Master’s Thesis Financial Management

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The Failure of an International Transaction

The Curious Case of Opel/Vauxhall

J.LIU/Jiying, Liu

ANR: S401289

18-07-2011

MSc. Financial Management

Supervised by Mr. O.G.Spalt / Spalt

FEB / Faculty of Economics and Business Administration

Abstract

On November 3rd, 2009, General Motors—one of the biggest automobile manufactures, announced its final decision of going back on its Opel/Vauxhall selling agreement with Magna—Canadian auto-parts suppliers, and its financial partner Sberbank. After eight months negotiation, the merger of Opel/Vauxhall failed. Using the Opel/Vauxhall merger as a case study, this paper focuses on value and event analysis in this international transaction. This Thesis ties to answer the question: why General Motors chose to keep Opel/Vauxhall in the end?

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Contents

Section 1 - Introduction ...... - 3 -

Section 2 - Time Line ...... - 4 -

Section 3 - Industry Overview and Background of General Motors ...... - 7 -

3.1 Industry Overview ...... - 7 -

3.2 Background of General Motors and Opel...... - 9 -

Section 4 - Valuations ...... - 12 -

4.1 Discounted Cash Flow Valuation Analysis ...... - 12 -

4.2 Multiples ...... - 21 -

Section 5 - Event Study Analysis ...... - 22 -

5.1 Methodology ...... - 22 -

5.2 Data ...... - 24 -

5.3 Results ...... - 24 -

Section 6 - Why did GM choose to keep Opel in the end? ...... - 27 -

Section 7 - Conclusion ...... - 30 -

References ...... - 32 -

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Section 1- Introduction

General Motors, as the biggest automobile manufacture in North America and second largest producer in the global market, was under great stress in recent years. They had suffered from increasing costs and stronger foreign competitors like they had not seen in years. In addition, because of the raising gasoline price and economic recession led to a dramatically reduced decline in demand of its most profitable pick-up trucks and sport utility vehicles since mid-2008. Nevertheless, the unbreakable labour contract with UAW (the United Auto Workers) ensured GM had to pay its workers high wages, healthcare and pension benefits, which increased its financial pressure (Park, 2009). These trends might lead to the end of GM, and it would need to consider narrowing down its subsidiaries to deal with the cash flow and overcapacity problems. On March 4th 2009, GM announced its willingness to sell Opel and its British sister brand Vauxhall. Due to the involvement of the German government, Magna, the Canadian-Austrian auto parts maker was picked as the best bidder. After nearly 8 months of negotiation, Magna almost succeeded in this deal. However, a few days after, on November 3rd 2009, GM in a surprise decision decided to back out from its agreement with Magna and its financial partner Sberbank to sell its European unit Opel. This international transaction failed in the end.

This thesis investigates why GM decided to reconsider selling Opel at the moment the final agreement was almost reached. I proceed in three steps. First of all, we need to reach a clear understanding of the automobile industry, using a top-down approach to analyze the specific industry characteristics. GM as part of this industry, it must consider its sensitivity with the business cycle (Sandler, 2008). SWOT (Strengths, Weaknesses, Opportunities and Threats) analysis, the strategic planning method, can be used to examine GM‘s current objectives. These analyses provide us general insight into GM‘s original idea of selling Opel.

Secondly, I make use of standard valuation technique to evaluate GM‘s decision and the value of Opel. The Discounted Cash Flow Model is wildly used to evaluate a company or project‘s value. The estimated value can make further clarification if Opel was worth keeping. Using Multiples as second evaluation, combined with DCF as a comprehensive valuation. According to GM‘s behavior, I made a hypnosis that the value of Opel under GM‘s estimation was higher than then the price offered by Magna, which is 500 million euro for a combined 55 percent stake in Opel with Russian Sberbank, but they were forced by the financial distress to sell it. With the improvement of general economic environment during the negotiation period, and better financial situation within GM, GM reconsidered its Opel sale project, and made final decision of keeping Opel.

Thirdly, the stock market reaction can be also a consideration of GM in their decision to keep Opel. If the stock market is satisfied with selling, it can be seen by a positive abnormal return alongside its announcement date. So, event studies can be used to test the market satisfaction of this Opel case. As a hypothesis, due to GM‘s final decision, the shareholders of GM did not want to sell the European division.

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Because of many of the reasons described above, from the industry overview to the valuation of Opel, even with the stock market reaction, GM made its final decision to keep Opel. In order to make clear explanation to my fundamental question – ‗why GM kept Opel in the end?‘, this paper is structured as follows. Section 2 represents the detail of the deal‘s timeline and indicates the major players in this M&A case. Section 3 explains the automobile industry and the background of GM and Opel. Section 4 makes a valuation on Opel‘s value. Section 5 uses the event studies to measure the stock market reaction to the involved three companies – GM, Opel, and Magna, in this Opel merger. Section 6 examines other potential reasons and the problems GM needed to face after its pull back. Section 7 concludes and shows the limitation of our analysis.

Section 2 - Time Line

On March 4th, 2009, General Motors made an announcement that they were willing to sell their European division Opel. Later, on May 22th, 2009, Canadian auto-parts supplier Magna International emerged and expressed its interest in a deal to acquire Opel. On May 30th, the German government chose Magna as its favorite bidder for Opel, and offered to provide Magna €1.5 billion euro in bridge financing, giving it a say in what happens to the European Unit. After several months‘ negotiation, Magna made an agreement with GM that Magna would invest $726 million within the operation, while the German government announced their financial plan to help fund Opel with €4.5 billion of loans. On August 24th, GM considered whether it should remain its Opel and Vauxhall operations. But the day after, the German government put their pressure onto GM, and forced GM to reach final agreement with Magna.

On Sep 10th, 2009, General Motors' lead negotiator in Opel-Magna talks discussed the new sale of its Opel and Vauxhall units to a consortium led by Canadian-Austrian auto-parts maker Magna International. But on Nov 4th, GM announced they had backed out of a deal to sell its European operation to Magna International and planed to restructure the business itself. The deal failed.

All of events that happened during 2009, and the details of the timeline follow (Reuters, 2009):

March 4 – General Motors made the announcement that they were willing to sell their European division- Opel, and Europe‘s head Carl-Peter Forster said Opel could slash 3,500 jobs and re-launch as an independent company.

Apr 28 - Canadian-Austrian auto parts maker Magna showed their interest and presented outlines of an offer for Opel.

May 12 - Russian carmaker GAZ confirmed its interest in a joint venture with Opel and Magna.

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May 13 - Germany ruled out temporary Opel nationalization.

May 20 - GM Europe announced that three bids had been made: Fiat, private equity investor RHJ International, and Magna International.

May 22 - Magna was chose as favorite after German officials said it presented a better plan than rival bidders.

May 27 - The stock price of General Motors reached the highest value on March 27th, 2009, U.S. president Obama said he would help GM under pretty drastic changes; this gave the hope of the market make the stock price reached the peak of 3.62 dollars per share since its announcement of Opel sale.

May 30 - Germany agreed a deal with Magna, GM and the U.S. government to save Opel from the bankruptcy of its U.S. parent.

June 11 - Germany stated it was still in talks with other potential investors on Opel.

July 20 - GM received binding takeover offers for Opel from Magna, RHJ and the Chinese carmaker BAIC.

July 23 – GM would continue detailed talks with both Magna (who offered 500 million euro, for a combined 55 percent stake in Opel with Russian Sberbank) and RHJ International (who offered 275 million euro for a 50.1 percent stake in Opel).

July 24 – Chinese carmaker BAIC said that it had dropped out of the running.

July 28 - Magna offered to increase the upfront amount of investment in Opel.

Aug 11 - German Chancellor Angela Merkel presented her personal support to Magna's bid.

Aug 19 - The German government said if GM chooses Magna as the buyer, it could provide 4.5 billion euro independently, in state aid for carmaker Opel.

Aug 22 - GM board meeting could not reach an agreement on the buyer for Opel.

Aug 24 - Sources with knowledge of the deliberations said GM was still considering a way to rise funding to keep Opel instead of selling the company.

Sept 1 - RHJ improved their offer from initial 275 million euro to 300 million euro.

Sept 8 - The German government said if GM decided to keep Opel, it should present a robust business strategy to them.

Sept 10 - GM agreed to sell a 55 percent stake in Opel to a group led by Magna. Under the deal, GM would retain a 35 percent stake in Opel, with Magna and Russian state-owned bank Sberbank each taking 27.5 percent and workers the remaining 10 percent.

Sept 14 - Magna said in order to return the profit and pay back 4.5 billion euro in state aid, it would cut about 10,500 Opel jobs in Europe, mostly in Germany.

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Sept 24 - Germany would seek a "good European solution" over state aid to Opel, and did not expect the EU to block any deal, according to Economy Minister Karl-Theodor zu Guttenberg.

Oct 11 - German government committee had approved a 4.5 billion-euro state loan guarantee to back a deal by Magna for Opel.

Oct 13 - Magna and a UK labor union agreed a final stake sale closer in Opel‘s UK division. But Spanish labor unions said no agreement had been reached with Magna over jobs at Opel's factory in Zaragoza.

Nov 3 - GM surprisingly decided to go back on its agreement with Magna and its financial partner Sberbank to sell its European unit Opel. As grounds for the decision, GM cited an improving business environment and the importance of its European unit to the company's revamped global strategy.

This graph (Graph 1 the Three Companies‘ Stock Price Flotation during Event Dates) shows the three companies‘- Opel, General Motors, and Magna, stock prices change during the negotiation period. These share prices are rescaled to have an index value by t=0 (Jan 2nd 2009) of 100 from their original stock price during 2009. And Opel‘s stock prices are converted from Euro to US dollar.

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Section 3 - Industry Overview and Background of General Motors

Analyzing the automobile industry is important to understand the specific industry characters, which may impact on the automotive manufacturers‘ operation strategy. This section provides an industry overview, using Michael Porter‘s Five Force Model to analyze the industry competitive structure, SWOT analysis of General Motors, and specifying role of Opel in GM.

3.1 Industry Overview

 The role of the automobile industry in the economy

Even though compared to the overall size of OECD economics, the share of the automobile industry in terms of added value and employment is relatively small, although this is still across different countries (Haugh, Mourougane, and Chantal, 2010). According to the research, in Germany, the industry accounts for almost 4% of total output, and over 2% of employed people work in the industry. And this amount of employees do not include the people who are employed in the automobile value chain or, the automobile-related workforce, such as car financing, insurance and maintenance, steel manufacture and transport.

Because this industry is highly capital-to-labour intensive, production now has been shifted more to the non-OECD regions, such as China, and India. The share of production in these Asian countries increased from one car in ten to one car in five during 2000 to 2007, and this trend would be reinforced and accelerated by the economic crisis of 2008 (Haugh, Mourougane, and Chantal, 2010).

Overall, the industry has been facing the predicament for many years. It tried to gain the economics of scale by spurring the merger and acquisitions. For the Big Three, General Motors, Ford, and Chrysler, that traditionally specialized in producing larger vehicles in America, they were facing more problems driven by the rising oil price and financial crisis starting from mid-2008. Furthermore, additional difficulties such as high debt burdens, huge fixed capital and labour cost, pension and health commitment, added to their worries.

The business cycle is defined as fluctuations of its long-term economic activity in terms of its growth trend, and usually used real gross domestic product (GDP) as measurement. The cycle involves shifts over time between periods of economic expansion and recession (Sandler, 2008). Normally there is a close relationship between the automobile industry and the overall business cycle, which means the economic activity of the automobile industry sensitively moves in line with the cycle, especially in the US, Japan, and Germany. And the link during the economic crisis had strengthened (Haugh, Mourougane, and Chantal, 2010).

The economic recession in 2008 lead to the downturn in the automobile industry. From September 2008 to

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January 2009, the sales in most OECD countries dropped with an average of over 20%. But the small car sales fell less than other vehicle segments, and this trend continued to increase in the market share. Meanwhile, the volume of vehicle export fell dramatically at the end of 2008 and into early 2009 (Haugh, Mourougane, and Chantal, 2010).

 Competitive Structure

Here I used the one of the most efficient way to assess the competitive issue, Michael Porter‘s Five Force Model (Michael E. Porter, 1985): (1) Barriers to entry, (2) Bargaining power of suppliers, (3) Threat of substitutes, (4) Bargaining power of buyers, (5) Rivalries among existing competitors. Porter developed these five forces to determine the state of competitiveness in a market, which also influence the profitability of firms already in this industry.

Barriers to entry--WEAK

In general, large companies have a significant advantage in economies of scale, producing at lower cost per unit. This creates an important barrier to the companies who want to enter this automobile industry. In order to reach minimum efficient scale, the new entrant would have to achieve substantial market share, otherwise it may encounter a major cost disadvantage. But some academic studies (Adams and Brock, pp. 103-104) indicate that in the auto industry the companies‘ size may be not that important as usually assumed, even economies of scale in auto industry are substantial. Nevertheless, a new entrant may need a large capital investment to join the market; this still indicates that economies of scale signify a major barrier to entry.

Bargaining power of suppliers--STRONG

Suppliers of auto manufacturers have a strong effect on profitability, because profits of these manufacturers rely on the costs of inputs-labors, parts, raw materials and services. As the industry is highly labour intensive, the suppliers have strong bargaining power.

Threat of substitutes--WEAK

Compared to a particular model, new cars generally are slightly less sensitive to price, because of few real substitutes. While for a given model, the availability of close substitutes is high, suggesting the demand for a particular model is highly elastic in price (Sandler, 2008). A significant change of automobile demand will be caused by the complementary products‘ price range. For the Big Three American car producers, the mid-2008 rising fuel prices had a greater impact on them, which switched their most profitable models from big vehicles to energy inefficient pick-up trucks and sports utility vehicles.

Bargaining power of buyers--WEAK

As individual customers, they have some influence over vehicle price with a given dealer, but less power over the car producers. Customers now have more sources to get the information about the car price, which will enhance their negotiating power. But in general, even each individual customer may have little - 8 - bargaining power over manufacturers, as a whole these customers pose a weak threat to industry profit. This had a particular effect on automobile consumption, because of the economic recession in 2008, more people switched their car choices more to economy models or even stopped their purchasing, leading to a big drop in the global car sales.

Rivalries among existing competitors--STRONG

Rivalry within the industry has become much more intense. Price competition erodes profits by drawing down price-cost margins while non-price completion drives up fixed cost (Besanko, Dranove, Shanley, and Shaefer, 2007). The industry has been facing this predicament in recent years. It tried to gain the economics of scale by spurring the merger and acquisitions. Furthermore, there have been significant increasing competitions in the emerging markets, such as China, India, and Brazil, which is a very strong threat to profits.

3.2 Background of General Motors and Opel

 SWOT analysis of General Motors

Strengths

General Motors, as the biggest automobile manufacture in North America and the second largest producer in the global market, is quite successful in foreign markets. It owns several good brands, such as Buick in China, Opel in Europe, and Pontiac G8. GM also achieves top quality in rankings of the companies‘ plants and cars from J.D. Power and Associates. GM needs to confront the challenges of high production costs. Otherwise, it‘s difficult to determine if GM will triumph rivalries Honda, Toyota and Ford (Park, 2009).

Weaknesses

GM owes a large amount of health-care and pension payment to current and retired employees. This became GM‘s most glaring weakness; it placed an additional higher price on its cars and trucks sold, which resulted in additional cost between $1300 and $1600 to each vehicle GM produced. GM paid $55 billion in pensions from 1991 to 2006, excluding retirees‘ health benefits, while its dividend payments were only $13 billion (Park, 2009). This happened because of the agreement with the UAW union, using greater future pensions in exchange for lower wage hikes during the 1950s and 60s. This labour contract makes GM face large and unalterable fixed costs.

More than 1/3 of the company‘s total assets are tangible assets; most of these now are securing debt obligations. Even these can be liquidated; the levels and types of production are dictated by the labour agreement. This already happened during the Opel case, Magna needed to negotiate with all labour unions to reach the agreement of taking Opel and laying off labour. It really limits the company‘s ability to make operational strategy decisions (Park, 2009).

In addition, the management board has problems with the overall operation of the company, failed at

- 9 - supporting products‘ research and development, and could not stand up against other vendors‘ strategic attacks (Park, 2009). For example, in 2005, GM, carried more than twice the number of bands and three times the number of models than its biggest competitor Toyota, yet only spent less than 1/2 of Toyota‘s capital expenditure and R&D cost.

Last but not least, the company is facing heavy financial problems and this situation is steadily getting worse. GM needed to keep borrowing money in order to match the increasing expenses and results in the negative cash flow and large debt in the last five years. The debt-to-equity ratio, which provides insight into the extent of risk a company is exposed to, gives on analysis on GM‘s highly aggressive financial performance. Based on our calculations, the D/E ratio kept increasing from 2003 till 2008, and climbed to 23.82 in 2008 from 10.75 in 2003. Furthermore, even in the face of a decline in demand, this company‘s aggressive expansion of brands and strict labour contracts make it nearly impossible to solve the overproduction problem (Park, 2009). This company was forced by the overproduction to increase incentives to dealers by accepting paper-thin margins. All of these trends eventually led to the bankruptcy of GM on June 1st, 2009.

Opportunities

In 2008, GM reported 64% of its total sales were outside the United States, representing its strong position in the global auto market. Since the market has globalized, it was a good opportunity for GM, using new entrants‘ interests to sell its brands, and they were on the way to have enough money and effort to develop the remaining brands (Park, 2009).

Another prospect comes from the bankruptcy. As I mentioned in the industry overview, a large number of jobs are tied to the automobile industry, so in every respect the government would provide financial aid during the bankruptcy procedure. GM can use this opportunity to properly reduce and restructure its debt and obligations. After negotiating with the Federal government, GM would work through four parts to reach their restructuring plan; lower the break-even point from 16 million annual car sales to 10 million, making new labour contracts with UAW, allocating the steering committee to a portion of GM bondholders, and reducing plant operations (including selling Opel). As a result, GM would get additional federal assistance to the sum of about $30 billion from U.S government to run the restructuring plan (White House-Statements &Release, 2009).

Threats

The economic recession in 2008 made the most significant threat to the automobile industry, affecting not only GM, but also Ford, several suppliers and foreign rivals. Especially with regards to the sales of Mid-size and heavy SUVs, which dropped dramatically in the US market because of the recession. GM needed to lower its SUV production to meet the demand reduction, while the SUVs used to be the most profitable product in GM over the past decade. Furthermore, the continuing auto sales reduction also created a difficult environment for the suppliers. Numerous suppliers stopped their businesses, causing less completion among suppliers, and strengthened the barging power of suppliers. All these would lead to

- 10 - a higher material cost for GM and other automobile manufactures. (Park, 2009)

Bankruptcy, it can be an opportunity to GM, but it can also be an ultimate threat. Bankruptcy resulted in GM being liquidated, losing its brand equity. Also, in the political environment, GM would feel more pressure from government mandates and restrictions. GM needs to accelerate production of fuel-efficient vehicles as a condition to receive more government aid. (White House-Statements&Release, 2009) Under the restructuring plan, GM was forced to reduce its plant operations, which included the sale of good assets like Opel.

 Opel‘s Background

Adam Opel GmbH, which we normally call Opel, is a German automobile company, and has been a subsidiary of GM since 1929. Until 2009, it is one of Germany‘s largest vehicle manufacturers, with 23,890 employees and 100,000 related jobs (Wikipedia). Opel have produced a lot of GM‘s cars, showing that it is indispensable to GM. As a vital part of GM‘s global strategy, Opel also presents a growth demand in Europe, Asia and Russia (Patil, 2009).

During 2008, Opel‘s European sales decreased 11% compared to 2007, especially in the 4th quarter of the year the sales decline was significant at 24%, which may have been due to the economic recession starting mid-2008 (The Automotive Lyceum, 2009). Its sister brand, Vauxhall, fell nearly 14 percent in the west European market. Because of the heavy financial problems GM was facing, and shortage of cash for future operations for Opel, GM asked the German Government for a 1 billion euro credit guarantee. (Financial Times, 2008) However, this credit guarantee from the German Government did not really help Opel to survive from GM‘s financial distress. Later on the 27th February, 2009, Opel made the announcement that it was considering together with its British sister brand-Vauxhall and all related continental European factories, setting up a holding company, based in Germany. This might require €3.3bn ($4.2bn) in state support (Financial Times, 2009). This became clear five days later, on the 4th March, 2009, when General Motors made the announcement that they were willing to sell their European division - Opel, and Europe head Carl-Peter Forster said Opel could slash 3,500 jobs and re-launch as an independent company.

As summarized, GM is in a sinking industry, and the financial crisis in 2008 made GM‘s own financial distress even heavier. The main factors that I identify are the operational plan of GM is weak. Opel as a subsidiary, it is very important to GM‘s global operation strategy, but it is lacked by its parent company, not only financially, but also operationally. GM did not have really clear strategic plan to support Opel‘s further operations. All these previous analyses give clear insights into GM‘s original idea of selling Opel.

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Section 4 - Valuations

In this section, I provide an estimation of Opel‘s value by using a Discounted Cash Flow analysis. The estimated value can sled additional light of the reasons behind the final decision GM made. Here I hypothesize that the value of Opel under GM‘s estimation was higher than the price offered by Magna, which is 500 million euro for a combined 55 percent stake in Opel with Russian Sberbank, i.e.:

푃 (푝푟푖푐푒 표푓푓푒푟푒푑 푏푦 푀푎푔푛푎) + 퐺표푣푒푟푛푒푚푒푛푡 퐿표푎푛 < 푃 ( 푂푝푒푙 푡표 퐺푀)

It will turn out this hypothesis is consisted with my valuations. GM would not like to sell Opel, but forced by their financial distress and U.S government‘s restructuring. With the improvement of general economic environment during the negotiation period, and better financial situation within GM, GM reconsidered its Opel sale project, and made the final decision of keeping Opel.

4.1 Discounted Cash Flow Valuation Analysis

Discounted cash flow (DCF) analysis is commonly used for company valuation. The DCF valuation approach provides a basis for assessing the value of these cash flows, and consequently is the cornerstone of financial analysis (Sandler, 2008). By using the DCF model, we can estimate a single stream of expected cash flows, applying the discount rate, and then making decision based on a single estimate of the investment‘s enterprise value. NPV analysis is sensitive to the reliability of future cash inflows that an investment or project will yield.

Formula:

CF CF CF Terminal value Enterprise value = CF + 1 + 2 + ⋯ + n + 0 (1 + d) (1 + d)2 (1 + d)n (1 + d)n

Where: CF0 = Forecasting Project free cash flow of Opel

d = WACC

Terminal value = the present value at a future point in time of all future cash flows when we expect a stable growth rate

Calculation of intrinsic value

 Present value of Free Cash Flow

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Weighted Average Cost of Capital (WACC)

A firm‘s WACC is key to determinate its value, and also commonly used for identifying the discounted rate for new investments.

E D WACC = × K + × K × (1 − T ) D + E E D + E D C

Where: E and D are the market value of Equity and Debt

RE = cost of equity, here this is the value of CAPM

RD = risk free rate + default rate

TC = Corporate tax rate

Capital structure of Opel

The market value of General Motors‘s equity was 1954 million dollars in the 2008 fiscal year, generated by the product of the stock price (3.2 dollars per share) and 610.48 million outstanding common stock shares. The market value of debt equaled the book value of 46540 million dollars, as shown on the balance sheet. (Table 1 Estimated Capital Structure of Opel)

Because for Opel, as a subsidiary, data availability is limited, I use an approximation method to estimate the input for the capital structure weights use in the WACC formula.

During 2008, GME, the General Motors European division produced 1,550,000 cars, which is around 19% of General Motors‘s total production (8,144,000 units). I use this percentage to estimate the value of GME‘s equity and debt, getting the results of 372 million dollars equity and 8858 million dollars debt. From these 1,550,000 units GME produced, 1,474,000 were produced by Opel‘s division, which means 95.1% of GME‘s production operations were made by Opel. For this reason, it can be estimated that Opel occupies 95.1% of the GME‘s capital, so Opel has a 354 million dollars equity value and a debt of 8423 million dollars.

If we consider Opel as an independent company, not affected by the financial problems of GM, Opel should have much lower debt than previous estimation (8423 million dollars). Even more, according to the peer group, the average leverage ratio is around 2.09, lower than the leverage ratio of GM. In order to make this calculation more realistic, here I use the industrial average leverage ratio to estimate Opel‘s financial structure, which gives the result of 738 million dollars debt.

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Table 1 Estimated Capital Structure of Opel

Production Revenue % of GM ( thousands units) % of GM % of GME Opel 21,553 14.5% 1,474 18.1% 95.1% GME 34,388 23.1% 1,550 19.0% GM 148,979 100% 8,144 100%

Estimated Value Revenue Equity* Debt Estimated Debt GM 177,324 1,954 46,540 4,078 GME (19% of GM) 34,388 372 8,858 776 Opel (95.1% of GME) 21,553 354 8,423 738 *GM equity market value = common stock price at 31-12-08 * common stock outstanding (million shares) = $ 3.2 per share * 610.48 million shares = $ 1,954 million The average of peer group leverage ratios is 2,09 is used to this to estimate the debt of Opel

Estimated capital structure of Opel in 2008 Revenue 21,553 EBIT -940 CAPEX* 1,089 Depreciation & Amortization 1,812 Working Captial* 7,261 Debt 738 Equity 354 *For Working Captial here we already use the industry average to caluate the estimated value of Opel, which is 33.69% of total revenue The value of CAPEX here is calculated by the GM's CAPEX percentage, which is 5.05% of total revenue

Cost of Equity -- CAPM

The Capital Asset Pricing Model (CAPM) was used to calculate the cost of equity and hence the ratio of interest to be used in discounting all future values. The CAPM approach to the cost of equity is

KE = rRF + β(rM + rRF)

Where: rRF = Risk free rate of return

β= equity beta

(rM - rRF) = market‘s return in excess of the risk free rate, which is the market risk premium

Because Opel is the subsidiary company under General Motors, we use the US Treasury bond rate as the long-term default-free rate. The US Treasury bond yield to date on average in 2008 is 4.36%, and the risk premium here I use 5% (Titman and Martin, 2007). Here we need to consider the financial crisis happened in 2008, so the valuation should take a longer period than just 2008. Followed this consideration, our calculation extended its period to 60 months, which is 5 years stock and market return. The beta in the CAPM is the risk that the investment adds to a market portfolio, which is estimated from a regression of the security market line (SML). The equation of the SML is thus:

SML: E(Ri) − Rf = βi(E(Rm) − Rf

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Where: E(Ri) = General Motors‘ stock return during 60 months ended in Dec 2008

E(Rm) = Down Jones industrial average index return during 60 months ended in Dec 2008

And we get the beta result of 1.37 by running the regression.

Finally, I arrive at a cost of equity KE= 11.21%

Cost of Debt

From previous CAPM calculations, we get the risk free rate of 4.36%. GM, with a C rating associated with default spread, is expected to have 56.92 basis points higher than the T-bond rate (4.36%), resulting in 4.93%. While if I consider Opel as an independent company, which it‘s rating in 2008 is B (12.84 basis point), the cost of debt will be 4.49%.

Table 2: S&P Rating and Default Spreads

Default spreads S&P rating (basic points) Daimler AG BBB+ 2.27 BMW A- 1.42 Volkswagen AG A- 1.42 Adam Opel AG B 12.84 GM C 56.92

The ratings (Table 2 S&P Rating and Default Spreads) are taken from Standard & Poor‘s 2008 stock rating, and the default rates are retrieved from Standard & Poor (2008).

Opel’s WACC based on peer group

An alternative of appropriating the capital structure weight based on sales is to use industry averages. I apply this alternative in this section as well.

For Opel, a venture mainly operated in Europe, facing different government rules and loan conditions, as a result faces widely varying risk characteristics. And also from previous calculation, compared to Opel‘s peer group companies, their ratings were much better than Opel‘s during 2008. It was clear that General Motors financial distress gave the negative influence to Opel‘s stock rating in 2008. Even it may stress its affection to Opel‘s WACC rate. If our calculation only base on GM‘s bad financial environment, it would make our valuation less reliable. So we better find out another way to calculate Opel‘s WACC, rather than using the General Motors‘ capital structure to evaluate Opel‘s performance.

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Here I begin by considering the Opel‘s WACC based on its peer group.

First of all, I chose comparable companies. Here I used the Daimler AG, BMW, and Volkswagen AG; these three automobile companies‘ parent companies are all located in Germany, and all three are very important in German‘s economic environment. By using the same method I used to find the GME‘s equity beta, I get these three companies‘ equity beta based on the financial year of 2008: β (Daimler AG) = 0.984, β (BMW) = 0.919, β (Volkswagen AG) = 0.824.

Secondly, we need to get the best estimation of Opel‘s equity beta. From the first step, we have the comparable companies‘ equity beta, and we used these companies‘ market equity and debt value to find out their asset betas. The average value of these three companies‘ asset beta can be used to estimate the asset beta of Opel, which equals 1.20. By using the asset beta and equity beta equation, we work out the Opel‘s equity beta as 0.90.

Last but not least, through DataStream, we can get the average 2008 German government bond yield at 5.34% as the risk free rate and the risk premium being 5.00%. The cost of capital of 5.78% is generated by the cost of equity (9.84%) and cost of debt (5.47%) with German corporate tax rate at 29.8%.

The details of the calculation are showed in Table 3 Estimated Opel‘s WACC Calculation.

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Table 3 Estimated Opel’s WACC Calculation

Opel's WACC

1. Find comparable firm (pure play) βequity of comparable

Peer companies Risk-free rate E(Rm) E(Ri) Equity beta* German stock market Daimler's stock Daimler AG 5.34% return(DAX) return 0.98 German stock market BMW 5.34% return (DAX) BMW's stock return 0.92 German stock market Volkswagen's Volkswagen AG 5.34% return (DAX) stock return 0.82 *

2. βasset of comparable

Debt Equity Debt to equity ratio Germany tax rate Asset beta Daimler AG 58,637 31,216 1.88 29.80% 1.352 BMW 59,525 20,265 2.94 29.80% 1.139 Volkswagen AG 69,380 35,011 1.98 29.80% 1.116

3. best estimate of βasset of Opel

Asset beta 1.202

4. βequity of Opel

Equity beta * Debt to equity ratio Germany tax rate 0.90 2.09 29.80% *

5. Determine Cost of Equity and Debt of Opel

Cost of Equity Risk-free rate Risk premium Equity beta 9.84% 5.34% 5.00% 0.90

6. Estimated Opel's WACC

WACC Cost of Equity Cost of debt Debt to equity ratio tax rate 5.78% 9.84% 5.47% 2.09 29.80%

Peer companies’ WACC

In order to verify that the value of Opel‘s WACC is rational; we use these three companies‘ WACC to evaluate the reliability. As results, we get; WACC (Daimler AG) = 6.02%, WACC (BMW) = 5.33%, and WACC (Volkswagen AG) = 5.67%. Therefore generally, in this case, we don't have any separate financial information of Opel, and the financial distress hold by General Motors highly reflected its WACC

- 17 - calculation; the Opel‘s WACC calculated by the peer group of 5.78% is more reasonable. (Table 4 Peer Group‘s WACC)

Table 4 Peer Group’s WACC

Comparable firms Debt to WACC Equity beta Risk-free rate Risk premium Cost of equity Default rate Cost of debt Tax rate equity ratio Daimler AG 6.02% 0.98 5.34% 5.00% 0.10 0.02% 5.36% 29.80% 1.88 BMW 5.33% 0.92 5.34% 5.00% 0.10 0.01% 5.35% 29.80% 2.94 Volkswagen AG 5.67% 0.82 5.34% 5.00% 0.09 0.01% 5.35% 29.80% 1.98

Forecast Project Free Cash Flow

The 2008 fiscal year will be the base year for the PFCF forecasting, which will be for the next 10 years.

The equation of Project Free Cash Flow is (Titman and Martin, 2007):

PFCFt = [(Firm Revenuest) − (Cost of Goods Soldt) − (Operating Expensest)

− (Depreciation Expenset)] × (1 − Tax rate) + (Depreciation Expenset) − CAPEXt

− Change in Working Capitalt In fiscal 2008 the growth level of -17.23% was much lower than the automobile industry forecast growth rate (6.30%). Our 5 years forecasting of revenue will increase annually by the industry forecast growth rate 6.30%, while the terminal revenue growth rate will be assumed as 3.00%, because of the general economic growth. And also operational profit margin follows the peer group average of 1.06% of sales revenue. Opel‘s estimated WACC doesn‘t change over the five years estimation. Under General Motors‘ financial distress, Opel‘s working capital was negative in 2008, which compared to its peer group is unreliable. So here I use the industry average 33.69% in the first place to calculate Opel‘s working capital, and assume Opel‘s working capital will keep constant in the five years estimation, which means the change of working capital is 0.

The other part of the PFCF values are all estimated from nine automobile companies- Daimler AG, BMW, Volkswagen AG, Ford, PSA Peugeot Citroen S.A., Fiat, Renault, and AB Volvo, and described in Table 6 Estimated PFCF Growth Rate. The average value of these nine companies can represent a reasonable proxy, which is based on their different financial performances in this industry (Table 5 Estimated PFCF Growth Rate).

- 18 -

Table 5 Estimated PFCF Growth Rate

Projections Opel 2008 2009 2010 2011 2012 2013 Terminal

Revenue Growth Rate -17.23% 6.30% 6.30% 6.30% 6.30% 6.30% 3.00% Operating Profit Margin -4.36% 1.06% 1.06% 1.06% 1.06% 1.06% 1.06% CAPEX (% Revenues) 5.05% 5.46% 5.88% 6.29% 6.70% 7.12% 7.53% Depreciation & Amortization (% Capex ) 166.38% 154.82% 143.26% 131.70% 120.14% 108.58% 97.00% Working Capital (% Revenues) 33.69% 31.57% 29.58% 27.72% 25.97% 24.33% 22.80% 2008 is the base year

 Present value of the terminal value

The terminal value estimation is based on the Perpetuity Growth Model, which assume the value of free cash flows that persist into infinity in the future, with a constant growth rate. We use peer group to estimate the perpetual growth rate, and eight rivalries had been chosen: Daimler AG, BMW, Volkswagen AG, Ford, PSA Peugeot, Fiat, Renault, and AB Volvo. The average of these eight competitors‘ PFCF rate will be used for the calculation of Opel‘s terminal value. The terminal value is then discounted using a 5 factor equal to the 5-year projection period, so it will be divided by (1+KWACC) . (Table 6 Estimated Rate of Terminal Value)

Table 6 Estimated Rate of Terminal Value

Peers Volkswagen PSA Peugeot Daimler AG BMW Ford Fiat Renault AB Volvo AG Citroen S.A. Average rate GM European in Million USD dollar Revenues 93804 65273 161221 146277 77634 87467 55666 38869 6.30% 148979

Operating Profit Margin -228 -582 6905 -4130 -1360 4378 -172 2029 -4273 (% Revenues) -0.24% -0.89% 4.28% -2.82% -1.75% 5.01% -0.31% 5.22% 1.06% -2.87%

CAPEX 7627 6060 13422 6492 4638 7336 6436 1621 7530 (% Revenues) 8.13% 9.28% 8.33% 4.44% 5.97% 8.39% 11.56% 4.17% 7.53% 5.05%

Depreciation & Amortisation 4600 5254 11940 12536 5397 4141 4335 1731 10014 Depreciation & Amortisation (% Capex) 60.31% 86.70% 88.96% 193.10% 116.35% 56.45% 67.36% 106.79% 97.00% 132.99%

Total Asset-Total Liability=Working Capital 68936 22599 51835 -17311 33484 16352 28600 10834 -85340 (% Revenue) 73.49% 34.62% 32.15% -11.83% 43.13% 18.69% 51.38% 27.87% 33.69% -57.28%

Leverage ratio 1.88 2.94 1.98 2.44 2.13 2.06 1.54 1.73 2.09

2008 yearly average exchange rate: 1 euro = 1.473 dollar 1.473 2008 yearly average exchange rate: 1 sek = 0.1280 dollar 0.128

 Enterprise Value

From previous steps, as in the hypothesis I made at the beginning, the present value of Opel is 9,672 million dollars (6,566 million euro), which is higher than Magna‘s offer -- 500 million euro for 55% stake share. If we follow the industrial leverage ratio of 2.09, Opel‘s capital structure will be 6,539 million dollars debt and 3,133 million dollars equity (equals to 2,127 million euro). (Table 7 Enterprise Value) - 19 -

Table 7 Enterprise Value

Discounted Cash Flow Valuation (US '000) Base Year 2009 2010 2011 2012 2013 Terminal Revenue Growth Rate 6.30% 6.30% 6.30% 6.30% 6.30% 3.00% Revenues 21,553 22,911 24,354 25,889 27,520 29,253 30,131

Operating Margin 1.06% 1.06% 1.06% 1.06% 1.06% 1.06% EBIT 243 258 274 292 310 320

Taxes 72 77 82 87 92 95

EBIT(1-TC) 170 181 193 205 218 224 + Depreciation & Amortization 1812 1,937 2,052 2,145 2,215 2,262 2,202 - Capex 1,251 1,432 1,628 1,844 2,083 2,270 - Change in Working Capital 0 0 0 0 0 0

FCFF 856 801 709 576 396 156 Terminal Value 5,623

Valuation (USD in millions) PV of FCFF 2,883 PV of Terminal Value 4,245 + Value of Cash & Marketable Securities 2,543 Firm Value 9,672 6,566 euro in millions - Debt 6,539 4,439 euro in millions - Preferred Stock Value of Equity 3,133 2,127 euro in millions

 Results analysis

Compared to the whole automobile industry forecast growth rate, GM‘s negative growth rate of 17.32% is unacceptable. Along with previous SWOT analysis, there were many instances of bad financial performances in GM. GM can only ask government aid which the purpose of to continuing Opel‘s operation. In my analysis, I consider Opel as an independent company, which would not be affected as much as previous by its parent company GM. Under general industry overview, Opel with 6.30% annual growth will be more realistic than its parent company GM‘s -17.32% growth rate, if Opel works independently. Opel only need to reach the average rate of its main competitors to be profitable in the long-term. Even Opel‘s estimated operational margin 1.6% is much higher than GM‘s -2.87%, with CAPEX 5.05% and working capital 33.69% of its revenue. These all show the potentials of Opel, gives positive expectation of Opel‘s future development.

From the previous estimation of Opel‘s financial structure, by using the DCF model I get Opel‘s firm value of 6,566 million euros, with 4,439 million euro debt and 2,127 million euro equity, which are calculated by the industry average leverage ratio 2.09. Compared to Magna‘s estimated Opel‘s equity value, it is only around 909 million euro (calculated by Magna‘s offer – 500 million euro 500 million euro for a combined 55 percent stake in Opel with Russian Sberbank). Even plus the 4.5 billion euro government loan promised by German Government, the general amount is still 5,409 million, which is

- 20 - much less than Opel‘s firm value 6,566 million euro. For sure, General Motors would not like to sell Opel, but in the beginning of 2009 they faced serious financial distress and forced by U.S government to restructure their operation. And during the negotiation period, with the involvement of German government, General Motors faced more political pressure than financial issue of selling Opel. For the political pressure part, it will be discussed in section 6. But later, with their restructures went better, GM reconsidered Opel‘s sale and made decision of keeping Opel rather than selling it.

4.2 Multiples

In order to complement my DCF valuation of Opel, here I use a different way to exam Opel‘s value – multiples. Market multiples are one of the most common techniques in equity valuation. Multiples enable us to measure the valuation performed and classify the difference between the firm value and its rivals, as a second stage of the valuation.

In automobile industry most commonly used multiples are P/CE relative and P/S ratio. (Fernandez, 2000) P/CE ratio is price to cash earnings, established as market capitalization divide net income before depreciation and amortization. And P/S ratio is price to sales; it compares sales with the share value.

푃 푚푎푟푘푒푡 푐푎푝푖푡푎푙푖푧푎푡푖표푛 = 퐶퐸 푛푒푡 푖푛푐표푚푒 푏푒푓표푟푒 푑푒푝푟푒푐푖푎푡푖표푛 푎푛푑 푎푚표푟푡푖푧푎푡푖표푛

Where: Market capitalization equals the market value of shareholders‘ equity

푃 푚푎푟푘푒푡 푐푎푝푖푡푎푙푖푧푎푡푖표푛 = 푆 푁푒푡 푠푎푙푒푠 Where: Market capitalization equals the market value of shareholders‘ equity, and the Net Sales is taken from the company‘s income statement.

But we already know from General Motors‘ 2008 financial statement, their cash earnings were negative, so the P/CE ratio will be not part of our multiples valuation.

Furthermore, I also use the Enterprise Value to EBITDA multiple (EV/EBITDA), which gives the equation between the Enterprise value – the sum of the firm‘s market capitalization and financial debt, and the EBITA – earnings before interest, tax, depreciation and amortization (Titman and Martin, 2007).

I still use the previous peer group to estimate the industry average ratios, and it will be calculated by the average during 2007 and 2008. The calculations are as followed in Table 8 Average Multiples Calculation.

- 21 -

Table 8 Average Multiples Calculation

Peers Average Daimler AG BMW Volkswagen AG Ford PSA Peugeot Fiat Renault ratio 2008 2007 2008 2007 2008 2007 2008 2007 2008 2007 2008 2007 2008 2007 Sales 63,682 101,569 44,313 56,018 56,710 55,218 139,000 168,884 52,705 58,676 54,503 56,923 36,241 39,190 Shares outstanding ( in millions) 1,064 1,014 655 634 465 397 2,412 2,195 234 217 1,092 1,254 296 285 Price per share 27 62 22 42 243 150 2 7 12 50 5 17 19 93

Preferred shares Minority interests 1,508 1,512 6 8 2,377 63 350 1,421 134 465 747 673 457 492 Market value of equity 28,404 63,274 14,147 26,324 112,848 59,487 5,523 14,772 2,844 10,830 5,013 21,186 5,486 26,365 Financial debt 58,637 54,967 17,907 16,886 69,380 57,992 151,669 158,530 42,609 48,002 21,379 17,951 44,415 46,129

EV 88,549 119,753 32,060 43,218 184,605 117,542 157,542 174,723 45,587 59,297 27,139 39,810 50,358 72,986 EBITDA 4,958 8,938 395 1,315 6,333 6,151 - 15,542 - 7,952 - 367 1,120 2,972 3,152 - 117 1,238

EV/EBITDA* 18 13 81 33 29 19 - 10 - 22 - 124 53 9 13 - 430 59 33 P/Sales ratio 0.45 0.62 0.32 0.47 1.99 1.08 0.04 0.09 0.05 0.18 0.09 0.37 0.15 0.67 0.47 *Because of the negative values can‘t be part of the ratio calculation, the industry average ratio will be based on the positive results of each peer companies (The deduced negative values of the peer companies are highlighted green).

The estimated industry average P/S ratio is 0.45, and EV/EBITDA ratio is 33.

From previous DCF model evaluation, in 2008 Opel‘s sale revenue is 21,553 million euro and its EBITDA is 187 million euro, which give the results as following in Table 9 Opel‘s Value.

Table 9 Opel’s Value

Average Multiples for Now apply the multiples to Opel comparable Opel's number Opel's valuation EBITDA 33 * 187 = 6,119 Sales 0.47 * 21,553 = 10,129

The market value of Opel‘s equity is 10,129 million euro, still larger than the amount of Magna‘s offer. And also the estimated enterprise value is larger than the total sum amount of Magna‘s offer plus German government loan offer (5,409 million euro). So it still supports my hypothesis that the value of Opel under GM‘s estimation was higher than then the price offered by Magna. If General Motors have ability to make Opel‘s operation, they would not sell it.

Section 5 - Event Study Analysis

The main purpose of this section is to test the stock market reaction to this M&A case, by using event studies.

5.1 Methodology

The event study methodology (Higgins and Rodriguez, 2003) starts with an assumption that stock markets quickly incorporate a particular event, affecting the value of a firm. Here we have three examples, which are General Motors, Opel International, and Magna International.

- 22 -

The rate of return on the share price of firm I on day t can be expressed as

Rit = αi + βiRmt + εt (1)

2 E[εit] = 0 Var[εit] = σϵi

Where: Rit = the rate of return on the share price of firm i

Rmt = the rate of return on the market portfolio m on day t, while the market model was run utilizing a different market index for these three observations.

εit = the zero mean error term

αi = the intercept term

βi = the systemic risk of stock i.

Daily abnormal returns (AR) for the ith firm are expressed as:

ARit = Rit − (ai + biRmt) (2)

Where: ai, bi are the OLS parameter estimates obtained from the estimation of equation (1) over the estimation window. We ran the event study for each observation in our case with event windows of three days. The three day window includes the day of the announcement and the day after, and the 1 day prior to an acquisition announcement. By using a three-day window (-1, +1), it serves to predict any information leakage that may have occurred pre-announcement.

The standardized abnormal returns, SARs, are computed by dividing the abnormal return (AR) by its standard deviation. Theses standardized abnormal returns are then aggregated over the number of the days in the event window, k.

1 CAR = √ ∑n SAR (3) i k t=1 it

We use the following test to determine whether or not CARt is significantly different than its expected value, zero:

∑ AR SARs Test = ( it)/( ) (4) n sqrt(n)

Significant testing in equation (4) indicates that the cumulative abnormal return measures the average effect of the merger or acquisition on the value of the firm in the three observations. If the absolute value of the test is greater than 1.96, then the average abnormal return for that stock is significantly different from zero at the 5% level. The value of 1.96 comes from the standard normal distribution with a mean of 0 and a standard deviation of 1. 95% of the distribution is between ±1.96.

Here I use STATA to run the full event study progression, followed by Princeton Data and Statistical Service‘s instruction of STATA. - 23 -

5.2 Data

I used event study methodology to compute the cumulative abnormal returns around the time of the acquisition announcement. Acquisition dates for the observations were obtained from the Reuters, Bloomberg, and other business publications during 2009. I will focus on the major events – the negotiation of the merger, the response of institutions, and the force of German government, 24 event dates in total. The details of these announcement dates were described in the Time Line of Section 2.

In order to stay consistent with previous analysis, I selected a major local index as the market index for each participant, and collected the daily price of the market index from DataStream: General Motors—Dow Jones Industrial Average Index, Opel— DAX Index, Magna—NYSE Component Index. The time period will be from 1st January 2009 to 31th December 2009.

5.3 Results

The results are represented in the following table (Table 10 Cumulative Abnormal Returns and Significant Test). If the absolute value of test is greater than 2.576, then the average abnormal return of the stock is significantly different from zero at the 1% level. If the absolute value of test is greater than 1.96 but less than 2.576, then the average abnormal return for that stock is significantly different from zero at the 5% level. If the absolute value of test is between 1.645 and 1.96, then the average abnormal return for the stock is significantly different from zero at 10%. (Data and Statistical Service, Princeton)

In general, the stock prices of these three companies fluctuated with the M&A process, showed active reaction with the market information of this Opel case (Table 10). The following discussions are specified with each company‘s stock price reaction during the process.

Opel

Overall, the Opel stockholders were very active during the negotiation period of the Opel sale, but on July 20th 2009, General Motors announced binding takeover offers for Opel from Magna, RHJ and Chinese carmaker BAIC had been proposed. On that date, the cumulative abnormal return rate of 5-day event window became negative and with the lowest rate of -0.06%, not significant. While on October 13th 2009, Magna made final agreement with the British labor union, and in seemingly removing the last obstacle of the merger, the market gave the most significant positive response among all events. The highest cumulative abnormal return rate (0.69%) happened on the April 28th 2009, Canadian-Austrian auto parts maker Magna showed their interest and presented outlines of an offer for Opel, and this is in the 99% confidence interval. In the end, when GM made its final holdback decision, the market showed its doubts

- 24 - with 99% significant negative cumulative abnormal return rate of -0.10%.

General Motors

The reaction of GM‘s shareholders was not optimistic on the decision to sell Opel. Since the day GM made the Opel sale announcement, the cumulative abnormal return of the stock kept at a significantly negative level until the August 19th 2009, except one day March 27th 2009, on that date, the U.S president Obama made the supportive statement to GM, and gave the hope of the market. While this supportive was still weak, showed by its result of the significant test (0.01). The significant positive cumulative abnormal return rate of the stock presented on August 19th 2009, on which the German government stated, if GM chooses Magna as the buyer, it could provide 4.5 billion euro in independent state aid for carmaker Opel. The highest cumulative abnormal return of GM‘s stock was reached on September 14th 2009. On this day, Magna said in order to return the profit and pay back 4.5 billion euro in state aid; it would cut about 10,500 Opel jobs in Europe, mostly in Germany. It shows that the market agreed with Magna, that Opel is at overcapacity and needs capital restructuring to be profitable. This would also provide financial help to GM, minus its state loan. Unlike the high expectation of an agreement being reached from Opel shareholders, GM‘s stock showed an abnormal loss on October 13th 2009, the abnormal return was the lowest rate among all of event dates (-12.73%), and strongly significant. Even though the stock market was happy about the final pull back of the Opel deal on November 3rd 2009, the significant test was quite weak, so the doubts still existed.

Magna

Compared to Opel and GM stockholders relatively stable reaction, Magna‘s stockholders shows intense responded of Magna‘s offer. The magnitudes are huge compared to the other two companies‘ stock price fluctuation. On the day April 28th 2009, Magna presented their outlines of an Opel Offer, the market showed significant supportive to Magna‘s decision with cumulative abnormal return rate of 10.36%. When it was unclear that Magna would be the winner of the Opel deal (Germany said it is still in talks with other potential investors in Opel on June 11th 2009), the stock cumulative abnormal return fell to the negative rate of -6.18% and 90% significance. And later, the situation became certain for Magna, and with the support of the German government, the market kept optimism in Magna‘s stock, showing positive and significant abnormal return rate, and worried about any announcements against Opel deal during the negotiation period. Specially on August 19th, when the German government declared its fully support and even would offered 4.5 billion euro state aid to Magna as if Magna is the buyer of Opel, the Magna‘s stock prices showed 24.73% positive abnormal return and 99% significant. As a record, the stock price on that day was opened at $44.74 and closed at $46.18, even reached the highest at $46.18 per share, up to $2 per share rise because of the positive news of the merger. But on September 14th, 2009, Magna mentioned it planned to do the repayment of a 4.5 billion euro state loan by cutting Opel‘s surplus labour force in

- 25 -

Europe, mainly in Germany (10,500 people). The market worried that if the merger successes, Magna would use its own capital to clear up Opel‘s heavy financial distress, and this might harm Magna‘s own operation. According to Mr. Wolf – Magna‘s co-chief executive‘s speech on this date, the state guarantees were very expensive; Opel would have to pay double-digit interest rates on these loans. If Magna could be the owner of Opel, they were planning to pay back the loan by 2015, and only by then they can turn Opel to profit (Financial Times, 2009). After this announcement, Magna‘s shareholders really doubted the takeover was a good event for Magna‘s future development, with a negative cumulative abnormal return rate of -23.45% and 99% significance to Manga‘s stock price. The share price of Manga was opened at $42.31 per share which was already $1.17 per share less than previous trading day, and even dropped to $42.05 per share later on that event date. This concern also presented by the negative abnormal return rate of stock price in the following three event dates, even the German government would like to provide more benefits to Mange. Finally on November 3rd, 2009, GM pulled back its Opel sale decision, Magna‘s stockholders got released, with a positive abnormal return rate of 6.76%, but not significant.

- 26 -

Table 10 Cumulative Abnormal Returns and Significant Test

Opel General Motors Magna Event date Cumulative Cumulative Cumulative abnormal test abnormal test abnormal test return return return eventday 1 3/4/2009 0.22 3.86 -4.05 -2.54 -0.03 -0.02 eventday 2 3/27/2009 0.35 10.21 0.02 0.01 -0.13 -0.08 eventday 3 4/28/2010 0.69 4.33 -0.94 -2.65 10.36 7.68 eventday 4 5/12/2009 0.63 6.50 -9.45 -12.05 7.83 3.82 eventday 5 5/13/2009 0.67 27.46 -10.29 -36.85 5.81 2.55 eventday 6 5/20/2009 0.57 12.38 -9.55 -12.05 2.85 3.16 eventday 7 5/22/2009 0.64 23.32 -8.97 -13.62 3.14 4.90 eventday 8 5/30/2009 0.61 10.80 -5.57 -4.53 -1.40 -0.39 eventday 9 6/11/2009 0.36 6.93 -5.32 -7.87 -6.18 -1.86 eventday 10 7/20/2009 -0.06 -1.66 -2.43 -5.78 20.08 22.37 eventday 11 7/23/2009 -0.23 -5.52 -1.79 -10.15 21.25 35.43 eventday 12 7/28/2009 -0.27 -2.03 -1.71 -18.62 17.93 14.60 eventday 13 8/11/2009 -0.24 -4.27 -2.05 -0.57 17.52 18.19 eventday 14 8/19/2009 -0.39 -11.74 0.87 5.78 24.73 10.75 eventday 15 8/22/2009 -0.41 -22.39 0.12 2.13 2.70 2.81 eventday 16 8/24/2009 -0.42 -22.60 -0.06 -0.34 -5.18 -1.24 eventday 17 9/1/2009 -0.25 -5.93 2.89 6.52 4.32 0.57 eventday 18 9/8/2009 -0.13 -13.40 0.05 2.75 -10.54 -2.98 eventday 19 9/10/2009 -0.14 -5.15 3.34 10.68 -17.08 -12.97 eventday 20 9/14/2009 -0.20 -4.25 3.68 47.50 -23.45 -46.23 eventday 21 9/24/2009 -0.23 -15.76 0.89 20.05 -8.06 -4.86 eventday 22 10/11/2009 0.46 2.72 -9.77 -2.40 -5.00 -1.48 eventday 23 10/13/2009 0.58 34.94 -12.73 -47.81 -7.90 -6.60 eventday 24 11/3/2009 -0.10 -5.36 0.00 0.00 6.76 1.36

Section 6 - Why did GM choose to keep Opel in the end?

On November 3rd, General Motors made announcement that they had pulled back its decision to sell its European unit to Magna and its financial partner Sberbank. According to our previous analysis on the DCF model, multiples valuation, and event studies, it was understandable why GM had made this final decision. Are there any more reasons behind this?

GM‘s final decision to back out of the Magna deal and keep its European operations did not come entirely as a surprise. Actually, GM didn‘t want to give up control of its European operations, even during the

- 27 - negotiation GM showed their interest in keeping control of Opel more than 3 times, but they were forced by the spring bankruptcy proceedings after a $30.9 billion group wide loss, to initiate the sale process. Opel have been producing a lot of GM‘s cars, even in 2008 it accounted for around 18% of GM‘s total production, proving its core value to GM. As a vital part of GM‘s global strategy, Opel also presents a growth demand in Europe, Asia and Russia (Patil, 2009). Opel sales director said, on September 3rd 2009, in the first eight months of 2009, the deliveries of Opel vehicles increased more than 20,000, compared to the 2008 figure of 272,898 (Industryweek, 2009). Even with the previous NPV analysis and multiples, it‘s clear that the estimated equity value of Opel is much larger than the Magna‘s offer, and even the estimated enterprise value of Opel is bigger than the total amount offered by Magna plus the German government loan. After fixing the economic problems with help from the US government during the bankruptcy protection period in June and July 2009, GM can now shift their focus back to these very profitable European concerns.

According to sources, GM‘s business environment had really improved in the past few months during the negotiation period. Governments tried to introduce new measures, such as subsidized credit facilities, bonuses for old car replacements. These temporary measures were aimed at boosting car sales.

Furthermore, GM planned to seek aid for Opel from the angry German government and other European countries, and it would restructure its European operation.

The stock market also showed a positive reaction to GM‘s final decision. According to the event study results of the announcement date November 3rd, 2009, the cumulative abnormal return rate of GM‘s stock was positive, but not significant. And it was clear that the shareholders of General Motors preferred keeping Opel than selling it. Since the day March 4th 2009, GM announced their Opel sale project, the market showed negative reaction to it. However, the shareholders of Opel still had doubts about Opel‘s future operation, which impacted on negative cumulative abnormal return rate of Opel around the announcement date.

The concerns of GM‘s and Opel‘s shareholders are reasonable; the decision to retain Opel might come at a much higher cost than GM‘s expectation. First of all, the high possibility of the 1.5 billion euro bridge loan repayment that an angry German government might ask. Secondly, the trust GM built during the bankruptcy process that to which the distresses were transferred (Patil, 2009).

During the initial stages, the German Government put itself in a much too important position; it worked as a deal supervisor, set up the sale process, arranged talks with potential bidders, and influenced their business plans (Wall Street Journal, 2009). In the end, Magna won the support from the German authorities. It had agreed to pledge Magna over 4.5 billion Euros in the loan guarantee for Opel, plus a 1.5 billion euro bridge loan to make the deal work. These all influenced Magna‘s stock price‘s positive cumulative abnormal return rate during the first stage of negotiation, which we had discussed in section 5. Even when GM made the consideration of keeping Opel, the German Government used their weak restructuring plan as a reason to push GM into making a deal with Magna, which also effected on these

- 28 - three companies‘ stock price. In return, Magna intended to lay off only 2,500 out of 55,000 workers in Germany, while in other European countries, it would reach around 7,000 job cuts.

Under the European Commission‘s competition rules, the German Government‘s loan offer made the sale of Opel to Magna controversial, even in its initial stages. It was clear that the loan made favorable advantages on Magna beating its rival bidder, RHJ - a Belgian investment fund. And the German government was claimed that they had no right to be aggrieved in spite of the step back of GM. But these criticisms disappeared quickly; other European countries also joined the fray, hoping to keep their labor. Now the angry Germans wanted the 1.5 billion euro worth of bridge loan repayment from GM that was extended by the German Banks (Patil, 2009). Even though the relationship between GM and the German government was damaged by GM‘s final decision, the business is too big to fall. GM would still seek aid for Opel from the angry German government and other European countries, and it would restructure its European operation.

For the second potential problem, the trust GM built during the bankruptcy process, to which the concerns were transferred, GM used practical actions to resolve public concerns, specially its shareholders worries. GM used bankruptcy as an opportunity to restructure its businesses, and it worked out within one year. For Opel/Vauxhall, GM increased its own contribution to the restructuring, narrowing down its business in Europe in order to solve the problem of overcapacity. Later in May 2010, GM introduced the ―lifetime warranty‖ to all its new Opel and Vauxhall cars in Europe, which spluttered its car sales (Financial Times, 2010). These options presented GM‘s sincerity of reproducing Opel‘s history, and showed its abilities to all Opel‘s shareholders. Finally under the efforts made by GM and mainly the financial help from the U.S government, on December 19th, GM – the mother company of Opel/Vauxhall, made a successful turn around and returned to the stock market. It finished its restructuring plan successfully, and totally released the public concerns.

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Section 7 - Conclusion

This paper presents a comprehensive look into the Opel/Vauxhall case. It is divided into 4 main sections, an industry overview and SWOT analysis of GM, a valuation of Opel, event studies of corporate announcements, and additional reasons behind case‘s failure. All of these four parts give supports the final decision GM made to pull back its Opel sale.

We analyze the automobile industry‘s role in the economy, where it shows its close relationship with the business cycle and indicates the main demand decline in 2008 was caused by the financial recession starting from mid-2008. The SWOT analysis of General Motors gives us an obvious explanation of GM‘s internal operation problems, and because of these heavy financial problems GM was on its way to bankruptcy. As part of its restructuring plan, GM considered selling its European concerns — Opel and Vauxhall. And with a brief description of Opel‘s recent performance, we can take an in depth look into GM‘s consideration.

Because there is no separate financial statement for Opel, we can only calculate Opel‘s approximate free cash flow by its share of total GM production. All the financial problems GM had are transferable to Opel‘s capital structure, for example high debt value and negative cash flow. Even though here I use an approximation method to estimate the input of the DCF model evaluation by using peer group, our free cash flow estimation has its limitation, which may not reflect Opel‘s real financial operations. So in order to make our analysis more reasonable, we use Multiples as second stage of the valuation. However, the current situation makes General Motors sell Opel; both estimated values calculated by DCF model and Multiples show Opel‘s value to General Motors is much bigger than Magna‘s offer.

GM‘s stockholders are not really happy about the sale of Opel, but the concerns they have are the heavy state aid and GM‘s ability to restructure. All of these are shown by the significant positive or negative cumulative abnormal return of the stock market during the negotiation period in section 5 the event study analysis. While Opel‘s shareholders were pleased to see the deal succeed, they wanted Opel secede from GM‘s control. Due to the operational failure of recent years, GM did not have the money and energy to support Opel‘s operation. So if Opel could become a private company or had a better parent company, it would be good for Opel‘s own operation. Compared to the Opel and GM stockholders relatively stable reaction, Magna‘s stockholders showed intense response of Magna‘s offer. During the first few months of the negotiation, Magna‘s shareholders were happy to see Magna‘s takeover of Opel/Vauxhall. However, when the communication went deeper, further potential problems of Opel surfaced. Magna‘s shareholders came to doubt whether it was a good deal for Magna, and the cumulative abnormal return changed to negative and significant during this period. When GM made the announcement to its sale of Opel, Magna‘s shareholders were relieved and gave positive response to the failure of Magna.

Furthermore, from GM‘s point of view, Opel places a very important role in its global strategy. It was forced by the spring bankruptcy proceedings after a $30.9 billion group wide loss to initiate the sale

- 30 - process and also being under pressure from the German government. When GM has the ability to keep Opel, it will not sell it. After fixing the economic problems with help from the US government during the bankruptcy protection period in June and July 2009, GM now can shift their focus back to these very profitable European concerns. Magna‘s co-chief executive Siegfried Wolf also stated that GM made a good decision in keeping Opel, as he said, ‗we understand that the board concluded that it was in GM‘s best interests to retain Opel, which plays an important role within GM‘s global organization.‘

To summarize, GM‘s final decision to back out of the Magna deal and keep its European operations seemed not to come entirely as a surprise. However, it is still difficult to analyze whether it is a good decision for GM and Opel. According to the analysis of GM, Opel will be profitable later in 2011. Until now, GM had just finished its restructuring plan and successfully returned to the stock market. As for Opel, we can only wait and see.

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