Target ChryslerDavid Woodruff
For Bob Eaton, it was as if one of his company's slick new sedans had just blown a gasket going into a fast curve.
Chrysler Corp.'s stocky chairman was in New York, relaxing in the Chrysler suite at the tony Waldorf-Astoria hotel on the evening of Apr. 11 when a call came through from Kirk Kerkorian, the company's biggest shareholder. The 77-year-old investor announced that he and former Chrysler Chairman Lee A. Iacocca were planning to lead an astounding $20.5 billion effort to take over Detroit's No. 3 auto maker.
A stunned Eaton abruptly canceled a long-scheduled speech at the New York Auto Show. Instead, he hopped an early-morning flight to Detroit to huddle with his board and map strategy. Their eventual response: Chrysler Corp. is not for sale. Added Eaton in a statement: "We don't want to put Chrysler at risk. We've worked hard to build this company's financial strength."
"STRICTLY AN INVESTOR." Eaton wasn't the only one put off by the audacious gambit of Kerkorian and Iacocca. The pair say they will pay $55 a share for the 90% of Chrysler's 415 million shares they do not already own. Neither plans to increase his stake in the company. Rather, they hope to use $5.5 billion of Chrysler's own cash, plus $3 billion in new equity and $10.7 billion in bank loans and other borrowing to finance the deal. "If Kerkorian's got [financing], Chrysler is history," says veteran Wall Street arbitrageur George A. Kellner of Kellner, Dileo & Co. But Kellner and other arbs noted that no shred of specific financing plans was evident--no bank commitments or even one of the "highly confident" letters that 1980s-style raiders produced to reassure investors that they could line up money in the end.
Of course, the Kerkorian announcement touched off a frenzy among Wall Street dealmakers. Kerkorian's Tracinda Corp. quickly hired Bear, Stearns & Co. as its adviser. Other bankers, meanwhile, scrambled to sign up Chrysler. Everyone's running around trying to work the numbers and figure out what to pitch, said the head of loan syndication at a major bank.
Iacocca, who until lately had been mainly dabbling in gambling investments, claims Kerkorian can "easily" pull together financing for the deal and contends that the whole thing can be done without impairing the auto maker's financial strength. Moreover, he says, he and Kerkorian have no intention of interfering with Eaton and the rest of Chrysler's management team. "I'm strictly an investor," Iacocca says. "I intend to do nothing more than advise" the company.
But everyone from arbs to big shareholders to suppliers has questions about the real motive behind the Kerkorian/Iacocca bid. Chrysler's shares jumped 25%, to $49, on the news on Apr. 12--still 12% below Kerkorian's offering price. Wall Street and others are worried that the offer could end up saddling Chrysler with a huge debt burden--either from fending off Kerkorian or as part of the financing for his bid. "The whole thing lends itself to a sanity check," says one investment banker. Indeed, hours after Kerkorian made his offer, Standard & Poor's, Duff & Phelps, and other ratings agencies put Chrysler's debt on watch for a possible downgrade.
Key money managers are speculating that Kerkorian's actual goal may be to entice Chrysler to buy him out at a premium--a classic greenmail attempt. Kerkorian began accumulating Chrysler shares five years ago at an average of $12 each, when Chrysler was in deep financial trouble. Since last November, he has been actively kibitzing Chrysler management--suggesting strategic changes meant to drive up the company's stock price.
Why not simply sell his shares, and cash in now? Michael Bradley, a University of Michigan finance and law professor, notes that Kerkorian would face a huge capital-gains tax on such a move. Better to try to force Chrysler to cut him a special deal.
Such a scenario becomes immaterial if Kerkorian's offer sets off a bidding war for Chrysler. Potential buyers? Some analysts speculate that a foreign carmaker, looking for a huge leg up in the U.S. auto market, could step in with a higher bid.
There's a pretty good chance that Kerkorian's move could kick off a round of negotiating, bids, and counter-bids. Some Wall Street analysts believe that the company's expected $4 billion-plus in annual earnings during the next several years makes it worth up to twice what Kerkorian is offering. And if the company's board decides to institute a poison-pill provision, the cost of a takeover would almost certainly double.
SLUMP AHEAD? Kerkorian's biggest risk could be that his bid will prevail. With his iffy financing, Kerkorian could be forced to badly deplete Chrysler's cash in order to complete the deal. The resulting debt burden on the company is an unsettling prospect, since car and truck sales so far this year have slumped 4% and auto makers have dialed back sales forecasts. If the industry goes into one of its cyclical slumps in 1996 or 1997, Chrysler will need big money to survive: It reduced its cash cushion by $4 billion during the steep slump of the early 1990s. Eaton argues that the company needs a hoard of at least $7.5 billion to weather the next slump--about what it had on hand at the end of 1994 (charts). But Kerkorian and Iacocca contend that $2.5 billion would be enough, if augmented by the company's untouched $2.5 billion credit line.
Even if car sales hold steady, a buyout could badly drain Chrysler's cash. Kerkorian figures $10.7 billion in new debt would cost $1.1 billion in interest annually, at current rates. The $650 million Chrysler currently pays in dividends would cover part of the cost, and the tax write-off on interest payments would help, too. But the $2.5 billion or so in preferred stock Kerkorian figures to sell to a small group of unnamed investors would likely carry an additional dividend. And a significant increase in debt could cramp the company's financial flexibility. "You can cancel dividends," says a former top Chrysler executive. "Debt has to be paid."
Then there's the difficulty of rounding up the huge loans Kerkorian needs to make his deal fly. Steve Miller, vice- president of Loan Pricing Corp., a New York firm that tracks the loan market, figures Chrysler would have a hard time corralling as much as $11 billion in bank loans. But if its credit rating remains at BB or better--vs. A- for the company's senior debt now--it "might be able to raise $5 billion to $7 billion in the syndicated bank-loan market," Miller figures. That assumes, of course, that Kerkorian & Co. can soothe the jitters at nervous debt-rating agencies.
OVERSEAS KNIGHT. Finding a white-knight partner would help. Alex Yemenidjian, a top Kerkorian aide at Tracinda, says Kerkorian has pulled together a "short list" of companies he intends to contact about joining the deal. Although Yemenidjian wouldn't name any of them, there are potential synergies between Chrysler and a European company such as PSA, the French parent of Peugeot and Citron. Other European carmakers, including Volkswagen, Renault, and Fiat, already have said they are unlikely to get involved in the takeover.
Then there's Japan. Analysts, though, believe a hookup with a Japanese company such as longtime Chrysler partner Mitsubishi Motors Corp. or Honda Motor Co. is less likely, given currency and economic troubles at home. On the other hand, the dollar's prolonged collapse against the yen would make such a deal dirt-cheap for a Japanese company. Another possibility, says Dean Witter Reynolds Inc. analyst Ronald A. Glantz, is that Kerkorian could raise cash by selling parts of Chrysler to a rival. "I don't know if anyone wants to own Chrysler, but they certainly want Jeep, and they certainly want minivans," Glantz says.
Although the risks of taking Chrysler private are high, Iacocca and Kerkorian stand to win handsomely if they can pull it off. If auto sales level out at the current pace of 15.1 million vehicles a year and stay there for the next couple mf years, the duo might be able to triple their investment in three to five years, figures analyst Theodore Shasta of Loomis, Sayles & Co., a big Chrysler shareholder. That's because the company's high-margin Jeeps and minivans probably will generate at least $2 billion in free cash flow annually for several years--even after $4 billion annually in planned capital spending.
Chrysler likely will put up a strong fight to remain independent. In December, 1994, right after Kerkorian announced a wish to increase his Chrysler stake above 10%, the company's board reaffirmed a poison-pill provision designed to thwart just such hostile bids. It kicks in when a shareholder moves to take over more than 15% of outstanding shares. It allows other shareholders to acquire additional Chrysler stock at a reduced rate and dramatically raises the cost of a takeover. Kerkorian has said in the past that the poison-pill provision is illegal and could be overturned in court. Yemenidjian maintains no court challenge is imminent. But if one materializes, Chrysler could tie up the matter for weeks or months while it looks for a white knight or strengthens other defensive measures.
For Chrysler, all this uncertainty comes when it still has a lot to prove. From near-collapse in the early 1990s, it has become a highly profitable cash machine. While continuing to dominate the minivan market, it has spun out a raft of new models such as the Jeep Grand Cherokee, the compact Neon, and a line of nifty sedans that includes the Chrysler Concorde and Eagle Vision.
But big doubts remain as to whether Eaton can maintain Chrysler's success over the long haul. Despite a drive to improve quality launched by the CEO last year, key models continue to be plagued by glitches (table, page 36). And the company will have to spend big money revamping and launching key models. Even ambitious plans that include a new $750 million V-8 engine factory in Detroit and numerous new and redesigned models by the 1998 model year will leave it vulnerable in some areas. The hot-selling Grand Cherokee, for instance, isn't scheduled for a redesign until the 1999 model year. Meanwhile, veteran President Robert A. Lutz, who has played a pivotal role in the company's comeback, is scheduled to retire in 1996.
NERVOUS NELLIES. Some of Chrysler's components suppliers are already nervous about the company's prospects. As part of its strategy, notes one, Chrysler has asked key suppliers to take on more of the burden of its new-product development--including paying more of the costs of tooling and design work. He attributes this, in part, to tight capital. "If they're constrained further, no doubt they'll ask us to take on more, and I'm not sure the supplier community can handle that." Frets this supplier: "At what point will this undermine our ability to finance growth?"
Chrysler's already restive labor unions aren't happy either. Canadian Auto Workers President Buzz Hargrove says the bid makes him "mad as hell." His opinion is important: Chrysler makes its LH sedans at a plant in Bramalea, Ont. Meanwhile, in early April, the United Auto Workers struck a key transmission plant in Kokomo, Ind.--a signal that the union is already chafing at Chrysler's cost-cutting efforts. Now, says Hargrove, "This move by speculators will not create jobs, it will not produce useful products, but it will risk diverting [design and research] money out of Chrysler."
How will this deal turn out? Many analysts figure Kerkorian and Iacocca will come out ahead, no matter what happens. If the deal were to go at $55 per share, Kerkorian, for one, would net a profit of $1.3 billion on his 36 million shares. And for Iacocca, the takeover bid is sweet revenge. Chrysler's board forced him out of the CEO job in December, 1992, arguing it was time for fresh blood in the company's top ranks. He was eased out despite vocal opposition from his old pal Kerkorian.
Some analysts already see the deal as ushering in a new period of 1980s-style hostile takeovers. It's also a warning for manufacturers that hope to build up cash to see them through the next recession. In an era of activist shareholders, "Kerkorian's saying either you do something to enhance the value of these shares, or I'll do it myself," says veteran arb Guy P. Wyser-Pratte of Wyser-Pratte & Co.
For Bob Eaton, the Kerkorian/Iacocca bombshell is a crystal-clear warning that he will have to take drastic action soon--no matter which way this deal turns out.
Chrysler continues to be dogged by defects. Consumer Reports gives its Jeep Grand Cherokee a reliability rating of "much worse than average" and judges such key models as the Dodge Intrepid and the Dodge Caravan as "worse than average."
NEW MODELS UNDER FIRE
Chrysler is just unveiling a revamped minivan. But the product, No. 1 in the market, faces tough competition from Ford's lineup of vans. And fresh versions of Chrysler's LH family sedans and Dakota pickups, due in the 1998 model year, will have to sell against souped-up rivals.
Softening auto sales have raised worries that the market is heading into a downturn. Chrysler and other auto makers are susceptible to big losses during a recession, when high fixed-costs siphon profits and cash flow needed for new-product development shrinks.
NO OVERSEAS BOOST
As European economies recover, Ford and GM should get a boost. But Chrysler has only minimal manufacturing and sales operations abroad, making it more vulnerable than its rivals if the U.S. economy heads into a slowdown.