FCA Problems Won’t Be Solved By Magneti Deal.
“The results are solid but fall clearly short of the very strong results from competitors”
Reports Fiat Chrysler Automobiles (FCA) was about to sell its parts making subsidiary Magneti Marelli to Samsung of Korea for $3 billion were welcomed by analysts, but FCA’s huge problems won’t get close to being solved because of the deal.
FCA’s debt and profitability problems, coming under the spotlight as its most important markets like the U.S. weaken, won’t be resolved by a deal of this size. These two ongoing problems also make less likely CEO Sergio Marchionne’s long-term ambition to merge with another mass car manufacturer.
Earlier this week Bloomberg reported Samsung Electronics is in advanced talks to buy all or some of Magneti Marelli, mainly because of its lighting, in-car entertainment and telematics business.
Samsung and FCA were both silent on the report.
Last month FCA reported adjusted operating profit in the second quarter rose 16 per cent to 1.63 billion euros ($1.83 billion), as expected by investors. The trouble is, most other big car makers easily beat analyst’s targets so FCA didn’t look good in comparison.
“FCA’s Q2 results met expectations. Considering that all other (manufacturers) beat expectations during the second quarter reporting so far, results are a bit disappointing. The results are solid but fall clearly short of the very strong results from competitors,” said Commerzbank analyst Sascha Gommel.
Citi Research said FCA’s inability to generate cash was a worry, not to mention the size of its debt.
“All should be fine if sales continue to grow, but if we see a slow-down then FCA will see net debt rise faster than its peers,” Citi analyst Michael Tyndall said.
No game changer
As for the possible Magneti Marelli deal, Tyndall said this isn’t a game changer.
“A sale, if it happens, could see a meaningful reduction in FCA’s net debt as well as spotlight Marchionne’s skill as a prolific dealmaker. Nevertheless, FCA would still be left with an estimated 2 billion euros ($2.2 billion) of net debt, more than 7 billion euros ($7.8 billion) of negative working capital and a greater than 10 billion euro ($11.1 billion) gap in its pension funding at a point in the cycle where volume growth is slowing,” Tyndall said.
Most experts expect sales growth in the U.S. market for cars and light to slow this year, while the Brexit news probably won’t help Europe.
Tyndall said the possible deal doesn’t change the fact FCA has the most stretched balance sheet of the big car makers and hasn’t produced positive free cash flow in five years.
Reuters Breaking Views analyst Antony Currie described the possible deal as “tinkering” which won’t make much difference to the troubled company.
“Fiat holds lots of rainy-day cash, and its gross debt is some 25 billion euros ($27.8 billion). Last year, the cost of servicing those borrowings sucked up 90% of earnings before interest and taxes. (the proposed deal) would reduce the pressure, but not by much. The company would also lose a slug of income that helps cover interest payments. In addition, FCA would be parting with one of its few units embedded in the growing market for connected and autonomous cars,” Currie said.
Currie pointed out that FCA’s profit margin before interest and tax in the second quarter was 5.8% compared with GM’s 9.3%.
“Moreover, there are signs that the profitable U.S. market may be peaking. That underlines Marchionne’s challenge. He has been pushing openly for a merger with a rival since last year, but the sorry state of Fiat Chrysler’s performance is hardly enticing,” Currie said.
CA does have its defenders though.
Morgan Stanley was much more upbeat about FCA’s prospects, saying, before news of the possible Magneti Marelli deal, the company was its top pick in U.S. autos. It liked FCA’s U.S. decision to move away rapidly from making cars and concentrate on Jeep, Ram and Dodge SUVs, Minivans and Pickup trucks.
This might also lead to Marchionne’s coveted takeover bid one day.
“We believe Jeep, Ram, Dodge Durango and the minivans to be highly profitable vehicle lines. We believe this collection of businesses and brands would be seen as attractive by a variety of competing global auto firms who lack exposure to such segments and brands,” Morgan Stanley analyst Adam Jonas said.
Marchionne said last year the automotive industry is a shareholder value destroyer. This can only be solved by more takeovers and mergers to reduce costs.
FCA then tried to merge with General Motors but that crashed and burned. Since then, investors suspect Marchionne has been seeking a merger partner to attain the scale he craves to make FCA a viable global contender. Marchionne recently hinted that despite being spurned by GM, Ford, Volkswagen or Toyota might make suitable merger candidates. PSA Group of France is also mooted as a likely contender.
Investment researcher Evercore ISI, a long-time admirer of Marchionne’s chutzpah, said the reported Magneti Marelli deal would be a small positive for FCA.
“FCA’s relatively elevated debt position remains our largest concern, particularly as the cycle progresses. Hence, we view deleveraging as a small incremental positive,” Evercore ISI analyst Arndt Ellinghorst said.