Fiat Chrysler and Peugeot owner announce $48 billion merger

Fiat Chrysler and Peugeot owner PSA Group have announced the terms of a $48 billion merger that would create the world’s third-largest automaker and help spread the huge cost of developing electric and autonomous vehicles.

Shareholders of each automaker would own 50% of the combined operation, the companies said in a joint statement on Thursday. A binding agreement could be finalized within weeks, the statement said. Fiat Chrysler shareholders also would get a special one time dividend worth €5.5 billion ($6.1 billion) as part of the deal.

The combined company would be based in the Netherlands, which is the current headquarters of Fiat Chrysler, although it will keep a head office for its North American operations near Detroit. John Elkann, the US-born scion of the Italian family that founded Fiat, would be chairman of the combined company, while PSA chief executive Carlos Tavares would be CEO.

The combined company would have roughly 410,000 employees and annual revenues of $190 billion. Fiat Chrysler (FCAU) and PSA sold a combined 8.7 million vehicles last year, just ahead of General Motors (GM), which sold 8.3 million, and not far behind Volkswagen (VLKAF) and Toyota (TM), which each sold over 10 million.

The merger comes amid a global auto sales slowdown, which could worsen as economies around the world slow or even fall into recession. At the same time, carmakers are scrambling to invest in the electric and hybrid technologies needed to meet strict new emissions targets in China and Europe. The autonomous vehicles of the future also present a threat to traditional industry business models. The huge amount of capital needed to meet these new challenges has forced some automakers to find partners and turned others into acquisition targets.

Jessica Caldwell, Edmunds’ executive director of industry analysis, said the planned merger of Fiat Chrysler and France’s PSA “isn’t really about product or expanding to new markets.” Rather, it’s about funding research into the vehicles of the future.

“The electrified, autonomous future everyone is waiting for just isn’t feasible without automakers merging and forming strategic alliances to share research and development costs,” she said. “This is a smart move by both Fiat Chrysler and PSA to ensure their companies continue to be viable and relevant as the industry evolves.”

The carmaker with the most urgent need to combine in this case was PSA, which has fallen behind on developing clean cars. Electric vehicles account for less than 0.3% of its overall sales, and it had to pay Tesla (TSLA) for credits needed to comply with EU emissions standards. Fiat Chrysler has also trailed larger rivals in developing electric vehicles.

Even the biggest players in the industry are making changes. Volkswagen (VLKAF) and Ford (F) are working together to develop electric and self-driving vehicles, while German carmakers BMW (BMWYY) and Daimler (DDAIF) have formed a joint venture that will develop driverless technology. Honda (HMC) has invested in General Motors’ self-driving car unit.

A history of mergers

It’s not the first time that PSA has used a merger to bulk up. In 2017 it paid $2.3 billion to buy GM’s European business, adding the Opel and Vauxhall brands as GM exited the continent. While GM lost about $22.4 billion in Europe over the 17 years before that deal, Opel and Vauxhall are now profitable for PSA.

Teaming up during times of adversity is also a familiar strategy for Fiat, which started the purchase of US rival Chrysler out of bankruptcy a decade ago. It completed the merger five years later. But even following that deal, Fiat Chrysler was still significantly smaller than many rivals, putting it at a disadvantage in purchasing muscle as well as spreading out the cost of research and development.

Sergio Marchionne, the late CEO who brought Fiat and Chrysler together, spoke publicly about his desire for a deal with GM. He also expressed interest in a combination with a tech company such as Google (GOOG) or Apple (AAPL).

Earlier this year, Fiat Chrysler made a merger proposal to another French automaker, Renault, a company of comparable size to PSA. But it withdrew the offer, saying that “it has become clear that the political conditions in France do not currently exist for such a combination to proceed successfully.”

Fiat Chrysler Automobiles assembly workers build 2019 Ram pickup trucks at the FCA Sterling Heights Assembly Plant in Sterling Heights, Michigan, U.S., October 22, 2018. Picture taken on October 22, 2018. REUTERS/Rebecca Cook

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The French government owns 15% of Renault and is its largest shareholder; it also owns 12.2% of PSA. France has said it would approve the Renault deal only if there were protections for French jobs and factories.

New challenges

Fiat Chrysler also reported third quarter financial results Thursday. Despite slowing global sales, it posted a record third quarter operating profit for the company that topped Wall Street forecasts, and said it is on pace to hit its full-year profit target. But a restructuring charge related to dropping some segments of its vehicle lineup in Europe and changes at Alfa Roeo resulted in a net loss for the quarter.

Still, between the earnings outlook, the operating profit and the news about the merger, shares of Fiat Chrysler (FCAU) were 3% higher in premarket trading Thursday in the US. Shares of Fiat Chrysler (FCAU) had already risen 14% since the start of the week through Wednesday’s close on reports of a looming deal. But PSA, which effectively is paying a premium to secure the merger with Fiat Chrysler (FCAU), had its shares tumble 13% in Paris trading on Thursday.

Fiat Chrysler and PSA face huge challenges even if their merger is completed.

Both have struggled to break into China, the world’s largest market for new cars. Automakers have sold 10% fewer cars there so far in 2019, but the joint ventures of Fiat Chrysler and PSA have been hit especially hard. Sales dropped by a third for Fiat Chrysler in the first half of the year, and more than 50% for PSA.

PSA also has no presence in the United States, the world’s second largest car market. Miniscule US sales of Fiat branded cars show the difficulty in bringing mass market European brands, as opposed to luxury brands, to US showrooms.

“Both Fiat Chrysler and PSA have a lot of quirky city cars that couldn’t be further from what US car shoppers want right now,” said Caldwell.