DETROIT - DaimlerChrysler will become the world's No.1 builder of truck engines when it completes the acquisition of Detroit Diesel Corp.
The planned sale of Detroit Diesel to D/C for $423 million (E382.4 million) spares North America's fourth-largest engine maker the high cost of remaining independent in a consolidating industry. The move also came in the face of a downturn in US heavy-duty truck sales, a key market for diesel engines.
'This is becoming a global truck industry, and they (Detroit Diesel) were not diversified to survive over the long term,' said Joanna Shatney, an analyst with Goldman Sachs in New York.
The deal is expected to provide the Detroit engine maker with the financial strength to meet stringent new emissions standards and the higher cost of new engine development, analysts say.
Detroit Diesel's immediate challenges became clearer shortly after the July 21 announcement of the D/C deal. The company reported July 27 that its second-quarter profits fell 24 percent to $10 million, hurt by reduced heavy-duty truck production in North America. The company said it expects that market to fall 25 percent to 30 percent from 1999 levels.
Detroit Diesel's chairman is Roger Penske, chairman of Penske Corp. His wide interests include automobile racing, truck leasing and UnitedAuto Group Inc., the third-largest chain of auto dealerships in the USA.
In 1988 Penske acquired Detroit Diesel after it had lost $600 million in the previous five years for its parent, General Motors.
His decision to sell Detroit Diesel after making it profitable marked a shift from the company's April 1999 comments that it wanted to remain independent. Indeed, the company said it wanted to buy back the stake owned by D/C and become independent.
Detroit Diesel executives reportedly changed their minds when they saw the pace of automotive and trucking acquisitions increasing. That included D/C's announcement in late July that it planned to buy Western Star Trucks Holdings Ltd. of Canada.
DaimlerChrysler's own acquisition strategy created a timely opportunity for a potential seller. Detroit Diesel's share price, like that of many suppliers, has been depressed despite strong profits in 1999.
Detroit Diesel posted a record net profit of $49 million last year on revenue of $2.4 billion. But its stock price has traded well below its 52-week high of $23.44 for much of the year. It traded at $12.94 a share before the D/C deal was announced in July. Since then, the price has risen sharply.
It makes sense for Detroit Diesel to sell, said one analyst. Diesel engine makers must contend with price wars, mature domestic markets, volatile overseas markets, global plant overcapacity and the need to spend large amounts on new product and plant and equipment, according to global credit rating agency Standard & Poor's.
Coming are stringent new diesel-emission standards the US Environmental Protection Agency set for 2002. Meeting these standards will not be cheap or easy, said Goldman Sachs analyst Shatney.
'Could they make it on their own? It's anyone's guess,' Shatney said. But 'given DaimlerChrysler's larger capital program, Detroit Diesel will now have a substantially higher chance of meeting it.'
Diesel engine makers have little room for error, as Cummins Engine Co. of Columbus, Indiana, USA, learned. Cummins has brought a number of new diesel engine models to market but posted several write-offs and restructuring charges because of underestimating warranty costs, unprofitable joint ventures and other reasons, according to a Standard & Poor's analysis.
DaimlerChrysler is the world's fifth-largest builder of engines for heavy trucks; Detroit Diesel is No. 4. Combined, their on-highway engine volumes will surpass AB Volvo, Cummins and Caterpillar Inc. and make D/C the world's leading builder of truck engines.
'From DaimlerChrysler's standpoint it was a good fit,' said Andrew Casey, an analyst with Midwest Research. 'It will provide more opportunity to leverage costs downward and add buying power.'
What is uncertain is the fate of Detroit Diesel's contracts to supply D/C's competitors. Detroit Diesel won a contract in May to supply diesel engines to Ford Motor Co.'s vehicles in Europe.
DaimlerChrysler spokesman Karl Knoess in Stuttgart declined to discuss company plans. But as to acquisitions, one analyst said, 'There is room for further consolidation, and someone will do it.'