I’ve been poking around the Chrysler deal with members of our Best and Brightest. I asked one of them to explain the original Chrysler deal. I’m not completely sure what the hell he’s talking about in several places, but I get the general gist. And this information needs to see the light of day. So, here we go . . .
The agreement known as the “Contribution Agreement” found in the 6-K filed at the SEC by Daimler around 5/14/07 explains in painful legalese what was to occur and defined the capital to be funded upon closing the deal. The purpose of the agreement: protect both sides and to provide a financing commitment so that when Daimler’s Board of Directors signs off on the deal their backside is protected. It should be noted that the contributions to C-Auto and C-Finco changed from what was described in the Contribution Agreement once the loan money was raised and the deal officially closed.
C-Auto actually received more money than initially intended and C-Finco received less. I don’t think there is any real subplot to this whole thing. Cerberus hoped they were getting Chrysler cheap by only paying $5.4B for a company that Daimler paid $38B for in 1998. Some analysts suspect that they were more intent on buying C-Finco and if they could keep C-Auto going that would enable C-Finco to become profitable.
Furthermore, many (including myself) suspect they were hoping to merge C-Finco with GMAC to create a massive auto lender and then eventually sell the combined company to a large bank.
When buyers look at buying finance companies they tend to value them based on a multiple of book value. I believe that $5.4B is close to the value of C-Finco implying that Cerberus only paid 1× book value [typical finance companies such as GMAC or FMCC are structured with assets equal to 8-10× equity or in C-Finco's case about $40B-50B].
By coincidence they also paid 1× BV for GMAC. Of course, if your book value is overstated due to pending problems with your assets (i.e., loan charge-offs), that means you might have overpaid.
That is exactly what happened with GMAC. They and GM paid $14.5B for GMAC. In this case, Cerberus paid $7B to GMAC and GM retained a 49% interest valued similarly even though no cash left GM. GMAC’s mortgage business, Rescap, had a $7B BV and GMAC’s auto loan business had a $7.5B BV. Does this sound familiar?
Contribution Agreement—essentially like a merger/acquisition document except that what is happening is a legal and operational separation from the parent company, Daimler. This involves legally moving companies around and creating a new corporate structure. The end result being that a new holding company, Chrysler LLC, is created that now controls/owns 3 major operating companies: Chrysler Auto, Chrysler Financial, and Owner LLC (holding co. for the Auburn Hills HQ; see below for further explanation of HQ story).
Step 1 – Contribution:
Daimler contributes the operating assets into Chrysler LLC
Cerberus contributes $7.2B cash (also an asset) into Chrysler LLC
Step 2 – Capitalize the new Chrysler companies:
A. Equity capital contributed to the new operating companies:
- $5.4B leaves Chrysler LLC and moves to C-Auto
– $1B leaves Chrysler LLC and moves to C-Finco
– $950M leaves Chrysler LLC and is distributed to Daimler
B. Debt capital contributed to the new operating companies: (the closing agreement doesn’t go into all these details but does verify that the banks have committed funding to the deal)
- $10B in 1st lien loans is raised directly by C-Auto
– $2B in 2nd lien loans is committed by the banks to C-Auto but in Aug 2007 Cerberus & Daimler assume the funding of this loan [Daimler $1.5B, Cerberus $500M]
– $4B in 1st lien loans is raised directly by C-Finco (this information would be found in a separate loan underwriting for C-Finco)
– $36B-$40B in ABS bonds is refinanced and newly issued by C-Finco
C. Auburn Hills HQ is contributed by Daimler as a separate asset placed in another holding company, known as Auburn Hills Mezzanine LLC, underneath Chrysler LLC.
The asset is known as Owner LLC. Cerberus then contributes $105M to Owner LLC that already holds $225M in cash, the result of the mortgage issued. Then $330M is paid not to Cerberus but to Daimler.
It should be noted that the new $225M mortgage is exactly the same amount of debt that was on the building when owned by Daimler. This mortgage was then in the form of a bond (with a 12+% interest rate) known as Auburn Hills Trust that Daimler paid off prior to the sale of Chrysler.
The interest rate was high because these bonds were issued during the 90s when Chrysler was in trouble again. The Auburn Hills Trust bondholders in a bankruptcy of Chrysler were collateralized by the HQ.
It is still under the Chrysler LLC holding company structure, just as C-Finco is. Often corporations will set up a separate holding company for its real estate due to the legal and financial issues surrounding RE. C-Auto and C-Finco are separate companies (no different under Daimler) which is a traditional corporate structure. But, whereas normally a company will sell RE and then stream the proceeds to where it is needed, this is not the case this time.
The structure provides Cerberus with the option to sell the building and stream the cash up to the investors without violating the bank loan covenants. Bank loan covenants normally restrict the movement of both assets and cash in order to preserve the value of the company for the lenders.
Think of keeping everything in one box only. In this case the bank lenders were stupid enough to let this asset get separated from their collateral either at C-Auto and/or C-Finco. HQ was initially valued at over $700M implying a $500M cash payment might have been realized in a building sale. Thus the return on investment near the beginning could have been $500/$7200 or 7% which is better than nothing.