Based on the HBS Case “Chrysler’s sale to Fiat,” HBS No. 211-013 and reading beyond the
1. Was the approval of the Chrysler sale to Fiat by Judge Gonzales simply one in a long
line of quick 363 sales controlled by the principal lender (the government) or did it set
a troubling new precedent involving government distortion of the bankruptcy process
to bail out a major industrial company? In other words, was this an ordinary deal or a
fundamentally flawed deal?
Critically discuss the above question.
Based on the HBS Case “USX Corporation,” 1996, by Gilson and Cott, HBS No. 9-296-050
and reading beyond the case.
2. What kinds of companies is tracking stock least appropriate?
3. Why would a stock break-up reduce information costs?
Based on the HBS Case ONLY “Finansbank 2006”. HBS No. 208-149.
4. Critically discuss the factors that contributed to the success of Finansbank prior to the
5. Calculate the following Finansbank profitability ratios prior to the NBG offer: return
on average assets, return on average equity. Briefly comment on how Finansbank
profitability ratios compare to averages of US Banks.
- Chrysler has been an icon for America’s auto industry. Therefore, the sale of Chrysler at the time when the whole auto industry is facing a crisis is no ordinary deal. The coverage and attention given to this deal justifies the importance it holds in the U.S Auto Industry. Chrysler has formally filed for Chapter 11 of Bankruptcy with a goal of having a deal with Fiat or highest bidder and exit bankruptcy. A small group of first-lien lenders claimed that the deal is illegal and it is taking advantage of U.S. Bankruptcy Code’s section 363.
Structure of the deal –
There will be a newly formed company New CarCo Acquisition LLC (New Chrysler) which would serve as an alliance entity based out of Delaware. Chrysler will transfer all its operating assets and in turn, New Chrysler will pay $2 billion in cash and take certain of its liabilities. Fiat would be involved in transferring technologies and its markets with New Chrysler and the deal was estimated to be about $8-10 billion in value. On April 30th Chrysler filed for Chapter 11 of Bankruptcy with the proposed transaction with Fiat as 363 sales. The first lien lenders held on to $10 billion secured loans to Chrysler and they struggled to the point of requiring Troubled Asset Relief Plan (TARP) aid, and they opposed to any reduction of less than $6.9 billion in remaining Chrysler’s claim.
Some of the lenders accepted the deal made by Chrysler and U.S. Treasury while some lenders held out (non-receiver of TARP funding) who called themselves the Committee of Chrysler Non-TARP Lenders (Non-TARP Lenders). Non-TARP lenders raised few objections related to the sales. Judge Gonzalez had to look into the matter whether Chrysler has presented a good business plan to sell its assets, assess the fairness of bidding process, whether assets can be sold free of all liens and lenders and objections of Nom-TARP lenders.
Judge Gonzalez’s decision –
The judgment passed by Judge Gonzalez was simply on in the long line of quick 363 sales controlled by the principal lender (the government). According to section 363, approval of creditors is not required for sales of debtor’s assets. To sell the assets there must be business justification which has been based on the rapidly decreasing value of assets. Chrysler was losing $100 million for each extra day it spent in bankruptcy which was less than what Non-TARP lenders liabilities ($42.5 million). Chrysler has been seeking various alliances in last 2 years and Fiat was the option currently viable. The evidence of Chrysler’s search for an alliance, Fiat deal was the last option left to save the company, closure of operation to save resources, absence of any competitive bids and unavailability of financing from other sources(Smith 2009).
A 363 sale generally proceeds by means of controlled auction instead of court-approved valuation of assets. The court establishes bidding procedures to ensure the proper advertisement of auction etc. In the case of Chrysler, all of the above rules were followed as against the Non-TARP lender’s contention. Moreover, it was clear from the reorganization plan that it was not sub rosa organization as it does not benefit any constituents of owners or creditors of debts. The claim made by non-TARP lenders that it violated APR by placing junior claim above senior claim. New Chrysler planned to give 55% of the equity to entities affiliated to United Auto Worker (UAW) who have been unsecured creditors. Since New Chrysler is a new entity formed by acquiring Chrysler’s asset; it can distribute its asset to any entity and in any manner disregarding priority of claims. After the liquidation expense, first liens of lender were expected to receive $6.9 billion for senior claims.
Another claim made by lenders was regarding the role of government in this sale which was questionable. The question of government’s authority to act as pre- and post-bankruptcy lender to the Chrysler is irrelevant to the Non-TARP lenders. According to analyst and other industry groups, if the transaction has not been closed it will result in the loss of 38000 employees of Chrysler, 23 manufacturing sites and 20 depots will be shut-down(Ball 2009). More than 3000 dealers of Chrysler will be affected and it will result in loss of billions of dollars in health and pension benefit for current and former employees of Chrysler
Another issue that was raised was U.S. treasury’s use of TARP fund for the automaker. Whether the Obama administration is eligible to use automobile companies as “Financial Institution” eligible to receive TARP funds. According to the sale agreement, Non-TARP lenders were doing much better if the sale goes through then liquidation. The clearance on the use of the term “Financial Institution” was later clarified by the government as any institution established or regulated under the laws of the United States or any states and having significant operations in the U.S.
- Tracking Stock – It is a stock issued by a parent company whose performance depends on the particular division. The financial statements of that division are prepared separately and dividends on the stock are determined on the basis of performance of that division. It does not represent or require a change in any business structure (Giddy 2003). Tracking stock is generally issued by companies having many divisions and with the intent that investor can take a share of their interest in a division. This stock also gives rises to issues like equity-based compensation structure, governance, conflict of interest and management of liabilities.
Tracking stock is not suitable for companies that are small in size and having different businesses as preparation of financial statement and accounting of separate businesses will incur additional cost to the division. Tracking stock is also not suitable for companies having a single Board of Directors for the whole group. Since Board of Directors will be responsible for the whole group and shareholders of tracking shares will have limited voting rights, any situation where directors are not held directly responsible via voting rights of shareholders is a cause of concern. It is also not suitable for parent companies facing a difficult macro-economic situation (McGough 1999). If the company is facing hard times, conflict can arise between shareholders of the targeted company and shareholders of the parent company. Lastly, tracking stock is not suitable for companies having an interlinked portfolio of diverse businesses as stock will not able to realize its full synergy.
- Information costs are related to the assessment of investment or financial activity and are used to determine the profitability of an investment. Information costs are expenses for time and money spent to obtain the necessary information. Information costs are generally used in due diligence, decision making, research, and problem-solving.
A stock break-up would reduce information costs. It is widely believed that share splitting results in increasing the valuation of the firm which cannot be captured in a single stock because of a reduction in information asymmetry because of the newly available information in the market. This capturing of value is reflected in the stock price of the target stock (Pomatto 2019). The targeted stock would represent a different class of share from the parent company. This would track the performance and profitability of the distinct business of the parent company. Earnings and dividends of this business will be reported separately and the assets and liabilities used in the business will be formally allocated to the business. This will greatly reduce the time and money required for due diligence and will result in a reduction of information cost
USX was both a steel company and an energy company. After the creation of targeted stock, it will have 2 classes of shares – Steel Company (parent company) and Energy Company (target stock). For the investment analysis purpose, it would be covered by an energy analyst who might not know much about steel and steel analyst who might not know much about the energy business. An analyst might be expert about parent company but lack expertise of the operating of the subsidiary business. This would result in better coverage and research of company stock and will result in the reduction of cost as a number of analysts following a particular company will increase and it will subsequently increase the quality of information available in the equity market. It also decreases the cost of research because if two divisions of related business need to be valued, an analyst valuing the company needs to produce the results for both the divisions in order to correctly value the company. Splitting of results saves both time and resources needed to value the equity. Also, the separation of the subsidiary’s projects will reduce the information asymmetry between the manager of the business and investors. This will decrease the private information not available in the market and use of resources to obtain those resources.
There would only be one Board of Directors which would be responsible for decision making for all businesses. The incentive will be linked to business unit performances and profitability. Thus, any key decisions on capital budgeting or dividends will be decided by them. This will ultimately reduce the cost of decision making for the division. Investors looking for investment opportunities will look for the divisional performance rather than the parent performance for investment opportunities. It would result in saving of taxes as targeted stock is simply the creation of a new class of shares.
- Finansbank’s success lies in their business approach towards customers. Unlike other banks that focussed only on industrial activities and were run by business group requiring an in-house bank, Finansbank focussed heavily on providing financial services to its customer. In addition to providing loans to customers, they also provided cash management services to corporate customers. Sensing an opportunity in retail banking and analyzing the needs young growing and underdeveloped population, they provided financial services like a credit card, quick loans, etc. which resulted in high growth numbers for the bank. The bank developed instant credit system of providing loans quickly. It also built a credit cards business which other banks were slow to adapt or reluctant to serve. They also invested heavily in its retail branches and IT infrastructure to support the growth.
Finansbank followed team approach. Managers sat with their team and allowed an open and personable relationship with employees. The relationship between the founder and other subsidiaries were quite amicable. Oyagezin (founder and chairman) invested in the development of the professional and personal relationship of bank employees. Each employee felt the responsibility and sense of belonging to this growing organization and salary growth was never an issue among employee.
Finansbank strategic outreach after the 2001 crisis to its old and new customer also helped them grew like never before. While others bank struggled with the crisis, they diverted their funds from profitable businesses to their Turkish operations to provide the liquidity and newer funds for loans.
|Return on Average Assets (ROAA)||3.15%||1.34%|
|Return on Average Equity (ROAE)||35.34%||13.61%|
|Net Interest Margin||5.59%||3.56%|
Three common measures to determine bank’s profitability are –
Net Interest Margin is used by the banks that use funds from depositor and interest margin is between what is earned from the borrower of funds to what is paid to the depositor of the fund. Finansbank has a higher net interest margin than U.S. banks. This can be attributed to many reasons. First, the major source of funding for Finansbank was customer deposit which earned zero or lower interest rates. Second, after the 2001 Turkey crisis, Finansbank gave loans at a higher interest rate for the additional risk undertaken and required the firms to funnel 70 percent of their cash in low-interest paying deposits. This resulted in higher interest incomes as compared to other banks.
The Return of Average assets signifies how well the company has used its assets to generate profits. This is measure is important for the operational efficiency of the bank. Taking advantage of Turkey’s under banked population; Finansbank grew its retail banking operations. In 2005, retail loans grew by 225% and Finansbank’s loan portfolio grew by 42% as compared to previous years. Finansbank held nearly 7-8% of Turkish market for home and car loan. This resulted in the growth of interest income by 40% as compared to previous years. Credit card business also grew for Finansbank resulted in further profits.
Return on average equity is another profitability ratio based on shareholder’s equity outstanding. It is driven by profitability (net interest margin), operating efficiency (ROAA), and leverage (Debt/Equity). Finansbank offered loans at higher interest rates and stricter covenants. This resulted in higher margins and better profitability as compared to U.S. Banks. By 2005, bank had assets close to $5.3 billion in corporate and commercial banking segment. Apart from project financing, bank also provided products like working capital loans, letters of credit etc. added income to the bank. Finansbank effectively utilized the cross subsidiary securitization. Finansbank (Holland) N.V. allowed the faster growing subsidiary to rely on its securitization of riskier liabilities. By 2006, bank expanded into 10 countries with major operations in Netherlands, Switzerland, Russia and Romania. In order to support growth, bank also raised capital from sources including bond issuance and international sources. In 2004, it was the first Turkish issuer of subordinated debt when it raised $200 million in 10 years bond showing the leverage used by bank to support its expansion.
- Pomatto 2019, The cost of Information, http://tamuz.caltech.edu/papers/cost_of_information.pdf
- Giddy 2003, Tracking Stock, http://people.stern.nyu.edu/igiddy/trackingstock.htm
- Smith 2009, Chrysler set to emerge from bankruptcy, https://money.cnn.com/2009/06/01/news/companies/chrysler_bankruptcy/index.htm?postversion=2009060113
- Ball 2009, Chrysler sold to Fiat-led “New Chrysler” after historic court proceedings, https://www.jonesday.com/chrysler-sells-assets-to-fiat-led-new-chrysler-after-unprecedented-court-proceedings/
- McGough 1999, Popular Tracking Stocks Include Some Drawbacks, https://www.wsj.com/articles/SB92180260669904737
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