally, creating huge money-saving efficiencies, and instituting a single worldwide brand strategy as the best means for taking on Toyota (TM).

Ford and Mazda—in which Ford owns a 37% controlling stake—have been creating engineering and purchasing efficiencies with Volvo since Ford bought the Swedish automaker in 1999. The current Volvo S40/V50, Mazda3, and European Ford Focus, for example, all share engineering development and other costs. Ford currently builds three models—the Ford Five Hundred, Mercury Montego, and Ford Freestyle—off the engineering platform of the Volvo S80. Ford plans two more vehicles, the Ford Flex and a Lincoln crossover sport-utility vehicle, off the same platform.

Ford and BMW have a history of dealmaking. In 2000, Ford bought Land Rover from BMW, and the German company continued to supply engines for the Range Rover until a few years ago.

Facing Sales-Growth Issues

While it is somewhat surprising that Ford would be interested in selling Volvo, it is far more surprising that BMW would entertain buying it. BMW, one of the steadiest and most consistently profitable automakers in the world, nearly came undone in the 1990s over its purchase of the British Rover Group. BMW acquired Rover, Land Rover, and Mini, and lost, by some estimates, in excess of $10 billion before jettisoning Rover to an investment group for no money and Land Rover to Ford. It retained Mini, which has been a huge sales hit for BMW worldwide as the Munich-based automaker remade the Mini Cooper runabout and brand with German know-how (see, 5/29/07, "Super Duper Mini Cooper").

BMW Chairman Norbert Reithofer, who took over from Helmut Panke last year, is facing sales-growth issues. There are differences of opinion as to how the iconic German brand will increase sales and profits in the future. Though the company has added 1 Series small cars to its lineup over the past three years and is planning to launch a multiactivity vehicle, there is worry in some quarters that the BMW brand is getting filled out, and that jamming more vehicles into the lineup could water down its valuable brand equity in the premium price categories.

Acquiring Volvo would give BMW a relatively healthy global brand that needs financial discipline, manufacturing efficiencies, and brand marketing know-how in order to make it more profitable. Volvo cars and SUVs are engineered to be front-wheel drive, while all BMW vehicles are rear-wheel drive. While it is unlikely that BMW would ever build a Volvo and BMW off the same engineering platform, there could be enormous savings from co-developing engines, electrical systems, telematics, and the like. BMW, too, would not hesitate to build Volvos outside of Scandinavia, a move Ford has not yet done to save on manufacturing costs.

Exploiting Opportunities

While Panke was clear on his distaste for growing BMW by acquisition, Reithofer has been less vocal on the issue. Panke was BMW's chief financial officer during the Rover fiasco, which led to a housecleaning of BMW's top two executives. Panke was a key driver in BMW's decision to part with Rover and Land Rover after the executive-suite bloodletting.

In acquiring Volvo, which does not have anything like the dysfunctional operation, labor, and manufacturing that Rover had, BMW would be betting that it can succeed at exploiting growth opportunities at Volvo that have eluded Ford during the past eight years. Volvo's growth in North America and Europe, for example, has been slow. Its global brand image has been focused largely on safety, which has limited its fashion appeal. Despite Ford's ownership, it has remained a largely Swedish enterprise. BMW could make it more of a global brand, especially in the developing Asian market.

If Ford does find an attractive offer for Volvo, the automaker will have three choices when it comes to selling premium/luxury vehicles. It can retain Jaguar and Land Rover and slug it out with British labor for more concessions to make the vehicles more profitable. It can sell the British brands and build up the Lincoln brand, which has long been neglected in the U.S. and has no real distribution outside North America. It could also decide to launch a new luxury brand from scratch, as Toyota did with Lexus in the late 1980s with great success.

With the sale of Chrysler to private equity firm Cerberus Capital, there will likely be many more rumors of deals before any are actually consummated. BMW shares closed Tuesday up 85 cents, or 1.7%, to €50.60. Ford shares, meantime, closed down 5 cents, to $8.40.

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