Another New Continental?

July saw all the leading tyre manufacturers report lower than expected earnings as a knock-on effect of high raw material prices and lower new vehicle demand. Everyone saw this coming. The 11.3 billion euro “sneaking” bid ball bearing maker Schaeffler Group pitched to buy Continental AG was distinctly less predictable. In the days that followed Continental’s management went on the defensive and cried foul to financial regulator Bafin, making what had up till then been the largest takeover bid in Europe into the largest hostile takeover the continent has seen this year.

As soon as the bid got into the public domain it became apparent that privately held Schaeffler, which is a third of the size of Conti in terms of annual turnover, had adopted a similar strategy to Porsche in its recent bid for Volkswagen. By initially buying only 2.97 per cent of the company directly, Schaeffler neatly sidestepped the German legal necessity to inform the wider market of its position and intentions (a fact that would later become a focus of Conti’s defence plan). What Continental’s management arguably didn’t know until it was too late was that by this point Schaeffler had gained control of 32.95 per cent of Conti indirectly through various banks buying options on its behalf. By 4 August Schaeffler owned 8 per cent directly, giving the company control of around 40 per cent of Conti in total.

Immediately the industry rumour mill began churning out suggestions that, should Schaeffler be successful, it would split the old Continental (the so-called rubber divisions – car tyres, truck tyres and ContiTech) from the new (the ESC, sensor divisions). This theory suggests Schaeffler would use the capital raised as a way of financing the roughly 11 billion euros of debt Conti accrued buying Siemens VDO. However, Schaeffler Group President and CEO, Dr. Jürgen Geißinger said: “Schaeffler will not break up Continental AG. The company will continue to be listed on the stock exchange and, if possible, remain in the DAX index. Continental will remain an independent company headquartered in Hanover.” Geißinger later published words of support for the management and strategy of Continental.

Nevertheless, bearing in mind Schaeffler’s takeover track record (Dr Geißinger led the acquisition of competitor FAG and sacked virtually the entire management team in the process); one can understand the wariness of Continental’s top executives to take the takeover aggressor’s words at face value. In the immediate aftermath of Schaeffler’s initial bid, Conti chief executive, Manfred Wennemer described the approach as “unlawful” and even “arrogant.” From his point of view there was no “coherent rationale for the merger.”

Boardroom unrest

At this point the outwardly straightforward war of words obscured some senior managers’ differences of opinion and a boardroom split began to appear. This issue appeared to centre on Continental chairman, Hubertus von Grünberg, and chief executive Manfred Wennemer. While Wennemer was obviously ready to fight, von Grünberg appeared to be resigned to the possibility that the deal was already as good as done. Speaking in an interview with Germany’s Manager Magazin – which was leaked to the press a day before Continental held a supervisiory board meeting to discuss the company’s response to Schaeffler’s approach – von Grünberg said Conti should not waste resources fighting Schaeffler, adding he would like to avoid a “scorched earth” policy. At that time Frankfurter Allgemeine Zeitung went as far as saying that CEO Manfred Wennemer would be willing to step down in order for management board member Dr Karl-Thomas Neumann to take his place. Continental’s press department denied that this was the case.

Some sources stoke the fires of discontent, raising questions about von Grünberg’s past work for Schaeffler and previous Conti takeover suitor GCG. To the best of T&A’s knowledge, Hubertus von Grünberg ceased working for GCG when it announced it wanted to buy Continental in 2006. He resigned from Schaeffler’s advisory board 10 years ago. However, the fact that von Grünberg told journalists that struggling against the Schaeffler bid could result in Continental’s strong management team fighting themselves out of a job probably didn’t help things.

When car manufacturers VW (both Continental and Schaeffler’s biggest customer), Porsche and GM all published comments urging Conti’s executives not to struggle too much, the boards had no choice but to soften their rhetoric and adopt a more conciliatory tone. In the end, while they clearly want to hold out for a better offer than the 11.3 billion euros on the table, a joint supervisory and executive board meeting on 23 July concluded that an agreement with Schaeffler was “desirable.” The executive board was then duly authorised to negotiate with Schaeffler with the aim of either obtaining a better premium for shareholders or limiting Schaeffler’s stake to around 30 per cent.

Time to visit an analyst?

Schaeffler says the whole rationale behind its bid is based on possible long-term synergies with Continental. The key technologies the ball bearing maker is after relate to the next generation of fuel saving technology: “Schaeffler’s strengths are in the fields of mechanical, mechatronic and precision components for engines (powertrain), transmissions and chassis. Continental’s strengths are in the fields of electronic and software systems for engines, chassis and interiors…The expansion of joint, coordinated projects will…enable the two companies to profit to an even greater extent from core areas of future development of the automotive industry like the ‘energy-efficient car of the future,’” Dr Geißinger explained.

However, not everyone believes Schaeffler’s intentions are this transparent. MorganStanley analysts initially described Schaeffler as more of a financial buyer than strategic “given the lack of similarities in their business activities.” Their bearish assessment is that a full takeover is “not financially feasible,” meaning they view a Continental break-up of as more likely than Schaeffler is letting on.

At the time German radio station NDR1 reported that Schaeffler Group is likely to wait until 2010 before it takes full control of Continental AG. Their view is Schaeffler will wait until the lion’s share of the loan arrangement Conti racked up to finance its Siemens VDO acquisition expires (around 2010). According to the report, this would also mean Schaeffler would have to re-negotiate conditions before the loans expire, and in the current conditions would not get such a good deal. This much is clear: Schaeffler’s takeover wheels are very much in motion and only the best tyre/brake package will be able to bring the momentum generated by this deal’s bearings to a halt.