The Wall Street Journal-20080125-Cerberus-s Rocky Road- Firm Hanging Tough As Two Big Deals Have Run Into Trouble
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Cerberus's Rocky Road; Firm Hanging Tough As Two Big Deals Have Run Into Trouble
New York -- Cerberus Capital Management LP became a Wall Street legend for its ability to revive companies others left for dead.
But now, the flagging fortunes of two of its biggest acquisitions -- Chrysler LLC and GMAC LLC -- and its sudden withdrawal from a $4 billion deal to acquire United Rentals Inc. have left open the question of whether the investment fund has stumbled.
Time for alarm?
"I'm not stressed," said Mark Neporent, the firm's No. 2 executive and a confidant of its reclusive founder, Stephen Feinberg.
In a rare interview at the firm's Park Avenue headquarters, Mr. Neporent dismissed any suggestion Cerberus was struggling or battening down the hatches. He said the firm has ample liquidity to do any deal that makes sense for its investors. If anything, Cerberus is slowly emerging out of its shell. Mr. Feinberg has been spending the week at the World Economic Forum in Davos, Switzerland.
The closely held firm, which has $26 billion under management, never commits more than 5% of the money in any one of its numerous funds to any single investment, Mr. Neporent said.
In other words, even if Chrysler and GMAC fail, which Mr. Neporent insists is highly unlikely, the financial exposure of Cerberus's funds would be limited. In 2007, Cerberus returned on average about 19% to its investors.
But the structure of the deals for Cerberus's investors -- which include state pension funds and university endowments -- isn't so simple. Combined, Chrysler and GMAC required about $15 billion of equity. Much of that cash was produced via what are called "co- investments," largely from existing Cerberus investors. That means the investors plunked down cash beyond their original commitments to Cerberus funds.
Cerberus declined to say how much its co-investors have put into Chrysler and GMAC.
Mr. Neporent acknowledged that Cerberus faces challenges with both investments and in overcoming the perception the firm has misstepped.
The GMAC situation is the most troubled of Cerberus's stable of investments, which included about a dozen different deals in 2007, according to data from CapitalIQ.
In the third quarter of 2007, GMAC posted its largest quarterly loss in its 88-year history because of a $2.3 billion loss at Residential Capital LLC, its home-lending unit known as ResCap. Investors and analysts said Cerberus and General Motors Corp., which still owns 49% of GMAC, might have to inject more capital to keep ResCap afloat. A large provider of subprime loans, ResCap is the second-largest independent U.S. mortgage lender.
So far, Cerberus hasn't had to put any fresh money into GMAC, Mr. Neporent said. And the firm's equity in the company hasn't declined, he added. GMAC has undertaken several measures to shore up ResCap's finances. The moves included converting $1.1 billion of preferred stock into common shares, a step that typically reduces ongoing cash dividend payments. General Motors, which sold control of GMAC to Cerberus in 2006, also pumped about $1.2 billion into the company as part of a purchase-price adjustment. Finally, GMAC itself transferred about $1 billion from its auto-financing division, which had a record year, to the mortgage unit.
Concerns about the company's health have sparked declines in GMAC and ResCap bonds. Yesterday, GMAC's most active corporate bonds were selling for 93 cents on the dollar. ResCap's most active issues were trading at 59 cents on the dollar, a sign investors regard the debt as extremely risky. Yet late last year when GMAC launched a tender offer to buy back as much as $750 million in ResCap debt, bondholders tendered a little more than half of that sum, suggesting many holders preferred to stick with the investment.
"Would we have liked to have bought it cheaper? Sure. But the opportunity to buy a company like GMAC comes once in a lifetime, and we took it," Mr. Neporent said.
Investors fret that ResCap will continue to burn cash and force its owners to pump in new capital or push the unit into bankruptcy. But Mr. Neporent said ResCap already has reduced its mortgage exposure to $75 billion from $133 billion. A new management team with solid turnaround experience is running the business, he said. The plan is to wait out the financial crisis and take market share from weakened or bankrupt rivals.
Struggles at Chrysler also have raised questions about whether the firm should have invested in the car maker. Facing the prospect of a difficult 2008 for U.S. auto makers, Chrysler has retrenched. In November, the company announced it would cut 11,000 jobs on top of the 13,000 that had previously been planned and eliminated shifts at five plants.
Late last year, Chrysler's new chief executive told employees the car maker was "operationally" bankrupt. Mr. Neporent said Chrysler CEO Bob Nardelli was trying to rally them to action, perhaps with a poor choice of words.
Cerberus said Chrysler has ample liquidity and isn't only meeting but, in many cases, exceeding its financial targets. Mr. Neporent said the firm remains "extremely enthusiastic" and had anticipated the car maker's losses. He said it was too early to judge the success of the deal, and it will take years before one can judge their strategy.
Doubts about Cerberus's strategy have intensified in recent months as it has backed away from a string of deals.
In the most contentious scuttled deal, the firm bailed on its $4 billion purchase of United Rentals, the construction-equipment-rental firm.
A Delaware Court of Chancery judge vindicated Cerberus's conduct in the United Rentals deal. In a ruling last month, Chancellor William Chandler said that while Cerberus suffered from "buyer's remorse," it was acting within its contractual rights when it pulled the plug shortly before the planned closing. Cerberus has paid United Rentals the $100 million breakup fee.
"We needed to do what was best for our investors," said Mr. Neporent of United Rentals. "We can't be criticized for exercising an option that we've negotiated."
Cerberus has tried to soothe both investors' and the public's nerves by dispatching John Snow, the former Treasury secretary, to public and private forums.
Mr. Snow is in Davos this week, mingling with political leaders and appearing on television. Mr. Feinberg's visit is expected to be much lower-profile.
