Fiat Chrysler Undervalues Renault, but So Does the Market
With the French government more focused on jobs than shareholder value, it won’t be easy for Renault to get better terms in a merger
There is a valuation conundrum at the heart of the Fiat Chrysler FCAU -1.25% - Renault RNO -0.63% megadeal: The terms proposed by the Italian-American auto maker Monday seriously undervalue its French peer, but that doesn’t mean Renault shareholders can get a much higher price.
Fiat Chrysler’s approach is opportunistic in its timing. It has offered a merger of equals—a 50-50 combination of the two companies’ equity, after paying €2.75 billion ($3.07 billion) to its own shareholders—at a rare point when its equity is worth more than Renault’s. The only other period in the past 15 years when this was the case was just after the financial crisis, as it became clear what a good deal Fiat got when it bought Chrysler out of bankruptcy.
The Italian-American car maker has been enjoying the fruits of the American truck boom through its Jeep and RAM brands. Meanwhile, Renault’s alliance with Nissan Motor has been on the rocks since the arrest of both companies’ former boss Carlos Ghosn in Japan last November, eroding their market values. Neither trend can be expected to turn imminently, but on a multiyear view the roles could easily reverse again.
The other reason why Fiat Chrysler’s proposal undervalues Renault is that it takes no account of Renault’s 43% stake in Nissan. This roughly $12 billion investment cements the alliance but ties up unproductive capital. The French company therefore suffers from a big stock-market discount compared with the theoretical sum of its parts. Marking the Nissan stake to market, Fiat Chrysler’s offer values Renault’s operations at just $4.1 billion, calculates Smartkarma analyst Travis Lundy—little more than a year’s operating profits.
In practice, what this means is that if the merger goes ahead, Fiat Chrysler gets a 43% stake in Nissan at a huge discount. If this stake is sold, or else leads to a full merger with Nissan once the Japanese company gets its house in order, the discount will unwind—to the arguably unjustified benefit of Fiat Chrysler’s shareholders as much as Renault’s.
The problem for Renault is that the proposed merger with Fiat Chrysler remains financially and strategically compelling. The cost savings will be shared—hence the jubilant share-price reaction—and many analysts see the initial €5 billion estimate as conservative.
Renault’s prospects as a standalone company look dim by comparison. A deal with Nissan won’t happen for some time, if ever. The French company could sell down its Nissan stake, unwinding the sum-of-the-parts discount itself, but this would be an odd financial strategy for a company controlled by the French state to pursue. Nissan’s stock is also close to a 6½-year low, so it isn’t a great time to sell.
In any case, these alternatives may be moot: The French government, which owns 15% of Renault and 30% of voting rights in big decisions, seems eager for a deal. Its priority is preserving jobs and factories, not shareholder value. President Emmanuel Macron likes the concept of European champions. He previously pushed a big Franco-German rail merger that was eventually blocked by the European antitrust regulator.
If the French state weren’t so involved, there might be an opportunity for an activist investor to agitate for a higher price. As it is, independent shareholders should still push for a better valuation while accepting that it won’t approach anything like the sum of the parts. Renault stock is currently trading about 2% above the price implied by Fiat Chrysler’s merger terms.
One quirk of this deal that investors can celebrate, if it goes through, is that it will hand the French state just 7.5% of voting rights in the new vehicle. Fiat Chrysler-Renault would be freer to act in shareholders’ interest than Renault ever will be.