The Fiat Chrysler-Renault merger proposal could be the start of an industry-wide consolidation in which existing vehicle manufacturers aggressively cut and share costs to amass the billions of dollars they plan to spend in the development of electric and self-driving vehicles.
Fiat Chrysler Automobiles N.V. (NYSE:FCAU) proposed creating the world’s third-largest vehicle manufacturer, saving roughly $5.6 billion (€5 billion) annually and positioning the combined organization as a global force to build and sell electric and autonomous vehicles. Fiat Chrysler has undergone a leadership transition since last year’s July 25 death of its former chief executive officer, Sergio Marchionne, who had led its financial turnaround and had spoken openly in recent years about the need for industry consolidation.
Under the proposal, Italian-American Fiat Chrysler and France-based Renault SA (OTC:RNSDF, RNO.FP) each would receive 50 percent ownership of the unified company. However, Fiat Chrysler withdrew its proposal late Wednesday, June 5, after French government officials raised concerns about the deal possibly not winning the support of Renault’s existing alliance partner, Nissan Motor Co. Ltd. (OTC:NSANY).
The support of Nissan’s board of directors was the only condition of the French government that Fiat Chrysler had not been able to satisfy. The other key conditions that were met involved respecting the current Renault-Nissan alliance, keeping jobs in France, forming an equal corporate governance structure between Renault and FCA, as well as continuing the development of electric batteries in Europe to power future vehicles.
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Fiat Chrysler’s board of directors issued a statement upon withdrawing the offer that the proposal provided “compelling, transformational rationale,” along with structure and terms to deliver substantial benefits to all parties. However, it became clear that the “political conditions” in France “do not currently exist” for such a combination to proceed successfully, Fiat Chrysler announced.
Withdrawal of the proposal leaves Fiat Chrysler open to seek other potential merger partners. Leaders of Renault, the French government and Nissan still could try to rekindle Fiat Chrysler’s interest by agreeing to support the original proposal with modest revisions. Reticence of the French government and Nissan to support the merger scuttled the deal, since Fiat Chrysler made clear from the start that the offer was “non-negotiable.”
Fiat Chrysler-Renault Merger Plan Shows Merit of Cost Sharing
“The smaller and even medium-size car manufacturers need to join forces to compete,” said Bob Carlson, who leads the Retirement Watch advisory service. “Some are trying cooperative agreements and joint ventures. Others are looking at mergers and consolidation.”
Unlike in the past, vehicle manufacturers are not trying to create manufacturing and operational efficiencies as much as put a “critical mass of resources” into research and development (R&D) for the technology that is becoming the core of new vehicles, Carlson said. The smaller and mid-sized companies not only are competing with the large vehicle manufacturers but also with Google (NASDAQ: GOOGL) and other technology companies that have entered the business, Carlson added.
“Fiat Chrysler and Renault appear to be a good fit, because there isn’t much overlap in current key markets,” Carlson said. “If they can successfully integrate and develop technology that can be shared across all their vehicle platforms, the pay-off could be significant.”
Other Combinations Could Follow a Fiat Chrysler-Renault Merger
“As with any major industrial merger, there are synergies and overlapping operations that will be merged,” said Bryan Perry, who leads the Cash Machine, Premium Income, Hi-Tech Trader, Quick Income Trader and Instant Income Trader advisory services. “A $40 billion tie up between the two companies demonstrates the global auto market continues to consolidate to pursue production efficiencies.”
Along with an estimated $5.6 billion in annual savings that a Fiat Chrysler-Renault merger would be estimated to achieve, the combined entity would gain footholds in regions of the world that the current companies had not been able to serve independently. The deal specifically would give Renault increased access to the U.S. market, while Fiat Chrysler would benefit from Renault’s electric vehicle and autonomous car technology.
A combined product line of Fiat Chrysler-Renault would span luxury to mainstream brands that sold 8.7 million vehicles and generated an operating profit of more than $11.1 billion (€10 billion) in 2018. If merged as Fiat Chrysler proposed in its non-binding offer letter to Renault, the beefed-up entity would rank No. 2 in the Europe, Middle East and African markets, No. 4 in North America, based on 2018 sales, and position itself to enhance its competitive prowess in the Asia-Pacific region.
Even though Renault planned to approve the merger, never resolved were the roles of its current Japanese alliance partners Nissan Motor Co. Ltd. and Mitsubishi Motors Corp. (OTC:MMTOF). The Renault-Nissan-Mitsubishi Alliance combines to build one of every nine cars sold globally and the three companies employ 470,000-plus people in almost 200 countries.
Late CEO Marchionne Set Stage for Fiat Chrysler-Renault Merger
Marchionne’s focus on preserving Fiat Chrysler’s precious capital by partnering with other companies on electric and self-driving vehicles positions Fiat Chrysler to leverage the value of its iconic brands, which include Jeep, Ram trucks and Maserati sports cars. Those brands likely appealed to Renault, along with Fiat Chrysler’s Ferrari S.p.A. (NYSE:RACE) business unit that also would have been part of a merged organization’s global operation.
Fiat Chrysler reached out to Renault at a strategically significant time, with all automakers seeking to survive in a marketplace that in recent decades has attracted new competitors such as Tesla Inc. (NASDAQ:TSLA). Plus, Renault may have found comfort in aligning with Fiat Chrysler after its current strategic alliance partner Nissan incurred a 4.4 percent drop to 5.5 million vehicle sales worldwide in its most recent fiscal year ended March 31. A further sign of deterioration at Nissan is that its operating profit slid 45 percent to roughly $3 billion during its last fiscal year.
The Renault-Nissan-Mitsubishi Alliance forged by recently imprisoned leader Carlos Ghosn has helped all three companies, but the arrangement is complicated by the governments of France and Japan, where the manufacturers are headquartered. Despite the unconventional structure, much value already has been achieved by the Renault-Nissan-Mitsubishi Alliance for cost savings, shared parts and suppliers.
Arrest of Key Alliance Leader May Enhance Appeal of Merger
However, the Japanese authorities on Nov. 19 arrested Ghosn, one the auto industry’s most visionary executives, and confined him in an austere prison before releasing him on bail in Japan on bail while pursuing charges against him for allegedly under reporting his income by an estimated $44 million over five years. The merger overture from Fiat Chrysler offered Renault a way forward from the scandal involving Ghosn, who had served in leadership roles at Renault, Nissan and Mitsubishi before the arrest.
Mitsubishi, the smallest member of the alliance, aligned with the others in 2016 when Nissan acquired 33 percent of its fellow Japanese automaker. Both Nissan, Japan’s second-largest auto maker, and Mitsubishi are among the car manufacturers worldwide that have admitted to falsifying diesel emissions tests, so the companies both clearly have struggled to keep up with industry innovations.
Renault’s current ownership of 43.3 percent in Nissan nearly triples the latter company’s 15 percent share of its France-based alliance member. Renault, on the other hand, does not have an equity stake in Mitsubishi. However, the French government owns 15 percent of Renault and factored heavily into Fiat Chrysler withdrawing its proposal.
A combined Fiat Chrysler-Renault entity would have retained 43.3 percent of Nissan’s shares and voting rights, as Renault currently does. But Nissan’s stake in the merged companies would have been diluted to just 7.5 percent. In addition, Nissan would have been allowed to nominate a director to the 11-member board of the new combined company under the Fiat Chrysler proposal.
Nissan and Mitsubishi Affected by Chrysler-Renault Merger Plan
While details of the deal’s structure would need to be “massaged to get all parties to the table,” the merger of equals structure is a great place to start, said Hilary Kramer, a Wall Street money manager who leads the Value Authority, GameChangers, Turbo Trader, High Octane Trader and Inner Circle advisory services for individual investors. At roughly $21 billion in market capitalization, Fiat Chrysler is very close to the same size as Renault, she added.
“If anything, Renault shareholders may be getting a 10 percent bigger role in the new company than they would on a pure market-weighted basis,” Kramer said. “Fiat Chrysler is already being generous.”
A 50-50 deal also makes broad sense in terms of valuations, Kramer said.
“Fiat rates a 4.2X earnings multiple,” Kramer continued. “Renault trades at 4.9X earnings, so there’s no huge imbalance there. Both stocks are profoundly undervalued right now because of the structural challenges hanging over the entire auto industry.”
Industry Challenges Sparked Fiat Chrysler-Renault Merger Plan
Industry-wide challenges to clear include declining global sales, competition from new propulsion systems, the cost of developing autonomous vehicles and others, Kramer said.
In Kramer’s analysis, Renault faces bigger sales growth barriers now but has a brighter long-term future. Fiat Chrysler has slightly weaker margins, a bigger global profile and a “more sedate long-term outlook,” she added.
“Where this gets interesting is comparing these numbers to other global car makers that may be looking for partners,” Kramer said.
Toyota (NYSE:TM), the world’s largest car maker, is the “undisputed heavyweight,” with close to double the sales of Fiat Chrysler and Renault put together and a commanding 9.6X earnings multiple to back it up, Kramer said. Thus, Toyota has no reason to make any strategic acquisitions for the foreseeable future, she added.
Kramer wondered if General Motors (NYSE:GM) and Ford (NYSE:F) could transform the global map if they had the vision to partner with each other or if the latter company tightened its current partnership with Volkswagen (OTCMKTS:VLKAF; VOW.DE).
The Ford-Volkswagen partnership works much like Fiat Chrysler’s proposal with Renault: comparable multiples, a good blend of tactical advantages and a stronger global competitive position, Kramer said.
The partnership and merger possibilities for global automakers could begin to go from speculation to implementation. But caution is required to choose wisely, as Fiat Chrysler indicated by withdrawing its merger proposal, since a failed marriage in the auto industry could become catastrophic.
Paul Dykewicz, www.pauldykewicz.com, is an accomplished, award-winning journalist who has written for Dow Jones, the Wall Street Journal, Investor’s Business Daily, USA Today, the Journal of Commerce, Seeking Alpha, GuruFocus and other publications and websites. Paul is the editor of StockInvestor.com and DividendInvestor.com, a writer for both websites and a columnist. He further is the editorial director of Eagle Financial Publications in Washington, D.C., where he edits monthly investment newsletters, time-sensitive trading alerts, free e-letters and other investment reports. Paul previously served as business editor of Baltimore’s Daily Record newspaper. Paul also is the author of an inspirational book, “Holy Smokes! Golden Guidance from Notre Dame’s Championship Chaplain,” with a foreword by former national championship-winning football coach Lou Holtz. Follow Paul on Twitter @PaulDykewicz.