DaimlerChrysler Merger - Case Study Example

DaimlerChrysler Number: Table of Contents Introduction 3 Daimler-Benz AG 4 Chrysler Corporation 6 DaimlerChrysler merger 7 Data and Methodology 9 Result of the merger 9 Abnormal return 10 11 Analysis 15 Evaluation 18 Conclusion 19 References 20 Introduction Merger is both quantitative and qualitative in nature, which has the ability to lead towards failure or success (Cooke, 2006). The main aim of the report is to examine the success or failure of the largest merger in the automobile industry i.e. DaimlerChrysler. Both the quantitative and qualitative aspect of the merger is considered in the report. The quantitative factors include the abnormal returns, EPS and P/E ratio of the pre and post merger situation and the evaluation of the share price movement during the same period of time. However, the qualitative factors take into consideration difference in strategies and cultural clashes. The report is prepared by highlighting three phases, which relates to the performance of the companies individually (Daimler-Benz AG and Chrysler Corporation), performance of the combined companies (DaimlerChrysler) and lastly post-merger performance. Globalization has encouraged increase in number of mergers and acquisitions across the globe. There are several studies pertaining to this topic as the importance of merger and acquisition (M&A) has improved over the years with its increase in number. Bloomberg has reported that transaction volume of M&A was $2.23 trillion during 2012, which has sharply declined from $2.42 trillion during 2011 (Kirchfeld & Saitto, 2012). There was an increase in M&A activity in some selective industries due to its advantages. The importance of merger and acquisition are discussed henceforth. The advantage of M&A activities are manifold; the acquisition activities are cost efficient as it is measured with the help of economies of scales. It also helps in improving the revenue of the company by gaining market share and tax benefits. When a company acquires another company belonging to the same industry and in different market, then the merged entity is expected to cover larger portion of the market. Hence, it expands the territory for both the companies and helps in acquiring larger customer base. The extended reach of the merged company is lucrative; however, if the merged company fails to understand the need of the new market then the business is not at all profitable (Cartwright, 2005). The main importance of acquisition is that it reduces the tax liability of a lucrative company by acquiring a non-profitable firm within the same industry. M&A activities also help both the target and acquiring company to get access to talented workforce. When a company wants to enter a new market and wants to inform about its presence, acquisition is an appropriate method in this case. However, acquisition also assists the acquiring and target company to avail administrative benefits. Acquisition also helps in reducing the overhead cost with the help of shared marketing budgets, lower cost and increased purchasing power (Cartwright, 2005). Schoenberg (2006) had tried to relate and assess the performance of M&A activities with the help of four measurement tools such as manager’s assessment, abnormal return, assessment of expert information and divestment data. Assessment of the managers incorporates several criterion. The managers of the acquiring company have to examine its performance and match with the main objectives set at the pre-merger stage. The trend in cumulative abnormal return on the shares of the acquiring firms is analyzed in order to determine the success of the M&A activity. The data employed by the experts are taken directly from the stock market and also from the rating agencies, annual reports and company publications. Lastly, divestment identifies whether acquiring company has divested in the acquired one. Thus, the importance of M&A activities can be measured with help of mentioned techniques. Daimler-Benz AG Before merger: Daimler AG, the renowned German manufacturer of motor vehicles, automobiles and internal combustion engines was established during 1926 (Daimler AG, 2015b). The company signed an agreement of mutual trust with Karl benz’s Benz & Cie and was named as Daimler-Benz AG. Since its inception, the company has maintained mobility through new innovations and production of outstanding vehicles (Daimler AG, 2015b). It aims at playing the role of pioneer through development in areas such as sustainability and safety. The main activities of the company revolves around the need of the customers as Daimler present premium automobiles, which has set standards for designs, comforts, safety, perceived value, environmental compatibility and reliability (Daimler AG, 2015a). Daimler-Benz is a stock corporation, which has sales revenue of DM 124 million during 1997 (Daimler AG, 2015c). The company has four segments however it is famous for the luxury Mercedes cars. The segments are Aerospace, Automotive, Services and Directly Managed Businesses (Daimler AG, 2015c). Daimler-Benz is a stock corporation, which has geographical coverage in more than 200 countries across the globe. It had gone through a number of amalgamation in its past and had also incurred extensive loss during 1980. Hence, the company was in need of rigorous changes that were accompanied by several measures (Daimler AG, 2015c). During 1995, after Jurgen Schrempp joined as the new CEO, he decided to restructure the company so as to complement the industry standards. The main aim for restructuring the business was to earn more profit and increase value of the shareholders. The goals of the business units are refined and are realigned with the management. The main motive of the company is to earn a return on capital employed (ROCE) of 12% (Daimler AG, 2015c; Blas˘ko, Netter & Sinkey, 2000b, Value Creation And Challenges Of An International Transaction The Daimlerchrysler Merger). However, the company also took measures for the restructuring purpose that involved layoff of thousands of employees. The restructuring initially gave positive results by increasing the sales value by 69% in 1997 compared to the value in 1996. Nevertheless, the sales started to decline after 1997 in Germany by 33% and by 25% in other places in the European Union and also 21% in Canada and US (Daimler AG, 2015c; Blas˘ko, Netter & Sinkey, 2000b, Value Creation And Challenges Of An International Transaction The Daimlerchrysler Merger). Figure 1: Daimler-Benz AG (1994-2004) (Source: Daimler AG, 2015c) The figure clearly reflects the results of changes that are brought to Daimler-Benz after restructuring the business in 1995. It is observed that the share price has improved post-1995 and increased to a great extent in 1997; however, there was a sharp decline thereafter and the company recovered from the situation after its merger with Chrysler in May 1998. Nevertheless, the situation worsened later when the merger failed to bring any profit to both the companies. Chrysler Corporation Before merger: Chrysler Corporation headquartered in the US is a renowned automobile company in the American market. It was established in 1925 when Maxwell Motor Company underwent restructuring to become Chrysler Corporation (FCA US LLC, 2015). The company operated in two major segments such as financial services and automotive operations. The company expanded its operation to Europe and formed several acquisitions in Spain, France and the UK (FCA US LLC, 2015). During the mid-1990s, the company proved to be profitable and productive carmaker in the US. Chrysler employed target costing for realizing high productivity with the help of cost efficiency. The “supplier cost reduction method” (Meyer, et al., 2005) had made an effort in reducing the supplier base to 1140 to 2500 suppliers (Meyer, et al., 2005). The company dissolved the functional groups and reassigned the members into four platform teams and autonomies groups, which consisted professionals for designing and producing new cars. Although Chrysler has achieved its financial goals by concentrating on core activities and also by increasing the productivity level, it failed to expand its geographic boundaries. The sales of the company outside America “rose from 50,000 units in 1990 to about 237,060 units during 1997” (Meyer, et al., 2005); however, it was 8% less than the sales of total units in Chrysler. It has also failed to capture an adequate market share in Europe, which was only 0.7% during 1997; moreover, during the same period the market share of the company in Latin America was only 1% (Meyer, et al., 2005; Blaˇsko, Netter & Sinkey,2000a, The Daimlerchrysler Merger: Short-Term Gains, Long-Run Wealth Destruction?). DaimlerChrysler merger There are many reasons behind the decision of the world’s largest merger. Despite the successful business of Daimler-Benz in Europe and Germany, the company failed to penetrate into the US, where its market share was 1%. The company derives about 63% of its sales revenue from Europe (Meyer, et al., 2005; Netter & Sinkey,2000, The Daimlerchrysler Merger: Short-Term Gains, Long-Run Wealth Destruction?). On the other hand, in spite of promising performance in sales in the US, Chrysler failed to generate enough revenue from the European market; the company generates its 93% of the revenue from North America (Meyer, et al., 2005). Hence, both the companies needed to penetrate the untapped market through expansion plan, which gave rise to the decision of merger. Moreover, during 1998, the car industry experienced tough time in business and thus the companies had to strategize accordingly for avoiding bankruptcy. However, the companies managed the situation due to their overcapacities. The German manufacturer, Daimler-Benz wanted to capture larger portion of the US market and thus the merger plan was more promising for the company as the company hoped for gaining competitive advantage (Meyer, et al., 2005). The merger took place on May 7, 1998 and it was also known as the merger of equals. The main aim of the merger was to make DaimlerChrysler the world’s largest car manufacturer. The merger expected to collect $1.4 billion in its first year and gain $3 million within the period of three-five years (Hollmann, Carpes & Beuron, 2010). The financial success or failure of the merger is discussed henceforth. Daimler-Benz appointed CSFB and Goldman Sachs as the financial advisors for determining the financial condition of the merged company. The advisory companies examined performance of the stock price of the merged company and also compared the results with that of the European and American car manufacturer (Hollmann, Carpes & Beuron, 2010). The following figure highlights the pre and post merger market capitalization of the companies and the combined one. Figure 2: Market capitalization (Source: Blas˘ko, Netter & Sinkey, 2000b, Value Creation And Challenges Of An International Transaction The Daimlerchrysler Merger) From the above figure, it can be stated that the merger between the two automobile giant was not successful as the market capitalization decreased after the DaimlerChrysler merger. It is observed that the merged company experienced drastic decrease in demand for shares and this also affected the cumulative return. Data and Methodology Result of the merger In order to increase the international presence and capture higher market share in the global market, both the companies, Daimler-Benz AG and Chrysler Corporation had decided to merge their business during 1998. Before the merger, the stock performance of both companies was not considerable as the market capitalization decreased, which indicated the shareholders were not confident about the returns. During May 1998, the companies formed the merged firm known as DaimlerChrysler, which cost $36 billion (Stertz & Vlasic, 2000). It was regarded as the largest trans-Atlantic merger. The result of the merger was outstanding in the initial phase as it became the fifth largest automobile company in the global market with $130 million assets and 442,000 employees (Schneider, 2001). After one month of the merger, the share price increased to $108.62. The CEO of Daimler, called the merger as the “weeding made in heavens” (Schneider, 2001). However, the prosperous situation of merger deteriorated after six months of the merger. The first quarter earnings of 1999 were a great disappointment for the merged company. The revenue of the merged company increased as predicted but the “profit remained the same as $1.53 billion” (Stertz & Vlasic, 2000). The synergy savings of the two companies failed to make any impression on the company shares, as a result, the stock of DaimlerChrysler had dropped by $13 per share in a time of two days, which decimated $10 billion asset value (Stertz & Vlasic, 2000). The stock-swap merger did not go well for the company in the subsequent years. The internal disturbances and the unexpected decline in profitability, which affected the share price to a great extent, actually led to the demerger of the companies during 2007. Abnormal return The abnormal return is defined as the return that is generated by a portfolio during a time period, which is different from the predicted return. The predicted return is calculated based on the capital asset pricing model (CAPM). The following table highlights the abnormal return of individual companies before and after the merger. Figure 3: Abnormal return pre-merger (Source: Blas˘ko, Netter & Sinkey, 2000b, Value creation and challenges of an international transaction The DaimlerChrysler merger) The abnormal return of the individual companies is observed to have decreased after the announcement of the merger during May, 1998. Hence, it can be stated that the shareholders were not confident regarding the performance of the merged company. However, the abnormal return increased after the merger, which reflected that the company had generated higher return for the shareholders than expected. Figure 4: Abnormal return post merger (Source: Blas˘ko, Netter & Sinkey, 2000b, Value creation and challenges of an international transaction The DaimlerChrysler merger) From the above figure, it can be stated that the merger was not successful from the point of view of the shareholders as the abnormal return was negative within one year of the merger. This implies that the stock has underperformed when compared to the market index, Standard&Poors and DAX30. Further, decline in the abnormal return had forced Standard&Poors to strike out DaimlerChrysler from the listed companies under the index on October 1, 1998; during this time, the abnormal return was -14.6%. Moreover, the situation was so grave that it was rumored that DaimlerChrysler was to acquire equity stake in Nissan Motors Company. During March, 1999, Nissan share fell by 10.9% as a result, DaimlerChrysler broke apart from Nissan. Figure 5: Market capitalization pre-merger (Source: Blas˘ko, Netter & Sinkey, 2000b, Value creation and challenges of an international transaction The DaimlerChrysler merger) From the table presented above, it is evident that the news of merger increased the market capitalization of Chrysler but failed to improve the number of issued shares for Daimler-Benz. Figure 6: Market capitalization post-merger (Source: Blas˘ko, Netter & Sinkey, 2000b, Value creation and challenges of an international transaction The DaimlerChrysler merger) The post merger market capitalization position of DaimlerChrysler has decreased within one and half year, which was $77.8 billion during October 1998 and it came down to $62.8 billion in March 14, 2000. As compared to the returns of S&P 500 index, the return on the share of DaimlerChrysler is strikingly distinguishable. The decreasing trend in return had continued further to indicate the fact that the merger was not successful. Analysis Further analysis of the financial condition of DaimlerChrysler can be made in order to depict the success or failure of the merger between Daimler-Benz AG and Chrysler Corporation. From the above discussion, it is found that the merged company DaimlerChrysler had failed to attract shareholders to their business for investing in their shares. The share price performance has also deteriorated after the merger, as the merged company failed to generate the expected results. The main stakeholders of the company are the employees and shareholders. Especially, the shareholders are affected by the decrease in return as they expected higher return from the merger. The notion that it was the best merger in the world came to an end when S&P 500 index strike out the name of DaimlerChrysler from its list of companies. This further influenced the confidence of the shareholders negatively. The trend in earnings per share is depicted in the figures provided below for both post and pre-merger situation. Earnings per Share (EPS) The earnings per share are calculated based on the income that is incurred in particular period of time (one year). Figure 7: EPS of Chrysler pre-merger (Source: Author’s creation) The figure depicts the fact that the EPS of Chrysler has experienced drastic changes over the period from 1991-1997. In these years, the company has encountered negative EPS due to the decrease in sales; however, it had managed to recover from the situation thereafter. Moreover, after 1995, the company has again encountered tough phase due to market condition in the car industry. Hence, the decision for the merger was appropriate for it. Figure 8: EPS of Daimler pre-merger (Source: Author’s creation) Daimler also experienced hard times during 1995-1997 due to the decline in sales in the automobile industry. Hence, the EPS of the company was affected severely during 1995. Hence, to penetrate more potential market and increase the customer base, the company has also agreed for the merger. Figure 9: EPS of DaimlerChrysler (Source: Author’s creation) Since merger, the merged company, DaimlerChrysler has experienced drastic increase in EPS till the mid of 1997; however, the value declined drastically when the sales declined. The fluctuation in the EPS did not favor the merger plan of the two companies. This affected the shareholders to a great extent as they did not obtain higher return as expected on the investment amounts. Evaluation Generally, it has been observed that merger and acquisition helps a particular industry to grow strong in the economy, with potential companies contributing towards the development of the revenue. However, in case of DaimlerChrysler, it is observed that the merger could not bring enough revenue to the economy for its development. The merger failed to make any changes to the overall development of the country because of their internal mismanagement, cultural mismatch and few more reasons. Additionally, the compensation policy and ownership structure had been the barrier to entry for the merged company in the global environment. The individual performance of the companies before the merger had been stronger than post merger situation. Nevertheless, both the companies were passing through tough time during 1997, which made them to agree upon the merger plan. The companies expected that the merged company will enable them to capture maximum portion of the global market. The international expansion would help them to increase the profit; however, that did not happen because of the mentioned reasons. The worst part of the merger was that the abnormal return of DaimlerChrysler was negative, which indicated that the share price of the merged company was very low as compared to the S&P Index. The decision of S&P 500 for not including DaimlerChrysler in its index was appropriate at that situation, due to the abnormal fall in the rate of return of the company. Hence, it can be stated that the pre-merger and post-merger situation of Daimler and Chrysler had been a lesson for the global industry. Conclusion In the contemporary world, the merger and acquisition plans have provided positive results, which have contributed towards the development of the economy. Nevertheless, the case was different with DaimlerChrysler merger story; though it was regarded as the merger of equals and most unique merger, it had failed to provide any positive result in the long run. The market capitalization and abnormal return of the merged company indicated towards the fact that the historic merger failed to make any difference in the automobile industry. References Blaˇsko, M., Netter, J. & Sinkey, J. (2000a). The Daimlerchrysler Merger: Short-Term Gains, Long-Run Wealth Destruction? 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