Miller Buckfire & Co. Presentation Presented by: Durc A. - - PDF document

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Miller Buckfire & Co. Presentation

Presented by: Durc A. Savini, Managing Director

May 15, 2007

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Automotive Parts Supplier Industry Structure

___________________________________ (1) Refers to the Chrysler Group, a reporting segment of DaimlerChrysler AG.

Original Equipment Manufacturers (“OEMs”) Domestic (“Big 3”):

− GM, Ford, Chrysler(1)

Japanese

− Toyota, Honda, Mazda, Mitsubishi, Isuzu, Nissan, Subaru

German

− Mercedes, BMW

Korean

− Hyundai

Aftermarket

• OE Service Parts

Organizations

• Retail Channel and

Repair Shops (“Jobbers”)

North American Parts Supplier Industry Parts Supplier Endmarkets

Raw Material Providers Commodity sub- component providers Tier Three Suppliers Parts / Components Manufactu- rers Tier Two Suppliers Supply Chain Managers Systems Integrators Tier One Suppliers Original Equipment Manufacturers (“OEMs”) Domestic (“Big 3”): − GM, Ford, Chrysler(1) Japanese − Toyota, Honda, Mazda, Mitsubishi, Isuzu, Nissan, Subaru German − Mercedes, BMW Korean − Hyundai Original Equipment Manufacturers (“OEMs”) Domestic (“Big 3”): − GM, Ford, Chrysler(1) Japanese − Toyota, Honda, Mazda, Mitsubishi, Isuzu, Nissan, Subaru German − Mercedes, BMW Korean − Hyundai Aftermarket

• OE Service Parts

Organizations

• Retail Channel and

Repair Shops (“Jobbers”) Aftermarket

• OE Service Parts

Organizations

• Retail Channel and

Repair Shops (“Jobbers”)

North American Parts Supplier Industry Parts Supplier Endmarkets

Raw Material Providers Commodity sub- component providers Tier Three Suppliers Parts / Components Manufactu- rers Tier Two Suppliers Supply Chain Managers Systems Integrators Tier One Suppliers , Kia

(“D3”)

North American Supplier Industry Supplier Endmarkets

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0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 1999 2000 2001 2002 2003 2004 2005 2006

D3 Market Share Decline Trend Continues

D3 OEMs vs. Foreign-based OEMs U.S Market Share (1999 – 2006)(1)

___________________________________ (1) Source: Automotive News Industry Report.

% US Auto Market Share

Foreign-based OEMs D3 OEMs

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Accelerating Rate of New Model Launches…

New Model Launches (1987-2011E)(1)

___________________________________ (1) Source: Merrill Lynch.

26 35 36 21 48 21 39 38 41 39 32 41 42 42 44 56 38 55 51 35 34 34 35 38 31 10 20 30 40 50 60 1 9 8 7 1 9 8 8 1 9 8 9 1 9 9 1 9 9 1 1 9 9 2 1 9 9 3 1 9 9 4 1 9 9 5 1 9 9 6 1 9 9 7 1 9 9 8 1 9 9 9 2 2 1 2 2 2 3 2 4 2 5 2 6 2 7 2 8 E 2 9 E 2 1 E 2 1 1 E # of New Models Launched

Average = 37 (1987-2007)

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…Will Result in Above Trend Annual Product Replacement in the Near Term

Replacement Rate (1992-2011E)(1)

___________________________________ (1) Source: Merrill Lynch.

16% 11% 13% 15% 14% 11% 14% 13% 12% 11% 17% 16% 19% 16% 15% 11% 9% 16% 19% 12% 0% 5% 10% 15% 20% 25% 1 9 9 2 1 9 9 3 1 9 9 4 1 9 9 5 1 9 9 6 1 9 9 7 1 9 9 8 1 9 9 9 2 2 1 2 2 2 3 2 4 2 5 2 6 2 7 2 8 E 2 9 E 2 1 E 2 1 1 E Replacement Rate

Average = 14% (1992-2007)

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Cumulative Five Year Replacement Rates by OEM

Five Year Replacement Rates by OEM(1)

___________________________________ (1) Source: Merrill Lynch.

66% 67% 73% 78% 85% 63% 39% 67% 57% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% Korean Ford Nissan GM Toyota Industry DaimlerChrysler European Honda

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0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 1999 2000 2001 2002 2003 2004 2005 2006 2007E 2008E 2009E 2010E 2011E

D3 Market Share Cession Expected to Continue, Albeit at a Declining Rate

D3 OEMs vs. Foreign-based OEMs U.S Market Share (1999 – 2011E)(1)

___________________________________ (1) Source: Automotive News Industry Report.

% US Auto Market Share

Foreign-based OEMs D3 OEMs

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Relative Customer Exposure Determines “Haves and Have-Nots” Among Suppliers

US Light Vehicle Sales (% Change 2005 vs. 2006)(1)

___________________________________ (1) Source: Automotive News. 34.2% 33.2% 31.6% 30.9% 26.6% 24.4%

• 20.0%
• 21.7% -22.2% -22.3% -23.1% -25.8% -26.0%
• 52.9% -57.3%
• 20.0%

51.6% 84.2% 32.7% 70.8%

• 80%
• 60%
• 40%
• 20%

0% 20% 40% 60% 80% 100%

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% Increase in OEM Sales 2005 vs. 2006 U.S. Light Vehicle Sales = -2.6%

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Vehicle Mix Moving in a Disadvan- tageous Direction. Secular or Cyclical?

% Shift in Mix (2005 vs. 2006)(1)

___________________________________ (1) Source: Automotive News.

Luxury Car Middle Car Small Car CUV Pickup Large Car SUV Van

• 15%
• 10%
• 5%

0% 5% 10% 15% SUV Pickup Van Luxury Car Middle Car Large Car Small Car CUV

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4% 47% 17% 12% 14% 6% Japanese European DaimlerChrysler GM Korean Ford

D3 Making Move From Position of Relative Weakness in CUV Segment

CUV Segment Share(1) New Model Introductions by Segment(1)

___________________________________ (1) Source: Merrill Lynch.

42% 50% 64% 57% 10% 23% 13% 21% 17% 16% 22% 36% 21% 52%

4%

11% 7% 9% 1% 17% 19% 19% 5% 12% 16% 33% 32%

7% 6% 6% 8% 38% 6% 0% 20% 40% 60% 80% 100% I n d u s t r y G M F

• r

d D C X E u r

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e a n J a p a n e s e K

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e a n Light Truck Crossover Small Car Mid/Large Car

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Contractual Price Downs Exacerbate Volume Challenges D3-exposed Suppliers Face

6.4% 3.8% 4.8% 5.4% 6.3% 6.2% 0% 2% 4% 6% 8% 10% 1997 1999 2001 2003 2005 2006

Annual Percentage Price Reductions Sought by OEMs(1)

___________________________________ (1) Source: Accenture.

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Unrecovered Commodity Cost Increases Effectively Become Incremental OEM Price Downs

Five Year CRB Spot Commodity Index History(1)

___________________________________ (1) Source: Bloomberg.

210 230 250 270 290 310 330 350 370 390 410 5/10/2002 11/22/2002 6/6/2003 12/19/2003 7/2/2004 1/14/2005 7/29/2005 2/10/2006 8/25/2006 3/9/2007 CRB Spot Comm

• dity Index Weekly Pricing

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Cumulative Effect of Volume, Price, Commodity and Mix Challenges is Weakened Profit Margins for D3-Exposed Suppliers

6.7% 5.2% 5.1% 3.0% 2.9% 0.0% 2.0% 4.0% 6.0% 8.0% 10.0% 2002 2003 2004 2005 2006

EBIT Margin for OEM Suppliers(1)

___________________________________ (1) Source: Company filings including AXL, ARM, BWA, DCM, DPH, DRRA, JCI, LEA, TRW, VC.

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Consolidation Activity is on the Rise Again…

M&A Activity in the Automotive Supplier Sector 1998-2006

280 250 320 284 272 221 274 282 211 10 20 30 40 50 1998 1999 2000 2001 2002 2003 2004 2005 2006 Transaction Value ($ Billion) 50 100 150 200 250 300 350 Transaciton Volume Value Volume

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…Perhaps Improved Industrial Logic Informing Current M&A Activity Will Support Leverage This Time

Recent Lending Terms for Automotive Supplier Transactions (1998 – 2006)

3.4x 4.6x 4.4x 4.7x 4.5x 3.7x 4.5x 4.1x 3.9x 2.1x 2.7x 2.2x 3.1x 2.6x 2.7x 2.2x 1.9x 1.8x 0.0x 2.0x 4.0x 6.0x 8.0x 10.0x 1998 1999 2000 2001 2002 2003 2004 2005 2006 0.0x 0.5x 1.0x 1.5x 2.0x 2.5x 3.0x 3.5x Total Debt/LTM EBITDA (EBITDA-CapEx)/Interest

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Selected Automotive Supplier Bankruptcies (1999-2006) Selected Automotive Supplier Bankruptcies (1999-2006)

___________________________________ Source: Cross Industrial Research

Intermet

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Taken Together, Risks in the Supplier Industry Clearly Outweigh Opportunities For a Large Number of D3-Exposed Suppliers

Financial Risk Operational Risk Integration Risk Industry Risk Market Growth Opportunities Margin Improvement Opportunities New Program Opportunities

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Investment Success Factors in Supplier Restructurings

• Be skeptical of market valuations as an indicator of intrinsic

value (e.g., Meridian, Tower, C&A)

• Be selective when screening for targets. Overcapacity will

eventually mean some suppliers won’t come out the other side (e.g., C&A, Oxford, Harvard)

• Don’t underestimate probability of a bankruptcy filing even

when its counter-indicated by the circumstances

• Make sure you’re interested in being an owner regardless of

your entry point in the capital structure

• Rely on Debtwire to your detriment

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Investors Should Favor Supplier Distressed Investment Opportunities that Offer:

• Narrower vs. broader product range
• Vertical vs. horizontal acquisition history
• Competitive strategy emphasizing proprietary technology vs. product

innovation

• Tier 1 vs. OEM customer exposure
• Consolidation-driven turnaround plan vs. volume-driven or customer-

driven turnaround plan

• Low union labor exposure
• Untapped growth investment opportunities

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Foley & Lardner LLP Presentation

Presented by: Pat Daugherty, Foley & Lardner LLP Judy O’Neill, Foley & Lardner LLP Sal Barbatano, Foley & Lardner LLP

May 15, 2007

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Foley & Lardner Overview

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Foley’s Automotive Industry and Restructuring Capabilities

Foley’s Automotive Industry Team (AIT) represents

companies throughout the automotive supply chain, with an emphasis on representing Tier 1 suppliers

More than 50 attorneys practice in Foley’s Business

Reorganizations Practice Group, including in New York, Delaware, Detroit and other jurisdictions

Foley is the only national law firm with a Detroit Office

and dedicated Automotive Industry Team, with deep knowledge of supply chain contracts and how to deal with troubled customers/suppliers

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Foley’s Automotive Industry

Chapter 11 Experience

Foley & Lardner attorneys have had significant

involvement in the following Chapter 11 cases in the automotive industry: – Tower Automotive – Meridian Automotive Systems – BBi Enterprises – Collins & Aikman – Pilot Industries – Venture – Oxford Automotive – Intermet Corporation – Key Plastics – Amcast Industrial – Delphi – JL French – Dana Corporation – Dura Automotive

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Automotive Supply Chain and Contracting Overview

25 The Contract

• Blanket Purchase Orders
• Releases
• LTA
• Cost Downs

The Product

• Sole Sourced
• Just In Time
• Tooling
• Platform
• Re-Sourcing
• Capacity
• Supplier
• Product

Timing

• Shutdown
• Changeover
• New Awards

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Timeline for New Auto Business Average Time from Quote to Full Production 18 – 30 Months

*RFQ Issued PO Issued Tool Design Tool Build Tool Completion PPAP SOP

2 Months 1 Month 3 Months 4 Months 9 Months 3 Months

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Current Contracting Practices

RFQ’s Quotations Purchase Orders “Battle of the Forms”

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Current Contracting Practices

What is the contract?

– T’s & C’s: conflicting terms and the “Battle of the Forms” – Termination date is important: fixed or indefinite? – Emails and conduct impacts what constitutes the “contract” (course of dealing and course of performance)

Directed supply Hostage situations Trends: Long Term Agreements?

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Common Issues in Automotive Restructurings

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Common Issues in Automotive Restructurings

Customer Influence – Short Term

– New business hold – Resourcing – Setoffs and recoupment – A/R remittances slow down

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Common Issues in Automotive Restructurings

Importance of Contract Issues in

Restructurings and Acquisitions

– Impact of contracts and contract terms on:

Ability to stop shipment in transit Terminate contract Demand and obtain adequate assurance

• f performance

Bankruptcy Rights

– Performance in the Gap Period: » Bankruptcy law requires the non-debtor party to perform in the gap period

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Common Issues in Automotive Restructurings

Assumption or Rejection of Executory Contracts

– If contract is executory, the contract must be assumed or rejected at least by confirmation of the plan – Assumption requires cure of all monetary defaults, including pre-petition defaults – Suppliers need to be aware of leverage that may enable pre- confirmation assumption or rejection

– Acquisitions

Suppliers may have leverage if contract is not assigned

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Common Issues in Automotive Restructurings

Accommodation and Access Agreements

– What are they?

Typically between customers, suppliers and secured

lenders, these agreements are designed to provide continuity of supply and protection of the secured lenders’ collateral base

The access agreement permits the customer, under limited

circumstances, to access the supplier’s plant to produce parts pending transfer of the contract and/or facility to a healthier supplier

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Common Issues in Automotive Restructurings

Accommodation and Access Agreements

(cont.)

– The accommodation agreement provides accommodations that solidify the lenders’ collateral base through protections on inventory and receivables and commitments to continue sourcing

• f existing parts to the troubled supplier

– Often provide for waiver of the right of setoff as to consequential damages – May provide for loans or financial accommodations

Why are they used? Key Provisions

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Common Issues in Automotive Restructurings

Critical Vendor Status

– “Essential or “critical” suppliers

Cardinal principal of bankruptcy is that similarly

situated creditors receive equal treatment

Certain creditors (usually trade) can be deemed

“critical” in bankruptcy proceedings if they are”

– Irreplaceable – Crucial to continued operation and successful reorganization – Can be used as a means to obtain unsecured credit

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Common Issues in Automotive Restructurings

Critical Vendor Status (cont.)

– Auto industry gives support to critical vendor arrangements

Customers may not have alternative markets for the goods

they are purchasing

An inability to replace that supplier (owing to the high cost

associated with moving tooling from one supplier to another and the attendant time delay)

Extremely thin profit margins (where the collapse of even

• ne customer may mean economic ruin for many

suppliers)

Tooling vendors often considered critical vendors Lien issues (possessory and by filing)

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Common Issues in Automotive Restructurings

Impact of revisions to code on

acquisition in bankruptcy

– Section 503(b)(9) of the Bankruptcy Code – Administrative claim for goods sold to the debtor in the ordinary course of business in the 20 days preceding the bankruptcy – Expanded time period for reclamation rights

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Common Issues in Automotive Restructurings

Customer influence – long term

– Customer expectations of restructured supplier

Competent management with automotive

experience

Sound capital structure able to survive cyclical

nature of industry

Long term owners with stable ownership. 39

Labor Agreement Issues in Bankruptcy Cases

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Labor Issues in Bankruptcy

Bankruptcy Code § 1113 Rejection of Collective Bargaining Agreements

(“CBAs”)

– Rejection of a CBA may be necessary to terminate a pension plan if the Union refuses to drop a contract bar – Aggressive approach may be appropriate if the Union “holds hostage” the pension plan termination issue as leverage in negotiations – To reject a CBA, the debtor must meet strict procedural requirements and show that its proposed modifications to the CBA are “necessary to permit the reorganization of the debtor”

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Labor Issues in Bankruptcy

Courts Have Divergent Interpretations of How

“Necessary” the CBA Changes Need To Be

– Third Circuit – “But for” test – debtor may propose only those modifications necessary to avoid liquidation – Second Circuit – Less stringent test – whether changes “will enable the debtor to complete the reorganization process successfully” because rejection will result in a greater chance for reorganization than if the CBA remains in force – If Debtor is Selling its Assets – In a liquidating chapter 11 case where a sale of assets is proposed, the debtor only must show modifications are “necessary to confirmation of the plan”

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Pension Issues in Bankruptcy Cases

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Pension Issues in Bankruptcy

Pensions

– Bankruptcy Code § 1114 – Role of Pension Benefit Guaranty Corporation (the “PBGC”)

A governmental “insurance company” that oversees Title IV

• f ERISA

Roles in chapter 11 cases include overseeing plan

termination process, recovering premiums and filing claims

Take a very active role in chapter 11 cases, particularly

automotive restructurings

In many cases will sit on the Official Committee of

Unsecured Creditors

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Pension Issues in Bankruptcy

Recurring problem of underfunded

pension plans

– Funding must always be sufficient to cover an “accumulated funding deficiency” – Very onerous on companies to fund deficits – ERISA does not allow over-funding in good times – “Anti-cutback” rule in Internal Revenue Code prevents employers from decreasing or delaying certain benefits – Many employers stuck with pension plans they cannot possibly fund

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Pension Issues in Bankruptcy

Tools Bankruptcy Provides to Deal with

Pension Issues

– Distress Termination – Rejection of Collective Bargaining Agreements – Potential Suspension of Contributions – Limiting PBGC Claims

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Distress Termination

– A voluntary distress termination requires approval by the PBGC and the Bankruptcy Court – The Plan Administrator must give the PBGC and participants 60 days written notice – Termination cannot violate the terms of a collective bargaining agreement unless the agreement is rejected as part of the termination

Company may try to get the Union to drop a contract bar

through negotiations

Important strategic call of the company on whether to

integrate, or bifurcate, the distress termination and section 1113 process

Pension Issues in Bankruptcy

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Pension Issues in Bankruptcy

Legal Standard for Distress Termination

– Financial Necessity Test – Whether the debtor can confirm any plan of reorganization absent termination of its pension plan

• r plans

– Necessary does not mean necessary to a particular preferred plan—it must be necessary to any confirmable plan – Requires review of the debtor’s cash flow, opportunities for debt capital and extent of its pension obligations – If the debtor has multiple plans, the court will likely analyze them in the aggregate rather than on a plan-by-plan basis

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Pension Issues in Bankruptcy

Potential Suspension of Contributions

– The debtor often attempts to suspend minimum funding contributions while in bankruptcy – Can be an interim first step prior to the distress termination process

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Pension Issues in Bankruptcy

Limiting PBGC Claims

– PBGC generally has claims against all estates in multi-debtor case due to joint and several liability of all members of the plan sponsor’s “control group” (generally meaning all entities 80% or more commonly owned) – PBGC also has a claim for any missed funding contributions and insurance premiums – PBGC may oppose substantive consolidation in

• rder to enhance its recoveries

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Pension Issues in Bankruptcy

Calculation of Claim – Dispute Over Discount Rate

– PBGC’s unfunded benefits claim must be discounted to present value – Until 2003, courts had consistently applied the “prudent investor rate” to present value the PBGC’s claims—the rate achieved by a prudent investor over the long term while preserving capital and minimizing risk – CSC Industries decision by the Sixth Circuit is one of the leading decisions on this issue – In 2003, the US Airways case rejected the “prudent investor rate” and accepted the PBGC’s use of ERISA’s valuation regulation as an interest rate, which results in a much lower rate – PBGC has used the US Airways decision as settlement leverage in courts not governed by current authority

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Pension Issues in Bankruptcy

Priority of PBGC Claims

– PBGC may attempt to obtain administrative expense or priority tax status for its unfunded benefit claims – Most courts have limited administrative expense status to unfunded benefits attributable to post-petition labor – Priority claim theories have faired poorly as well in recent years – In some cases, PBGC may have a perfected secured lien due to collateral posted by the debtor as security for missed contributions or the perfection of a lien pre-petition

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Pension Issues in Bankruptcy

Impact of possible substantive consolidation Liquidity shortfalls to fund plans Customer influence – long term

– Customer expectations of restructured supplier

Competent Management with automotive experience Sound Capital Structure able to survive cyclical nature

• f industry

Long term owners with stable ownership

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Distressed Investment Opportunities and Investment Considerations

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Investment Opportunities

Targets of Opportunity

– Companies that can be deleveraged and restructured – Spin-offs of non-core but otherwise healthy operations of larger suppliers – Second lien debt issues – Recognizing When a Company is Troubled

Late and delayed payments Increasing receivables Decreasing market share Dun & Bradstreet reports Changes in key management positions Lengthening of credit terms Delays in payment of dividends or payments on funded debt

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Investment Opportunities

Early warning signs of financial distress may include:

– Supplier requests for price increases, early payments, accelerated payment terms, or customer financing – Late deliveries or negative changes in product quality – Failure to update information technology systems – Failure to effectuate cost reductions or to address volume reduction during economic downturns – Delinquent taxes – Deteriorating accounts receivable and accounts payable – Restatement of or delays in issuing audited financial statements, or a change in audit firms – Changes in key management positions

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Investment Opportunities

Vehicles for Acquisition

– Section 363 Sales – Acquisition of Claims/Conversion to Equity – Plan of Reorganization

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Investment Considerations

Customer relationships

– Strength – Diversity – Opportunities to expand offerings – Ability to restructure existing contracts – Reliance on supplier as sole source

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Investment Considerations

Platform analysis and book of business

– Strength of platforms they are supplying – Runoff versus new awards – Current bidding scorecard

Product offerings

– Market leader or also-ran – Commodity versus value-add – Product design and R&D capabilities – Industry capacity to absorb company’s product offerings

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Investment Considerations

Other considerations

– Facilities and equipment – Labor and unions – Operational and management differentiators

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Questions & Answers

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