European Autos & Parts 2009 Q4 Barclays

EQUITY RESEARCH
8 December 2009
EUROPEAN AUTOS & AUTO PARTS: INITIATION OF COVERAGE

PREPARE FOR POST-SCRAPPAGE PRICE WARS
Barclays Capital does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. This research report has been prepared in whole or in part by research analysts based outside the US who are not registered/qualified as research analysts with FINRA. PLEASE SEE ANALYST(S) CERTIFICATION(S) AND IMPORTANT DISCLOSURES BEGINNING ON PAGE 177.
Barclays Capital | European Autos & Auto Parts
EUROPEAN AUTOS & AUTO PARTS PREPARE FOR POST-SCRAPPAGE PRICE WARS
European Autos & Auto Parts Brian A. Johnson 1.212.526.5627 brian.johnson@barcap.com BCI, New York Kristina Church +44 (0)20 313 42199 kristina.church@barcap.com Barclays Capital, London
We see 2010 as a year of unintended consequences from the scrappage programmes of 2009 for the European Auto sector, and expect volumes to fall, excess capacity to be exposed and pricing to deteriorate. As a result we favour stocks that have unrecognized cost reduction potential. We are initiating coverage with three key 1-Overweight ideas: Renault, BMW and VW Prefs and two key 3-Underweights: Fiat and Daimler. Sector wise, we believe the sector is moderately expensive for what we see as a tougher than expected 2010 but reasonable in light of longer-term valuations. We are initiating with a 2-Neutral sector view and believe the time is right to refocus on stock selection. Specifically we believe that: The sector is no longer a near-term macro call with early cyclical recovery gains behind us; 2010 will be the year of unintended consequences from scrappage programme payback that will pressure not just on volumes but on pricing as the European consumer base becomes addicted to incentives; and Given the toughening environment, we prefer players who can exploit already established scale positions by driving further cost savings via further commonality and modularity over those still scrambling to establish scale. In terms of 1-Overweight, we are non-consensus on Renault. Among our 3-Underweight ratings, we are non-consensus on Daimler and Fiat. Stock selection: Prefer players who can extract cost savings from established scale Auto stocks have already priced in an economic bottom, with OEMs stocks outperforming YTD by 41% (on a raw basis vs. DJ STOXX, excluding VW ords). While investors are cautious toward sales declines in 2010, we believe they do not yet appreciate the degree to which pricing will be under pressure. This makes cost savings critical. To identify cost cutting potential, we believe investors should pay equal attention to the firms ability to increase modularity and commonality to exploit the scale as well as the workforce flexibility to bring the productivity savings to the bottom line. 1-Overweights We believe the market is underestimating Renaults potential to take the Nissan alliance to the next level; BMW, where modularity and workforce demographics likely set up further cost reduction; and VW prefs are cheap even assuming dilution and merger risks. 2-Equal Weight PSA as market appreciates product cadence and is already pricing in gains from a Mitsubishi alliance that will take years to extract; Porsche is primarily a vehicle to gather VW shares but with greater merger and dilution risk than the VW prefs. 3-Underweight Daimler as workforce demographics inhibit further cost cutting; Fiat as the market overestimates Chrysler potential. Sector view: 2-Neutral We are initiating with a 2-Neutral view on the auto sector for three reasons: 1) At 27% EV/sales for 2010E, the sector valuation is in line relative to history (29%) and investors confidence in the sector may be shaken as pricing and volume deteriorates and scrappage programmes expire in early 2010, 2) But at 23% for 2011E EV/sales, the sector still offers upside for longer-term holders and 3) our analysis shows it is time to buy stocks based on company specifics, which points to in-line performance after this years rally.
8 December 2009
Summary of our Rating, Price Target and Earnings in this Report

Company Rating Price Price Target EPS FY1 (E) EPS FY2 (E)
Old New 04-Dec-09 Old European Autos & Auto Parts BMW (BMW GY / BMWG.DE) Daimler AG (DAI GY / DAIGn.DE) Fiat SpA (F IM / FIA.MI) Peugeot SA (UG FP / PEUP.PA) Porsche Automobil Holding SE (PAH3 GY / PSHG_p.DE) Renault SA (RNO FP / RENA.PA) Volkswagen AG (VOW GY / VOWG.DE) Volkswagen AG-PFD Preferred (VOW3 GY / VOWG_p.DE) N/A 2-Neu N/A 1-OW N/A 3-UW N/A 3-UW N/A 2-EW N/A 2-EW N/A 1-OW N/A 2-EW N/A 1-OW 32.75 35.91 10.56 24.18 47.51 35.59 80.39 63.50
New %Chg Old New %Chg Old New %Chg
N/A 41.00 N/A 32.00 N/A 8.00 N/A 26.00 N/A 55.00 N/A 42.00 N/A 100.00 N/A 85.00
N/A 0.24 N/A -2.02 N/A 0.03 N/A -6.28 N/A -14.29 N/A -10.30 N/A 4.18 N/A 4.17
N/A 1.64 N/A 0.61 N/A 0.05 N/A -1.90 N/A 1.47 N/A 0.53 N/A 5.31 5.29
Source: Barclays Capital Share prices and target prices are shown in the primary listing currency and EPS estimates are shown in the reporting currency. FY1(E): Current fiscal year estimates by Barclays Capital. FY2(E): Next fiscal year estimates by Barclays Capital. Stock Rating: 1-OW: 1-Overweight 2-EW: 2-Equal Weight 3-UW: 3-Underweight RS: RS-Rating Suspended Sector View: 1-Pos: 1-Positive 2-Neu: 2-Neutral 3-Neg: 3-Negative
8 December 2009
CONTENTS
EUROPEAN AUTOS PREPARE FOR POST SCRAPPAGE PRICE WARS THE YEAR OF UNINTENDED CONSEQUENCES SCRAPPAGE HANGOVER LIKELY WORSE THAN CONSENSUS EXPECTATIONS EU PRODUCTION TO WEAKEN SEQUENTIALLY BUT GLOBAL GROWTH PICKS UP 1 5 9 15
DESPITE LONG-TERM DOWNSIZING, MID-TERM GROWTH IS IN VOLUME C AND ABOVE SEGMENTS AS SCRAPPAGE DISTORTION FADES 17 SCRAPPAGE AND LOAN PROGRAMMES PRESERVED EXCESS CAPACITY SCRAPPAGE SCHEMES MAY HAVE HOOKED EUROPEAN CONSUMER ON INCENTIVES SETTING UP PRICING PRESSURE CURRENCY SHIFTS PRESSURE US AND UK IMPORTS WE FAVOUR THOSE WITH DOMINANT HOME MARKET C & D POSITIONS 19
23 29 30
SCALE AND COMMONALITY PROVIDES BUFFER AGAINST UNINTENDED CONSEQUENCES 33 SECTOR VALUATION 2-NEUTRAL BMW POTENTIAL FOR FURTHER COST CUTS DRIVES 1-OVERWEIGHT RATING DAIMLER MARKET OVER OPTIMISTIC ON COST-CUTTING POTENTIAL 37 42 59
FIAT EXCESS CAPACITY AND LOWER CHRYSLER TURNAROUND ENTHUSIASM DRIVE 3-UNDERWEIGHT RATING 78 PEUGEOT STRONG MODEL CYCLE, BUT UNDERWHELMED BY NEW STRATEGY 2-EQUAL WEIGHT RATING PORSCHE MERGER BENEFITS MAY NOT FLOW TO PREF HOLDERS : 2-EQUAL WEIGHT
101
121
RENAULT POTENTIAL FOR GREATER COMMONALITY DRIVES 1-OVERWEIGHT RATING 132 VOLKSWAGEN SCALE TO WITHSTAND PRICE WARS 152
For Valuation Methodology and Risk section, please see page 174
8 December 2009
Current
Price Mkt Cap
Upside/ 2009
EPS 2010 2011 2009
EPS growth 2010 2011 2009
Sales 2010 2011 2009
Sales growth 2010 2011
Rating European OEMs BMW AG Daimler AG Fiat SpA Peugeot SA Porsche Renault SA 1-Overweight 3-Underweight
price
target downside
32.75 21,395 41.00 35.91 36,765 32.00 8.00 26.00 55.00 42.00 5,486 8,314 9,132
25% -11% -24% 8% 16% 18% 24% 34%
0.24 (2.02) 0.18
1.64 0.61 0.05
3.14 2.20 0.42 2.87 4.74 4.77 8.67 8.67
-53% -244% -88% NA -140% -563% -65% -65% -174% -88%
586% NA -71% NA NA NA 27% 27% 142% 27%
92% 259% 723% NA 222% 799% 63% 63% 317% 222%
41,341 42,316 45,215 65,785 69,512 76,660 48,398 44,852 46,602 45,393 45,923 49,115 6,260 7,094 8,362 30,230 30,831 33,089 94,485 94,299 104,402 94,485 94,299 104,402
-15% -24% -17% -14% -16% -15% -8% -8% -15% -15%
2% 6% -7% 1% 13% 2% 0% 0% 2% 2%
7% 10% 4% 7% 18% 7% 11% 11% 9% 9%
3- Underweight 10.56 13,061 2-Equal Weight 24.18 2-Equal Weight 47.51 1-Overweight 35.59
(6.28) (1.90) (14.29) 1.47 (10.30) 0.53 4.18 4.18 5.30 5.30
Volkswagen (Ords) 2-Equal Weight 80.39 32,169 100.00 Volkswagen (Prefs) 1-Overweight Mean Median 63.50 25,410 85.00
US OEMs Ford Motor Co. 2-Equal Weight $8.94 Rating

Current
$31,268
$9.00 52 week
1%
($0.38)
$0.60
$1.50
NA
NA P/E
148%
$103,508 $116,441 $133,130 EV/sales
-15%
12% EV/EBITDA
14%
Share price performance
price European OEMs BMW AG Daimler AG Fiat SpA Peugeot SA Porsche Renault SA 1-Overweight 3-Underweight 32.75 35.91
High
Low
Dec 08 1 month 3 month
YTD
2009
2010
2011
2009
2010
2011
2009
2010
2011
36.48 37.90 11.47 25.67 61.20 37.37 82.90
17.22 17.20 3.32 11.30 27.12 10.17 29.55
21.61 26.70 4.59 12.15 54.85 18.55 38.02
0% 10% -2% 4% -11% 11% -25% -7% -2% -1%
4% 7% 28% 14% 6% 8% -68% 9% 1% 8%
52% 34% 130% 99% -13% 92% -68% 67% 49% 59%
137.1x NA 59.7x NA NA NA 19.2x 15.2x 57.8x 39.5x
20.0x 58.6x 209.5x NA 32.3x 67.0x 15.2x 12.0x 59.2x 32.3x
10.4x 16.3x 25.4x 8.4x 10.0x 7.5x 9.3x 7.3x 11.8x 9.6x
20% 45% 34% 6% 187% 11% 67% 67% 55% 39%
18% 44% 35% 7% 40% 11% 27% 27% 26% 27%
18% 40% 32% 7% 27% 13% 20% 20% 22% 20%
2.2 x 11.7 x 4.5 x 1.1 x 9.2 x 1.7 x 6.6 x 6.6 x 5.4x 5.5x
1.5 x 5.4 x 4.9 x 1.1 x 1.9 x 1.2 x 2.2 x 2.2 x 2.6x 2.1x
1.1 x 3.7 x 4.1 x 0.9 x 1.3 x 1.1 x 1.7 x 1.7 x 1.9x 1.5x
3- Underweight 10.56 2-Equal Weight 24.18 2-Equal Weight 47.51 1-Overweight 35.59 63.50
Volkswagen (Ords) 2-Equal Weight 80.39 313.00 78.10 250.00 Volkswagen (Prefs) 1-Overweight Mean Median
US OEMs Ford Motor Co. 2-Equal Weight $8.94 $9.14 $1.50 $2.29 20.0% 11.6% 290.4% NA 14.8x 6.0x 54% 48% 38% 16.1 x 7.3 x 4.3 x
8 December 2009
THE YEAR OF UNINTENDED CONSEQUENCES

Effects of government interventions & scrappage schemes likely to linger
Governments in Europe and the US intervened on an unprecedented scale in automotive marketplaces in 2009. Various forms of scrappage programmes boosted sales by 3mn units in Europe and 700,000 units in the US. Government financial support to automakers included loans in France and Germany (Opel), and bailouts of Chrysler and GM in the US. But we see 2010 as a year of unintended consequences when volume falls, excess capacity is re-exposed and pricing deteriorates. As a result, we favour stocks that have unrecognised cost reduction potential. The positive, intended consequences of government interventions accounted for much of the rally in European autos since their lows of January 2009. With the prominence of automobile sector to European employment (2.2mn jobs in 2007, or 7% of manufacturing employment in the EU27), governments stepped in to cushion the fall. Germany, with over 800,000 jobs at stake, took the lead, followed by other major manufacturing countries. As a result, sales in pan-Europe (ex-Russia and Turkey) are likely to have fallen by only 5% from 2008 to 2009, note that sales would have fallen by 20% without scrappage programmes. After a dip in 1Q09 production to 3.4mn units, production in the remainder of 2009 will have averaged 4.3mn units a quarter. This led to a positive, albeit small contribution to 1H09 GDP at a cost of less than 0.1% of GDP in the euro area (see European Central Bank, Monthly Bulletin, October 2009). In the US, the Chrysler and GM bailouts preserved up to 600,000 jobs at GM and Chrysler and their suppliers, and prevented significant disruption in the supply chain and cascading supplier bankruptcies. However, 2010 and beyond will see the negative unintended consequences of the government interventions play out in Europe -- only some of which we believe are fully understood by investors: First, sales in Western Europe are likely to fall 13.6% (that is, we believe 400bp worse than consensus) as scrappage programmes expire and underlying demand remains anaemic. Second, excess capacity and globally uncompetitive labour rates will persist. Third, and perhaps least well understood, the scrappage programmes likely hooked the European consumer on incentives, leading to very weak pricing over the next several years all the way up to the luxury segment -- in stark contrast to the strong pricing that otherwise concentrated local markets have allowed. Fourth, in another sector of government intervention, the two governments which have been most aggressive in propping up their banks and expanding their national debt -the US and UK -- have and are likely to continue to suffer from weak currencies that hurt exporters into those geographies.
W Europe sales to fall near 14% in 2010E, 400bp worse than consensus forecasts
We are cautious on the sector as a whole 2010-11E likely weaker than market anticipates Excess capacity, pricing & currency pressures to weigh on sector most acutely on luxury manufacturers
8 December 2009
So what are investors to do? First, we are cautious on the overall sector. We expect 2010 to be weaker for the industry than most believe, although at current market prices we still see value out to 2011 and beyond as demand recovers allowing capacity utilisation and pricing to improve. Second, we believe pricing and currency pressures are most acute in the luxury segment, we do not favour luxury over volume. Finally, given the pressures, we are looking to companies that have superior resilience (at least relative to market expectations) to the weak pricing, currency and demand environment due to their market and cost positions.
BMW (1 Overweight, 41 price target) (see page 42)

BMWG.DE / BMW GY Stock Rating
1-OVERWEIGHT
Sector View
2-NEUTRAL
Price Target
41.00
Price (04-Dec-2009)
32.75
Potential Upside
We are initiating coverage of BMW with a 1-Overweight rating and 41 price target, based on a combination of EV/sales and PE metrics and historical and peer averages. Given the pricing, demand, and currency pressures we expect to continue in the premium market, we favour companies that can deliver and retain near and mid-term cost reductions ahead of market expectations. BMW is a well-understood story as regards its upcoming model launches; nevertheless, we believe the market is underestimating the companys potential for deeper and further cost savings via Strategy #1, both as a result of the full roll-out of its modular strategy and as a consequence of increased flexibility regarding employee costs due to an ageing workforce and extensive use of temporary workers. Moreover, while not part of Strategy #1, BMWs more extensive manufacturing presence in the UK and US provides more of a natural currency hedge offsetting the strength of the euro.
25%
Daimler (3- Underweight, 32 price target) (see page 59)

DAIGn.DE / DAI GY Stock Rating
3-UNDERWEIGHT
Sector View
2-NEUTRAL
Price Target
32.00
Price (04-Dec-2009)
35.91
Potential Downside
11%
We are initiating coverage of Daimler with a 3-Underweight rating and 32 price target due to our expectations that the market has run ahead of itself on its forecasts for Daimlers cost saving potential. We expect pricing, demand, and currency pressures to continue in the premium market and therefore favour companies that can deliver and retain near and midterm cost reductions ahead of market expectations. Although management have committed to an additional 4bn cost savings for 2010E, we are concerned that the majority of these will be absorbed be negative factors (price, FX and raw material costs), whereas we believe market assumptions are overestimating the retention potential. We believe that DAI is also more exposed to pricing risks than BMW, having unfortunately launched its E-class into a falling luxury market and with less natural hedging is more exposed to FX risks than its peer. We also think that with Mercedes youthful workforce, its lack of modular-focused savings (relative to BMW and especially Audi/Porsche), and its belated efforts in the field of fuel economy provide less fat to trim. Even using consensus estimates for the truck sector (which we believe is risky given that the market seems to be underestimating the tepid recovery potential for the European truck market) our forecasts still remain 40% below market expectations for 2010E. Valuation metrics further point us to prefer BMW (currently 18% 10E EV/sales vs 44% at DAI, though admittedly DAI also incorporates high-rated trucks) and lead us to initiate coverage of Daimler with a 3-Underweight rating and a 32 price target.
Fiat (3- Underweight, 8 price target) (see page 78)

FIA.MI / F IM Stock Rating
3-UNDERWEIGHT
Sector View
2-NEUTRAL
Price Target
8
Price (4-Dec-2009)
10.56
Potential Downside
24%
We are initiating coverage of Fiat with a 3-Underweight rating and a 8 price target. While Fiat has rallied recently on hopes for Chrysler and press speculation of an FGA spin-out, we believe that while Chrysler is likely to survive through 2011, even a strong turnaround (albeit below management projections) would be worth only 1.50 per Fiat share by 2012. Moreover, by Fiats own admission, the prospects for a spin-out of Fiat Group Automotive, which would in our view unlock the value of CNH and Iveco, are remote in 2010. As a result, we believe investors will refocus on the core automotive business, which faces a difficult year as scrappage programmes fade away across Europe. As the programmes fade, we think Fiat, which benefited significantly from the shift to A and B vehicle segments, will be hit hard as volumes fall and price competition sharpens. The fall in volume will once again reveal the excess capacity in Italy, leading to negative headlines and difficult negotiations as Fiat navigates the delicate task of closing Italian capacity. We are therefore initiating coverage of Fiat with a 3-Underweight rating and we value the Fiat share based on an average of EV/sales and EV/EBTIDA at historical and peer average multiples, which lead us to our 8 price target.
6
8 December 2009
Peugeot (2- Equal Weight, 26 price target) (see page 101)

PEUP.PA / UG FP Stock Rating
2-EQUAL WEIGHT
Sector View
2-NEUTRAL
Price Target
26.00
Price (04-Dec-2009)
24.18
Potential Upside
Our 2-Equal Weight rating on Peugeot is based on our concern regarding the companys lack of scale both geographically and on a platform-by-platform basis. We believe that the market is already well versed in Peugeots strong upcoming model line-up and is already over-crediting the companys revenue growth potential in 2010 and beyond. We also believe that of the targeted 3.3bn of gross cost savings, the company is only likely to retain 2.1bn. Though Peugeots superior product mix and the upside potential if a buyer were to be found for its Faurecia stake prevent us from taking an underweight stance, likewise, the companys lack of scale and the markets over-confidence in its future cost saving potential steer us away from an Overweight rating. As with Renault, we base our valuation on a SotP methodology, which we confirm against peer average EV/EBITDA multiples in order to reach our price target of 26. We are initiating coverage of Peugeot with a 2-Equal Weight rating. For equity investors who are looking for exposure (delta) to the underlying equity, but with the defensive characteristics of downside protection, senior status, an income advantage and strong takeover and dividend protection features our Barclays Capital convertibles analysts recommend Peugeots 2016 convertible.
8%
Porsche (2- Equal Weight, 55 price target) (see page 121)

PSHG_p.DE / PAH3 GY Stock Rating
2-EQUAL WEIGHT
Sector View
2-NEUTRAL
Price Target
55.00
Price (04-Dec-2009)
47.51
Potential Upside
16%
We are initiating coverage of Porsche with a 2-Equal Weight rating and a 55 price target reflecting the uncertainties and risks in the next 16-18 months. While Porsches near-term prospects as a sports car manufacturer are strong in the face of a challenging market, the real value of Porsches pref shares lie in the current 51% holding of VW shares and their eventual conversion into VW NewCo shares (likely prefs). While we maintain a positive stance toward VW prefs (with a 1-Overweight and 85 target), we believe that public shareholders in both firms face transactional risk around the future fundraising and eventual merger ratios. With VW we believe that the ultimate earnings power, against the near-term low valuation in light of Qatari share sales, offers better protection against the vagaries of offering dilution and exchange ratios than do the Porsche prefs. We base our price target for the Porsches preference shares using an average of EV/sales and EV/EBITDA metrics at historical and peer average multiples leading us to our 55 price target.
Renault (1- Overweight, 42 price target) (see page 132)

RENA.PA / RNO FP Stock Rating
3-OVERWEIGHT
Sector View
2-NEUTRAL
Price Target
42.00
Price (04-Dec-2009)
35.59
Potential Upside
18%
Our 1-Overweight rating on Renault is based on the thesis that the glass is half full in relation to future potential synergies from the Nissan alliance. Whilst we acknowledge that the company is currently in a far from secure position in balance sheet terms and is yet to show evidence of current profitability in its automotive business, we believe that this leaves plenty of upside to the current share price when recovery sets in. In the near term, Nissans exposure to the US and emerging markets will likely aid Renaults earnings but where we feel that real additional value can be extracted from the Renault share is via the longer-term potential for increased use of commonality on platforms shared with its Asian associate. The unlocking of such synergies has long caused heated debate among analysts but we believe that RNO management are now whole-heartedly focused on both near-term cash management but also on turning their association with Nissan into something more obviously tangible. We are optimistic that 2010E will herald the beginning of an improved cash management strategy, which will include the sale of selected property assets and of any non-strategic investments, such as the Volvo stake. As at Peugeot, we base our valuation on a SotP methodology, which we check against peer average EV/EBITDA multiples to reach a price target of 42, which in turn drives our 1-Overweight rating.
7
8 December 2009
Volkswagen Prefs (1- Overweight, price target 85) and Volkswagen Ords (2- Equal Weight, price target 100) (see page 152)
VOWG.DE / VOW GY VOWG_p.DE / VOW3 GY Stock Rating
1-OW prefs / 2-EW ords

Sector View
2-NEUTRAL
Price Target
85.00 prefs / 100.00 ords

Price (04-Dec-2009)
63.50 prefs / 80.39 ords

Potential Upside
34% prefs / 24% ords
We are initiating coverage of Volkswagen with a 1-Overweight rating for the pref shares and a 85 price target, and with a 2-Equal Weight and 100 price target for the ordinary shares. We believe that VW is the most advanced of the European auto makers in capturing economies of scale and is likely the world benchmark for modularity which should give it the cost position to withstand the intense price competition we expect in 2010. Moreover, we do not view the potential Porsche merger and attendant financial manoeuvring as posing significant downside risk to VW pref holders, as VW appears to have protected itself against an inordinate amount of net debt on Porsches balance sheet. Any potential overpayment for Porsche assets is only at most in the range of 6-7 per VW pref share small in light of the significant upside potential as VW returns to 4% EBIT margins by 2012 (which would be below our longer term projections of 6-7% in 2014-15). We value the VW shares based on an average of EV/sales and EV/EBITDA metrics at historical and peer average multiples, which lead us to our 85 price target for prefs and 100 for ords. At the same time, we recognize that VW is seen as a consensus overweight yet has been a stock that has repeatedly punished the consensus trade. Given the erratic movements of Volkswagens shares many investors are loath to enter into a position that could result in substantial losses. These investors should, in our view, consider options as an alternative to the shares, with the benefit that the maximum loss to a long call or put position is the premium paid.
8 December 2009
SCRAPPAGE HANGOVER LIKELY WORSE THAN CONSENSUS EXPECTATIONS

Consensus expectations for European sales in 2010E appear to be for a slight softening in the range of 8-10%. We believe that government interventions clearly distorted the European market in 2009, masking what would have been a steep 25% decline in total Europe, had scrappage schemes not been initiated. This will be a difficult hole to climb out of given limited spillover of scrappage programmes into 2010, likely effects of pull ahead of 2010E sales into 2009, and expected weak euro area macroeconomic growth.
2009 W European sales would have declined 19% to 11mn units without government interventions
W European sales to fall only -3.4% (-14% total Europe) in 2009E but masking a -19% drop (-25% total Europe) had scrappage schemes not proliferated.
The European auto downturn of 2008-09 came after nearly a decade of sales that fluctuated mildly in Western Europe (between 14.2mn units and 15.1mn) while growing healthily in Eastern Europe to 1.2mn in 2008. For the full year 2009, we expect sales to reach 13.1mn in Western Europe, 870,000 in Eastern Europe and 1.9m in Russia, Turkey and former Soviet Union states for a net decline of -3.4% in W Europe and -14% in total Europe (or a cumulative decline since 2007 of -12% and -18% respectively). However, nearly 3mn of the 13.1mn sales in W EU in 2009E are likely to have been subsidized by scrappage programmes, which were adopted to varying degrees by the five major Western European markets as well as well as five of the smaller WE states and two of the new EU members.
Figure 1: European car registrations historical and forecast, 2007A-2012E (units in 000s)
Registrations (units in 000s) 2007 Germany UK Italy France Spain Rest of W Europe Total W Europe New EU States Pan-EU Russia Turkey & FSU Countries Total Europe 3,147 2,404 2,493 2,065 1,615 3,075 14,798 1,162 15,960 2,364 1,054 19,377 2008 3,090 2,132 2,162 2,050 1,161 2,966 13,561 1,179 14,740 2,708 1,101 18,549 2009E 3,750 1,860 2,000 2,150 880 2,460 13,100 870 14,000 1,312 622 15,934 2010E* 2,543 1,773 1,746 1,934 744 2,579 11,320 932 12,252 1,462 670 14,385 2011E 2,892 1,882 1,932 2,109 807 2,725 12,347 978 13,300 1,708 820 15,828 2012E 3,228 1,904 2,384 2,071 1,087 2,876 13,550 1,117 14,700 2,000 938 17,638 2009E +21.4% -12.7% -7.5% +4.9% -24.2% -17.1% -3.4% -26.2% -5.0% -51.6% -43.5% -14.1% YoY Chg (%) 2010E -32.2% -4.7% -12.7% -10.0% -15.4% +4.8% -13.6% +7.1% -12.5% +11.4% +7.8% -9.7% 2011E +13.7% +6.1% +10.7% +9.0% +8.4% +5.7% +9.1% +5.0% +8.6% +16.9% +22.2% +10.0%
Note: * assumes low level of extension to scrappage schemes in Italy, France, UK & Spain. Source: ACEA, JD Powers, Barclays Capital
8 December 2009
Figure 2: European summary of current scrappage schemes

F: 1000 + staggered tax staggered tax rebate up to 5000 > 10 years New car max 160 gCO2/km (staggered) 220mn 1 year 2008 2009 Proposal for extension 2010 L: 1500/1750 > 10 years New car max 150 gCO2/km 1 months 2009 UK: 2000 > 10 years 400mn 10 months 2009-10 NL: 7501,000 cars 7501,750 LCVs > 13 years (petrol) > 9 years (diesel) 65mn 2009-10 D: 2500 further tax rebate for Euro 5/6 cars > 9 years Min Euro 4, max 1 year 5 bn 1 year 2009
A: 1500 > 13 years New car min Euro 4 45 mn 9 months 2009
P: 1000/1250 > 8 years, > 13 years, New car max 140 gCO2/km 5 months 2009
SK: 2000 > 10 years 22.1 mn 9 months 2009
RO: 1000 > 10 years Max 60,000 vehicles 11 months 2009
E: Plan 2000E: 2000 Plan VIVE: interest free loan (10,000 max) > 10 years, or 250,000 km car max 5 years, max 140gCO2/km 1.5 years 20082010
I: 1500 3000 cars 2500 6500 LCVs > 9 years New car max 130-140gCO2/km 11 months 2009
GR: new scheme announced: 1500 3200 cars 2000 3700 LCVs 7000 13000 HDVs 2009 2012
Campaigns underway
Source: ACEA
Discussions
While scrappage provided the largest and most-discussed boost in Germany, other countries showed significant boosts as well. We estimate that scrapping programmes in WE provided nearly 3mn units of sales, and had a relatively minor positive affect in Eastern Europe. However, as critics of the programmes point out, at least some of these sales would have occurred anyway in 2009. To estimate the base underling rate we assume that, depending on the design of the programme, between 30% and 35% of the buyers would have found their way into showrooms with or without scrappage incentives. Of the remaining scrappage sales, we estimate that c50% were incremental sales and c50% a pull-forward of 2010E sales in 2009E.
8 December 2009
10
Figure 3: Barclays Capital 2009E scrappage model

% of scrappage % of scrappage sales that 'would sales pulled have occurred' in forward from 2009E pro forma ex scrappage 2009E 2010E 25% 35% 30% 30% 30% 30% 35% 30% 35% 35% 35% 35% 2,550 1,675 1,720 1,877 740 2,425 10,987 30% 30% 842 11,829 1,934 13,763 -25.8%
2008A Germany UK Italy France Spain Rest of WE W Europe New EU States Pan-EU Turkey, Russia & FSU Total Europe (inc Russia) YoY chg(total Europe)
Source: ACEA, JD Powers and Barclays Capital
2009E 3,750 1,860 2,000 2,150 880 2,460 13,100 870 14,000 1,934 15,934 -14.1%
Scrappage boost 1,600 285 400 390 200 50 2,925 40 2,965 2,965
3,090 2,132 2,162 2,050 1,161 2,966 13,561 1,179 14,740 3,809 18,549 -4.3%
As opposed to the scrappage fuelled headline number of 13.1m 09E, we believe that the true underlying rate is closer to 11mn in WE a far deeper hole from which to climb out.
Backing out the estimated 2.0mn scrappage sales that otherwise would not have occurred in 2009E (assuming c.30% of total 2.9mn scrappage sales would have occurred in the year even without scrappage), brings the underlying base rate of sales to 11.0mn in 2009 in WE and 13.8mn in total Europe (incl. Russia) a YoY decline of 19% in WE and 26% overall. Note that while our 14% decline forecast for 2010E will bring sales down to 11.3mn, far lower than the comfortable 14mn run rate of recent months in WE (sales even reached a SAAR of 15mn in Oct 09), the -25% cumulative decline this will imply between 2008A and 2010E is on a par with levels at which the markets cleared prior to scrappage incentive interventions (as per Figure 4 below), and in line with the 25% declines seen in the US prior to cash for clunkers. Figure 4: YoY change in monthly W European car sales
20% 15% 10% 5% 0% -5% -10% -15% -20% -25% -30% Jul-07 Jul-08 Nov-07 Nov-08 Sep-07 Sep-08 Jul-09 Mar-07 Mar-08 May-07 May-08 Mar-09 May-09 Sep-09
11
Jan-07
Jan-08
EU(15) + EFTA(3)
Source: ACEA, Barclays Capital
8 December 2009
Jan-09
2010 sales of 11.3mn likely in W Europe - limited scrappage boost and modest euro area economic growth
We believe that extension of scrappage programmes could provide a further scrappage boost of 1.0mn units in 2010E, offsetting some of the payback from pull-ahead sales, and underlying euro area growth of 1.6% could provide an additional boost of, optimistically, 5% to auto sales, to bring total sales to 11.3mn in WE and 14.3mn in total Europe well below the consensus range which we estimate at c.12.2mn to 13mn in WE.
Figure 5: Barclays Capital 2010E scrappage model

2009E Germany UK Italy France Spain Rest of WE W Europe New EU States Pan-EU Russia Total Europe (inc Russia) YoY chg total Europe
Source: Barclays Capital
2010E 2,543 1,773 1,746 1,934 744 2,579 11,320 932 12,252 2,132 14,385 -9.7%
Pay back from Continued 2009 scrappage scrappage boost -560 -85 -140 -137 -70 -18 -1,010 -12 -1,020 400 100 80 100 60 50 790 60 850
Pro forma ex scrappage 2,703 1,759 1,806 1,971 754 2,547 11,540 884 12,500 2,132
change in base demand 6% 5% 5% 5% 2% 5% 5% 5%
3,750 1,860 2,000 2,150 880 2,460 13,100 870 14,000 1,934 15,934 -14.1%
5%
850
14,556
A few scrappage schemes still to play out in 2010 but not likely to offset payback from sales pulled forward in 2009
While the bulk of scrappage programmes played out in 2009, at least a few countries still have budget or plans for scrappage in 2010. In France, a government draft budget document is set to reduce the incentive support from the current level of EUR1,000 to EUR700mn on 1 January 2010 and to EUR500mn on 1 July 2010. The UK recently extended its scheme by an additional 100,000 vehicles and it is expected that the Spanish and Italian schemes will also be extended to some degree. Although, the German programme ran out of money in early September, and there has been no suggestion that an extension can be expected, there is still expected to be some carryforward into 2010E as the scheme was based on orders placed rather than on deliveries. In particular, we believe that VW likely as an order book of at least 500,000 units, of which 300,000 are likely to be delivered in 2010 in the winter and early spring. In addition, but not assumed in our analysis, German automakers appear to be pressing for a subsidy programme (or changes in personal taxation of company-provided cars to reflect actual price vs. list price) focused on company fleets, a segment in which sales fell from the normal range of 1.8mn units to 1.2mn units in 2009. At the same time, while we believe the scrappage programmes, particularly in Germany, attracted many customers who would not otherwise have bought a new car, some sales were undoubtedly pulled forward from 2010E as consumers accelerated purchases. As a result, the net impact of scrappage in 2010 will be negative a likely boost of 0.8mn from continuation of scrappage schemes but battling a headwind of 1.0mn sales that were pulled forward from 2010E into 2009.
8 December 2009
12
Overall, across the 2008-10 cycle, we expect a decline in Western Europe of 25% (with the aid of scrappage incentives), only slightly worse than the 1992-93 downturn but significantly worse than other post 1970 downturns.
Figure 6: W European historical car sales, 1970-2012E (units in 000s)

16,000 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 1970 1974 1978 1982 1986 1990 1994 1998 2002 2006 2010E '73-74 -13% '79-81 -8% '92-93 -17% '00-03 -7% 08A-10E -25%
W European Car Market Total ('000)

Source: ACEA, JD Powers, Barclays Capital
Macro boost of 4-5% is somewhat optimistic given history of rebounds

We are somewhat optimistically assuming that underlying base sales (that is, 2009 stripped of scrappage distortions) will grow 5% - yet we still remain significantly below consensus with our 11.3mn (-13.6%) estimate for Western Europe in 2010E (we believe consensus is expecting only an 8-10% decline). In looking at prior cycles in Western Europe, the average rebound was 3.4% or on average 0.7x the prior years downturn. The sharpest rebound was 6% in 1994, after a near-17% decline in 1993. Figure 7: Western European historical & forecast car sales cycle, 1970A-2015E
W EU car market total ('000) 1973 1974 1975 1976 1979 1980 1981 1982 1983 1984 1985 1986 1990 1991 1992 1993 1994 1995 9,431 8,160 8,416 9,532 10,636 10,107 9,817 10,004 10,460 10,152 10,664 11,684 13,517 13,416 13,498 11,252 11,938 12,034 YoY change % 1.2% -13.5% 3.1% 13.3% 3.9% -5.0% -2.9% 1.9% 4.6% -2.9% 5.0% 9.6% 0.5% -0.7% 0.6% -16.6% 6.1% 0.8% average of prior first year rebounds 3.4% average of prior 2nd year rebounds 7.0%
Source: JD Powers, ACEA, Barclays Capital
8 December 2009
13
Moreover, regression shows that for every 1% change in euro area GDP, automotive registrations will change about 1.8%. Note while we examined other macro factors, including income growth, unemployment and interest rates, GDP alone provided the best (albeit, with 23% R-squared, a somewhat weak) fit. Figure 8: Barclays Capital estimates for real GDP growth, 2008-2010E
Real GDP % over previous period, SAAR 1Q09 Europe and Africa Euro area Germany France Italy Spain Netherlands United Kingdom Sweden EM Europe & Africa Czech Repub. Hungary Poland Russia
Real GDP % annual change 2Q10 2.1 1.7 2.5 1.1 1.4 0.3 3.1 1.9 2.4 3.0 2.8 1.2 2.4 2.5 3Q10 2.1 1.6 2.0 0.9 2.0 0.1 2.7 1.7 2.7 3.2 3.5 2.4 3.2 3.3 2008 1.5 0.6 1.0 0.3 -1.0 0.9 2.0 0.6 -0.4 4.0 3.0 0.5 4.9 5.6 2009 -4.3 -3.8 -4.8 -2.1 -4.8 -3.5 -4.4 -4.6 -4.7 -5.3 -4.7 -6.5 0.9 -7.5 2010 1.9 1.6 2.6 1.2 1.2 -0.3 2.0 1.3 1.8 2.9 2.0 0.5 2.9 3.0 1Q10 1.8 1.6 3.0 0.8 1.0 -0.7 3.1 2.0 2.0 2.1 0.4 0.8 1.6 1.5
2Q09 -0.6 -0.7 1.3 1.1 -2.0 -4.2 -4.4 -2.3 0.6 0.4 -2.7 -7.8 2.0 -2.2
3Q09 3.2 2.3 3.6 2.5 2.7 -0.1 -0.4 -1.0 0.8 7.3 4.4 -3.2 0.8 17.0
4Q09 3.1 1.6 2.9 1.4 0.7 -0.3 2.5 2.2 1.2 7.0 6.2 -1.4 0.0 13.7
-12.2 -9.6 -13.4 -5.4 -10.4 -6.2 -10.3 -9.6 -3.7 -19.7 -15.7 -8.5 1.2 -26.8
Overall, our BarCap economics colleagues forecast 1.6% growth in WE GDP for 2010, with growth rates varying from -0.3% in Spain to 2.6% in Germany. Using the 1.8x multiplier (where every 1% change in Real GDP correlates to 1.8% change in auto registrations as per Figure 10 below), this implies registration growth of 3.4% (consistent with prior rebounds), with the strongest growth in base demand likely in Germany which had the greatest scrappage distortion. However, when we back out the likely scrappage payback in 2010E, we are left to forecast just 2.5mn units, somewhat below consensus expectation of 2.7mn units in Germany in 2010E. There are still a few scrappage schemes to play out in 2010 but not likely to offset payback from sales pulled forward in 2009 (see scrappage section later in this report). Figure 9: EU car registrations vs. real GDP YoY Chg (%), 1995-2009
15% 10% 5% 0% -5% -10% Dec-95 Dec-97 Dec-99 Dec-01 Dec-03 Dec-05 Dec-07 -15% 5% 4% 3% 2% 1% 0% -1% -2% -3% -4% -5% -6%
Figure 10: Correlation of EU car registrations to real GDP (YoY Chg %), 1995-2009
15% Registrations (yoy % c 10% 5% 0% -5% -10% -15% -6%
R2 = 0.23 1% change in Real GDP = 1.8% change in registrations
-4%
-2%
0%
2%
4%
6%
Car Registrat.
Source: ACEA, Haver Analytics, Barclays Capital
Real GDP
Real GDP (YoY % chg)

Source: Haver Analytics, Barclays Capital
8 December 2009
14
EU PRODUCTION TO WEAKEN SEQUENTIALLY BUT GLOBAL GROWTH PICKS UP

Supported by the regions scrappage programmes, European production in 2009 recovered somewhat from 3.4mn units in 1Q09 to an estimated 4.4mn in 4Q09. However, with most government incentives ending in 2009, the region is likely to experience some payback from pulled forward demand, in our view. As a result, we expect European production to decline in 2010 to 15.9mn units, down from an estimated 16.2mn units in 2009. Figure 11: Pan European production (including LCVs and Russia): 2007-2015E (and quarterly), units in mn
21.7 22.3
20.5 18.6 16.2 15.9 17.1
19.8
21.0
5.8
5.9
4.8
4.0
3.4
4.2
4.2
4.4
4.0
4.0
3.7
4.2
1Q08
2Q08
3Q08
4Q08
1Q09
2Q09
3Q09
2007
2008
2009E
2010E
2011E
2012E
2013E
2014E 2014E
4Q09E
1Q10E
2Q10E
3Q10E
Source: CSM, Barclays Capital
At the same time, we expect North American production to increase from an estimated 8.6mn units in 2009 to 11.2mn units in 2010, as recent US sales performance suggests signs of a recovery. Indeed, US sales have improved modestly in 4Q09, with November SAAR reaching 10.9mn, up from 10.5mn in October and a 1H09 average of 9.6mn. Furthermore, North American production volumes in 2009 were depressed due to the industrys need to correct for excess inventory, which we do not expect to reoccur in 2010. Figure 12: North America light vehicle production 2007-15E (and quarterly), units in mn
4Q10E
15.1 12.6 11.2 8.6 13.5 12.5
15.0
14.4 14.5
3.5
3.5
3.0
2.7 1.7
1.8
2.4
2.7
2.5
2.9
2.6
3.1
1Q08
2Q08
3Q08
4Q08
1Q09
2Q09
3Q09
2007
4Q09E
1Q10E
2Q10E
3Q10E
4Q10E
2008
2009E
2010E
2011E
2012E
2013E
8 December 2009
2015E
15
2015E
On a global basis, we expect light vehicle production to increase, fuelled by a rebound in North America and continued growth in BRIC countries. Figure 13: Global light vehicle production 2008-15E
77.7 72.6 65.4 5.0 3.7 1.7 14.4 7.5 20.5 16.2 12.6 2008 8.6 2009E 55.7 4.6 3.6 1.6 10.7 10.5 66.6 61.1 5.3 3.9 1.7 12.1 11.1 15.9 11.2 2010E 6.0 4.1 1.9 13.0 11.9 17.1 12.5 2011E 6.9 4.7 2.0 13.5 13.4 18.6 13.5 2012E 7.4 5.0 2.1 14.2 14.2 19.8 15.0 2013E
79.5 7.8 5.3 2.1 14.1 14.8
81.7 8.1 5.6 2.2 13.8 15.3 South Asia South America Middle East/Africa Japan/Korea Greater China Pan Europe North America
21.0 14.4 2014E
22.3
14.5 2015E
8 December 2009
16
DESPITE LONG-TERM DOWNSIZING, MID-TERM GROWTH IS IN VOLUME C AND ABOVE SEGMENTS AS SCRAPPAGE DISTORTION FADES
In addition to boosting volumes well above their base run rate, the European scrappage programmes, by design, shifted mix dramatically downward. Going forward, however, even acknowledging the longer-term shift to A (city car, eg, Fiat Panda) and B class (subcompact, eg, VW Polo, Ford Fiesta) vehicles, in the mid-term we expect mix to somewhat renormalize in a recovering market. As a result, we believe the fastest growing segments through 2012 will actually be volume C segments (compact, eg, VW Golf, Ford Focus) and C/D and D segments (midsize, eg, VW Passat, Ford Mondeo).
In 2009, in the volume market, the A segment gained 270 points of segment share over 2008, the B segment 360bp while C segment lost 180bp and
29.5%
Figure 14: Western Europe mass vehicle segment mix 2008 vs. 2009E
33.1% 31.4% 29.6%
13.7% 10.5% 8.0% 7.0%
B 2008 2009
Source: JD Powers, Barclays Capital
The shift in segment share across Europe can more than be accounted for by the scrappage programmes in the top five countries for example, the German programme alone contributed 4.2 share points in 2009 to the overall European increase in volume B segment share vs. 2008.
Figure 15: A-C volume segment market share and YoY chg by country, 2009E vs 2008A
A segment 2008 segment market share YoY Chg by Country: France Germany Italy Spain UK Other Memo: total change 2009 segment market share
B segment 29.5%
C segment 31.4%
10.5%
0.9% 1.7% 0.4% -0.1% 0.3% 0.3% 3.2% 13.7%
0.5% 4.2% 0.2% -0.4% -0.2% -0.8% 3.7% 33.1%
0.0% 1.6% -0.2% -0.8% -1.0% -2.5% -1.8% 29.6%
The 320bp one-year increase in A share and 370bp change in B share is well ahead of the longer term trendline shift to smaller vehicles. For example, the A segment only grew by 350bp between its 2003 low of 6.4% and 2008, while was actually flat in the ten year period 1998-2008. The B segment grew by 400bp over the same ten-year period.
8 December 2009
17
Figure 16: Western Europe overall segment share 1994-2008

40.0% 35.0% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 A
Source: JD Power, Barclays Capital
Going forward, we expect some renormalisation of mix.
Figure 17: A to D volume market segment share 2006-12E

2006 A - Basic B - Small Memo: A + B C - Lower Medium D - Upper Medium Memo: C + D Memo: A - D
2007 8.4% 29.7% 38.1% 31.9% 8.4% 40.3% 78.4%
2008 10.5% 29.5% 40.0% 31.4% 8.0% 39.5% 79.4%
2009 13.7% 33.1% 46.8% 29.6% 7.0% 36.6% 83.4%
2010 11.4% 31.4% 42.8% 32.6% 6.7% 39.3% 82.1%
2011 11.5% 32.8% 44.3% 31.8% 6.2% 38.1% 82.4%
2012 12.0% 32.8% 44.8% 31.0% 6.1% 37.1% 81.9%
8.2% 29.9% 38.1% 31.4% 9.6% 41.0% 79.1%
As a result, the A and B segments are likely to shrink by almost 1mn units, while the D segment should grow slightly and the C segment remain flat.
Figure 18: Change in volume by segment 2009 to 2012E
F - Luxury E - Executive D - Upper Medium C - Lower Medium B - Small -540 A - Basic -600 -413 -500 -400 -300 -200 -100 -45
-4 38 89
100
200
Change in units 2009-12E (000)

8 December 2009
18
SCRAPPAGE AND LOAN PROGRAMMES PRESERVED EXCESS CAPACITY

With well-known restrictive labour relations in most Western European countries, the European market has been plagued by excess capacity, with capacity utilisation averaging only 84% from 2001 to 2007. Figure 19: European capacity utilisation rates, 2001-2015E vs 6yr historical average
95% 90% 85% 80% 75% 70% 2001
2003
2005
2007
2009E
2011E
2013E
2015E
European Capacity Utilisation

Historical average
Government interventions during the downturn of 2009 forestalled the capacity reduction that might normally accompany a sharp cyclical downturn. European capacity (excluding Russia and Turkey) stood at 20.8mn units in 2005, and is likely to close 2010 at 18.2mn units. Note that the downturn has only resulted in 3.9mn units of capacity reduction in the overall European market, whereas production has fallen by 4.3mn units during the same period, causing utilisation rates for the industry as a whole to stall at below 80% until 2011E and below the 6-year historical average for the overall market of 84% until at least 2012E.
Figure 20: European total production & capacity 2005A2010E (mn)

24.0 22.0 20.0 18.0 16.0 14.0 12.0 2005
Figure 21: European overall market production vs capacity utilisation 2005-2015E

19.0 18.0 85.0% 17.0 16.0 15.0 75.0% 14.0 13.0 70.0% 2008 2010E 2012E 2014E European capacity 80.0% 90.0%
2006
2007
2008
2009E
2010E
European Capacity (mil)

European Production (mil)
European Production (LHS)

8 December 2009
19
Volume capacity particularly hampered by government interventions

Having averaged 83% from 2001 to 2007, capacity utilisation for the volume market is not likely to surpass 80% until 2012 and will not reach 90% levels until 2015, when production volumes are expected to attain near pre-crisis levels. Figure 22: European volume* production vs capacity utilisation 2008-2015E
14.0 90.0%
13.0 Millions
85.0%
12.0
80.0%
11.0
75.0%
10.0 2008 2009E 2010E 2011E 2012E 2013E 2014E 2015E
70.0%
European Volume Production (LHS)
EU volume capacity utilisation % (RHS)
Source: CSM, Barclays Capital *total market ex-BMW, Mercedes, Porsche Audi & JLR/Tata
Although EU volume manufacturers will maintain utilisation above market average from 2010E onwards, they will be overtaken by their Asian peers in 2011E and will still linger below the 85% level until 2014. Government intervention to hinder major capacity reduction plans, eg, 6bn loaned by govt to PSA and RNO dependent on no plant closures in France.
Figure 23: European volume capacity utilisation by company type 2008-2015E

95% 90% 85% 80% 75% 70% 65% 2008
2009E
2010E
2011E
2012E
2013E Asian
2014E
2015E
European Volume*
US based
Volume avg
Source: CSM, Barclays Capital *European volume comprises Fiat, PSA, Renault & Volkswagen ex-Audi
PSA is likely to achieve the highest utilisation rates in the market in the next three years peaking at 95% in 2012E, even trumping premium peers, helped partly by rationalisation schemes at Aulnay and Rennes and also by upcoming model launches in C-segment. However, we believe that PSAs cost-cutting efforts are well understood by the market and that by contrast, RNO, which has the greater amount of savings to achieve since it has one of the lowest capacity utilisation rates in the market, will actually surprise the market by its ability to significantly increase the scale-effects with Nissan (see RNO section later in this report).
8 December 2009
20
Premium manufacturers suffer from lack of demand but more room to manoeuvre
The premium market suffers from overcapacity, albeit not to the same extent as its volume peers, nor was capacity artificially preserved by explicit government intervention. Capacity utilisation fell to 77% in 2009 (from a six-year historical average of 91%), but could reach 88% by 2012E and 95% by 2015, spurred by rebound in export demand and modest expansion of European demand.
Although average historical utilisation at 91% far exceeds excess capacity will linger for premium OEMs in 2010 with only 81% utilisation.
3.0 85.0% 2.0 1.0 0.0 2008 2009E 2010E 2011E 2012E 2013E 2014E 2015E 80.0% Millions
Figure 24: European premium* production vs capacity utilisation 2008-2015E

5.0 4.0 95.0%
that of the volume market,
90.0%
75.0%
EU Premium Production
EU premium capacity utilisation % (RHS)
Source: CSM, Barclays Capital *BMW, Mercedes, Audi, Porsche & JLR/Tata
The premium market excess capacity is not evenly distributed -- BMW, Audi and Porsche are likely to maintain capacity utilisation in 2010 of 93%, 85% and 84%, while Mercedes and Tata (Jaguar/Land Rover) will stall at 74% and 77% respectively. In terms of units, Daimler likely will have about 370,000 units of excess capacity, compared to 80,000 for BMW and 135k for Audi.
Figure 25: European volume OEM excess capacity by company 2010e

Volkswagen Ford Renault PSA Fiat General Motors Toyota Nissan Honda Hyundai 0
Figure 26: European volume OEM capacity utilisation by company 2008-2015E

95% 90% 85% 80% 75% 70% 65% 60% 55% 2008 2009E 2010E 2011E 2012E 2013E 2014E 2015E
885 401 354 287 268 239 126 125 96 74 200 400 600 800 1,000
Fiat
PSA
Renault
VW ex-Audi
8 December 2009
21
Figure 27: European premium excess capacity by company 2008-2015E

400 350 Thousands 300 250 200 150 100 50 0 BMW Daimler Audi Tata Porsche 78 17 133 112 369
Figure 28: European OEM capacity utilisation by company 2010E

100% 95% 90% 85% 80% 75% 70% 65% 60% 2008 2009E 2010E 2011E 2012E 2013E 2014E 2015E BMW Audi Porsche
Excess production capacity

Mercedes Tata/JLR Premium avg
8 December 2009
22
SCRAPPAGE SCHEMES MAY HAVE HOOKED EUROPEAN CONSUMER ON INCENTIVES SETTING UP PRICING PRESSURE
Perhaps the most insidious unintended consequence of the scrappage programmes may be a potential breakdown in pricing discipline in key European markets, leading to more transparent pricing and a price shopping, deal seeking consumer as has developed in the US. Historically, the weak capacity utilisation in Western Europe has been counterbalanced by relatively robust pricing in the volume car market. In particular, the more concentrated major markets, France and Germany, which have local companies with high volume share, tend to have higher list prices than less concentrated markets such as Spain and the UK without indigenous manufacturers. Figure 29: European list prices for volume segments A-D, Jan 2009
IE PT BE D LU FR ES AT IT NL FI CY EL M UK
Source: European Commission
10,878 10,870 10,799 10,747 10,681 10,548 10,498 10,454 10,286 9,993 9,810 9,703 9,462 9,272 List price (Euros) 7,613
According to a recent report published by the European Commission1, real (ie, inflationadjusted) car prices declined in 23 out of 27 Member States between January 2008 and January 2009. The EU price index for cars (reflecting nominal prices paid by consumers, including VAT and registration taxes) decreased by 1.3%, against a 1.8% rise in overall prices, translating into a fall in real car prices of 3.1%. In new Member States, consumer are even more price-sensitive as lower incomes have historically led a high share of consumers to opt for second-hand cars, manufacturers are facing particularly price-sensitive consumers. As a result, real prices in EE countries decreased on average (-6.9%). However, this data only assesses manufacturer list prices and does not take account of the recent surge in incentive discounts which differ from country to country and have a significant impact on manufacturer profitability.
Even excluding the effects of scrappage incentives across the EU, real car prices fell 3% in 2008 and are likely to have fallen even more sharply in 2009E
A combination of a dramatic fall in consumer demand and a sea change in consumer pricing expectations, induced by both government scrappage schemes and companies own attempts to drive down overstockage via pricing promotions, also mean that manufacturers are not now in a position to significantly raise prices in countries affected by currency devaluations. Prior to the scrappage programmes, manufacturer rebates had been minimal and sporadic in most countries, and rarely widely advertised. But the various scrappage
1
European Commission Car Price Report at 1.1.2009, published June 2009
8 December 2009
23
programmes led to intense media coverage around the level of government 'cash on the bonnet,' which ranged from 1,000 to 2,500 per vehicle, with even additional rebates in some countries for the most environmentally friendly cars. Figure 30: Scrappage incentive levels per vehicle by country (EUR)
2,500 2,000 1,500 1,000 1,120
France
UK
Italy
Spain
Germany
Source: ACEA & Country statistics
In addition, some manufacturers would offer up to double the government cash in heavily advertised offers. Figure 31: Examples of incentivised cars in Germany (prices in )
Vehicle Base price Govt rebates OEM rebates TOTAL rebates Net price Advertising pitch Fiat Panda 9,690 2,500 2,200 4,700 4,990 Fiat Grande Punto 11,550 2,500 2,360 4,860 6,690 Fiat Bravo 15,950 2,500 3,460 5,960 9,990
Weniger ist mehr, weniger ist besser, weniger ist genial [Less is more, less is better, less is genius]
Vehicle Base price Govt rebates OEM rebates TOTAL Rebates Net price Advertising pitch
Nissan Micra 11,220 2,500 4,000 6,500 4,720
Nissan Note 16,790 2,500 4,000 6,500 10,290
Nissan Qashquai 20,190 2,500 4,000 6,500 13,690
Jetzt bis zu 6,500 prmien sichern [Save up to 6,500 - secure your rebate now]
Source: Company data, trade press
8 December 2009
24
In Germany list prices are currently about 5.5% more than the average for the 16 eurodenominated countries, which allows greater flexibility for manufacturer/dealer incentive packages. The German governments Umweltprmie or 5bn scrappage incentive programme ran out of money in September, prompting carmakers to step up discounts yet further: for instance Ford is currently offering zero-percent financing and a 2,000 rebate for the Focus, Fiesta and Ka compacts in Germany and a package of cheap loans, insurance and servicing provides savings of as much as 1,330 on most VW models. Figure 32: Government scrappage schemes have led automakers to heavily boost their own incentives in 2009
Avg OEM incentives in Germany Avg incentive/car () Incentive as % of list price (%)
Source: KBA, Barclays Capital
Oct 2009 2,485 11.6%
Sep 2009 2,292 10.7%
Dec 2008 2,528 11.8%
In the US market, a somewhat analogous anti-recession incentive programme (albeit only company funded) led to a marked deterioration in pricing that persisted for years, leading to a relatively profit-less recovery. After the events of September 11, showroom traffic slowed dramatically, threatening US automotive production further in the midst of the post techboom recession. To restart its own sales (and arguably to reboot a key part of the US economy), GM launched its 'Keep America Rolling' programme, offering zero-percent financing. The programme, quickly matched by both domestic and transplant manufacturers, led to a marked rebound in sales, which rose from a SAAR of 16.1mn units in September 2001 to a peak of 21.3mn in the following month -- as average incentives rose steadily from US$1.5/car in early 2001 to $2.7k in October and to over $3k/car in late 2002. Figure 33: US monthly sales (000s) and monthly incentives per car (US$)
400 350 300 250 200 150 $4,500 $4,000 $3,500 $3,000 $2,500 $2,000 $1,500
Thousands
Jan-02
Jul-02
Jan-03
Jul-03
Jan-04
Jul-04
Jan-05
Jul-05
Jan-06
Jul-06
Jan-07
US monthly car sales

Source: Autodata
Avg monthly incentive per car (US$)
However, sales fell in late 2001 due to payback. Rather than accepting the decline, US auto makers boosted incentives to restart sales (and, at least for GM to 'run the business for cash' to cover fixed costs), leading to three years of rising incentives but stalled sales.
8 December 2009
Jul-07
25
Figure 34: US monthly sales (000s) and monthly incentives per car (US$), 2002-07A
400 350 300 250 200 150 $4,500 $4,000 $3,500 $3,000 $2,500 $2,000 $1,500
Thousands
Jul-02
Jul-03
Jul-04
Jul-05
Jul-06
Jan-02
Jan-03
Jan-04
Jan-05
Jan-06
US monthly car sales

Source: Autodata
Avg monthly incentive per car (US$)
While manufacturers attempted to the boost list price to offset some of the incentives, the real price of new cars and trucks fell steadily until this past year, when manufacturers finally resisted the urge to cut prices in the face of falling demand in the US market. Figure 35: Real new car CPI -- US market 1996-09A, YoY chg %
6% 4% 2% 0% -2% -4% -6% -8% -10% Mar-96 Mar-97 Mar-98 Mar-99 Mar-00 Mar-01 Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09
26
Real CPI YoY Chg %
New car
Source: US Bureau of Labor Statistics
New truck
In Europe, as incentive programmes wind down, pricing stands on the cusp of following the profitless American-style path. Already in 2009, pricing appears to have deteriorated by 3.1% on a real basis. With residual value depreciation comprising c47% of the total cost of vehicle ownership, a softer new vehicle pricing environment will also likely have a knock on negative effect on second-hand pricing which will impact both consumers and leasing-exposed manufacturers alike.
8 December 2009
Jan-07
Jul-07
Figure 36: Total cost of ownership for average vehicle in Europe

Taxes Tyres 5% 5% Maintenance 8% Interest 8% Residual value depreciation 47% Admin 1%
Insurance 12% Fuel 14%

Source: EurotaxGlass
Our recent conversations with OEMs, as well as the 3Q09 result discussions, revealed pricing concerns across the spectrum. Three points stood out: Luxury makers reported that pricing in key markets was coming under pressure as consumers and dealers demanded rebates to match those offered under scrappage programmes to volume makers. To date, this pressure has been only partially buffered by new model roll outs. Volume manufacturers point to manufacturer incentives being frequently added on top of government incentives, with intense competition during many programmes. With the conclusion of scrappage program in Germany, manufacturer incentives are remaining constant, albeit with falling order volumes leading to risks of future price cuts. Most manufacturers believe pricing pressure is more acute in the retail market, while corporate programme buyers show less price sensitivity.
Figure 37: Euro area new and second-hand car prices, YoY chg %
4% 2% 0% -2% -4% -6% -8%
Figure 38: Selected European country new car nominal CPI

4% 3% 2% 1% 0% -1% -2%
Nov-08
Jan-08
Mar-08
Jan-09
May-08
Mar-09
May-09
Jul-08
Sep-08
Jul-09
Sep-09
-3%
Mar-08
May-08
Mar-09
May-09
Jul-08
Nov-08
Jan-08
Sep-08
Jan-09
Jul-09
NL
France Spain
Source: Eurostat
Germany Euro zone
Italy UK
Source: Eurostat
Germany
France
8 December 2009
Sep-09
27
Figure 39: Manheim index of residual values, YoY chg %
Figure 40: Average European OEM monthly incentive spending per car in US market, Jan 01 to date (US$)
$4,500 $4,000 $3,500 $3,000 $2,500 $2,000 $1,500 $1,000 $500 $0 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08
15% 10% 5% 0% -5% -10% -15% Aug-07 Aug-08 May-07 May-08 May-09 Aug-09 Nov-06 Nov-07 Nov-08 Feb-07 Feb-08 Feb-09
European Car Average US incentive

Source: Manheim Consulting Source: Autodata
8 December 2009
Jan-09
28
CURRENCY SHIFTS PRESSURE US AND UK IMPORTS

Arguably, the aggressive fiscal and monetary stimulus taken by the UK and US governments have led to a weakening of their currencies, creating further pressures (perhaps unintended) on importers into those markets. Over the last year, the pound has fallen 15% relative to the euro while the US dollar has slipped 12%. Although of the European OEMs BMW has one of the highest proportions of sales in the UK and US markets (22% of sales in the US market and 11% in UK), but with a significant manufacturing presence in the UK and the US, BMW is also one of the most insulated in our coverage to both the US and UK. All other manufacturers have meaningful pound sterling exposure, especially after PSA chose to close its UK, Ryton plant. Fiat, PSA and VWs low proportion of sales in the US (and VWs plant in Mexico and future plant Tennessee, US) leave them less exposed to the US dollar weakness, while Nissan is partially hedged. Of all OEMs, Daimler has the biggest FX exposure being exposed both to the US and to the UK and with very little natural hedging in either region.
Figure 41: Current EURUSD spot rates painful to importers

1.70 1.60 1.50 1.40 1.30 1.20 1.10 1.00 Jan-05
Figure 42: EURUSD forward rates remain close to US$1.5

1.492 1.490 1.488 1.486 1.484 1.482 1.480 1.478 1.476 1.474 1 day
Jan-06
Jan-07
Jan-08
Jan-09
1 month
3 month
9 month
2 year
EURUSD
Source: Datastream Source: Datastream
EURUSD forward rates
Figure 43: Current EURGBP spot rates painful to importers

1.00 0.90 0.80 0.70 0.60 0.50 Jan-05
Figure 44: Forward rates do not imply GBP burden will ease
0.915 0.910 0.905 0.900 0.895 0.890 0.885 1 day
Jan-06
Jan-07
Jan-08
Jan-09
1 month
3 month
9 month
2 year
EURGBP
EURGBP forward rates
8 December 2009
29
WE FAVOUR THOSE WITH DOMINANT HOME MARKET C & D POSITIONS

Overall the WE volume market is highly fragmented, but home country hegemony offers profit pockets in Western Europe
The threat of a pricing war could upset what has been a historically attractive pricing environment in Europe driven by local market concentration. While WE appears fragmented on an overall basis (HHI under 1,500, no player over 25% share), many volume segment/country markets (eg, B car in Italy) are highly concentrated, offering competitors pricing power.
WE appears fragmented on an overall basis (HHI under 1500, no player over 25% share)
Figure 45: Overall Western European market shares

Group 2006 2009E Share change
Porsche-VW Group PSA Group Renault-Nissan Group Ford Group Fiat Group GM/Opel Daimler Group Toyota Group BMW Group Hyundai Group Honda Group Other
18.9% 13.8% 11.8% 10.1% 8.3% 9.8% 5.8% 5.6% 4.7% 3.2% 1.5% 6.3%
20.7% 14.1% 11.1% 10.4% 9.5% 8.7% 5.4% 5.1% 4.5% 3.6% 1.7% 5.4%
1.8% 0.3% -0.8% 0.3% 1.2% -1.2% -0.3% -0.6% -0.2% 0.3% 0.1% -1.0%
Concentration index (HHI) Top 3 share

1039 44.6%
1101 45.9% 1.3%
Segment/country concentration favours home country incumbents -- despite years of EU directives aimed at harmonization, home country preferences in volume market remain strong (eg, French have 40% share in France, VW 30% share in Germany, Fiat 45% share in Italy A/B car, Ford still seen as UK local firm with 25% of C market).
8 December 2009
30
Figure 46: Home company share by country/segment volume market*

69% 70% 59% 44% 28% 47% 51% 42%
67%
24% 13% 1%
France A
Germany B C D
Italy
Source: JD Powers, Barclays Capital (ie, market share of domestic manufacturers -- RNO & PSA combined share in France; Smart & VW in Germany; Fiat in Italy)
As a result, several pockets of concentration remain, offering pricing power if the lead competitor chooses to set a price umbrella, and other competitors follow suit. Note we measure concentration using the Hehrfindal-Hirschman index (HHI), which is the sum of the squares of the market shares of the participants. An HHI of 10,000 would be a one-layer market (10000 = 100*100 ), while a two-player market with each player at 50% share would have an HHI of 5000 (= 50*50 + 50*50). A market over 1,800 is considered concentrated, while a market over 3,000 is considered highly concentrated. Figure 47: Concentration ratios & degree of concentration by country/segment volume OEMs
HHI Ratios: A B C D E G sports MPV Pickup SUV Van
France Germany Italy Spain UK

Degree of concentration::
2945 1343 3050 2090 1715
2429 1359 2199 1497 1280
2112 2483 1260 1523 1483
3184 2655 2643 1740 1614
4311 3528 9450 3431 4444
3133 4263 3688 3853 3293
2715 2211 1885 1442 2256
2821 3176 2855 2783 2938
2753 3021 2627 2104 2267
2745 2152 2020 2019 1705
MEDIUM LOW HIGH MEDIUM LOW
MEDIUM LOW MEDIUM LOW LOW
MEDIUM MEDIUM LOW LOW LOW
HIGH MEDIUM MEDIUM LOW LOW
HIGH HIGH HIGH HIGH HIGH
HIGH HIGH HIGH HIGH HIGH
MEDIUM MEDIUM MEDIUM LOW MEDIUM
MEDIUM HIGH MEDIUM MEDIUM MEDIUM
MEDIUM HIGH MEDIUM MEDIUM MEDIUM
MEDIUM MEDIUM MEDIUM MEDIUM LOW
Note: Concentration ratio is sum of squares of market shares, over 1800 is considered concentrated, over 3000 highly concentrated Source: JD Powers, Barclays Capital
8 December 2009
31
Figure 48: Key Western European markets: estimated volume by segment 2011E (units)
1.0 0.9 0.8 0.7 0.6 0.5 0.4 0.3 0.2 0.1 0.0 A - Basic B - Small C - Lower Medium Germany Italy D - Upper Medium Spain UK Van Millions
France
The luxury market remains highly concentrated -- which has in the past supported strong pricing. The risk going forward is the three-party concentration can quickly pivot from price discipline to a price war as each of the three vie for share in a flat market. Figure 49: Concentration ratios by country: A and B volume segments
UK Spain Italy Germany France 1,359 1,343 2,429 2,945 1,280 1,715 1,497 2,090 2,199 3,050
Figure 50: Concentration ratios by country: C and D volume segments

UK Spain Italy Germany France 1,614 1,483 1,740 1,523 2,643 1,260 2,655 2,483 3,184 2,112 Concentration index C
Concentration index
A
Figure 51: Western European premium market shares by segment/manufacturer, 2009E

B C D E F G MPV SUV Total
BMW Group Daimler Group Porsche-VW Group Renault-Nissan Group Tata Group Toyota Group Other
2009 units (000) HHI
100.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

132 10,000
30.5% 33.7% 35.8% 0.0% 0.0% 0.0% 0.0%

541 3,347
35.2% 24.5% 37.0% 0.2% 1.6% 1.5% 0.0%

536 3,210
26.4% 37.0% 30.0% 0.0% 5.9% 0.5% 0.2%

263 3,005
39.5% 35.9% 17.9% 0.0% 5.1% 1.5% 0.0%

29 3,200
8.2% 44.0% 44.0% 1.2% 1.5% 0.1% 1.0%

196 3,939
12.4% 80.5% 0.0% 7.1% 0.0% 0.0% 0.0%

17 6,679
30.5% 22.1% 36.8% 0.4% 6.7% 3.5% 0.0%

237 2,828
33.7% 29.4% 33.3% 0.3% 2.3% 0.9% 0.1%

1,954 3,112
8 December 2009
32
SCALE AND COMMONALITY PROVIDES BUFFER AGAINST UNINTENDED CONSEQUENCES

OEM strategies are starkly similar, implying the real differentiation will be in starting point and execution (especially versus market expectations). Virtually every OEM articulates four common strategic themes: 1. Reengineer operational and administrative costs short term 2. Seek/leverage global scale and parts commonality (that is, reach 1mn units per platform) via market share gains (especially around product cadence), alliance, merger, internal cooperation to lower engineering and product costs 3. Drive fuel efficiency/carbon reduction via both ICE incremental improvements and varying degrees of hybridization 4. Pursue growth in emerging markets, especially BRIC countries In our view, the strategic lever most impactful to differentiating performance over the midterm is likely to be the quest for global scale and commonality especially as OEMs face the unintended consequences of scrappage programmes in the form of potential pricing pressures and sticky labour costs and capacity. Moreover, the competitive edge is likely to evolve from simply posting 1mn unit scale in key volume platforms, to exploiting the scale through common engineering and parts specifications (not just purchasing volumes).
Global OEMs are evolving through three distinct phases in their search for scale and commonality of cost savings
In phase 1, scale-driven procurement, OEMs sought bulk purchasing price discounts from suppliers. Rather then offering any 'win win' solutions, OEMs threatened to pull business from suppliers unless demands for price cuts were met. The global element was not focused around engineering commonality, but simply a brute threat that if supplier fails to cut price in one region, the OEM would punish the supplier by taking away business in another region. This approach was first launched in the early 1990s at GM and then VW (brought over by Jose Ignacio Lopez de Arriortua, whom VW hired away from GM). While saving up to 20% on purchased parts, with annual price downs of 1 to 2 percent, the procurement approach helped OEM profits - although at the expense of supplier profits and arguably innovation. Moreover, the procurement approach failed to address internal OEM costs such as engineering. The sheer brute force of Phase 1 favoured the manufacturers with the largest global production volumes (eg, GM), regardless of the degree of commonality across platforms and geographies. Most OEMs are still pursuing varying degrees of phase 2, platform commonality. In this approach, OEMs seek to commonise parts across vehicles within a platform -- at first, variants within a region and then in vehicles across regions. For the OEM, platform commonality unlocks engineering savings, up to 60 percent on the common vehicles depending on how far out the scale curve. If extended globally, OEMS can gain further benefit from leveraging lower cost production sites and by supporting smaller-run variants to address niche segments. Platform commonality can be win-win for suppliers, who can similarly leverage their engineering and tooling costs across larger runs, as well as more easily move production across different plants in different geographies. Japanese OEMs such as Honda, with their export driven approach, were early leaders, although virtually all OEMs are at some stage of phase 2. Overall savings can range from 5-10%, depending on scale and commonality.
8 December 2009 33
Figure 52: Estimated impact of increasing commonality

Cost components Impact on Product Cost view Est. cost Potential Pro forma margin improvement impact (bp) Comment/lever
EBIT Labour Materials and engineering

of which: Vehicle-specific Powertrain Additional common components Modular architectures Product potential
5% 5% 90% 25% 25% 11% 29%

5% 10% 7% 15% 20%
100
Capacity utilisation
124 248 79 439

889
Design/procurement Engineering/mfg Design/procurement Engineering/mfg
Impact on Capex/ER&D view
Capex and R&D/sales Engineering

Total ER&D
5.5% 3.0%
8.5%
70% 60% 66%
385 180
565
Source: Company reports, Barclays Capital
In phase 2, scale by platform is the starting point. Nissan-Renault have the largest scale in the B segment, with over 2mn units in 2011, albeit with we believe little commonality across vehicles. VW, with 1.5mn units, is likely the leader when volume and commonality are considered together. Despite its strength in the B segment in Europe, Fiats lack of an Asian or integrated North America presence has it trailing most competitors (except for GM) in the B segment. Hyundai has, somewhat surprisingly, the largest scale in the C segment, with close to 2mn units in 2011. VW and Ford are second and third, although Ford will only get to a truly common platform in C car with the Focus relaunch in 2010/11. Figure 53: Global production of major B segment platforms by OEM (000s units) 2011E
2,103 1,460 1,215 796 596 378 1,112 926 745
Fiat TYPE 169 (500)
Ford B2e (Fiesta)
GM Global Gamma (Aveo) Europe Asia
Honda GSP (Fit)
Hyundai PB PSA PF1 (207) (Accent)
RenaultNissan B (Versa)
Toyota NBC-2 VW (Yaris) PQ24/PQ25 (Polo)
Middle East/Africa
North America
South America
8 December 2009
34
Toyotas strength lies in the D segment, with over 3.6mn units on the Camry platform, followed at a distinct second and third by Hyundai and Honda. Phase 3 involves modular architectures - that is, parts commonality not just within a platform, but across platforms (and across geography). By further driving down the scale curve additional efficiencies result - as well as lowering the overall complexity of the organisation and supporting manufacturing flexibility (multiple platforms on the same assembly lines). VW is acknowledged by competitors as the global benchmark for modularity, with plans to compress to two sets of modules (MQB for traverse, generally volume) and MLB for longitudinal, generally premium) Figure 54: Global production of major C segment platforms by OEM (000s units) 2011E
1,946 1,352 1,426 1,132 1,372
1,788 1,369
1,814 1,301
Fiat TYPE 199 (Punto)
Ford C1 (Focus)
GM Global Delta (Cruze)
Honda C5 (Civic)
Hyundai HD PSA PF2 (308) (Elantra)
RenaultNissan C (Sentra)
Toyota MC-C (Corolla)
VW PQ35/PQ36 (Golf)
Europe
Asia
Middle East/Africa
North America
South America
Figure 55: Global production of major D segment platforms by OEM (000s units) 2011E
3,685
315
934
1,048
1,208
1,221 994 233 842
Fiat C-Evo (Milano)
Ford CD4 GM Global (Fusion/Mondeo) Epsilon (Malibu)
Honda D-5 (Accord)
Hyundai NF/CM PSA PF3 (408) Renault-Nissan D Toyota MC-M (Sonata) (Altima) (Camry)
VW MLB (A4)
Europe
Asia
Middle East/Africa
North America
South America
When intra- and cross-platform commonality is considered in, for example, the C segment, we believe that VW, with its modular approach, and Hyundai, with its scale of the common Elantra platform, capture the greatest scale economies. While Renault/Nissan has scale, it appears to have not driven true platform cost sharing, highlighting an opportunity to drive the alliance to the next level Both PSA and Fiat fall short on sheet scale, although both are likely to have a moderate level of commonality.
8 December 2009 35
Figure 56: Manufacturers scale vs estimated commonality key C platforms
Degree of commonality
HIGH Toyota Fiat MED PSA GM Honda
VW Hyundai
Ford Renault-Nissan LOW
1,000 Scale - units 000
2,000
8 December 2009
36
SECTOR VALUATION 2-NEUTRAL

Our 2-Neutral rating for the sector is based on our below-consensus view for the 2010 sales and pricing environment offset by the attractive valuations when pivoting to 2011 revenue and earnings power. We believe 2010 will be a disappointing year for European automakers as the unintended consequences of scrappage programmes play out across Western Europe. Sales will likely decline by 13.6% -- far greater than market expectations which we believe are looking for an 8-10% decline -- while production will likely slip below 16mn units. The drop in production will highlight the endemic overcapacity that the scrappage programmes and loan programmes preserved. To make matters worse, pricing will come under pressures as discount-addicted customers and dealers demand and receive automaker-funded rebates. Against this difficult 2010 backdrop, valuations for 2010 appear fairly valued, although with a broad range across our coverage. In terms of EV/sales, the 2010 EU sector average of 27% (range from 7% to 44%), is only just below the 2002-08 historical average of 28% (excluding Porsche). Figure 57: 2010E EV/sales
44% 40% 35% 27% 18% 11% 7% 27% 27% 48%
Fiat SpA
Peugeot SA
Renault SA
Porsche
Volkswagen (Ords)
Volkswagen (Prefs)
EU sector average
8 December 2009
Daimler AG
Ford Motor Co.

37
BMW AG
Figure 58: 2002-08 historical average EV/sales (sector avg excl Porsche)
124%
41%
35%
38% 28% 13% 11% Renault SA Porsche
38% 28% 27%
Peugeot SA
Fiat SpA
Volkswagen (Ords)
Volkswagen (Prefs)
EU sector average
Daimler AG
In terms of industrial EV/industrial EBITDA, the 2010 EU sector average of 2.6x (range from 1.1x to 5.4x) is somewhat more below the 2002-08 historical average of 3.3x. Figure 59: 2010E EV/EBITDA
7.3x 5.4x 4.9x
1.5x
1.9x 1.1x 1.2x
2.2x
2.2x
2.6x
Fiat SpA
Peugeot SA
Renault SA
Porsche
Volkswagen (Ords)
Volkswagen (Prefs)
EU sector average
8 December 2009
Daimler AG
Ford Motor Co.

38
BMW AG
Ford Motor Co.
BMW AG
Figure 60: 2002-08 historical average EV/EBITDA

10.1x
5.7x 2.8x 2.9x 1.6x 1.3x
5.3x 3.4x 3.4x 3.3x
Fiat SpA
Peugeot SA
Renault SA
Porsche
Volkswagen (Ords)
Volkswagen (Prefs)
EU sector average
Daimler AG
Given depressed 2010 earnings, for P/E the 2010 EU sector average of 30.7x (excluding Fiat, PSA, RNO) (range from 12x to 59x) is well above the 2002-08 historical average of 12.8x. Figure 61: 2010E PE multiples
209.5x
58.6x 20.0x 0.0x Fiat SpA Peugeot SA
67.0x 32.3x 15.2x Renault SA Porsche Volkswagen (Ords) 12.0x Volkswagen (Prefs) EU sector average 30.7x 14.8x Ford Motor Co.
39
8 December 2009
Daimler AG
BMW AG
Ford Motor Co.
BMW AG
Figure 62: 2002-08 average PE multiples

22.4x 17.3x 13.7x 8.8x 5.3x 8.9x 16.8x 13.3x 12.8x
Peugeot SA
Renault SA
Fiat SpA
Porsche
Volkswagen (Ords)
Volkswagen (Prefs)
EU sector average
Daimler AG
While fairly valued on 2010, as cost reductions mount and sales recover in 2011, driving earnings recovery, 2011 valuations are more enticing. In terms of EV/sales, the 2011 sector average of 22% (range from 7% to 40%) is below the 2002-08 historical average of 28% (excluding Porsche). Figure 63: 2011E EV/sales multiples
40% 32% 27% 18% 13% 7% 20% 20% 22% 38%
Fiat SpA
Peugeot SA
Renault SA
Porsche
Volkswagen (Ords)
Volkswagen (Prefs)
EU sector average
Daimler AG
Similarly, in terms of industrial EV/Industrial EBITDA, the 2011 sector average of 2.0x (range from 0.9x to 4.1x) is well below the 2002-08 historical average of 3.3x.
8 December 2009
Ford Motor Co.

40
BMW AG
Ford Motor Co.
BMW AG
Figure 64: 2011E EV/EBITDA multiples

4.1x 4.3x
3.7x
1.7x 1.1x 0.9x 1.1x 1.3x
1.7x
2.0x
Fiat SpA
Peugeot SA
Renault SA
Porsche
Volkswagen (Ords)
Volkswagen (Prefs)
EU sector average
Daimler AG
For P/E the 2011 sector average of 12.2x (range from 7.3x to 25.4x) is also below the 200208 historical average of 12.8x. Figure 65: 2011E PE multiples
25.4x
16.3x 10.4x 8.4x 7.5x 12.2x 10.0x 9.3x 7.3x 6.0x
Fiat SpA
Peugeot SA
Renault SA
Porsche
Volkswagen (Ords)
Volkswagen (Prefs)
EU sector average
8 December 2009
Daimler AG
Ford Motor Co.

41
BMW AG
Ford Motor Co.
BMW AG
BMW POTENTIAL FOR FURTHER COST CUTS DRIVES 1-OVERWEIGHT RATING

BMWG.DE / BMW GY Stock Rating
1-OVERWEIGHT
Sector View
2-NEUTRAL
Price Target
41.00
Price (04-Dec-2009)
32.75
Potential Upside
25%
Given the pricing, demand, and currency pressures we expect to continue in the premium market, we favour companies that can deliver and retain near- and mid-term cost reductions ahead of market expectations. BMW is a well-understood story as regards its upcoming model cadence sweetpoint (with a raft of model launches in train, beginning with the 5series in 2Q10E and building up to 1- and 3-series in 2011-12E). Nevertheless, we believe the market is underestimating the companys potential for deeper and further cost savings, both as a result of the full roll-out of its modular strategy and as a consequence of increased flexibility regarding employee costs due to an ageing workforce and extensive use of temporary workers. While Daimlers in excess of 4bn savings target for 2009E has been widely touted, BMWs management has kept more tight-lipped about its cost-saving potential of late. We believe this more cautious approach has led the market to dismiss the full potential of Strategy #1 and hence undervalue the BMW share. Moreover, while not part of Strategy #1, BMWs more extensive manufacturing presence in the UK and US provides more of a natural currency hedge offsetting the strength of the euro. We are initiating coverage with a 1-Overweight rating and a 41 price target, implying 25% potential upside from current levels.
Key share price drivers:

Positives:
Cost-saving potential enhanced by advanced age of workforce & modular strategy Above-average capacity utilisation rates & planned global capacity enhancements Product cadence brings youthful models in 2010E & further boosts CO2 credentials Price/mix strength from new models to mitigate pricing pressures in overall market US exposure and low exposure to scrappage incentives to drive above market volume growth Balance sheet strength - cash generation potential aided by strong model mix
Risks to our 1-Overweight view:

Failure to deliver expected cost savings Increased negative earning impact if USD/GBP were to weaken further Lingering effects of low value leasing contracts
1-Overweight, 41 price target

We are initiating coverage with a 1-Overweight rating, due to the companys potential for cost savings via its modular strategy and increased workforce flexibility which will combine with a youthful product mix to drive above consensus EBIT growth. A strong core balance sheet and superior cash generative ability should further support share price accretion. We value the BMW share based on an average of EV/sales and PE metrics at historical and peer average multiples, which lead us to our 41 price target (please see the valuation section for further details).
8 December 2009
42
Figure 66: BMW headline data and valuation multiples, 2008-2012E

(mn) 2008A 53,197 921 1.7% 0.51 2009E 48,371 395 0.8% 0.24 2010E 47,903 1,829 3.8% 1.64 2011E 50,530 3,232 6.4% 3.14 2012E 52,595 3,882 7.4% 3.84
Sales Reported EBIT EBIT margin (%) BC EPS Consensus EPS EV/sales (%) EV/EBITDA P/E ratio (%)
-20% 1.1x 60.2x
0.30 20% 2.2x 137.0x
1.61 18% 1.5x 20.0x
3.01 18% 1.1x 10.4x
2.88 16% 0.9x 8.5x
Source: Company data, Barclays Capital *FactSet consensus data
BMW has unappreciated cost reduction opportunities

While we agree that pricing pressures for the market as a whole and the likely 2010E effects of weak sterling and US dollar exchange rates for euro-denominated exports have not been fully understood by the investment community, we feel that BMW is better placed than its premium rivals to overcome these burdens. With investors now increasingly looking beyond 2009E to the prospects for 2010 and 2011, we believe that BMW has positioned itself for a faster than expected recovery in its automotive EBIT. BMW will, in our view, pursue four interrelated cost levers that should drive EBIT improvement of 1.4bn in both 2010 and 2011 even in the face of these external burdens: BMW will benefit from its push for modularity, especially as the new 5- and 7-series (which share a platform) are rolled out, with the savings flowing in lower materials costs. BMW can better capture productivity savings as it has a substantially longer-tenured workforce that provides greater potential for further headcount reductions. Costs should also benefit from stronger capacity utilisation. BMWs expanding global manufacturing footprint not only supports growth but also provides better natural hedging relative to Daimler.
Figure 67: BMW Auto EBIT walkdown, 2008A (mn)

4000 3500 3000 2500 2000 1500 1000 500 0
Volume Price/Mix Productivity Personnel etc 2008A 07A FX Other RMs
Figure 68: BMW forecast Auto EBIT walkdown, 2009E (mn)

1000
505 941 3,450 196 801 387 452 1,080 690
500 0 -500 -1000 -1500 -2000
690 -738 911 -1,300 400 -300 100 620 -307
-2500
Volume Price/Mix 08A Productivity RMs FX Other Personnel etc 2009E
43
Source: Company data (other incl 911m risk provision for residual values)
Source: Barclays Capital (other incl 08 911m risk provision for residual values)
8 December 2009
Modularity to lower costs as product line refreshed

While important for the top-line growth and as a buffer against pricing (which we discuss later), BMWs strong product cadence will, in our view, also demonstrate the cost savings associated with BMWs push (as at VW and, to a lesser extent, Daimler) for greater modularity and commonality across vehicles. BMW product launches start in earnest in 4Q09 with 5-series GT and X1 coming on line, sharply followed by new 5-series in 2Q10 and X3 in 4Q10. As a result, BMW is likely to be the fastest improver in the sector in terms of average product age. We expect this to boost market share but also to enable the full effects of the 4bn in material cost savings targeted under Strategy #1. As the new modular strategy is rolled out across new products, material costs & R&D should increasingly become shared across all model series on a platform, rather than on a standalone model basis. With the company emphasising the potential for up to 80% commonality between products on the two main platforms (1-/3-series /X1/X3 produced on the small car platform and 5-/6-/7-series working off the large car platform), we expect to see the back-end loaded savings from this modular strategy starting to ramp up from 2010E. We believe that these savings are not yet widely credited by consensus forecasts. Figure 69: BMW forecast new model introduction schedule, 2009-2012E
BMW Group 2009E 2010E 2011E 2012E
BMW Mini Rolls-Royce
2Q: Z4 4Q: X1 & 5 GT 2Q: Cabrio Coupe
2Q: 5-series 4Q: X3 Countryman 4 RR Ghost
1-series 3 GT & 6-series Coupe
3-Series Roadster
Source: JD Power, trade press, company data and Barclays Capital
Ageing workforce to boost productivity

Strategy #1 targets a reduction of 6bn in costs by 2012E, 2bn of which are to come from fixed costs/R&D. Although BMW has not been grabbing the headlines so recently with announcements on headcount reductions like its close peer Mercedes, the naturally older age of its workforce should enable BMW to quietly achieve the majority of its targeted personnel savings over the next three years via natural attrition alone. With c20% of all workers aged >50 years (vs. 2% at Mercedes), the company has much more flexibility to manoeuvre its workforce. Additionally, BMW has historically relied much more heavily on temporary workers (hence the ability to reduce the workforce by 10,000 workers in 2008, of which 60% were temporary workers) which provides additional flexibility to react speedily to changes in production. Temporary workers are paid a similar hourly rate to their permanent counterparts but (according to Jens Koehler, chief workers' representative at the Leipzig plant and an official with IG Metall) receive about two-thirds of the total monthly compensation due to receiving fewer benefits than regular staff. Although the current BMW workforce is comprised of only a tiny percent of temporary workers, the scope to rehire on a temporary basis when production begins to recover, will position the company well from a fixed cost perspective.
8 December 2009
44
Figure 70: BMW average worker age vs. Daimler (years)

Average age (yrs) Percent over 50 yrs (%)
BMW hourly BMW salaried Daimler hourly Daimler salaried

Source: Company data
39.6 42.4 40.8 41.6
17 25 2 2
Unlike Daimler, BMW is no longer using Kurztarbeit (short-time work) as it ramps up production (auto production exceeded sales by almost 10k units in 3Q09) in preparation for a raft of model launches beginning in Q409. This production build, combined with moves to draw down dealer inventory, in an effort to improve BMWs longer-term pricing power, explains the larger-than-expected Q3 loss in the Auto division. However, we note that Q4 results will likely be flattered by the sales momentum from 5-series GT and X1 launches thus matching sales outturn more closely to production levels and cost absorption should be boosted further by full 5-series model launch in 2010E.
Sector leading capacity utilisation

BMW is already working at above average (for premium peers) capacity utilisation in 2009E but is set to achieve the best in sector utilisation rate of 93% in 2010E (vs premium sector average of 81% and volume average of 79%), with the lowest level of excess capacity units of all peers. This further encourages us to favour the share over its closest luxury rival. BMW is closing the gap on competitors not only with its increased commonality of components, but also in the scale-stakes via well-targeted alliances: such as its small engine cooperation with PSA and its cooperation with DAI on purchasing & hybrid development.
Figure 71: BMW production (mn) & capacity utilisation (%) vs average for premium market, 2008A-15E
1.4 1.2 1.0 0.8 0.6 0.4 0.2 0.0 2008 2010E 2012E 2014E BMW Production BMW capacity utilisation % (RHS) Premium average capacity utilisation % 80.0% 75.0% 90.0% 85.0% 100.0% 95.0%
Figure 72: European premium excess capacity, 2010E (000s)
Thousands
400 350 300 250 200 150 100 50 0 BMW 78
369
133 112
17 Daimler Audi Tata Porsche
8 December 2009
45
Figure 73: BMW & Mercedes production units, indexed to 1997

190 180 170 160 150 140 130 120 110 100 90 CY1997 CY1998 CY1999 CY2000 CY2001 CY2002 CY2003 CY2004 CY2005 CY2006 CY2007 BMW
Mercedes
Global scope to aid competitiveness and help shield against FX burdens

Although Germany remains BMWs biggest single market (accounting for 21% of unit sales YTD 09 see Figure 74), 19% of unit sales are US-based and the Chinese market is now BMWs fourth-largest market, after recording 25% growth YTD in 2009. We therefore credit the company with the ability to sell 46,000 extra vehicles in 2010E, despite European sales likely flat. A recovery in the US market and exposure to more resilient emerging markets, combined with its good model mix will provide an expected 5% growth in units in 2010E we forecast a positive impact on EBIT of 500mn (see Figure 78 below). Figure 74: BMW geographical breadth (YTD 09 unit sales)
ROW 25%
Germany 21%
Japan 3% China 7% USA 19%

Rest of WE 25%
Last month BMW announced plans to build a second plant in China with JV partner Brilliance (the existing plant has produced BMW 3-series and 5-series vehicles since 2003 with current production capacity of 41,000 pa. Production at the second plant is due to commence early 2012E and to increase total Chinese capacity to 100,000 units, thus giving the company a stronger foothold in this fast-growing market and providing a natural hedge to exchange rate fluctuations.
8 December 2009
46
Figure 75: BMW estimated plant capacity, 2010E (000s)

Region Production 2010E Capacity 2010E Capacity utilisation %
Germany* UK US (Spartanburg) China (Shenyang)** Other***

BMW Total (ex-JVs)
870,000 217,300 135,000 75,000 130,000

1,300,000
920,000 244,500 270,000 75,000 143,000

1,397,000
95% 89% 50% 100% 91%

93%
Source: CSM, Company data, Barclays Capital *Regensburg, Dingolfing, Munich, Leipzig, ** JV with Brilliance, *** S Africa and JV with Magna Steyr in Austria
While our thesis still stands that the market is underestimating the likely negative EBIT impact in 2010E from USD and GBP FX rates, we believe that BMWs efforts to expand, or at the very least maintain, its capacity reach in UK and US markets will shelter it to some degree from the worst of the FX effect. Mini brands Oxford and Rolls Royce Goodwood plants in the UK (providing 245,000 units of British capacity in 2010E) and the Hams Hall engine plant, provide natural hedging from negative GBP currency effects, despite only an estimated 30-40% sourcing of components locally. Likewise, BMWs Spartanburg plant (which will ramp up to 270,000 pa capacity in 2010 in preparation for the next generation X3 launch), with 70% locally sourcing, provides shelter from the vagaries of the USD. With the US market likely to rebound ahead of the scrappage-restrained European market in 2010E, BMWs 21% revenue share should also set it apart from some of its volume peers. Figure 76: BMW estimated naturally hedging protection for USD and GBP, 2010E
Units Sale Value in US$ mil
N Am sales N Am production
276,085 133,000 100% 133,000

143,085 133,000
14,500 8,100 100% 8,100

8,700 500 9,200 44%
Net vehicle imports/(exports) N Am engines imported Net currency position US$ Natural hedging percentage
Units
Value in UK mil
UK sales UK production est. % of local sourcing Implied UK production sourced in UK

Net vehicle imports/(exports) UK engine production Net currency position UK Natural hedging percentage
Source: Company data, Barclays Capital
123,500 206,000 35% 72,100

51,400 350,000
4,021 3,090 35% 1,082

2,939 1,050 1,889
55%
Our calculations of exposure to the GBP and USD, based on 44% natural hedging in the US and 45% in UK (vs. only 40% and 0% respectively for Mercedes) lead us to forecast a 450mn negative EBIT impact from FX in 2010E - enough to more than wipe out the effects of non-personnel based productivity savings but still 450mn below our estimates for Mercedes FX exposure due to its lower natural hedging buffer.
8 December 2009
47
Figure 77: BMW estimated GBP and USD exposure, 2008-2012E (units as stated)
2008 2009E 2010E 2011E 2012E
North American volume (units) Natural hedging volume in USD (%)

Net currency position, N Am (US$ mn) Financial hedging volume (%) Spot rate Estimated effective rate US$ impact on EBIT (mn) UK volume (units) Natural hedging volume in UK (%) Net currency position, (UK mn) Financial hedged volume (%) Spot rate Effective rate UK impact on EBIT (mn) TOTAL XR impact on EBIT (mn)
303,190 45
8,800 95% 1.47 1.36 (210) 154,000 53 2,350 90% 0.80 0.70 (120) (330)
238,000 48
7,500 90% 1.40 1.35 40 130,000 54 1,890 90% 0.90 0.79 (310) (300)
276,085 44
9,200 60% 1.49 1.42 (370) 123,500 55 2,180 60% 0.90 0.84 (150) (480)
289,900 52
8,000 20% 1.49 1.48 (220) 136,500 55 2,300 20% 0.90 0.89 (150) (370)
300,000 52
8,400 0% 1.49 1.49 (30) 153,100 55 2,390 0% 0.90 0.90 (30) (60)
Market forecasts underestimate BMWs potential

Whilst consensus numbers are currently expecting a 4bn YoY EBIT delta for Daimler in 2010E (admittedly aided by an estimated 2bn of improvement in trucks), market assumptions for BMW estimate only a 1.3bn improvement, despite the companys superior model mix. Although we believe the market as a whole has not taken full account of the likely FX and raw material negatives for the autos sector in 2010E, neither do we think they have fully credited the likely modular savings resulting from new model roll outs at BMW. Our own forecasts incorporate 1bn of improvement in BMWs Automobile segment (1.5bn at group level) of which 900mn relates to cost efficiencies, 540mn to volume improvement and 345mn to the price/mix effects of new 5- and 7-series. 750mn of additional FX and raw material costs still allow an EBIT margin improvement of 240bp YoY, on our estimates. Figure 78: We forecast an EBIT delta of 1bn at BMW Autos in 2010E
BMW Auto cost walkdown (Delta) - mn Prior year Auto EBIT Volume Memo: additional volume (units) Fixed costs: Price/Mix Raw materials & other input costs Productivity/efficiency Currency Personnel, SG&A, R&D Other (incl risk provisions in 2008) Total change in fixed costs Operating margin delta Current year Auto EBIT EBIT margin (%)
2009E
2010E
2011E
2012E
690
(1,428) (183,104)
(307)
540 69,205
728
600 76,558
1,958
425 54,492
(1,300) 100 400 (300) 620 911

431 (997)
345 (270) 500 (480) 400 495 1,035
300 500 (370) 200 630 1,230
550 (60) 490 915
(307) -0.7
728 1.7
1,958 4.3
2,873 6.1
8 December 2009
48
5-series launch will buffer against pricing trends

Whilst we remain convinced that the full effects of pricing weakness have also yet to be factored in to market numbers for 2010E, we believe that BMWs youthful product cycle and its substantial destocking of dealers should stand the group in good stead from a pricing perspective. Although ill-discipline in pricing has spread to even the luxury end of the market, with consumer expectations skewed by a year of discounts from both governments and manufacturers alike, the launch of the all-new 5-series range in 2010E should form some degree of buffer from pricing negatives. The companys Q309 results call was characterised by cautious commentary on price management blamed luxury peers for pricing new models over-competitively in a grab for market share. We agree that pricing across the board will come under pressure in 2010E and therefore assume that BMWs existing models will suffer 1k/vehicle pricing erosion a 500mn negative effect. However, we also credit the company with the ability to price both its 5-series and 7-series models ahead of its predecessors, thus providing a likely 600m positive contribution to EBIT, and more than compensating for the price erosions on other models. Likewise, the mix impact from these new models launching in what we view as the fastest growing segments in Europe (small car segments are likely to flounder post-scrappage), should provide a further 245mn boost to EBIT, based on a 5,000/vehicle incremental EBIT margin (our breakdown of the price/mix impact on 2010Es EBIT is given at Figure 79 and Figure 81 below). Our forecasts do not assume any benefit from an improvement in mix to corporate buyers, though we expect these to return to the market in greater numbers in 2010E. However, with the 5-series launch also heralding the beginning of a more modular strategy, bringing greater commonality across model ranges, we are convinced that EBIT/vehicle is set to improve significantly at BMW even in a weak demand and pricing environment. Figure 79: Positive mix and pricing effects of new models should more than compensate for negative pricing on other models
5-series 7-series Other models Total BMW
Additional vehicles of new model (units) Additional price/vehicle () EBIT impact (mn) Negative price/vehicle () EBIT impact (mn) Est. mix effect* Total BMW EBIT delta (mn)
150,000 3,000 450
30,000 5,000 150 (1,000) (500) (500) 245 345 600
200
45
Source: Barclays Capital; *assuming 5,000 EBIT contribution/vehicle for incremental 5-series sales and 15,000 for 7-series
8 December 2009
49
History of cash generation to further support valuation

Since scrappage did not boost the luxury market significantly in 2009E, it is a well-argued thesis that the luxury market will be better protected from any scrappage pull-back effects felt in 2010E. Whilst, as with product cadence, we believe that this issue has already been factored in to current share price, we agree that BMW is positioned to outperform the overall market from 2010E onwards. If the volume effects are already well understood, the cost benefits of the companys strong positioning in environmentally friendly products (via its Efficient Dynamics range), such that it still remains at least 12 months ahead of competitors in the R&D spending stakes, should yet provide further upside to the share.
Cost savings to ramp up from 2010E onwards

One of the reasons why we believe that investors are not crediting enough future cost savings at BMW is because, unlike Daimler, BMW does not give useful quarterly walkdowns of its Auto EBIT margin, so investors have much less visibility over cost-savings achieved already in YTD 09A. Neither has BMW been flaunting its cost-saving potential as widely in the press as its German peer, preferring instead to caution investors on the likely external burdens to 2010E earnings. Although productivity improvements of 80mn were more than offset by volume and price/mix negatives at BMW in 2008 and we expect a similar story in 2009E (as scrappage incentives pushed consumers to lower mix cars, leaving volumes at the premium end of the market muted), we do forecast a further 1bn gross cost savings in 2009E (as per Figure 78 above). Of these, 400mn relates to internal productivity measures and 620mn to personnel savings the likely full-year effects of 10,000 employee departures in 2008 (of which 4,000 were permanent workers). This should provide some buffer against the -1.3bn price/mix effect and -1.4bn volume negative in 2009. In 2010 and 2011, as discussed above, we expect savings from increased modularity and improved productivity to combine with the effects of natural attrition in the workforce and a more positive volume and mix environment, to help the Autos business return to above 4% margins (though still some way from historical peak and Strategy #1 target of 8-10%).
Figure 80: BMW Auto EBIT walkdown 2010E (mn)

1000 800 600 400 200 0 -200 -400
Volume Price/Mix Productivity RMs FX Peronnel, SG&A, R&D EBIT 2009E EBIT 2010E
Figure 81: BMW price/mix walkdown 2010E (mn)
700 600 500 345 -270 -480 400 728 500 400 300 540 -307 200 100 0
5-series price 7-series price -1k avg price/vehicle 5-series mix 7-series mix 2010E price/mix impact
50
150
500
450
45 345 200
8 December 2009
Putting it together EBIT and cash flow

With a five-year historical average FCF in the industrial business of 1.7bn per annum and average net industrial debt of 6bn during the same period (7.8bn at 3Q09), BMW has typically been a share favoured by leverage-averse investors. Despite an overly aggressive strategy in its leasing business which led to 2bn of lease book writedowns in 2008A and likely three years of low value leases coming through the system, we believe BMW remains an attractive stock due to its superior balance sheet. Although downgraded one notch by rating agencies, the debt has an A- rating from S&P, the highest in the auto sector, giving it easy access to credit to support the funding of its financial services business. Figure 82: Solid cash generation drives steady rise in net cash, mn
18,000 16,000 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 2004 2005 2006 2007 2008 2009E 2010E 2011E 2012E 3000 2500 2000 1500 1000 500 0
Industrial Net Cash

Industrial FCF (op cash-capex)
Rating
We are initiating coverage with a 1-Overweight rating, believing that BMWs potential for cost savings via its modular strategy and increased workforce flexibility will combine with a youthful product mix to drive above consensus EBIT growth. A strong core balance sheet and superior cash generative ability should further support share price accretion.
Valuation methodology
We value the BMW share based on an average of EV/sales and PE metrics at historical and peer average multiples:
EV/sales
BMW has historically traded at a five-year average of 39% EV/sales, although it dipped to 20% during the credit crisis of 2008 and at current market price is only trading at 18% 2010E EV/sales on our estimates. By comparison luxury peer DAIs historical average is 42% and on our estimates is currently trading at 44% 2010 EV/sales. We believe that the current BMW share price significantly undervalues the share based on this valuation metric, especially since we remain below consensus on our top-line forecasts for BMW in 2010E.
8 December 2009
51
Figure 83: Below consensus revenue estimates but expecting higher margins
2010E Barclays Consensus Variance
Revenue (mn) EPS (mn)
47,903 1.64
50,734 1.57
-5.6% 4.3%
Source: FactSet consensus, Barclays Capital
Daimlers exposure to the higher-rated truck sector should imply a higher multiple to BMW but we note that in reality the market has tended to discount this truck exposure, viewing both companies at similar multiples. Using its own historical average of 39% implies BMW should trade at 50/share. Figure 84: At current price BMW is undervalued on EV/sales
50% 45% 40% 35% 30% 25% 20% 15% 2004 2005 2006 2007 2008 2009E 2010E 2011E 2012E EV/Sales at current price 5 year historical avg
Figure 85: BMW cheap in comparison to DAI

80% 70% 60% 50% 40% 30% 20% 10% 0% 2000 2002 2004 2006 2008 2010E 2012E
DAI EV/Sales
BMW EV/Sales
P/E
Historically BMW has traded at an average of 11x P/E (vs 13x at Daimler and 9.8x for the sector as a whole). Looking out to 2011E, when we expect autos markets to have normalised to a greater degree, our above consensus EBIT estimates put BMW at only 10x at the current share price. We believe that the company should trade at its historical level of 11x, from which we derive a price of 35.
8 December 2009
52
Figure 86: Other than during the recent downturn, BMW has historically traded at 11x PE
20
15
10
5 2001
2002
2003
2004
2005
2006
2007
2008
2009E 2010E 2011E 2012E 8 year historical avg
PE at current price
A weighted average of both these valuation metrics leads us to set a 41 price target for the share, implying 25% upside from current market price. Figure 87: BMW key valuation metrics
2006 Valuation multiples at current price 2007 2008 2009E 2010E 2011E 2012E
Industrial EV/sales (%) Industrial EV/clean EBITDA Industrial EV/clean EBIT P/E FCF yield (%) Price/sales (%) Price/book Dividend yield (%)
Valuation multiples at 41 price target
40 2.7x 5.7x 9.3x 21.1 54 1.4x 1.7 40 2.7x 5.7x 9.3x 21.1 54 1.4x 1.7
39 3.0x 6.0x 9.4x 26.9 52 1.4x 2.4 39 3.0x 6.0x 9.4x 26.9 52 1.4x 2.4
20 1.1x 3.8x 60.2x 33.6 38 1.0x 1.0 20 1.1x 3.8x 60.2x 33.6 38 1.0x 1.0
20 2.2x 114.2x 137.0x 26.8 43 1.2x 0.9 20 2.6x 133.4x 146.5x 25.1 46 1.24x 0.9
18 1.5x 5.4x 20.0x 29.1 44 1.3x 1.5 18 1.8x 6.4x 21.4x 27.2 46 1.44x 1.4
18 1.1x 3.2x 10.4x 23.7 41 1.4x 2.1 19 1.3x 3.8x 11.1x 22.1 44 1.45x 2.0
16 0.9x 2.4x 8.5x 29.5 40 1.2x 2.1 17 1.1x 2.8x 9.1x 27.6 42 1.32x 2.0
Industrial EV/sales (%) Industrial EV/clean EBITDA Industrial EV/clean EBIT P/E FCF yield (%) Price/sales (%) Price/book Dividend yield (%)
8 December 2009
53
Risks to price target

Risks to our price target are as follows: External risk macroeconomic factors outside the control of the company, leading to an even weaker demand and pricing environment than we currently assume, could make our forecasts difficult to achieve. Risks to leasing book we believe that the worst is now behind the company in relation to writedowns on its financial services leasing book but were second hand prices to fall significantly and cause further writedowns to residual values, BMWs larger than average financial services penetration would result in a greater downside risk than for peers.
Credit perspective
Barclays Capital credit analysts, Rob Perry and Darren Hook, also rate BMW Overweight believing that while there are risks to BMW's ratings, with Moody's particularly at risk of downgrading to high BBB, BMW could remain low A through next year, given their expectations for moderate revenue growth, potential for further cost reductions, and belief that current provisioning in Financial Services is adequate.
8 December 2009
54
Figure 88: BMW Group income statement, 2006A-2012E

Year-end December (mn) Revenues 2006 48,999 2007 56,018 2008 53,197 2009E 48,371 2010E 47,903 2011E 50,530 2012E 52,595
Cost of sales R&D

Gross profit Memo: gross margin (% of sales)
(37,660) (2,544)
8,795 17.9%
(43,832) (2,920)
9,266 16.5%
(44,323) (2,825)
6,049 11.4%
(40,631) (2,515)
5,224 10.8%
(39,329) (2,395)
6,180 12.9%
(40,424) (2,526)
7,579 15.0%
(41,550) (2,630)
8,415 16.0%
Sales and administrative costs Other operating income & expenses

Reported profit before financial result (EBIT) Non-recurring income and (expenses) Clean profit before financial results (EBIT) Memo: clean EBIT margin (%)
(4,972) 227
4,050
(5,254) 200
4,212
(5,369) 241
921
(5,079) 250
395
(4,551) 200
1,829
(4,548) 200
3,232
(4,734) 200
3,882
(2,423)
4,050 8.3% 4,212 7.5% 3,344 6.3%
0
395 0.8%
0
1,829 3.8%
0
3,232 6.4%
0
3,882 7.4%
Financial result
Profit before tax Memo: PBT margin %
74
4,124 8.4%
(339)
3,873 6.9%
(570)
351 0.7%
(200)
195 0.4%
(300)
1529 3.2%
(300)
2932 5.8%
(300)
3582 6.8%
Taxes Tax rate (ex RRExch. tax-free gains)

Net profit Memo net profit ex-non recurring
(1,250) 34%
2,874 2,722
(739) 19%
3,134 3,134
(21) 6%
330 2,608
(39) 20%
156 156
(459) 30%
1,070 1,070
(880) 30%
2,052 2,052
(1,074) 30%
2,507 2,507
Attributable to MI
Net profit attributable to shareholders Net margin % EPS
6
2868 5.9% 4.39
8
3126 5.6% 4.80
6
324 0.6% 0.51
6
150 0.3% 0.24
6
1064 2.2% 1.64
6
2046 4.1% 3.14
6
2501 4.8% 3.84
No of shares (average, 000s)

DPS (Euros) Segmental Revenue:
654
0.70
654
1.06
653
0.30
653
0.30
653
0.50
653
0.70
653
0.70
Automobiles Motorcycles Financial services Miscellaneous/consolidations

Group revenues Segmental reported EBIT:
47,767 1,265 11,079 (11,112)

48,999
53,818 1,228 13,940 (12,968)

56,018
48,782 1,230 15,725 (12,540)

53,197
41,341 1,119 15,411 (9,500)

48,371
42,316 1,139 14,948 (10,500)

47,903
45,215 1,168 15,247 (11,100)

50,530
47,446 1,196 15,552 (11,600)

52,595
Automobiles EBIT Motorcycles EBIT Financial services EBIT Reconciliations

Profit before financial result (EBIT) Segmental reported EBIT margins:
3055 75 689 231

4050
3450 80 717 -35

4212
690 60 -216 387

921
(307) 50 324 328

395
728 57 448 596

1829
1,958 64 762 447

3232
2,873 72 778 159

3882
Automobiles EBIT margin Motorcycles EBIT margin Financial services EBIT margin
Group EBIT %
6.4% 5.9% 6.2% 8.3%
6.4% 6.5% 5.1% 7.5%
1.4% 4.9% -1.4% 1.7%
-0.7% 4.5% 2.1% 0.8%
1.7% 5.0% 3.0% 3.8%
4.3% 5.5% 5.0% 6.4%
6.1% 6.0% 5.0% 7.4%
8 December 2009
55
Figure 89: BMW Group balance sheet, 2006A-2012E

As at end-December (mn) Industrial/Auto Assets: 2006 2007 2008 2009E 2010E 2011E 2012E
Intangible assets Property, plant and equipment Leased products Investments Financial assets & other assets
Industrial fixed assets
5,276 11,260 254 448 2,128

19,366
5,333 10,870 254 6,184 1,506

24,147
5,403 11,074 268 2,775 3,728

23,248
5,212 10,598 268 2,775 3,728

22,581
5,265 11,212 268 2,775 3,728

23,249
5,365 11,272 268 2,775 3,728

23,407
5,488 11,306 268 2,775 3,728

23,565
Inventories Trade receivables Financial & other receivables Marketable securities Cash and cash equivalents
Industrial current assets
6,784 2,214 5,796 2,348 1,235

18,377
7,036 2,070 15,178 2,734 1,249

28,267
7,005 2,438 14,018 1,401 5,073

29,935
7,200 2,300 13,740 1,401 5,407

30,048
6,700 2,100 11,240 1,401 6,729

28,170
6,900 2,200 11,240 1,401 5,767

27,508
7,200 2,300 11,240 1,401 5,920

28,061
Industrial total assets Financial services total assets

GROUP TOTAL ASSETS
37,743
47,725 79,057
52,414
59,656 88,997
53,183
69,792 101,086
52,629
70,836 103,183
51,419
69,429 99,470
50,915
70,339 99,994
51,626
71,266 101,758
Industrial non-current liabilities Industrial current liabilities

Industrial total liabilities
11,797 10,631 22,428
10,986 19,845 30,831
13,861 16,841 30,702
12,861 21,374 34,235
12,861 21,045 33,906
12,861 21,134 33,995
12,861 20,886 33,747
Financial services total liabilities

GROUP TOTAL LIABILITIES
42,760
59,927
55,517
67,253
66,040
80,813
65,489
84,725
64,680
83,585
65,203
84,199
65,737
84,484
Industrial equity Financial services equity

BMW shareholders equity
15,315 4,965
19,126
21,583 4,139
21,733
22,481 3,752
20,265
18,394 5,346
18,450
17,513 4,750
15,877
16,919 5,135
15,787
17,880 5,529
17,266
Minority interests
Group shareholders' equity (incl MI)
4
19,130
11
21,744
8
20,273
8
18,458
8
15,885
8
15,795
8
17,274
Industrial total liabilities & equity
37,743 47,725 79,057
52,414 59,656 88,997
53,183 69,792 101,086
52,629 70,836 103,183
51,419 69,429 99,470
50,915 70,339 99,994
51,626 71,266 101,758
Financial services total liabilities & equity

TOTAL GRP LIABILITIES & S'HOLDERS EQUITY
Balance sheet analysis & drivers: Net industrial working capital 5,710 6,337 7,414 5,938 5,567 5,778 6,426
Working capital/sales
Industrial net cash (debt)
12%
5,385
12%
7,052
15%
9,046
14%
9,880
13%
11,202
12%
10,240
13%
10,393
Unfunded pension 'debt'

Industrial net debt (cash) post pensions
(4,983)
402
(4,602)
2,450
(3,297)
5,749
(3,900)
5,980
(3,900)
7,302
(3,900)
6,340
(3,900)
6,493
Gearing (pre-pension)
35%
33%
40%
54%
64%
61%
58%
8 December 2009
56
Figure 90: BMW cash flow statement

Year-end December (mn) 2006 2007 2008 2009E 2010E 2011E 2012E
Industrial net income Industrial Depreciation & amortisation Other

Change in inventories Change in receivables Change in liabilities
2,449 3,665 (308) (703) (98) 368 (433)

5,373
2,963 3,568 (78) (663) 371 85 (207)

6,246
226 3,567 (499) 9 597 571 1,177

4,471
(422) 3,660 (1,000) (195) 138 1,533 1,476

3,715
285 3,621 0 500 200 (330) 370

4,277
1,146 4,638 0 (200) (100) 90 (210)

5,575
1,787 4,864 0 (300) (100) (249) (649)

6,002
Total movement in WC
Industrial Cash inflow from operating activities
FS cash flow from operating activities

Group cash flow from operating activities
4,607
9,980
5,110
12,183
5,603
10,872
6,000
9,215
6,000
9,777
4,000
9,075
5,000
10,502
Industrial Capex (incl capitalised R&D) Net financial investments Net proceeds from leased products Net change in marketable securities
Industrial cash flow from investing
(4,241) 52 (28) (200)

(4,417)
(3,833) (131) (5) (130)

(4,099)
(3,937) (317) (20) (278)

(4,552)
(3,185) 0 0 (2,500)
(5,685)
(3,259) 0 0 0
(3,259)
(3,711) 0 0 0
(3,711)
(3,891) 0 0 0
(3,891)
FS cash flow from investing

Group cash flow from investing
(9,253)
(13,670)
(13,198)
(17,248)
(14,218)
(18,652)
(4,000)
(9,685)
(5,000)
(8,259)
(6,000)
(9,711)
(6,000)
(9,891)
Capital Increase Dividends Paid Change in Debt

Industrial cash flow from financing
(253) (419) (525)

(1,197)
0 (458) (1,024)
(1,482)
(10) (694) 4,649

3,945
0 (196) 3,000
2,804
0 (196) 0
(196)
0 (327) 0
(327)
0 (457) 0
(457)
FS cash flow from financing

Group cash flow from financing Industrial change in cash (debt)
4,520
3,323 (137)
8,340
6,168 650
9,890
12,904 3,824
(2,000)
804 834
0
(196) 822
0
(327) 1,537
0
(457) 1,654
FS change in net cash (debt)

Group Change in net cash (debt) Cash flow Statement analysis & drivers:
(148)
(285)
241
1,057
1,264
5,061
0
334
0
1,322
0
(963)
0
154
Industrial FCF (company definition*)

Industrial FCF (Barclays Capital definition**)
956
1,132
2,147
2,413
(81)
534
(1,970)
530
1,018
1,018
1,864
1,864
2,111
2,111
Group FCF FCF per share Group capex/Sales Industrial capex/sales Group capex + R&D/Sales Group capex/D&A
5,667 8.7
8.8% 8.6% 14.0% 131.8%
7,916 12.1
7.6% 7.0% 12.8% 115.9%
6,668 10.2
7.9% 7.9% 13.2% 114.6%
5,730 8.8
7.2% 7.5% 12.4% 87.0%
6,218 9.5
7.4% 7.5% 12.4% 90.0%
5,064 7.8
7.9% 8.0% 12.9% 80.0%
6,311 9.7
8.0% 8.0% 13.0% 80.0%
Source: Company data, Barclays Capital * Industrial Cash from operations + Industrial cash from investing; **Industrial Cash from operations + Net Capex
8 December 2009
57
Figure 91: BMW revenue mix by division 2009E
Figure 92: BMW revenue mix by division, 2000A-2015E

80000
Financial Services 27%
70000 60000 50000 40000
Moto 2% Autos 71%
30000 20000 10000 0 2000 2002 2004 2006 2008 2010E 2012E 2014E Automobiles Motorcycles Financial Services
Figure 93: BMW unit sales by model, YTD 09A

6 Series 1% X6 4% 7 Series 4%
Figure 94: BMW EU sales mix 09E vs industry average (%)

35%
1 Series 21%
30% 25% 20% 15% 10% 5% 0%

EExecutive A - Basic C - Lower Medium SUV Van
2014E
X5 8%
5 Series 16% Z3/Z4 2% X3 5% 3 Series 39%
BMW
Source: Company data Source: CSM, Barclays Capital
D - Upper Medium
B - Small
Industry avg
Figure 95: BMW EBIT mix by division, 2010E
Figure 96: BMW EBIT margin by division, 2004A-2015E

10%
Financial Services EBIT 36%
8% 6% 4% 2%
Auto EBIT 59% Moto EBIT 5%
0% -2% 2004
2006 Auto EBIT % FS EBIT %
2008
2010E
2012E
Motorcycle EBIT % Group EBIT %
8 December 2009
Other
58
DAIMLER MARKET OVER OPTIMISTIC ON COST-CUTTING POTENTIAL

DAIGn.DE / DAI GY Stock Rating
3-UNDERWEIGHT
Sector View
2-NEUTRAL
Price Target
32.00
Price (04-Dec-2009)
35.91
Potential Downside
11%
We are initiating coverage of Daimler with a 3-Underweight rating and 32 price target. Given the pricing, demand, and currency pressures we expect to continue in the premium market, we favour companies that can deliver and retain near- and mid-term cost reductions ahead of market expectations. Our 3-Underweight rating is driven by our concern that the market has run ahead of itself on its expectations for the companys cost-cutting potential. Whilst market estimates for German peer BMW look for only 1.4bn of YoY EBIT improvement in 2010E (despite new 5- and 7-series models, superior fuel efficiency credentials and higher level of modularity), market estimates for Daimler are expecting a much more aggressive 4bn EBIT delta. Of course, Daimlers Truck division (historically 25% of group EBIT in normal market conditions) is believed to be at rock bottom in 09E but even with our Daimler Truck division estimates in-line with consensus expectations for truck market peers, this provides only 2bn additional EBIT (and risky, as consensus on trucks may be too optimistic given the tepid recovery potential, at best, for the European truck market). Daimler management has been vociferous on the companys achievements regarding cost cutting in 2009, with gross savings of 3.5bn achieved YTD and the company announcing that it is on track to exceed its 4bn target for the full year. Yet it is difficult to reconcile these 3.5bn gross savings with the disclosures of net impact on EBIT. Although management has committed to an additional 4bn of savings for 2010E, we are concerned that the majority of these will likewise be absorbed be negative factors (price, FX and raw material costs), whereas we believe market assumptions are overestimating the retention potential. We believe that DAI is more exposed to pricing risks than BMW, having unfortunately launched its E-class six months too early into a falling luxury market. Based on our FX forecasts for USD and GBP exposure we believe that Mercedes faces significant currency exposure in 2010E, due to its lower degree of natural hedging than BMW. We also think that Mercedes youthful workforce (hence less scope to cut labour costs), its lack of modular-focused savings (relative to BMW and especially Audi/Porsche), and its belated efforts in the field of fuel economy provide less fat to trim in the next 12-18 months. Valuation metrics further point us to prefer BMW (currently 18% 2010 EV/sales vs 44% at DAI, though admittedly DAI also incorporates high-rated trucks) and using a SotP methodology (for further detail see the valuation section), we reach a 32 price target, which leads us to initiate coverage of Daimler with a 3-Underweight rating.

Negatives:
Market over-confident of companys potential for retaining further gross cost savings Youthful workforce makes achievement of gross savings less likely Daimler remains the OEM facing the greatest pressures from USD and GBP weakness Pricing pressures to affect luxury end of the market and Mercedes worst affected because of ageing model line up in comparison to BMWs new 5- and 7-series Lower capacity utilisation rates and levels of modularity provide less potential for savings than at peer BMW
8 December 2009
59
Risks to our 3-Underweight rating:

A stronger-than-expected recovery in the truck sector Exposure to faster growing market, such as China but also the early-recovering US market could provide additional upside to the share Figure 97: Daimler headline data and valuation multiples (at current share price), 2008-11E
(mn) 2008A 2009E 2010E 2011E 2012E
Sales EBIT EBIT margin (%) BC EPS Consensus EPS Industrial EV/sales (%) Industrial EV/EBITDA P/E ratio (%)
95,873 2,730 2.8 1.41 1.41 44% 4.1x 29.8x
77,507 (1,619) -2.1 (2.02) (1.79) 45% 11.7x (16.6)
80,883 1,453 1.8 0.61 1.40 44% 5.4x 54.7x
88,258 3,690 4.2 2.20 2.87 40% 3.7x 15.2x
91,782 4,502 4.9 2.75 3.22 38% 3.5x 12.2x
Management urges caution as market runs ahead of itself

With the market currently, we believe, looking out to 2010E earnings and beyond, managements forecasts for positive earnings from ongoing business and positive FCF for 2009 have become less relevant. Instead, we feel the market is currently focused on Daimlers cost-cutting potential. Big headlines flaunting the over-achievement of 2009s 4bn cost-cutting target and aims to make 2009s savings permanent and also to exceed those savings incrementally in 2010E have, we believe, driven Daimlers relative price outperformance versus BMW in recent months (DAI +22% relative to DJ Euro STOXX -6 months, vs BMW +15%). And yet management has neither reconciled the gross savings achieved already with Daimlers YoY EBIT delta, nor have they provided any specific detail on how a further 4bn in savings will be achieved in 2010E. Indeed, recent company statements have led us to believe that even management themselves believe that current analysts forecasts have run ahead of company guidance. Figure 98: DAI has outperformed BMW by 12% since July 09
18% 16% 14% 12% 10% 8% 6% 4% 2% 0% -2% -4% 7/1/2009
8/1/2009
9/1/2009
10/1/2009
11/1/2009
DAI share price relative to BMW

Source: Datastream
8 December 2009
60
New E-class launched six months too early

Unfortunately for Mercedes, 2009s big model launch, the all new E-class, could not have come at a worse point in global auto markets. Whilst scrappage incentives at least boosted the lower end of the market, the higher-mix C and above segments were hit hard by the global recession. Though at 10M09 E-class sales were up 24,000 units YoY and to date in 2H09 comprised 22% of MBC group sales, (vs 25% in its last peak model year), the executive segment as a whole was down 50bp in Europe in 2009 and was likewise hit hard in the US. By contrast, we expect the segment share to recover again in 2010-11E just as the E-class laps its model launch anniversary and to top it off, its closest rival launches its all new 5-series. Figure 99: C and above segments to experience most growth 2010-11E
F - Luxury E - Executive D - Upper Medium C - Lower Medium B - Small -540 A - Basic -600 -413 -500 -400 -300 -200 -100 -45
-4 38 89
100
200
Change in units 2009-11E (000)

After the launch of the E-class in 2009 (with the E-class SW in Q409 the final model in the range), DAI has passed its peak model cycle and will have to wait until C-class replacement in 2014 before it gets another high volume, strong mix launch. We therefore expect the new E-class will help boost Mercedes margins in 2H09E and into 1H10E but we expect the benefits to be short-lived as its rival BMW, with its new 5 and 7-series models and better fuel efficiency credentials, takes the prize for most youthful product line-up. Whilst exposure to the high-growth Chinese market should buffer weaker demand in Triad markets, we still believe that top-line market estimates for MBC are overly optimistic. Figure 100: New E-class likely to aid 2H09 earnings but company losses model age battle with BMW by 2010E
Brand 2008 2009 2010 2011 2012
Mercedes
CLC Q1 SL Q2 GLK SUV Q4
E-class Q1 E-Coupe Q2 E-class SW Q4
E-coupe cab Q1 SLS Q2 CLS Q3
A-class Q1 B-class Q3 SLK
M-class B-class SUV Sub A-class ForFour?
Smart
Source: JD Powers, trade press and Barclays Capital
8 December 2009
61
Figure 101: Mercedes mix skewed to higher segments
Figure 102: E-class historically 25% of sales (but closer to 40% of MBC profits)
1,400 1,200 1,000 800 600 smart M/R/G S-Class E-Class
35% 30% 25% 20% 15% 10% 5% 0%

EExecutive A - Basic SUV Van C - Lower Medium D - Upper Medium Other B - Small
400 200 0 1996
C-Class
A/B-Class 1998 2000 2002 2004 2006 2008 2010
DAI
Industry avg
Pricing pressures to hurt Mercedes as E-class ages

One of our biggest concerns for the European market in 2010E, and for Mercedes cars in particular, relates to pricing. Perhaps the most insidious unintended consequence of the scrappage programmes will be a potential breakdown in pricing discipline in key European markets, leading to more transparent pricing and a price-shopping consumer. We believe that European manufacturers will follow the US pattern of over-incentivising end-prices in an attempt to boost volumes. While scrappage programmes were aimed at the volume small car market, the programmes appear to have shifted price expectations amongst luxury buyers. In the most recent set of results presentations, as well as in our discussions with management, luxury makers reported that pricing in key markets was coming under pressure as consumers and dealers demanded rebates to match those offered under scrappage programmes to volume makers. In Germany list prices are currently about 5.5% more than the average for the 16 euro denominated countries, which allows greater flexibility for manufacturer/dealer incentive packages the flip side of which being greater opportunity for margin erosion. The German governments 5bn scrappage incentive programme ran out of money in September, prompting carmakers to step up discounts yet further. Figure 103: Government scrappage schemes have led automakers to heavily boost their own incentives in 2009
Avg OEM incentives in Germany Oct 2009 Sep 2009 Dec 2008
Avg incentive/car () Incentive as % of list price (%)

2,485 11.6%
2,292 10.7%
2,528 11.8%
8 December 2009
62
Despite the positive price and mix effects of E-class and S-class renewals on 2010 EBIT, negative pricing for the overall market will drive an expected 100mn price/mix headwind in the year
To date, we believe this pressure, both in Mercedes domestic market but also in the rest of Europe, has been buffered only partially by new model roll outs. We expect the full availability of new E-class to boost price and mix by 770mn in 2H09E (versus an estimated 2.7bn negative impact in 1H09 when Mercedes like all other OEMs was attempting to drive down overstockage via pricing promotions), but our estimates for 2010E assume a 300m negative EBIT impact from price and mix. This forecast is based on 200,000 new E-class sales in 2010 at an estimated 2,000 additional price/unit (a generous assumption since Eclass renewal began in Q109 but allowing for easy YoY comparisons due to the effect of launching in a weak pricing year). For mix, we assume a 5,000 incremental contribution per unit for the model. However, this combined 575mn positive impact from new E-class is more than negated, we estimate, by the overall negative pricing environment which we expect to affect pricing on all other European and US vehicles by a negative 1,000/vehicle. Figure 104: Despite positive mix effects of new E-class, negative pricing drives an overall 100mn negative price/mix impact for Mercedes
E-Class Other models Total MBC
Additional vehicles (units) Additional price/vehicle () EBIT price impact (mn) Negative price/vehicle () EBIT price impact (mn) Est. EBIT mix effect (mn)* Total Mercedes EBIT delta (mn)
200,000 2,000 400 (1,000) (880) 175 (880) 175 (300) 400
Source: Barclays Capital; *assuming 5,000 EBIT contribution/vehicle for incremental E-class sales
Another knock-on effect of such pricing ill-discipline is likely to be that manufacturers are no longer in a position to significantly raise prices in countries affected by currency devaluations. This will have the greatest impact for Mercedes as it has the greatest exposure to sterling and US dollar denominated sales (see FX discussion below).
Less potential to trim costs than BMW

Over-achievement of cost savings in prior periods hampers 2010 delta
Though we credit Mercedes with 600mn of further production & procurement savings in 2010E, we believe that its potential for deeper and more permanent savings is much less than at BMW. Rather unfairly, this is due to the fact that BMW has come later to the modularity game, leaving it more potential in future to improve productivity. Unfortunately for Mercedes, its hugely successful CORE restructuring programme which ended in 2007, saw a great deal of costs taken out of the production system before we even entered the market downturn, leaving them less room for flexibility when markets recover. Although there are still incremental savings to be made via increased commonality between models, we expect that a vast majority of these have already been achieved via 2007s C-class roll-out and this years E-class, both of which have been produced based on the modular concept. Additionally, Mercedes faces higher R&D costs in the years ahead as it lags behind its Munich-based peer in fuel efficient technologies. Whilst we believe that this risk is already fully understood by the market, we also believe the market is over-playing the future benefits of other cost saving efforts, the details of which have yet to be disclosed, and of which so far there has been little evidence of achievement at the net level in 2009.
8 December 2009 63
Figure 105: DAI has greatest excess capacity of premium peers

400 350 300 Thousands 250 200 150 100 50 0 BMW Daimler Audi Tata Porsche 78 17 133 112 369
Figure 106: Below average capacity utilisation at Mercedes
100% 95% 90% 85% 80% 75% 70% 65% 60% 2008 2009E 2010E 2011E 2012E 2013E 2014E 2015E BMW Mercedes Premium avg
Excess production capacity

Source: CSM, Barclays Capital Source: CSM, Barclays Capital
Despite the efforts of the CORE restructuring programme, Daimler still has the greatest excess capacity among its premium peers in Europe with the likely ability to manufacture 369,000 more vehicles in 2010E than the market will demand. In 2009E, this provided greater flexibility to use schemes such as kurstarbeit (or short-time work) in Germany, in order to cut labour costs to deal with the dramatic fall in production levels in the year but it has also left a great deal of under-absorption of fixed costs. With no major new models due to come to market in the next 12 months, over-capacity will, we believe, be a drag on earnings in 2010E.
Youthful workforce does not aid further productivity savings

Mercedes has been grabbing the headlines recently with announcements on the potential for further headcount reductions. Our 2010E EBIT walkdown (see Figure 78) gives the company the benefit of 1.3bn in savings from personnel/SG&A in 2010E as kurtzarbeit continues until June 10E and we should see the full-year effects of the 6,000 workers who left the company in 2009, as well as the further redundancies the company has discussed. However, longer term, we believe that there is less flexibility in the workforce than at BMW due to its more youthful age. With c2% of all workers aged >50 years (vs. 20% at BMWs), natural attrition will not be such an easy lever for Mercedes going forward. Figure 107: DAI average worker age vs. peer BMW (years)
Percent over 50 yrs (%) Average age (yrs)
Daimler hourly Daimler salaried BMW hourly BMW salaried

2 2 17 25
40.8 41.6 39.6 42.4
8 December 2009
64
Size of impact from USD and GBP weakness likely to surprise the market
The aggressive fiscal and monetary stimulus taken by the UK and US governments have led to a weakening of their currencies, creating further pressures (perhaps unintended) on importers into those markets. Over the last year, the pound has fallen 15% relative to the euro while the US dollar has slipped 12%. As we argued in the front section of this report, we believe that the market is currently underestimating the full impact of this weakening in foreign exchange rates relative to the euro for the autos sector in 2010E. With 20%, or 18bn, of group revenues in North America in 2008, Daimler has one of the largest US dollar exposures of all European OEMs. The main transactional currency risk lies in the MBC car division, although Daimler trucks (and to a much lesser extent Van & Buses) also has a small degree of FX exposure.
40% natural hedging from USD leaves MBC with a likely $14bn net currency position (pre-financial hedges) in 2010E
Natural hedging provides shelter from USD but zero natural protection from GBP
In 2008, 250,000 MBC vehicles were sold in North America but only 153,000 vehicles (Mclass, GL-class and R-class) were produced, leaving the company with net imports of 100,000 vehicles. Although this figure fell significantly in 2009, as US sales collapsed, we expect the total US SAAR to recover back to 12mn vehicles in 2010E, thus leaving MBC with 162,000 vehicles imported from euro-denominated countries, plus a further 260,000 engines. Although sourcing in USD in Mexico and also to a large degree in China helps to balance the gross currency exposure, we still expect a US$14bn net currency position in FY10E, or 40% natural hedging. Despite the companys recent announcement that it will be shifting 20% of its C-class production to its US factory in Alabama starting in 2014 to help compensate for a weak dollar, we do not expect the benefits of this to be seen for at least another 4-5 years. Figure 108: Mercedes estimated natural hedging protection for USD and GBP, 2010E
Units Sale value in US$mn
N Am sales N Am production
Net vehicle imports
262,683 100,800
161,883
24,103 6,400
17,700
N Am engines imported
Gross currency position US$ Est. emerging market sourcing in US$ Net currency position, US$ Natural hedging percentage GBP exposure Mercedes & Smart cars
262,683
1,100
18,800
4,500
14,300
40%
Units Sales value in GBPmn
UK sales UK production
Net vehicle imports
79,100 0
79,100
3,010 0
3,010
UK engine imports
Net currency position, GBP Natural hedging percentage
79,100
240
3,250
0%
8 December 2009
65
With no production in the UK but an expected 79,000 vehicle sales in the region in 2010E, MBC has a 3bn net currency position (pre-financial hedging) from UK sterling
Unlike BMW, Mercedes UK exposure is not mitigated by any production facilities in the region. Zero percent natural hedging therefore leaves the company with 3bn net exposure to sterling FX rates in 2010E. Therefore our natural hedging assumptions for Mercedes -40% in the US and 0% in UK compare with a much greater 44% and 45% at BMW, due to BMWs higher level of production in both the US and UK.
Despite financial hedging DAIs EBIT FX impact likely 0.9bn in FY10E

Mercedes 2010E EBIT impact from FX forecast to be 0.9bn-every further 1cent weakening in USD rates, an additional 40mn and every 1p weakening in GBP rates a further 20mn impact
Although at least 60% of 2010s net currency position has already been financially hedged by the company, our calculations of Daimlers EBIT exposure to the GBP and USD lead us to forecast a 900mn total FX headwind for Daimler in 2010E -- enough to wipe out 70% of the expected effects of personnel and SG&A based productivity savings in the year. Despite selling fewer cars than BMW in both the UK and US, Mercedes negative EBIT delta from FX is -450mn higher than our estimate for BMWs FX exposure in FY10E, due to Daimlers lower degree of natural hedging in the regions. Figure 109: DAI estimated USD and GBP exposure, 2008-12E (units as stated)
2008 2009E 228,420 2010E 262,680 2011E 275,820 2012E 286,850
North American volume (units) Natural hedging volume in USD (%)

Net currency position, N Am (USD mn)
282,000
40%
14,400
44%
13,400
40%
14,300
41%
16,100
41%
29,200
Financial hedging volume (%) Spot rate

Estimated effective rate USD Impact on EBIT (mn)
90% 1.39
1.37 (680) 108,500
90%
1.45 1.35 150 92,500
60%
1.49 1.42 (540) 79,100
20% 1.49
1.48 (440) 69,800
0% 1.49
1.49 (110) 77,900
UK volume (units) Natural hedging volume in GBP (%)

Net currency position, (GBP mn)
0%
2,680
0%
3,480
0%
3,250
0%
2,890
0%
3,200
Financial hedged volume (%) Spot rate

Effective rate GBP impact on EBIT (mn) TOTAL XR impact on EBIT (mn)
95% 0.80
0.75 (270) (950)
95%
0.89 0.79 (200) (50)
60%
0.91 0.84 (360) (900)
20% 0.91
0.89 (210) (650)
0% 0.91
0.91 (70) (180)
Note that our FX forecasts assume that spot rates remain at current spot levels (despite forward FX markets implying the probability of further weakening from both the USD and GBP). Any further 1cent weakness in the US rate would provide a further 40mn headwind for Daimler in 2010E and likewise a 1p weakening in the GBP rate would impact profits by 20mn.
8 December 2009
66
Figure 110: EURUSD forward rates remain close above $1.45

1.492 1.490 1.488 1.486 1.484 1.482 1.480 1.478 1.476 1.474 1 day
Figure 111: Forward rates imply GBP burden will intensify

0.915 0.910 0.905 0.900 0.895 0.890 0.885 1 day
1 month
3 month
9 month
2 year
1 month
3 month
9 month
2 year
EURUSD forward rates

EURGBP forward rates
We believe that consensus numbers are currently not factoring in the severity of 2010s FX headwinds for the auto industry as a whole. Whilst other manufacturers have significant exposure to either the USD or GBP, Daimler remains the most exposed to movements in FX rates due to its relatively low level of natural hedging versus the high proportion of sales in the US, in particular. Figure 112: We forecast an EBIT delta of 1.0bn for MBC in 2010E, with 1.8bn cost savings
MBC cost walkdown (Delta) - mn Prior year EBIT 2009E 2010E 2011E 2012E
2117
(1,680)
(731)
410
309
510
849
470
Volume
Price/Mix Raw Materials & other input costs Production & procurement Currency Personnel/SG&A, R&D Other*
Total change in fixed costs Operating margin delta
(2,000) 200 (50) (50) 732

(1,168) (2,848)
(100) (220) 600 (900) 1,250 630 1,040
430 300 (700) 0 30 540
290 (200) (200) 270
Current year EBIT EBIT margin (%)

(731) -1.8
309 0.7
849 1.9
1,119
2.4
Trucks at rock bottom but speed of recovery likely to lag cars

With truck peers not currently rated by Barclays Capital, we base our Daimler truck forecasts on what we believe to be consensus estimates for the European, North American and Asian truck markets 2010-12E. Even presuming truck margins recover from 2009s low of -5.3% to 6.5% by 2012E (just ahead of pre-crisis level averages for 2005-07 but behind 2007s peak of 7.5%), only provides an extra 2bn EBIT to the group.
8 December 2009
67
We note that using market estimates is risky, as consensus on trucks may be overly optimistic given the tepid recovery potential, at best, for the European truck market. A youthful European truck fleet (German >16t trucks are just 3.5yrs old, according to KBA data), raises concerns about the speed of the cyclical recovery in the region and make it likely that the recovery will take much longer than for car markets. Whilst GDP growth in 2010 in the NAFTA region should trigger higher transportation volumes, new EPA 10 regulations are likely to dampen the chances of a Vshaped recovery and although the average age of the fleet is much older than in Europe, there are currently a large proportion of parked trucks which will be utilised ahead of new purchases. Daimler management have also urged caution against over-optimism on the truck outlook, with Q409E and early 2010E likely characterised by deterioration in regional mix, weaker pricing and restructuring costs. Figure 113: Giving company benefit of doubt by assuming consensus truck estimates
Trucks 2008A 2009E 2010E 2011E 2012E
Unit Sales (units) Unit sales growth (%) Implied Rev/unit (000s) Revenue growth (%) EBIT margin (%) Incremental margin (%)
472,074 1 61 0.4 5.6 -485
256,925 -46 75 -36.7 -5.3 24.5
283,000 10 70 9.5 2.9 88.5
328,000 16 70 15.9 6.0 25.7
348,000 6 70 6.1 6.5 14.3
Other businesses to recover, albeit at a slow pace

We expect the European LCV market to grow 130bp in share by 2012E from 2009s low level when the segment accounted for just 9.2% of sales in the W EU market. Although Daimler is not a market leader in this segment, we expect it to benefit from the recovery in the overall market and to return to 6-7% margins by 2012E. Figure 114: LCV segment market share 2006-12E
LCV Segment 2006 2007 2008 2009 2010 2011 2012
LCV units sales (mn) Van share of EU market (%) DAI share of Van market (%)
1.73 10.3 9.0
1.82 10.8 9.7
1.71 11.1 9.9
1.35 9.2 8.8
1.38 10.5 9.2
1.53 11.0 9.4
1.60 10.5 9.4
8 December 2009
68
Figure 115: LCV market share in Europe 2010E
Figure 116: LCV market set to recover 180bp from 2009s low
12.0% 15.0%
Opel Other 3% Daimler 6% 9%
PSA 25%
11.0% 10.0% 9.0% 10.0%
Ford 11%
8.0% 7.0%
Fiat 14% VW Group 15%

Source: CSM and Barclays Capital
RenaultNissan 17%
6.0% 2006 2008 2010 2012 2014
5.0%
Van share of WE Market DAI vans share of WE van market

Likewise, we expect ongoing strong city bus development to boost revenues and help EBIT margins recover to 6.5% by 2012E, thought still behind 2008s level of 8.4%. Figure 117: Vans & Buses segment expected to return to close to pre-crisis levels by 2012E
2008A Vans 2009E 2010E 2011E 2012E
Unit sales (units) Implied Rev/unit ( 000) Revenue growth (%) EBIT margin (%)
Buses
287,198 33 1.5 8.6
153,000 40 -35.4 -1.6
191,000 34 6.1 2.0
206,000 34 7.9 6.0
208,000 34 1.0 7.0
Unit sales (units) Implied Rev/unit ( 000) Revenue growth (%) EBIT margin (%)
40,591 118 10.5 8.4
32,500 128 -13.5 4.5
34,000 125 2.2 5.0
39,000 125 14.7 6.0
39,600 125 1.5 6.5
Financial Services returns muted

Although Daimlers financial services business provided a stable profit-stream historically, the credit crisis and resultant liquidity squeeze and US leasing issues have drastically reduced the returns from this business. Although liquidity has now returned to the market and lower interest rates will aid the spread on new customer contracts, we believe that higher cost of risk levels will continue for at least the next 12 months and combine with the lower profit contracts (struck during the crisis) which will take three years to come through the system, thus hurting RoE for some time to come.
8 December 2009
69
Figure 118: DAIs FS portfolio to grow as credit supply returns

66 64 62 60 58 56 54 52 50 FY05A FY07 FY09E FY11E FY13E FY15E 25% 30% 35% 40%
Figure 119: Cost of risk to peak in 09, ROA to slowly recover

20% 16% 12% 8% 4% 0% FY05A FY07 FY09E FY11E 0.90% 0.80% 0.70% 0.60% 0.50% 0.40% 0.30%
DAI's FS managed portfolio (bn) Penetration rates (%)

DAI's RoA (%)

Cost of Risk (%) RHS
Balance sheet remains attractive

From a balance sheet perspective Daimler remains an attractive asset after generating 2.3bn of FCF in 9M09 and thus increasing its net liquidity to 6.7bn (versus 3.1bn in Dec 08). Much of this increase was aided by a reduction in inventories (which boosted working capital in the cash flow by 3.5bn at 9M09), whilst we think that rising production rates will provide a drag on cash flow in coming months as both inventory and supplier payable levels build again we estimate a 1bn outflow from industrial FCF in 2010E we are confident that Daimlers strong history of cash management and above average credit rating, will help maintain a relatively stable level of cash on the balance sheet. Note that our autos credit analysts, Darren Hook and Rob Perry, have a neutral CDS view and Marketweight cash rating for Daimler and believe that current debt ratings (A3 Neg/BBB+/BBB+ Neg) are probably the lows for the foreseeable future with expected earnings improvement likely to reduce the risk of a downgrade to mid BBB. Figure 120: Solid balance sheet and cash generation potential
14.0 12.0 10.0 8.0 6.0 4.0 2.0 0.0 2005 2006 2007 2008 2009E 2010E 2011E 2012E 4.0 3.0 2.0 1.0 0.0 -1.0 -2.0 -3.0 -4.0 -5.0 -6.0 -7.0
"DAI Net Industrial Cash (bn)"

DAI Industrial FCF (bn) RHS
8 December 2009
70
Rating
We believe the market is overly optimistic on DAIs potential to deliver and retain future cost savings
We are initiating coverage of Daimler with a 3-Underweight rating and 32 price target due to our expectations that the market has run ahead of itself on its forecasts for Daimlers cost saving potential. We expect pricing, demand, and currency pressures to continue in the premium market and therefore favour companies that can deliver and retain near- and midterm cost reductions ahead of market expectations.
We value Daimler using a SotP methodology but we acknowledge that this assumes the market gives full credit to each constituent part of the company. In reality we have seen that Daimler has tended to trade much closer to BMW multiples, despite its supposedly higherrated truck division historically comprising 25% of earnings. We therefore cross-check our valuation against historical and peer average EV/sales multiples and use a weighted average of the both methodologies to derive our price target. Figure 121: After months of downgrades, 10-11E EPS estimates have recently been rising but are too high
10.00 8.00 6.00 4.00 2.00 0.00 -2.00 Nov-08 Nov-07 May-08 Mar-08 May-09 Mar-09 Nov-09 Sep-08 Sep-09 Jan-08 Jan-09 Jul-08 Jul-09 -4.00
Figure 122: Analyst recommendations have recently been growing more positive on DAI we believe its too early
5.0 4.5 4.0 3.5 3.0 2.5 2.0 1.5 Aug-08 Dec-07 Apr-08 Jun-08 Oct-08 Feb-08 1.0
Sell
Buy
Dec-08 Aug-09 Dec-09
71
Apr-09
Jun-09
DAI FY09E cons EPS est DAI FY11E cons EPS est
Source: Datastream
DAI FY10E cons EPS est
DAI Cons Recommendation

Source: Datastream
Figure 123: Over-optimistic consensus estimates

Revenue (mn) EBIT (mn) EPS ()
80,883 1,453 0.61
82,684 2,638 1.40
Feb-09
-2.2% -44.9% -56.2%
SotP
Using a sum-of-the-parts valuation we arrive at a 33 price for Daimler, implying 7% downside to its current market price. We base our calculation on a blended average of peer EV/sales and PE multiples for the core Autos business, peer EV/sales and EV/EBIT multiples for Daimler Trucks and bring in Finance companies and Vans & Buses divisions at historical average multiples. We also apply a 5% discount to the SotP valuation to take account of the historical holding discount for the trucks business.
8 December 2009
Oct-09
Figure 124: Daimler SotP implies downside to current share price

Sum-of-parts valuation, ex Chrysler m per share REMARKS
Mercedes-Benz Cars Daimler Trucks Van & Bus Chrysler EADS

SotP Industrial business
11,800 11,400 4,400 0 2,115

29,715
12 12 5 0 2
31
Average of: 39% 2010E EV/MBC Sales / 11x 2011E PE (in-line with BMW) Average of: 60% 11E EV/sales / 8x 11E EBIT (in line with truck peer multiples) Average of: 30% 11E EV/sales; 11x 11E PE has 22.5% equity interest, incl 7.5% options (to convert on or after 1 July 2010) at 0.8x equity value FY10E Net Industrial Cash Under-funded pension status, 2010E (assuming 30% tax shield) Healthcare in North America (assuming 30% tax shield)
Financial Services
EV Operating business
3,360
33,075
4
35
Industrial net cash/(debt) Group pension Healthcare liabilities

Minorities Total EV EV with holding discount
5,450 (3,570) (594) (1,508)

33,297 31,632
6 (4) (1)
(2) 35 33
5% discount
EV/sales
Daimler has traded at a five-year historical median of 42% industrial EV/sales although during that period has ranged from a low of 13% in 2003 (incl Chrysler) to a high of 57% in 2007. On the same time frame, BMW has traded at a median average EV/sales of 39% and has ranged from 20% to 59%. Applying Daimlers own historical average multiple would imply a price of 31. Figure 125: At current price DAI is overvalued on EV/sales
60% 50% 40% 30% 20% 10% 0% 2000
Figure 126: DAI currently trades more richly than BMW

80% 70% 60% 50% 40% 30% 20% 10%
2002
2004
2006
2008
2010E
2012E
0% 2000
2002
2004
2006
2008
2010E
2012E
DAI EV/Sales
Historical average
DAI EV/Sales
BMW EV/Sales
8 December 2009
72
A weighted average of both these valuation metrics leads us to set a 32 price target for the share. Figure 127: Daimler key valuation metrics
Industrial EV/sales (%) Industrial EV/EBITDA Industrial EV/EBIT P/E FCF Yield (%) Price/Sales (%) Price/Book Dividend yield (%)
41 2.8x 7.1x 11.8x 29.1 48 1.2x 3.5 41 2.8x 7.1x 11.8x 29.1 48 1.2x 3.5
57 4.3x 7.3x 16.5x 16.3 72 1.7x 3.2 57 4.3x 7.3x 16.5x 16.3 72 1.7x 3.2
44 4.1x 18.4x 29.8x -6.8 46 1.2x 1.4 44 4.1x 18.4x 29.8x -6.8 46 1.2x 1.4
45 11.7x (28.2) (16.6) 8.2 52 1.2x 0.0 41 10.6x (25.7) (15.3) 8.9 48 1.1x 0.0
44 5.4x 29.6x 54.7x -3.0 49 1.1x 0.7 40 5.0x 27.1x 50.6x -3.2 46 1.1x 0.8
40 3.7x 10.6x 15.2x 0.0 45 1.1x 2.7 37 3.4x 9.7x 14.1x 0.0 41 1.0x 2.9
38 3.5x 8.7x 12.2x 3.3 43 1.1x 4.2 35 3.2x 8.0x 11.3x 3.6 40 1.0x 4.5
Industrial EV/sales (%) Industrial EV/EBITDA Industrial EV/EBIT P/E FCF yield (%) Price/sales (%) Price/book Dividend yield (%)

Risks to our price target are as follows: External risk macroeconomic factors outside the control of the company, leading to an even stronger demand and pricing environment than we currently assume, could mean that the company exceeds our forecasts Were truck markets to improve faster than consensus (and our) estimates, this would provide upside to the current share price Currency risk if USD or GBP rates were to improve significantly against the euro, this would ease the FX burden for Mercedes earnings forecasts.
Credit Perspective
Barclays Capital credit analysts, Rob Perry and Darren Hook, rate Daimler Market Weight. They view Daimler as a high BBB credit given their expectations for credit metric recovery through 2010, with Daimler returning to revenue growth, supported by the new E-class as well as further cost cutting progress. The believe that the recovery in trucks, however, is likely to lag that of premium autos and management is likely to take a cautious approach to increasing inventory levels.
8 December 2009
73
Figure 128: Daimler Group income statement, 2006A-2012E

December year end (mn) Net revenues 2006 99,222 2007 99,399 2008 95,873 2009E 77,507 2010E 80,883 2011E 88,258 2012E 91,782
Cost of sales
Gross profit
(78,782)
20,440
(75,404)
23,995
(74,314)
21,559
(63,975)
13,531
(64,453)
16,430
(69,118)
19,139
(71,619)
20,164
SG&A Research & development Other op costs, share of associates & financial income
Reported operating income Memo: reported EBIT margin (% of sales)
(13,024) (3,018) 594

4,992 5.0%
(12,979) (3,158) 852

8,710 8.8%
(13,328) (3,055) (2,446)

2,730 2.8%
(10,751) (3,092) (1,307)

(1,619) -2.1%
(10,462) (3,476) (1,040)

1,453 1.8%
(11,089) (3,680) (681)

3,690 4.2%
(11,594) (3,598) (470)

4,502 4.9%
Non-recurring income and (expenses)

Memo: clean EBIT Memo: clean EBIT margin (% of sales)
(1,065)
6,057 6.1%
981
7,729 7.8%
(3,481)
6,211 6.5%
(660)
(959) -1.2%
0
1,453 1.8%
0
3,690 4.2%
0
4,502 4.9%
Financial income/expense & other

Pre-tax income
(90)
4,902
471
9,181
65
2,795
(800)
(2,419)
(450)
1,003
(350)
3,340
(350)
4,152
Income tax Memo: tax rate Minorities/associates

Net profit from continuing ops
(1,736) 35% (39)

3,127
(4,326) 47% (6)

4,849
(1,091) 39% (66)

1,638
415 17% (66)

(2,070)
(309) 31% (66)

627
(1,022) 31% (66)

2,252
(1,272) 31% (66)

2,814
Net income from discontinued ops

Group Interest EPS - basic DPS
617
3,744 3.66 1.50
(870)
3,979 3.83 2.00
(290)
1,348 1.41 0.60
0
(2,070) (2.02) 0.00
0
627 0.61 0.25
0
2,252 2.20 0.90
0
2,814 2.75 1.41
No shares (average)
Daimler Segmental Revenue:
1022.1 51,410 31,789 13,151

91,948
1037.8 52,430 28,466 14,123

90,688
957.7 47,772 28,572 14,970

86,591
1,023.8 40,417 18,087 10,280

65,785
1,023.8 41,958 19,810 10,744

69,512
1,023.8 44,821 22,960 11,879

76,660
1,023.8 46,571 24,360 12,022

79,953
MBC Cars Trucks (CVs before 05) Van & Bus (excl Chrysler & EADS post-2007)
Industrial revenues
Financial Services
Total Group revenues Daimler segmental clean EBIT:
8,106
100,054
8,711
99,399
9,282
95,873
11,722
77,507
11,370
80,883
11,598
88,258
11,830
91,782
MBC Cars Trucks (CVs before 05) Van, Bus, Other (from 05) Chrysler Group
Industrial Clean EBIT
3231 2133 313

-468 5,250
4835 1957 801

-377 7,099
2498 1811 1410

-1390 5,534
-731 -599 89
0 (1,040)
309 566 342

0 1,036
949 1375 713

0 2,912
1019 1574 817

0 3,518
Financial Services
Total Group clean EBIT Daimler Segmental Reported EBIT Margin %
807
6,057
630
7,729
677
6,211
81
(959)
417
1,453
778
3,690
984
4,502
MBC EBIT % Trucks EBIT %

Mercedes-Benz Vans Daimler Buses
3.5% 5.8%
9.1% 7.5%
4.4% 5.6% 8.6% 8.4%
-1.8% -5.3% -1.6% 4.5% 0.9%

-2.6%
0.7% 2.9% 2.0% 5.0% 3.2%

1.5%
2.1% 6.0% 6.0% 6.0% 6.0%

3.8%
2.2% 6.5% 7.0% 6.5% 6.8%

4.4%
VBO EBIT %
Industrial EBIT %
10.1%
4.6%
13.8%
8.9%
-8.3%
2.4%
Financial Services EBIT %

Total Group EBIT %
10.0%
5.0%
7.2%
8.8%
7.3%
2.8%
0.7%
-2.1%
3.7%
1.8%
6.7%
4.2%
8.3%
4.9%
8 December 2009
74
Figure 129: Daimler Industrial and Group balance sheet, 2006A-2012E

As at end-December (mn) 2006 2007 2008 2009E 2010E 2011E 2012E
Intangibles Property, Plant and Equipment Operating Leases Investments in Associates/non-consolidated co.s Other non current financial assets/securities Deferred Tax & Other
Total Industrial Fixed Assets
7,486 32,603 10,383 4,824 5,044 7,383

67,723
5,128 14,600 8,186 4,845 3,928 1,952

38,639
5,964 16,022 7,185 4,258 2,758 2,998

39,185
6,612 15,873 7,200 4,258 2,758 2998

39,699
7,107 15,596 7,200 4,258 2758 2998

39,918
7,535 15,513 7,200 4,258 2758 2998

40,262
7,956 15,985 7,200 4,258 2758 2998

41,155
Fixed Assets Financial Services

Total Group Fixed Assets
69,480
137,203
35,335
73,974
37,645
76,830
35,400
75,099
34,300
74,218
35,000
75,262
35,700
76,855
Inventories Accounts receivable Cash Other current assets

Total Industrial Current Assets
17,736 7,423 6,060 485

31,704
13,604 6,135 14,894 (1,102)

33,531
16,244 6,793 4,664 (2,375)

25,326
13,493 5,046 8,025 0

26,565
13,369 5,523 7,009 0

25,901
13,746 5,881 6,763 0

26,390
13,493 6,133 6,992 0

26,618
Current Assets Financial Services

Total Group Current Assets Total Industrial Assets
48,727
80,431 99,427
26,667
61,120 73,092
30,063
55,389 64,511
29,500
56,065 66,264
29,200
55,101 65,819
30,100
56,490 66,652
31,000
57,618 67,773
Total Financial Services Assets

TOTAL GROUP ASSETS
118,207
217,634
62,002
135,094
67,708
132,219
64,900
131,164
63,500
129,319
65,100
131,752
66,700
134,473
Total Industrial Non-current Liabilities
33,060
24,299
20,817
25,468
24,468
24,468
24,468
Non-current Liabilities Financial Services

Total Group Non-Current Liabilities Total Industrial Current Liabilities
57,392
90,452 37,842
23,699
47,998 14,927
26,496
47,313 15,602
24,900
50,368 15,802
24,200
48,668 15,249
24,700
49,168 15,099
25,200
49,668 15,412
Current Liabilities Financial Services

Total Group Current Liabilities Total Industrial Liabilities
51,994
89,836 70,902
33,913
48,866 39,252
36,580
52,182 36,419
35,800
51,602 41,270
35,400
50,649 39,717
36,500
51,599 39,567
37,600
53,012 39,880
Total Financial Services Liabilities

TOTAL GROUP LIABILITIES
109,386
180,288
57,612
96,864
63,076
99,495
60,700
101,970
59,600
99,317
61,200
100,767
62,800
102,680
Industrial Equity Financial Services Equity

DAI Shareholders' Equity
28,104 8,821
36,925
32,328 4,390
36,718
26,584 4,632
31,216
23,486 4,200
27,686
24,594 3,900
28,494
25,577 3,900
29,477
26,385 3,900
30,285
Minority Interests
Group Shareholders' Equity (incl MI)
421
37,346
1,512
38,230
1,508
32,724
1,508
29,194
1,508
30,002
1,508
30,985
1,508
31,793
Balance Sheet analysis & drivers: Net Working Capital 11,681 13,009 16,769 12,011 12,950 13,967 13,723
Working capital / Sales

Net Industrial Cash (Debt)
13%
9,861
14%
12,612
19%
3,106
18%
6,470
19%
5,450
18%
5,200
17%
5,430
Funded/(Unfunded) pension obligations Healthcare obligations/other post-employment benefits

Industrial Net Cash (Debt) after Pensions
(2,290) (14,102)
(6,531)
(1,912) (734)
9,966
(4,934) (848)
(2,676)
(5,100) (848)
522
(5,100) (848)
(498)
(5,100) (848)
(748)
(5,100) (848)
(518)
Gearing (pre-pension)
-35%
-39%
-12%
-28%
-22%
-20%
-21%
8 December 2009
75
Figure 130: Daimler Industrial and Group cash flow statement

Net Income Depreciation and amortisation Deferred tax (Gains) losses on disposals Chg in inventories Chg in trade receivables Change in trade payables Other chg in WC Change in Working Capital Share in equity co's (net of dividends)
INDUSTRIAL OPERATING CASH FLOW
2,753 7,173 (464) (545) 224 (118) 122 (344) (116) (2,344)
6,457
2,611 4,220 3,121 (1,306) (1,621) 198 246 (175) (1,352) (1,706)
5,588
957 3,123 653 (712) (2,628) (517) (644) (984) (4,773) (1,113)
(1,865)
(2,125) 3,472 653 0 2,751 1,747 261 4,758 0

6,758
410 4,173 0 0 124 (476) (587) 234 0

3,644
1,793 4,600 0 0 (377) (358) (282) (453) 0

5,377
2,218 4,267 0 0 253 (253) 243 (243) 0

6,728
Capital expenditure, net Additions to intangible assets Acquisitions less disposals of businesses Changes in wholesale & retail receivables Investment in shares Other
INDUSTRIAL CASH FLOW FROM INVESTING
(5,162) (1,301) 1,115 1,466 (1,395) 43

(5,234)
(2,943) (1,327) 3,643 1,558 4,528 23,813

29,272
(2,207) (1,523) (513) 3,644 112 (1,015)

(1,502)
(2,500) (1,447) -150 0 (3,500) 0

(7,597)
(3,130) (1,529) 0 0 0 0
(4,659)
(3,680) (1,687) 0 0 0 0
(5,367)
(3,840) (1,759) 0 0 0 0
(5,599)
Debt issued/(redeemed) Dividends paid Equity issued/(redeemed) Shares repurchased

INDUSTRIAL CASH FLOW FROM FINANCING
(1,215) (722) 306 (29)

(1,660)
(21,615) (1,179) 1,440 (3,510)

(24,864)
(647) (1,861) (2) (4,218)

(6,728)
3,000 (600) 1,800 0

4,200
0 0 0 0
0
0 (257) 0 0
(257)
0 (900) 0 0
(900)
Other / FX
NET CHANGE IN INDUSTRIAL CASH
(432)
(869)
(1,162)
8,834
(135)
(10,230) 3,361 (1,016) (246) 229
Operating cash from Finance Co's Investing cash from Finance Co's Financing cash from Finance Co's Other/FX from Finance Co's
NET CHANGE IN GROUP CASH
7,880 (10,623) 4,056 (98)

346
7,500 (8,735) (340) (37)

7,222
5,070 (7,301) 3,813 (71)

(8,719)
0 0 0 0
3,361
0 0 0 0
(1,016)
0 0 0 0
(246)
0 0 0
229
DAI cash flow analysis & drivers
Industrial FCF Group FCF

Industrial Capex / Sales, % Industrial additions to intangibles/ Sales % Capex + R&D as %age of Sales Industrial Capex/Depreciation & Amortisation
(6) 12,842 5.6% 1.4% 8.9% 72.0%
1,318 10,632 3.2% 1.5% 6.7% 69.7%
(5,595) (2,734) 2.5% 1.8% 6.1% 70.7%
2,811 2,811 3.8% 2.2% 8.5% 72.0%
(1,016) (1,016) 4.5% 2.2% 9.5% 75.0%
10 10 4.8% 2.2% 9.6% 80.0%
1,129 1,129 4.8% 2.2% 9.3% 90.0%
8 December 2009
76
Figure 131: Mercedes units by model, YTD 09

smart 11% M/R/G 13%
Figure 132: Daimler revenue by geography, YTD 09

Other Markets 19%
A/B-Class 20%
Germany 23%
S-Class 7%
Asia 14% Other W EU Markets 25%
E-Class 14%
C-Class 35%
USA 19%
Figure 133: Daimler revenues by division, 04A-12E (mn)

120,000 100,000 80,000 60,000 40,000 20,000 0 2004 2006 2008 Trucks Daimler Buses 2010E 2012E
Figure 134: Daimler Clean EBIT by division, 04-12E (mn)

10,000 8,000 6,000 4,000 2,000 0 (2,000) 2004 MBC Cars Van, Bus, Other (from 05) Chrysler
2006
2008 Trucks
2010E
2012E
MBC Cars Mercedes-Benz Vans Financial Services

Financial Services
Figure 135: Daimler EBIT Margin by division, 04-12E %)

15.0% 10.0% 5.0% 0.0% -5.0% -10.0% 2004
Figure 136: DAI Industrial Net Cash and Industrial FCF (mn)
14,000 10,000 6,000 2,000 (2,000) (6,000) 14,000 10,000 6,000 2,000 (2,000) (6,000) 2005 2007 2009E 2011E Industrial FCF
2006
2008
2010E
2012E VBO EBIT %
MBC EBIT %
Trucks EBIT %
Net Industrial Cash (Debt)

8 December 2009
77
FIAT EXCESS CAPACITY AND LOWER CHRYSLER TURNAROUND ENTHUSIASM DRIVE 3-UNDERWEIGHT RATING
FIA.MI / F IM Stock Rating
3-UNDERWEIGHT
Sector View
2-NEUTRAL
Price Target
8
Price (4-Dec-2009)
10.56
Potential Downside
24%
We are initiating coverage of Fiat with a 3-Underweight rating and a 8 price target. While Fiat has rallied recently on hopes for Chrysler and press speculation of an Fiat Group Automotive (FGA) spin-off, we believe that while Chrysler is likely to survive through 2011, even a strong turnaround (albeit below management projections) would be worth only 1.50 per Fiat share by 2012. Moreover, by Fiats own admission, the prospects for a spin-off of FGA, which would in our view unlock the value of CNH and Iveco, are remote in 2010. As a result, investors will likely refocus on the core automotive business, which faces a difficult year as scrappage programmes fade away across Europe. As the programmes fade, Fiat, which benefited significantly from the shift to A and B vehicle segments, will be hit hard as volumes fall and price competition sharpens. The fall in volume will once again reveal the excess capacity in Italy, leading to negative headlines and difficult negotiations as Fiat navigates the delicate task of closing Italian capacity. We are therefore initiating coverage of Fiat with a 3Underweight rating and a 8 price target, implying 24% potential downside from current levels. We value the Fiat share based on an average of EV/sales and EV/EBTIDA at historical and peer average multiples, which lead us to our 8 price target (please see the valuation section for further details).

Negatives:
Heavy reliance on A and B sectors leaves Fiat exposed to a decline in post-scrappage volume and price wars in 2011 While offering potential longer-term potential, CNH and Iveco offer only a modest offset in 2010 and 2011 Chrysler turnaround enthusiasm is getting ahead of potential turnaround progress; 2010 and 2011 are likely to be marked by survival albeit through heavy incentives and fleet sales
Risks to our 3-Underweight view:

Extension and/or expansion of Italian scrappage schemes More rapid rebound in truck and/or agricultural equipment More rapid turnaround at Chrysler
8 December 2009
78
Figure 137: Fiat headline data and valuation multiples (at current share price), 2008-2011E
(mn) 2008A 2009E 2010E 2011E 2012E
Industrial Sales Industrial EBIT Ind EBIT margin (%) BC EPS Consensus EPS Adj Ind EV/sales (%) Adj Ind EV/EBITDA P/E ratio (%)
58,309 3,362 5.8 1.29 -31 3.3x 8.8x
46,793 896 1.9 0.09 -0.16 36 4.7x 109.6x
46,755 477 1.0 0.05 0.35 35 5.0x 205.6x
48,565 1,019 2.1 0.36 0.82 33 4.3x 29.0x
54,242 1,924 3.5 1.04 1.26 25 3.0x 10.0x
Unintended consequences of scrappage wind-down to hit Fiat hard

Fiats mix even before the scrappage boost of 2009 had been tilted toward A and B segment vehicles. The various scrappage programmes, in particular the Italian programme, further boosted Fiats A and B reliance. While Fiat may indeed have the right long-term strategy with downsized vehicles and small, fuel efficient powertrains, it nevertheless will likely be hit in 2010 by the fallout from the end of the scrappage programmes in terms of volume, capacity and pricing. Figure 138: Fiats current European sales mix significantly skewed to A&B segments
40% 35% 30% 25% 20% 15% 10% 5% 0% EExecutive SUV C - Lower Medium D - Upper Medium A - Basic B - Small Other Van
Fiat Group
Industry avg
Volume down as boost to A and B segment fades

In 2009, Fiat is likely to have maintained sales volumes of 1.2mn in Western Europe, a YoY increase of only 4% vs. industry decline of 3.4%. As a result, Fiats overall share of WE increased 60bp to 8.9%. In Italy, sales fell even less, with YTD Fiat selling 602k units in 2009 vs. 604k in 2008. However, much of this relative success appears due to the artificial mix shift engendered by scrappage programmes. In Italy, which is historically a smaller car market, A and B segments increased by 600bp, from 57% share to 63%. The shift in segment share across Europe can more than be accounted for by the scrappage programmes in the top five countries for example, the German programme alone contributed 4.2 share points in 2009 to the overall European increase in volume B segment share vs. 2008.
8 December 2009
79
Figure 139: Scrappage programmes account largely for mix shift to A&B segments in 2009E
A segment 2008 segment market share YoY chg by country: France Germany Italy Spain UK Other Memo: total change 2009 segment market share
B segment 29.5%
C segment 31.4%
10.5%
0.9% 1.7% 0.4% -0.1% 0.3% 0.3%

3.2% 13.7%
0.5% 4.2% 0.2% -0.4% -0.2% -0.8%

3.7% 33.1%
0.0% 1.6% -0.2% -0.8% -1.0% -2.5%

-1.8% 29.6%
Fiat was one of the key beneficiaries of the scrappage boost. In Italy, the scrappage programme was distinctly aimed at Fiats sweet spot in A and B segments. Italy restricted its trade-ins of ten-year-old and older cars, with a 1,500 car incentive to those new vehicles that met Euro 4 + emission standards and emitted a maximum 130 g/km (diesel) or 140 g/km (other fuels) of CO2, with an additional 1,500 3000 for CNG or other alternative fuels (a Fiat sub-specialty). The Italian scheme thus covered all of the Fiat 500s, and most models of Fiat Bravo, while at the same time excluding many variants of, for example, the VW Polo and Golf. (By contrast the German programme simply required compliance with Euro 4 emissions while France provides rebates for new vehicles for up to 160 g/km, enough to accommodate many versions of the Mgane). In the other countries, Fiat benefitted from the general tendency of scrappage buyers to choose A and B segment vehicles, although its share of those segments slipped somewhat as other automakers rushed to fill demand. As a result, Fiats share of the Western European market, which rose from 8.3% in 2008 to 8.9% in 2009, was boosted by sales from the scrappage schemes. Overall, Fiat gained about 74k units of volume in the A and B segments, of which 150,000 units were from the overall increase of those segments in the European market, offset by some loss of Fiat share in these segments: Figure 140: Fiat volume segment in Western Europe source of change 2008 vs. 2009
Fiats 2008 sales (volume market) Sources of chg: 1,289,482
Total A/B segment chg YoY

Segment share Fiat share in segment
74,892
149,669 -74,777
Total C/D/E segment chg YoY

Segment share Fiat share in segment
-50,484
-24,504 -25,980
Total Van and other segment chg YoY

Segment share Fiat share in segment Fiat 2009 sales (volume market)
Source: JD Powers Forecasting, Barclays Capital
-38,559
-49,593 11,034 1,275,331
8 December 2009
80
In 2010, even with some trailing scrappage programme extensions, we expect the distortion of the A and B segment share to fall, with combined share of the volume the W European market falling 400bp - from 47% in FY09 to 43% in 2010E, meaning that total sales in the volume market would fall by 1.1mn cars in Western Europe, to a total of 4.6mn. In this context, although we would expect Fiat to revert closer to its 2008 share in the A&B segment this would still cause a drop of 190,000 vehicles for the manufacturer. Likewise, with only modest economic growth, we do not expect a significant rebound in the LCV market, which we see growing at 3% across Europe in 2010E.
8 December 2009
81
Exposing excess capacity and weak fixed cost absorption

The scrappage programmes in Italy and beyond have helped to support utilisation at key Fiat factories in Italy. In mid-year, Fiat noted that the several plants had been boosted by scrappage incentives: The Melfi plant (site of a bitter labour action in 2004) did not need to use temporary layoffs in March, April and May due to production volumes for Grande Punto (especially the LPG and CNG versions that received extra incentives), and scheduled weekend overtime. The Mirafiori plant had good volumes for the Punto Classic, Musa, Idea (again, the incentivised CNG and LPG versions) and Alfa Mito, with reduced recourse to temporary layoffs (from April, more than halved vs. January) and limited weekend overtime. Even the slated-to-close Termini Imerese plant enjoyed decent volume in the Ypsilon, (in particular LPG version) with reduced recourse to temporary layoffs in March, April and May Cassino had some boost from LPG version of Bravo With the fall in sales, we expect Western Europe production to decline from the pace of 8.6mn units in 2H09 to 8.0mn units in 1H10E. As a result, several Fiat factories that had enjoyed strong utilisation due to A and B segment build will see weaker capacity utilisation, joining the current underutilised factories that make larger cars. Overall in Europe, Fiat had almost 500,000 units of excess capacity in 2008, but was able to reduce to 280,000 units in 2009, largely by stepping down straight-time capacity in Serbia. In Italy, straight time capacity was trimmed to 970,000 units in 2009, down from 1.2mn units in 2008, allowing for only 280,000 units of excess capacity at the same time, Poland ran at 108% to meet Fiat 500 demand. Excess capacity is likely to continue in Italy for the foreseeable future. Fiat has recently underscored in its annual meeting with its social partners its plans to discontinue automobile production at the Termini Imerese plant in Sicily in 2011, perhaps converting to support agricultural equipment. Fiat will still suffer excess capacity in Italy of about 200,000 in 2011, or about the equivalent of 1 to 2 plants. Outside of Italy, capacity utilisation is strong in Brazil, albeit weaker in Poland and Serbia where Fiat is adding capacity. Figure 141: Fiat European capacity by country (units)
1,400,000 1,200,000 1,000,000 800,000 600,000 400,000 200,000 0
2001 2003 2005 2007 2009 2011
Figure 142: Fiat European capacity utilisation by country %

140% 120% 100% 80% 60% 40% 20% 2005 2011 2013 Serbia 2007 2001 2003 2009 2015
82
0%
Italy Spain
Poland Turkey
Serbia
Italy Spain
Poland Turkey
8 December 2009
As CEO Marchionne turns his attention to a revised plan for Fiat Europe in 1Q10, we would expect management to begin to highlight the capacity issues and need for an industrial solution a slow and difficult challenge in the context of Italian labour relations. Thus, we remain cautious near-term, especially as in the process of making the case for capacity reductions or increased flexibility, may lead management to take a more cautious tone around the prospects for the core European business. Longer term, the new plan will likely be a positive assuming it addresses some of the core overcapacity issues.
A further hit from likely weak A and B pricing in 2010

With its disproportionate focus on A and B segments, Fiat is particularly vulnerable to a post-scrappage price cutting pandemic. Consumers for A and B cars even acknowledging that some were first-time new car buyers have become accustomed to 1,500-2,500 of government incentives, often with matching manufacturer incentives on top. And manufacturers have become accustomed to the lift to capacity utilisation provided by scrappage programmes. Already in Germany, the country with the most aggressive scrappage scheme in 2009, OEMs have significantly added to the governments 2,500/vehicle incentive with their own generous discounts: Figure 143: Government scrappage schemes have led automakers to heavily boost their own incentives in 2009
Avg OEM incentives in Germany Oct 2009 Sep 2009 Dec 2008
Avg OEM incentive/car () Incentive as % of list price (%)

2,485 11.6%
2,292 10.7%
2,528 11.8%
Progress in modularity unlikely to provide offset in near-term

While Fiat has been a strong champion of modular architectures, we do not see significant ability for these programmes to offset the pricing and capacity issues over the next few years for three reasons. First, Fiat (unlike Renault) is already well advanced in its move to modularity, and likely has seen benefits already reflected in its 2008 and 2009 earnings. Second, Fiat lacks the global scale in its key platforms especially C and D relative to other auto makers and across platforms. Third, the benefits from Chrysler are likely only post2012 as Chrysler reengineers its product lines (and as Fiat relooks at its own platforms) and may be more limited than management foresees should Chrysler not be able to grow car and unibody CUV share in the US (that is, platforms with more potential commonality with Fiat than the body-on-frame Jeeps and Rams).
TRUCKS & AG EQUIPMENT WILL NOT OFFSET AUTO DECLINE NEAR TERM
Fiats has guided to a group trading profit of more than 1bn in 2009 (which we see little risk to as we are at 1.090bn) and a net industrial debt of less than 5bn for 2009 (we are at 4.5bn, driven by a 0.6 improvement in working capital in 4Q09). In 2010, Fiat has guided to a trading profit of 1.5bn, and a sales increase of up to 3%, depending on scrappage programme extensions in Italy and elsewhere. Without an extension, which we view as unlikely, we forecast trading profits of 660mn.
8 December 2009
83
FGA earnings likely to fall by over 350mn

Assuming no extension of scrappage schemes in Italy, as well as the spread of pricing pressures in post-scrappage Europe, we expect FGA income to fall by 370mn further in 2010, to a margin of 0.2% vs. 1.6% in 2009. Figure 144: Trading profit delta of 370mn likely at FGA in 2010E
mn FGA trading profit Prior year trading profit 2009 714 2010E 414 2011E 47
Volume Price/mix Purchasing net Production cost absorption R&D SG&A Other
Yoy change in trading profit
-24 -599 197 -200 75 440 0

-300
-303 -200 200 -283 20 200 0

-367
56 75 50 64 10 -25 0
230
Current year trading profit Trading profit margin

Note: trading profit margin = trading profit/revenue Source: Barclays Capital
414 1.6%
47 0.2%
276 1.2%
CNH and Iveco not likely to provide meaningful offset until 2011
At the same time, while we expect a bottoming and modest rebound in CNH and Iveco in 2010, the increase of 75mn and 80mn respectively does not offset the headwinds in FGA: Figure 145: 75mn delta at CNH in 2010E not enough to offset FGA decline
mn CNH trading profit Prior year trading profit 2009 1100 2010E 347 2011E 423
Volume/mix Price Purchasing net Production cost absorption R&D/SG&A Other

Yoy change in trading profit Current year trading profit Trading profit margin
Note: trading profit margin = trading profit/revenue Source: Barclays Capital
-694 197 -5 -151 137 -192

-708 392 4.1%
30 -5 5 15 30 0
75 423 4.4%
46 0 0 0 0 0
46 469 4.9%
8 December 2009
84
Figure 146: nor is 80mn Iveco delta in 2010E

mn Iveco trading profit Prior year trading profit 2009 839 2010E 30 2011E 110
Volume/mix Price Purchasing net Production cost absorption BB./used R&D SG&A Other
Yoy change in trading profit Current year trading profit Trading profit margin
-1015 -44 17 41 2 49 161 -20

-809 30 1.6%
40 -50 10 10 0 30 40 0
80 110 4.1%
161 -30 10 30 0 10 15 0
196 306 5.4%
Chrysler likely to survive but contribution modest

Chrysler to add only 1.84/share to Fiat value in 2013 on our assumptions (and still only 5.43 on managements more optimistic projections)
At its recent five-year plan presentation, Chrysler management and CEO Marchionne outlined an aggressive set of plans to turn around Chrysler. In many respects, the plans were well-founded and ahead of the direst predictions in the market. However, at this point, we prefer to value Chryslers potential contribution to Fiat around what we believe to be achievable in the next few years, as opposed to more aspirational and longer term stretch targets. Given what we view as achievable, we see potential for Chrysler to earn an operating income of US$2.5bn in 2013, contributing 0.15 to Fiat EPS and 1.84/share to Fiat value at a 12x P/E multiple. Note even if Chrysler hits managements more optimistic projections, Chrysler would contribute only 0.45 to Fiat EPS and 5.43 per share to Fiat value (at 12x P/E) some 4 years hence; insufficient, in our view, to justify the recent run up in valuation.
Whats achievable: Survive through 2010 via fixed cost reduction, defend/expand Minivan, Jeep and Ram share, unlock Jeep export markets
Aggressive fixed cost reduction likely lowers EBIT breakeven to about 11mn SAAR
Given the large reductions to date in Chryslers fixed cost base, as well as the likely closing 2009 cash balance of US$6bn, we believe that Chrysler likely can survive until the new Fiat inspired product arrives. When the prior management team at Chrysler filed its Viability Plan in February 2008, Chrysler indicated its fixed costs were US$8-$10bn and variable contribution was $3,971/unit but rising to about $5,300-$5,600 in the plan period. Using $8bn of fixed costs and the lower per vehicle contribution implies a breakeven production of 2mn units (or roughly a SAAR (seasonally adjusted annual selling rate) of 12.2mn assuming 10.7% market share); using the higher variable contribution of $5,600 per vehicle would imply EBIT breakeven at 1.4mn units or a SAAR of 8.5mn units.
8 December 2009
85
In the November 2009 plan, Chrysler indicated it could be at breakeven at annual production of 1.65mn units, and could earn an operating profit of US$2bn at production of 2.2mn. With a change in operating profits of $2bn due to a production increase of 550,000 units, the implied variable profit per unit is $3,636, about in line with the February plan level of $3,971 for 2008, although below that plans rather too optimistic later year per vehicle contributions. Figure 147: Chrysler to breakeven at 11mn US SAAR based on new Nov 09 plan
Chrysler implied breakeven analysis Feb 09 plan Low contrib. Variable contribution per vehicle (US$) Fixed costs (US$bn) Units for breakeven (000) Implied US SAAR (000) US market share NA Production/US SAAR 3,971 8.1 2,040 12,181 10.7% 1.6X High contrib. 5,634 8.1 1,438 8,586 10.7% 1.6X 3,636 6.0 1,650 11,000 10.5% 1.4X Nov 09 plan
Memo: Nov 09 plan variable contribution analysis EBIT (US$bn) at: 1.65 mn units 2.20 mn units Change in EBIT (US$bn) divided by: Change in units (000) = Var. contribution per unit
0.0 2.0 2.0 550 $3,636
Chrysler can breakeven at 11m US SAAR (implying contribution/vehicle of $3,636) per managements Nov 09 plan
Assuming that (as the plan guidance indicates) variable contribution is roughly constant over the life of the contract, fixed costs appear to be in the range of -US$4-$6bn over the plan period. Assuming Chrysler's planned level of Canadian, Mexican and export sales relative to US sales (which we believe Fiat may be able to increase) implies Chrysler can breakeven at an 11mn US SAAR. Figure 148: Chrysler fixed costs: Feb 2009 plan vs. implied in Nov 09 plan
10.5 10.5 9.2 8.1 5.7 4.3 5.8 10.2
2008
2009E Feb 09 plan
2010E Nov 09 plan (est.)
2011E
8 December 2009
86
Defensible share in core products

Overall, Chryslers product plan is directionally sound. The key elements include refreshing vehicles mid cycle/near term, developing new vehicles based on shared platforms with Fiat, introducing more fuel efficient powertrains (downsized, turbocharged ICEs with dual clutch transmissions), defending and expanding the Jeep and Ram truck franchises, and growing export markets, especially for the iconic Jeep.
Our forecasts assume 10.3% market share for Chrysler in US in 2011 (vs. managements more ambitious 12.6% by 2011 and 14% longer-term targets)
However, we view Chryslers goal of boosting share from 9% in 2009 to 12.6% in 2011 and eventually reaching close to 14% US share as aggressive, and prefer to value Chrysler based on the US share we see as achievable given Chrysler/Dodge/Jeep brand positioning, product portfolio and export opportunities which in our view would yield 2011 share of 10.3%, with most of the improvement coming from a resumption of fleet deliveries that were stymied in 2009 when Chrysler plants were shuttered. We see Chryslers estimates for Ram and Jeep market share -- 2.4% and 3.3% in 2011 -- as fairly realistic, although we somewhat haircut the shares to 2.2% and 3.0% respectively to reflect the more recent weakness in their performance. The Ram pickup enjoys a loyal base, and has been successful in the past at eking out share gains. The new Ram brand organization appears to have identified growth opportunities to better segment and penetrate commercial markets. Finally, we believe that pickup trucks are likely to remain about 11% of US sales. Similarly, Jeep enjoys a strong brand image, especially around the iconic Jeep Wrangler. While Jeep has suffered from some cloned vehicles that stretched the brand, nevertheless Fiat should be able to defend most of the Jeep share.
We think managements estimates for Ram and Jeep market share are realistic but their expectations for Chrysler and Dodge brands are overly aggressive
At the same time, we are more sceptical of managements aspirations for the Chrysler and Dodge brands, given their long history of market share losses. In particular, unless the midcycle product refreshes are extremely successful, by continuing heavy reliance on incentives and fleet sales, we believe Chrysler will be continuing to impair brand equity, making relaunch of the vehicles even if well designed with Fiat input more difficult. As a result, we assume share of 1.8% for Chrysler (vs. plan of 2.2%) and 3% for Dodge (vs. 4.4%) roughly in line with the shares achieved in 2009, which underneath reflects an assumed continued decline in retail share offset by increased fleet deliveries. Overall, we see fleet share increasing from 1.9% in 2009 to 3.1% in 2011, in line with management delivery assumptions, but leading to overall fleet mix of 31% (off our lower market share) vs. 25% in managements plans (which assumed higher retail sales in Dodge and Chrysler). On our assumptions, car build in 2011 would be only 20% of the mix, or 330,000 units, versus 429,000 units or 27% in the November plan thus limiting to some extent synergies with Fiats car platforms. At the same time, we see assumptions for Canada and Mexico as reasonable, and note that the smaller Fiat-inspired vehicles are likely to be received well in those markets. Finally, we believe Fiats plans to greatly expand international sales especially of Jeep are eminently sensible given the strong Jeep brand image. As a result, we see deliveries reaching 1.7mn units in 2010 and nearly 2mn units in 2011 (note we are using a higher SAAR assumption 12mn in 2010 vs. 11mn in the Fiat plans). While the swing from 2009 to 2010 of 80% (that is, 760,000 units) appears large, we note that it is explainable due to increased fleet deliveries (about 150,000 units), exports (100,000 units) and non-recurrence of inventory destocking (400,000 units) and overall market growth (130,000 units).
8 December 2009
87
Figure 149: Chrysler truck share likely to increase 180bp 09 vs 11E making car synergies with Fiat less obvious
Chrysler US Share by Brand/Segment Brand Segment 2000 Market Share 2005 2008 2009 2011 estimates Chrysler BarCap
Chrysler Chrysler Chrysler

Chrysler
Car Minivan Other light truck

Total
1.3% 1.0% 0.5%

2.8%
1.6% 1.1% 1.2%

3.8%
1.0% 0.9% 0.6%

2.5%
0.6% 0.8% 0.3%

1.7% 2.2%
0.8% 0.6% 0.4%

1.8%
Ram Ram
Ram
Large pickup Other pickup/comm'l van

Total
2.2% 1.4%
3.6%
2.4% 0.7%
3.1%
1.8% 0.3%
2.1%
1.8% 0.2%
1.9% 2.4%
1.9% 0.3%
2.2%
Dodge Dodge Dodge

Dodge
Car Minivan Other light truck

Total
2.1% 1.6% 1.0%

4.8%
1.8% 1.3% 0.7%

3.9%
2.0% 0.9% 0.8%

3.8%
1.6% 0.9% 0.7%

3.2% 4.4%
1.5% 0.7% 0.8%

3.0%
Jeep Plymouth Fiat

GRAND TOTAL
2.9% 0.5%
2.8% 0.0%
2.5% 0.0%
2.3% 0.0%
3.3%
3.0%
0.3%
14.5% 13.6% 11.0% 9.1% 12.6%
0.3%
10.3%
Cars (000 units) Trucks (000 units)

memo: % cars
678 1,845
26.9%
579 1,726
25.1%
406 1,047
27.9%
187 594
24.0%
439 1,161
27.4%
330 1,308
20.2%
Nevertheless, beyond 2011, even with a higher SAAR assumption we remain below managements unit volume projections.
8 December 2009
88
Figure 150: Chrysler deliveries to reach 1.7mn units in 2010 based on Barclays Capital US SAAR estimates
Chrysler Sales and Production by area (BC est.) 2008 2009 2010 2011 2012 2013 2014
US SAAR (mn units) Chryslers US Market share US Sales (000 units) Canada/Mexico sales (000 units)
Memo: Canada/Mexico as % of US sales
13.5 10.8% 1,458 300 21% 200

1,958
10.5 9.0% 945 300 32% 100

1,345
12.0
10.1%
13.5
10.3%
14.5
10.3%
16.0
10.3%
15.4
10.3%
1,212 300 25% 200

1,712
1,391 300 22% 300

1,991
1,494 300 20% 300

2,094
1,648 300 18% 400

2,348
1,586 300 19% 500

2,386
Exports (000 units)

Total Chrsyler N Am Sales
Inventory build (destocking)

Production units Memo: Production/US Sales
107
2,065 1.4x
-396
949 1.0x 1,712 1.4x 1,991 1.4x 2,094 1.4x 2,348 1.4x 2,386 1.5x
Figure 151: Chrysler unit sales at 1.65mn in 2010 per Companys Nov 09 plan
Chrysler assumption per November 09 plan 2008 2009 2010 2011 2012 2013 2014
Chrysler Units US SAAR US Market share Production/US Sales

2,065 13.5 10.8% 1.42x
949 10.5 9.0% 1.00x
1,650 11.0
10.5%
2,200 12.7
12.6%
2,400 13.8
13.0%
2,600 14.0
13.6%
2,800 14.5
13.8%
1.43x
1.38x
1.33x
1.37x
1.40x
Figure 152: Despite higher SAAR assumption, Barclays Capital estimates remain below managements projections due to lower assumed market share
3000 2500 2,065 2000 1500 1000 500 0 2008 2009E 2010E Feb 09 plan
2,200 2,085 1,991 1,618 1,775 1,6501,712
2,400 2,120 2,094
2,600 2,348 2,175
2,800 2,227 2,386
949 949
2011E Nov 09 plan (est.)
2012E BarCap est.
2013E
2014E
8 December 2009
89
Given these assumptions, we see 2011 EBITDA at US$4.3bn only somewhat below management projections of $4.5bn, but enough of a difference that we would envision no net income and hence no contribution to Fiats equity income. Even in 2013, we see only 0.15 EPS per Fiat share implying about 1.84 at a 12x multiple. Even using managements assumptions, Chrysler would contribute only 0.42 in 2012, or 5/share at 12x we view this as risky three years out (discounting back at 20% a year would lead to a value of 2.50. Figure 153: Chrysler income statement - Barclays Capital estimates
Year-end December (mn) Net Revenue 2008 47.6 2009 16.5 2010 44.1 2011 47.5 2012 50.2 2013 56.4 2014 57.5
Variable Cost
Variable Profit
-39.4
8.2
-13.0
3.5
-37.9
6.2
-40.3
7.2
-42.5
7.6
-47.9
8.5
-48.8
8.7
Fixed Cost
Operating Profit Operating margin
-10.5
-2.3 -4.8%
-4.3
-0.9 -5.3%
-5.7
0.5 1.2%
-5.8
1.5 3.1%
-6.0
1.6 3.2%
-6.0
2.5 4.5%
-6.0
2.7 4.7%
Depreciation & Amortization (D&A)

EBITDA EBITDA margin
2.1
-0.2
1.1
0.3
2.5
3.0
2.8
4.3
2.9
4.5
3.0
5.5
3.3
6.0
Depreciation & Amortization (D&A) Interest, taxes, etc.

Net Income/(Loss)
-2.1 -5.7
-8.0
-1.1 -2.0
-2.9
-2.5 -1.6
-1.1
-2.8 -1.5
0.0
-2.9 -1.0
0.6
-3.0 -1.7
0.8
-3.3 -2.2
0.5
Memo -EPS per Fiat share () Value per Fiat share at 12x
- 0.11
0.00 0.02
0.12 1.45
0.15 1.84
0.10 1.17
Figure 154: Chrysler income statement per Nov 09 plan

Year-end December (mn) Net Revenue 2008 47.6 2009 16.5 2010 42.5 2011 52.5 2012 57.5 2013 62.5 2014 67.5
Variable Cost
Variable Profit
-39.4
8.2
-13.0
3.5
-36.5
6.0
-44.5
8.0
-48.8
8.7
-53.0
9.5
-57.3
10.2
Fixed Cost
Operating Profit Operating margin
-10.5
-2.3 -4.8%
-4.4
-1.0 -6.0%
-5.9
0.1 0.3%
-6.0
2.0 3.8%
-5.5
3.2 5.6%
-5.3
4.1 6.6%
-5.2
5.0 7.4%
Depreciation & Amortization (D&A)

EBITDA EBITDA margin
2.1
-0.2
1.2
0.3
2.5
2.6
2.8
4.8
2.9
6.2
3.0
7.1
3.3
8.3
Depreciation & Amortization (D&A) Interest, taxes, etc.

Net Income/(Loss)
-2.1 -5.7
-8.0
-1.2 -2.0
-3.0
-2.5 -1.6
-1.5
-2.8 -1.5
0.5
-2.9 -1.0
2.3
-3.0 -1.7
2.4
-3.3 -2.2
2.8
Memo -EPS per Fiat share () Value per Fiat share at 12x
- 0.16
0.05 0.65
0.42 5.09
0.45 5.43
0.53 6.34
8 December 2009
90
Spin-off could unlock significant value but not likely until capacity rationalized and/or new alliance partner added
At this point, we do not see significant, realistic upside potential from a spin-off of FGA from other industrial operations for three reasons: First, while historically, Fiat Group has traded at a discount to the pure plays of each of its components (volume car makers, premium car, truck and agricultural equipment), this does not appear to be the case currently, given the depressed earnings and multiples across the truck and agricultural equipment sectors. Our sum-of-the-parts calculation, using current multiples of peer companies is 9 per share, not a significant premium to our 8 target. Second, with the likely pressures in FGA Europe (leading to a sequential decline in trading profit, in our view), the need to address capacity issues in Italy and the slow pace of profit development at Chrysler (as new models will not arrive until 2012), Fiat is unlikely to generate sufficient progress in automotive to generate investor enthusiasm around a spin-out of FGA. Third, without Opel, Fiat is still well short of its 5mn unit global player scale goal. While there had been press speculation around a PSA tie up (perhaps put to rest with PSAs approach to Mitsubishi), we believe that, given also the difficulty in addressing European capacity, as well as the need for geographic diversification, Fiat may follow the lead of PSA-Mitsubishi and begin the task of looking for alliance partners in Asia. As PSA demonstrates, an Asian partner adds access to faster growth markets, cost sharing across traditional vehicle platforms, and pooling of scarce R&DS around electric vehicles. (For press reports, see Marchionne to Turn Attention to Fiat, by Giancarlo Perini, WardsAuto.com, 19 Nov 2009; Peugeot Mulls Letting it Ride on Mitsubishi, Wall Street Journal, 3 Dec 2009) Figure 155: Fiat SotP (ex Chrysler) at peer multiples implies share is overvalued at current share price
Unit EUR (m) per share Remarks
Fiat Group Auto CNH Iveco Components Chrysler

SotP EV Operating Business
4,700 4,600 3,500 2,600 1,150

16,550
4 4 3 2 1
13
Average of: 25% EV/FGA Sales, 5x 11E EBIT Average of 60% EV/sales, 8X EV/EBIT, Current CNH market cap Average of: 60% EV/sales, 8x EV/EBIT 11E EBIT 25% EV/sales 2013 value at 12X P/E discounted to 2011
Industrial Net Cash/Debt (2010E) Pension/other Minorities

Total EV
-4,725 0 -754
11,071
( 4) 0 ( 1)
9
FY10E Net Industrial Cash
Rating
We are initiating coverage with a 3-Underweight rating, believing that investors are underestimating the headwinds faced in 2010 while overvaluing short term the longer-term Chrysler option and contribution to Fiat core earnings.
8 December 2009
91
We value the Fiat share based EV/sales and EV/EBITDA metrics against Fiats historical trading range, with a reference to the SotP methodology (see Figure 155 above) based on peer multiples for the various divisions to confirm our valuation.
EV/sales
Fiat has historically traded at a six-year historical average of 28% EV/sales. But at current market price is trading at 35% 2010E EV/sales on our estimates, highlighting our belief that the share is significantly overvalued at present. The OEM sector average range is 27%. At our 8 price target, Fiat would trade at 28% EV/sales, exactly in line with its historical average. Figure 156: Below consensus estimates
Fiat 2010E Barclays Consensus Variance (%)
Revenue (mn) EPS ()
48,036 0.05
49,324 0.38
-2.7% -660
Figure 157: Fiat current share price looks overvalued in near-term based on historical avg EV/sales metrics
45% 40% 35% 30% 25% 20% 15% 10% 5% 0% 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Adjusted EV/Sales
6-yr historical avg
EV/EBITDA
Our EV/EBITDA looks at adjusted industrial EV (backing out financial services) over industrial EBITDA. Historically, Fiat has traded at a 6-year average of 4.3x EV/EBITDA (vs. 3x for the European sector as a whole). Looking out to 2011E our below consensus EBITDA estimates put Fiat at 4.1x at current share price. However, given the 2010 headwinds we believe this discount is justified, and our target is based on 4.0x 2011 EBITDA, from which we derive a 8 price target.
8 December 2009
92
Figure 158: Fiat historical and forecast PE and current share price
14.0x 12.0x 10.0x 8.0x 6.0x 4.0x 2.0x 0.0x 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Adjusted EV/EBITDA
6 year historical avg
An average of both these valuation metrics leads us to set a 8 price target for the share.
8 December 2009
93
Figure 159: Potential catalysts

Date Event
Fiat Sep-10 10(96%)-8(77%) put spread

Pay: 0.75 (7.2%), ref 10.45, delta 18% (IV c.42-46%, 3m RV c.45%) We believe that Chryslers turnaround plan is viable. However, we are more conservative than managements optimistic market share and earnings projections, especially given the difficulty of repositioning Chryslers current incentive driven line-up. In October 2009, Fiat soared 2 leading up to the forecast that Chrysler would make a profit inside two years. As Chrysler was attributed little if any value before this date, and as this 2 rise is above our estimated Chrysler total value of 1.50/share by 2012, current valuations have significant downside potential. Figure 161: Max profits reached when Fiat trades back to September levels
14
22-Jan-10 27-Mar-10 23-Apr-10 22-Jul-10 17-Sep-10
Q4 09 results AGM Q1 10 results Q2 10 results Sep10 expiry
Figure 160: Peer group

12
Blg
9m IV
3m RV
Fiat rose 18% in three days after forecasting Chrysler operating profit within two years First put strike
RNO FP PAH3 GR VOW GR F IM DAI GR BMW GR
46% 45% 44% 40% 37% 37%
44% 40% 44% 44% 38% 36%
10 8 6 4 2
Second put strike (peak profits will occur here)
Aug-09
Colin Bennett +44 (0)20 777 38332 colin.bennett@barcap.com Barclays Capital, London Arnaud Joubert +44 (0)20 777 48344 arnaud.joubert@barcap.com Barclays Capital, London Abhinandan Deb +44 (0)20 777 32481 abhinandan.deb@barcap.com Barclays Capital, London Anshul Gupta +44 (0)20 313 48112 anshul.gupta@barcap.com Barclays Capital, London
Fiat particularly exposed to end of cash for clunkers

Fiats offering is heavily reliant on cheaper cars, which caused results to be substantially flattered by various cash for clunkers schemes. Fiat is therefore likely to be hit harder than other auto firms as volumes fall, price competition increases and government support schemes expire. Should Italy extend its cash for clunkers scheme, which is due to expire at the end of December 2009, the government is likely to insist Fiat moves production from other cheaper countries towards Italy. The future downside due to the higher Italian cost base would cap any upside should cash for clunkers be extended (in our view, even if extended the scheme is unlikely to be impactful).
8 December 2009
May-09
Nov-08
Nov-09
Feb-09
94
Credit Perspective
Barclays Capital credit analysts, Rob Perry and Darren Hook, rate Fiats debt Overweight. They believe Fiat has significantly improved its liquidity position in recent months following the issuance of 3 benchmark bonds and this will have gone some way to stabilise Fiat's current high BB rating. Nevertheless they note that credit metrics remain below requirements and while they expect material improvement through next year, credit ratios are likely to remain at levels more consistent with a mid BB rating, in their view.
8 December 2009
95
Figure 162: Fiat key valuation metrics

Industrial EV/sales Industrial EV/EBITDA Industrial EV/Clean EBIT P/E FCF Yield Price/sales Price/book Dividend yield
28% 3.3x 8.5x 12.9x 8.0% 27% 1.4x 1.4% 28% 3.3x 7.3x 12.9x 8.0% 27% 1.4x 1.4%
40% 4.1x 7.8x 12.8x 8.8% 43% 2.2x 2.0% 40% 4.1x 7.0x 12.8x 8.8% 43% 2.2x 2.0%
31% 3.3x 6.2x 8.8x -33.4% 24% 1.1x 0.0% 31% 3.3x 5.4x 8.8x -33.4% 24% 1.1x 0.0%
36% 4.7x 21.9x 109.6x 0.2% 27% 1.2x 0.1% 30% 3.8x 15.6x 84.6x 0.2% 0% 0.9x 0.1%
35% 5.0x 39.2x 205.6x 9.4% 27% 1.2x 0.5% 28% 4.1x 27.9x 158.7x 12.2% 1% 0.9x 0.6%
33% 4.3x 18.3x 29.0x 2.7% 26% 1.2x 1.2% 27% 3.5x 12.9x 22.4x 3.5% 0% 0.9x 1.5%
25% 3.0x 9.4x 10.0x 8.3% 24% 1.2x 2.0% 20% 2.3x 5.6x 7.7x 10.7% 0% 0.9x 2.6%
EV/sales EV/clean EBITDA EV/clean EBIT P/E FCF yield Price/sales Price/book Dividend yield

Upside risks to our price target are as follows: External risk macroeconomic factors outside the control of the company, leading to a stronger demand and pricing environment than we currently assume, could make our forecasts difficult to achieve. Risks to our commonality assumptions if there were to be a more rapid turnaround at Chrysler than we currently forecast More rapid rebound in truck and/or agricultural equipment than we assume in our forecasts could provide further upside to the share
8 December 2009
96
Figure 163: Fiat Group income statement, 2006A-2012E

Net Revenues Cost of Sales Gross Profit Memo: Gross Margin (% of sales) SG&A Memo: SG&A (% of sales) Research & Development Memo: R&D (% of sales) Other income/(expense) Trading profit/(loss) Investment Income/(Expense) Restructuring Costs (gains) Other unusual income/(expense) EBIT Financial Income (expense) Other Financial Income/expense Result from Investments Pre-Tax Income Income tax Memo: Tax rate Net before Minority Interest Minority Interest Profit/loss for the period Adjusted Group Net , ex special items No Shares (average) EPS EPS - adjusted Dividend
51,832 (43,888) 7,944 15.3% 4,697 9.1% 1,401 2.7% 105 1,951 607 (450) (47) 2,061 607 (450) (47) 2,061 (490) -24% 1,571 (86) 1,485 887 1,271 1.17 0.70 0.16
58,529 (50,629) 7,900 13.5% 6,317 10.8% 1,600 2.7% 50 3,233 190 (105) (166) 3,152 190 (105) (166) 3,152 (719) -23% 2,433 (101) 2,332 1,889 1,262 1.85 1.50 0.40
59,380 (49,423) 9,957 16.8% 5,075 8.5% 1,497 2.5% (23) 3,362 20 (165) (245) 2,972 (947) 162 2,187 (466) -21% 1,721 (109) 1,612 1,902 1,240 1.29 1.53 0.00
49,575 (42,701) 6,874 13.9% 4,388 8.9% 1,321 -2.7% (104) 1,060 2 (165) (111) 786 (699) 0 7 95 (28) -30% 66 (27) 39 219 1,237 0.03 0.18 0.00
46,133 (40,178) 5,955 12.9% 4,087 8.9% 1,233 -2.7% 42 676 0 0 0 676 (740) 16 (48) 127 265% 79 (17) 62 62 1,237 0.05 0.05 0.04
47,985 (41,426) 6,560 13.7% 4,124 8.6% 1,165 -2.4% (29) 1,241 0 0 0 1,241 (700) 19 561 (31) 5% 530 (17) 513 513 1,237 0.42 0.42 0.12
53,525 (45,438) 8,087 15.1% 4,586 8.6% 1,301 -2.4% (29) 2,172 0 0 0 2,172 (675) 241 1,738 (347) 20% 1,391 (17) 1,374 1,374 1,237 1.11 1.11 0.23
8 December 2009
97
Figure 164: Fiat group divisional revenue & trading profit, 2006A-2012E
Year-end December (mn) Segment revenue Automobiles 25,668 29,174 29,683 28,046 24,967 25,916 29,388 2006 2007 2008 2009E 2010E 2011E 2012E
Fiat Group Automotive Maserati Ferrari Eliminations

Agri and Const Equipment (CNH) Trucks and Comm. Vehicles (Iveco)
23,702 519 1,447 (91)

10,527 9,136
26,812 694 1,668 (159)

11,843 11,196
26,937 825 1,921 (303)

12,723 10,768
25,906 420 1,721 (152)

10,107 6,808
22,811 437 1,719 (136)

10,310 6,863
23,515 455 1,946 (141)

10,619 7,497
26,850 473 2,064 (160)

11,150 8,530
Components/Prod Systems (FPT MM Teksid Comau):
FPT Powertrain Technologies Components (Magneti Marelli) Metallurgical Products (Teksid) Prod Systems (Comau) Component eliminations
Other business
6,145 4,455 979 1,280
7,075 5,000 783 1,089
7,000 5,447 837 1,123
5,192 4,666 568 736 (432)

1,050
4,665 4,192 510 661 (388)

1,071
4,762 4,279 521 675 (396)

1,092
5,383 4,837 573 763 (447)

1,114
Eliminations
Group Revenues Segment trading profit Automobiles 441 1,093 1,102 58,190 66,160 67,581
(6,947)
50,227
(6,459)
46,392
(6,720)
48,244
(7,506)
53,784
662
300
603
1,102
Fiat Group Automotive Maserati Ferrari

Agri and Const Equipment (CNH) Trucks and Comm. Vehicles (Iveco) Components/Prod Systems (FTP MM Teksid Comau)
291 (33) 183

737 546
803 24 266
990 813
691 72 339
1,122 838
414 9 239
392
47 15 239
423 110
276 20 307
469 306
734 25 342
549 462
30 4 48 (1) (22) (24)
FPT Powertrain Technologies Components (Magneti Marelli) Metallurgical Products (Teksid) Prod Systems (Comau)
Other business and eliminations Trading profit
168 190 56 (66)
271 214 47 (23)
166 174 41 21
(75) (23) (9) (34) (15)

676
(61) (10) (7) (31) (27)

1,241
32 73 19 (18) (48)
2,172
2,072
3,405
3,464
1,089
8 December 2009
98
Figure 165: Fiat industrial balance sheet, 2006A-2012

As at end-December (mn) 2006 2007 2008 2009E 2010E 2011E 2012E
Intangible assets Goodwill Other intangible fixed assets PPE Investment and other financial assets Deferred tax assets
Total Non-current assets
6,325 2,756 3,569 10,528 3,912 1,721

22,486
6,420 2,635 3,785 11,239 4,357 1,737

23,753
6,950 2,600 4,350 12,509 3,756 2,225

25,567
7,032 0 0 12,614 3,798 2,508

26,103
7,032 0 0 12,269 3,498 2,508

25,458
7,032 0 0 12,094 3,364 2,508

25,150
7,032 0 0 12,251 3,203 2,508

25,146
Inventories Trade receivables Receivables from financing activities Other receivables Accrued income and prepaid expenses Current financial assets:
Current equity investments Current securities Other financial assets
8,491 5,068 2,891 2,806 226
9,929 4,444 4,606 3,052 224
11,341 4,301 6,448 2,443 761 26 134 748
11,259 5,007 5,713 1,945 1,302 38 164 672 7,523

33,623 20 59,746
7,024 2,366 5,713 1,945 1,302 38 164 672 8,548

27,772 20 53,250
10,696 5,295 5,713 1,945 1,302 38 164 672 9,307

35,132 20 60,301
7,531 3,259 5,713 1,945 1,302 38 164 672 10,121

30,745 20 55,910
Cash and cash equivalents

Current assets
7,237
26,719
6,391
28,646
2,604
28,806
Assets held for sale

Total assets
332
49,537
83
52,482
30
54,403
Minority interests Equity Industrial stockholders' equity Provisions:

Employee benefits Other provisions
674 9,362
10,036
673 10,606
11,279
751 10,350
11,101
754 10,558
11,312
754 10,637
11,391
754 11,118
11,872
754 12,361
13,115
3,750 4,721 11,555 98 12,637 5,064 1,676

39,501 49,537
3,581 4,788 10,706 153 14,751 5,990 1,234

41,203 52,482
3,351 4,638 14,522 1,078 13,216 6,052 445

43,302 54,403
3,311 4,619 18,758 536 14,365 6,159 686

48,434 59,746
3,311 4,619 18,758 536 7,789 6,159 686

41,858 53,250
3,311 4,619 18,758 536 14,360 6,159 686

48,429 60,301
3,311 4,619 18,758 536 8,727 6,159 686

42,796 55,910
Debt: Other financial liabilities Trade payables Other liabilities Deferred tax liabilities
Industrial Total Liabilities Total equity and liabilities Balance sheet measures:
Inventory days Receivable days Payable days Capex percent of sales

69.3 36.0 103.4 5.7%
69.4 30.2 103.2 6.4%
79.5 27.4 104.5 8.5%
98.6 35.1 120.3 6.0%
85.0 30.0 103.0 5.4%
80.0 30.0 100.0 5.4%
75.0 30.0 95.0 5.4%
8 December 2009
99
Figure 166: Fiat industrial cash flow, 2006-2012E

Year-end December (mn) Industrial Cash Flow from Operations: 2006 2007 2008 2009E 2010E 2011E 2012E
Industrial Net result before minority. interest D&A (net of vehicles sold under buy-back commitments) (Gains)/losses and other non monetary items Dividends received Change in provisions and other Change in deferred income tax Change in working capital
Industrial Cash flows from operating activities Industrial Cash Flow from Investments:
1,151 2,639 (921) 180 255 12 679

3,995
2,054 2,667 (704) 203 (13) (126) 1,675

5,756
1,721 2,805 (119) 115 (149) (532) (3,604)

156
(317) 2,744 (138) 186 (165) (289) 1,056

3,045
79 2,767 300 0 301

3,447
530 2,691 133 0 (30)

3,325
1,391 2,653 161 0 (432)

3,773
Investments in PPE Equity investments and unconsolidated. subs Proceeds from the sales of non current assets Net change in receivables from financing activities Change in current securities Other changes
Industrial cash flows from investment activities Industrial Cash Flow from Financing:
(2,854) (1,633) 1,574 149 2,322
(3,666) (136) 680 41 (2,724)
(4,980) (152) 204 10 24 -1194
(2,889) (46) 71 46 (32) 698

(2,152)
(2,422)
(2,517)
(2,810)
(442)
(5,805)
(6,088)
(2,422)
(2,517)
(2,810)
Net change in financial payables and other financial assets/liabilities Increase in capital stock (Purchase)/Disposal of treasury stock Dividends paid Cash flows from investing activities Translation exchange differences
Industrial change in cash and cash equivalents
(2,256) 22 (23)
(2,257)
(425) (390) (310)

(1,125)
3,840 14 -238 (546)

3,070
4,015 12 0 (32)
3,995
0
0
(49)
(49)
(148)
(148)
(102)
1,194
11
(1,163)
(82)
(2,944)
31
4,919 1,025 759 815
Cash and cash equivalents at beginning of period Cash and cash equivalent at end of period Net industrial cash (debt)
6,180 7237
7,237 6391
6,391 2,604
7,109 7,523
7,523 8,548
8,548 9,307
9,307 10,121
(1,773)
355
(5,949)
(5,450)
(4,725)
(4,100)
(3,446)
8 December 2009
100
PEUGEOT STRONG MODEL CYCLE, BUT UNDERWHELMED BY NEW STRATEGY 2-EQUAL WEIGHT RATING
PEUP.PA / UG FP Stock Rating
2-EQUAL WEIGHT
Sector View
2-NEUTRAL
Price Target
26.00
Price (04-Dec-2009)
24.18
Potential Upside
8%
We are initiating coverage of Peugeot with a 2-Equal Weight rating and 26 price target because despite the companys strong product cadence, the right mix of fuel efficient vehicles and the new, energised management team, we remain more cautious than the market on the demand side of the equation. We also believe that too much credit has already been given for the achievement of CEO Philippe Varins new strategy. Whilst we believe that product renewal during this period, particularly at the Citroen brand, will be well received by the market, we are concerned that too much of the current strategy relies on top-line growth. Another key bull argument for the stock has revolved around press speculation of future M&A activity. Whilst we can see the long-term strategic rationale behind Peugeots announcement last week of a closer partnership with Mitsubishi, we think once excitement of this potential deal fades, investors will be better in the mid-term to play the global-scale/alliance angle through Renault-Nissan, which not only has far greater scale but also has the benefit of a whole decade of experience in running an alliance. Renault is also at least six months further ahead in its strategy of taking the alliance to a new level and eking out further commonality/modular synergies. Additionally, we believe that until investors are given better visibility regarding the likely financing for Peugeots proposed tie-up with Mitsubishi, the share will likely be pressured by concerns over dilution or an increase in gearing. Likewise, whilst we can in theory see the rationale for a potential tie-up with Fiat (as per numerous press articles for over 12 months), we believe that in reality political agendas would make it near impossible to reap significant synergies from such a deal. Moreover, we think that a Mitsubishi tie-up would make its less likely for PSA to look at a European partner anytime soon. Recent acquisition activity at Faurecia, following the EMCON announcement, has also brought the possibility of a disposal of Peugeots current 70.8% stake (to be diluted to 57% following the EMCON deal and to 51% on exercise of the OCEANE convertible bond) back to the forefront. We agree that there is significant potential for turnaround at loss-making Faurecia, but we believe that this is already a wellunderstood theme, particularly amongst the French investment community. Whilst we struggle to underweight a stock with so many opportunities for improvement in the next 12 months and where there is potential for upside surprise from a balance sheet perspective were a buyer to be found for Faurecia, at the same time we are concerned that market estimates for Peugeots ability to retain cost cuts in 2010E are overly optimistic and we think that the share is already crediting M&A upside potential. We are therefore initiating coverage with a 2-Equal Weight rating and, using a combination of a SotP methodology and peer EV/EBITDA multiples, we derive a 26 price target. For equity investors who are looking for exposure (delta) to the underlying equity, but with the defensive characteristics of downside protection, senior status, an income advantage and strong takeover and dividend protection features we recommend Peugeots 2016 convertible (for further detail please see convertible section).
8 December 2009
101
Figure 167: PSA headline data and valuation multiples (at current share price), 2008-11E
(mn) 2008A 2009E 2010E 2011E 2012E
Sales EBIT EBIT margin (%) BC EPS Consensus EPS Industrial EV/sales (%) Industrial EV/EBITDA P/E ratio (%)
54,356 550 1.0 (1.51) 13 1.9x (18.5x)
47,313 (681) -1.4 (6.28) (5.03) 10 1.8x (3.3x)
47,903 193 0.4 (1.90) (0.33) 13 2.1x (10.9x)
51,135 1,523 3.0 2.87 3.29 8 1.0x 7.2x
53,115 2,044 3.8 4.88 4.88 6 0.6x 4.3x

Positives:
Success in product cadence helps drive sector-leading capacity utilisation, which could further capitalise upon via a strategic alliance with Mitsubishi Reinvigorated (new) management focusing on long-term strategy Widest range of fuel efficient vehicles in the sector Faurecia turnaround could drive disposal opportunities (although we believe that this is well anticipated, at least by French analysts)
Risks:
Too much expectation placed on new strategy which, at least in the near term, differs very little from CAP 2010 and is likely to disappoint on a net basis Pay back from scrappage incentives likely to be higher than market anticipates Lack of geographical scope means top-line targets are much harder to achieve Lack of near-term operating earnings keeps attention on debt and makes investment grade credit rating tough to achieve
Strategy presentation disappoints

High hopes were entertained in the market following the appointment of ex-Corus CEO Philippe Varin, who arrived with a prior record of turning around the ex-British Steel company, via deep cost cutting and a solid refinancing plan. Indeed, one of his first actions on taking the helm at Peugeot in June 2009 was to streamline the existing management team into just eight members, responsible for strategy and performance objectives. Therefore there was a great deal of expectation surrounding Novembers Investor Day when Varin first presented to analysts his new strategy objectives for Peugeot. The plan revolves around a targeted 3.3bn improvement in Automobile EBIT 2010-12, via a linear progression of savings in three key areas:
8 December 2009
102
1. 30% of savings are to come from sales and marketing: driven by market share momentum in Europe - based both on growth in the business-to-business segment and new model launches; improved brand management and expansion of service offerings 2. 15% improvement is expected in high-growth or emerging markets China (nonconsolidated), Russia and Latin America 3. the remaining bulk (55%) of savings are to be cost-driven - based on improvements in capacity utilisation, productivity and SG&A Figure 168: Peugeot targets 1.1bn per annum gross EBIT savings
Lever % mn/annum bn 2010-12 Drivers/targets
Sales & Marketing
30
330
1.0
Market share momentum Brand management Services
High-growth markets
Production, development, SG&A Of which: Capacity utilisation Productivity SG&A Total
15
165
0.5
China Lat Am, Russia
55 25 18 12 100
600 270 200 130 1,100
1.8 0.8 0.6 0.4 3.3 Increased from 81% to 105% hrs/vehicle -20% -400m
Strategy overly dependent on top-line growth

We believe that management is targeting 140bp of market share gain by 2012E. We credit only 40bp of additional share and just 670m of the targeted 1.5bn savings (from sales & marketing and high growth countries).
Whilst not a wholly unrealistic strategy, we struggle to find much to differentiate it from any of its peers in the sector, all of whom are targeting market share gain, increased capacity utilisation via improvements in commonality and geographical expansion. We were rather disappointed that so little new was offered to investors at Peugeots investor day 12 November 2009. The new 2010-12 strategy seemed rather a revamp of predecessor Streiffs CAP 2012 strategy, which likewise targeted product strategy, productivity, capacity utilisation and quality. The plan, perhaps unsurprisingly given current market conditions, does not lay out any specific margin targets. Whilst we believe that product renewal during this period, particularly at Citroen brand, will be well received by the market, we are concerned that too much of the current strategy relies on top-line growth. Management did not give their internal targets for market share growth, nor did they share with investors their assumptions for global demand over the targeted period. Since we believe our own assumptions for 2010 auto demand in Europe to be significantly below consensus, we are concerned that the market is giving too much credit to likely achievement of Peugeots topline strategy.
8 December 2009
103
Though all European OEMs target market share gain, of course not all of them can be successful in achieving it. However, we do believe PSAs product launch offensive in the next three years will set it apart from its closest peers (see detail below on product cadence). We therefore base our current forecasts on 40bp of market share gain by 2012 (despite 2010s scrappage pull back), whereas we believe management may be targeting a much more aggressive 140bp increase. Where we also have concerns about the success of the plan is the lack of detail regarding market demand assumptions over the three-year period. Consensus, we believe, is currently at least 350bp too high (ranging from 8-10% fall in sales) for European demand in 2010E, whereas based on our detailed scrappage model (see front section of report for further detail) we forecast European (EU 27 +EFTA 3) sales down -12.5% in 2010E. We are concerned that PSAs demand assumptions may also be over optimistic. We expect the European market to grow by only 5% (or 700,000 vehicles) cumulatively from year-end 2009 to 2012E, with Peugeots core A & B segments likely down 200bp in share, or 700,000 units.
Going forward, we expect some renormalisation of mix.
Figure 169: A to D volume market segment share 2006-12E

Segment (%) 2006 2007 2008 2009 2010 2011 2012
A - Basic B - Small
Memo: A + B
8.2 29.9 38.1 31.4 9.6 41.0 79.1
8.4 29.7 38.1 31.9 8.4 40.3 78.4

15,960 +0.9%
10.5 29.5 40.0 31.4 8.0 39.5 79.4

14,740 -7.6%
13.7 33.1 46.8 29.6 7.0 36.6 83.4

14,000 -5.0%
11.4 31.4 42.8 32.6 6.7 39.3 82.1

12,252 -12.5%
11.5 32.8 44.3 31.8 6.2 38.1 82.4

13,300 +8.6%
12.0 32.8 44.8 31.0 6.1 37.1 81.9

14,700 +10.5%
C - Lower Medium D - Upper Medium

Memo: C + D Memo: A - D
Total Europe (units mn) 15,819 YoY chg in sales

+3.7%
By contrast, we see the European LCV market - one of PSAs most profitable markets and the segment in which it has the top spot with market share peaking at 27% in 2009 recovering from its low of 2009. We expect the LCV market to grow 130bp from 2009s level when the segment accounted for just 9.2% of sales in the overall W EU market. We expect this growth to provide an extra 45,000 vehicles for PSA based on our 2012 market assumption, boosting Peugeots margin performance by c.230mn. However, using an overall contribution margin of 3,000/vehicle, our estimated positive total volume impact on EBIT for the company in the next three years is only 670mn, or 55% behind the companys 1.5bn plan. Figure 170: LCV segment market share 2006-12E
LCV Segment 2006 2007 2008 2009 2010 2011 2012
LCV units sales (mn) Van share of EU market (%) PSA share of Van market (%)
1.73 10.3 21.6
1.82 10.8 21.4
1.71 11.1 22.1
1.35 9.2 27.3
1.38 10.5 26.5
1.53 11.0 25.0
1.60 10.5 24.0
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Realistic targets for productivity and SG&A savings

Like many of its competitors, PSA targets a reduction in vehicle diversity (or stage 2 commonality on the road to a full modular production process). This, along with optimisation of plant occupation and the rollout of the PSA excellence system across the group it believes will improve its production hours per vehicle by 20%. Likewise, commonality in repeat components and streamlining of suppliers it believes will increase development productivity by 20%. When combined with 400m of SG&A savings over the next three years, management expect a margin delta of 1.1bn. In this area we give the company full credit for the achievement of its targets. Figure 171: We credit PSA with 2.2bn cost savings by 2012E
Lever Barclays Capital estimates (mn) 2010E 2011E 2012E 2010-12E 320 350 410 600 400 2,080 (390) 1,690 PSA plan 2010-12E 990 495 800 615 400 3,300 Variance (%)
Sales & Marketing High-growth markets Capacity utilisation Productivity SG&A

Total savings Other tailwinds/ (headwinds)* Total EBIT change YoY Automobile EBIT
(330) 200 240 150 200

460 (40) 420 (375)
500 40 (90) 200 150

800 150 950 575
150 110 260 250 50

820 (500) 320 895
-68 -29 -49 -2 0 -37
Source: Company data, Barclays Capital *incl FX, raw materials, price/mix and warranty
Lack of geographical scale remains a concern despite strengthening Mitsubishi co-operation

With only 21% of unit sales in non-European countries and a much lower percentage of revenues, PSAs targeted 0.5bn savings from high-growth countries seems overly optimistic
China 6% Mercosur 9% Russia 2% C&E Europe (exRussia) 7% ROW 6% France 26%
We had expected more detail at the strategy presentation on how the company plans to gain market share in its key growth regions China, Russia and Latin America given that this is an area of historical weakness for the group, both in terms of volumes and profitability. Figure 172: 79% sales in Europe leaves Peugeot under-exposed to highest growth markets
Rest of WE 44%
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Management did not lay out any plans to expand into new high growth markets, preferring instead to focus on how to improve those regions (China, Russia and Brazil) already covered. And yet PSA currently lags far behind its European peers (notably its key French competitor, RNO) in terms of geographical breadth, and even in those high growth markets that it does service, the companys market share remains far below that of its volume competitors. Figure 173: PSA lags European peers in BRIC market exposure, even with Mitsubishi
Share Group Brazil China India Russia Total BRIC Brazil China Rank India Russia
Porsche-VW Group Renault-Nissan Group Fiat Group

PSA/Mitsubishi PSA Mitsubishi
20.6% 5.8% 24.9%

0.0% 6.1% 1.5%
11.0% 3.8% 0.5%

0.0% 2.3% 1.1%
1.4% 2.0% 0.4%

0.0% 0.0% 0.2%
4.5% 28.9% 2.6%

0.0% 2.8% 4.4%
10.6% 8.0% 5.1%

0.0%
2 6 1
5
2 12 24
13
10 9 12
14
8 1 10
5
2.8% 1.6% 0.5% 0.4%
5
10
15
20
13
10
8
BMW Group Daimler Group

0.1% 0.4%
0.6% 0.4%
0.1% 0.2%
0.7% 0.6%
14 11
23 25
16 15
16 21
A strategic alliance with Mitsubishi Motors, as Peugeot announced on 3 December is currently being discussed would give Peugeot better geographical spread, since 55% of Mitsubishis sales are in Asia, along with a very small presence in North America (though only a 0.5% market share). However, Mitsubishi adds relatively little in BRIC countries, only significantly improving pro forma share in Russia (pro forma 5th rank vs. 10th and 8th for each company) and with Mitsubishi having only a 1.4% share of the overall global car market, or 1mn units per annum, this would not put the alliance any where near on the scale of the Nissan-Renault partnership. Indeed, Mitsubishi does not have more than 5% market share in any countries other than the Philippines and Taiwan where it has 13% and 15% respectively. Figure 174: Mitsubishis sales would provide only marginally greater geographical breadth for PSA
Western Europe 11% South America 7% North America 12%
Asia 55%
Eastern Europe 15%
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Peugeot standalone should grow by 140,000 vehicles in high growth countries by 2012E
On the back of planned new models, we do credit 17% sales growth for Peugeot in its rest of world (ie, non-European) markets by 2012E, but this only equates to an extra 140,000 vehicles. We expect PSAs four new model launches and new powertrain plant in Latin America to aid fixed cost absorption in the region and with the Kaluga plant coming online from 1Q10, losses in Russia should start to reduce. However, we still expect the incremental contribution to be significantly lower in these regions than in Europe, and thus forecast only 52% (350mn) of the 670m EBIT volume effect over the next three years to come from high-growth regions, as opposed to managements 500m target. Figure 175: Our PSA estimates incorporate 40bp of European market share growth which equates to a cumulative 670mn additional EBIT 2010-12E
Unit sales data: 2008 2009E 2010E 2011E 2012E
Unit sales W Europe (000s) Unit sales Rest of Europe (000s) Unit sales ROW - ex-China (000s)
Group consolidated unit sales (ex-China) Memo: Unit sales growth W Europe (%) Memo: Unit sales growth Rest of Europe (%) Memo: Unit sales growth ROW (%) Memo: Total Unit sales growth (yoy)
2,079 204 798

3,081
1,871 163 774

2,809
1,778 168 821

2,766
1,902 175 870

2,947
1,940 181 913

3,034
-10.5 -6.2 17.6

-4.3
-10.0 -20.0 -3.0

-8.8
-5.0 3.0 6.0

-1.5
7.0 4.0 6.0

6.5
2.0 3.5 5.0

3.0
Estimated incremental contribution per unit () Volume EBIT Delta (mn) Of which Europe Of which ROW
3,000 (1,707) (860) (850)
3,000 (820) (730) (90)
3,000 (130) (330) 200
3,000 540 500 40
3,000 260 150 110
Capacity utilisation to aid recovery

We target 410mn of savings as a result of capacity utilisation (at 94% utilisation rates) some way behind management targets of 800mn EBIT delta (at 105% utilisation)
We do credit PSA with superior capacity utilisation, following recent action at Aulnay and Rennes which reduced French capacity by 250k units in 2008-09. We expect the group to reach close to 95% utilisation rates by 2012E (a significant improvement from 2008s 72% level and 78% in 2009E). However, based on our own sub-consensus view of the European market going forward, we struggle to credit managements own more aggressive targets of 105% capacity utilisation by 2012E.
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Figure 176: New models to drive above average EU capacity utilisation rates from 2010E
95% 90% 85% 80% 75% 70% 65% 60% 55% 2008 2009E 2010E 2011E 2012E 2013E 2014E 2015E
PSA capacity utilisation %

With management guiding to 30bp improvement in EBIT for every 1pp improvement in utilisation, a 94% utilisation rate would imply an EBIT delta of 510mn by 2012E (whereas the company targets a more optimistic utilisation rate of 105% or 800mn EBIT delta). However, we are slightly more conservative than management on their ability to retain the full 30m per percentage point on a gross level and therefore forecast just 410mn of capacity savings over the next three years. Figure 177: We credit PSA with only 400mn of its targeted 800mn of savings from increased capacity utilisation rates
BC estimates Lever PSA Targets BC estimates PSA Targets Variance %
2012E utilisation (%)
10-12E EBIT delta (mn) 410 800
Capacity utilisation
94%
105%
-49
Lack of scale mitigates capacity strength

Whilst PSAs superior capacity utilisation will aid marginal contribution per vehicle, the companys lack of scale on its key platforms is a notable negative. When compared with its closest peer Renault (which has the benefit of cross-platform sharing with its alliance partner Nissan), PSAs scale credentials are distinctly lacking. Indeed, with many in the industry forecasting that 1mn units per platform is a necessary level for future profitability, Peugeot falls short in particular on its PF3 but also on its PF1 platforms. Whilst any closer partnership with Mitsubishi would aid this lack of capacity, it would not provide enough scale to put Peugeot on a par with the Renault-Nissan alliance. Speculation in the press has previously focused more on the likelihood of a PSA-Fiat tie-up as this would provide the necessary scale across platforms. However, we question the chance of such an alliance reaping significant synergies in reality, due to the political sensitivity of reducing capacity. We also note the Peugeots management are focused in the short term on internal restructuring before turning to any major external actions. PSA is therefore likely to continue to fall short of competitors (other than Fiat) in terms of sheet scale, although is likely to have a moderate level of commonality, in our view.
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Figure 178: Manufacturers scale vs estimated commonality key C platforms
Degree of commonality
HIGH Toyota Fiat MED PSA GM Honda
VW Hyundai
Ford Renault-Nissan LOW
1,000 Scale - units 000
2,000
Figure 179: PSA lacks scale on its global production platforms compared to rival RNO-Nissan group (000s units) 2011E
1,372 1,132 1372 745 994 233
PSA PF1 (207)
Renault-Nissan B (Clio) Europe
PSA PF2 (308)
Renault-Nissan C (Megane) South America
PSA PF3 (408)
RNO-Nissan D (Laguna)
Asia
Middle East/Africa
Superior product cadence and strength in LCVs to boost margin

A second key area of strength for PSA lies in its upcoming product portfolio. It is a well argued bull case among analysts that Peugeots product renewal schedule is likely to be one of the strongest, if not the strongest, in the industry in the next three years. We concur with the argument that it is not only the frequency of new products coming to market but also the diversity and success in design that is likely to drive earnings upside for the company and which makes us credit PSA with a strong increase in market share. We also think the mix of new model launches, with a focus on C&D segments, will help the company capitalise on our belief that these will be the fastest growing segments in the next three years.
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Figure 180: PSAs current mix in C & D segments is likely to be boosted by new model launches from Citroen brand in particular
40% 35% 30% 25% 20% 15% 10% 5% 0%
EExecutive A - Basic SUV Van C - Lower Medium D - Upper Medium B - Small Other
2012
0.35 0.3 0.25 0.2 0.15 0.1 0.05 0
PSA Group
Source: JD Powers and Barclays Capital
Industry avg
Whilst the scrappage pull back in 2010E is likely to see a 390bp YoY decline in the A&B segment (traditionally the companys key segments), product renewals, particularly for the Citroen brand, are set to come thick and fast in the C&D segments. In the front section of this report we argued that the C&D segments are the segments likely to grow the fastest in the next few years (we expect 150bp of share gain 2009-11E). The extension to the breadth of the companys model range should help shelter from the worst of the post-scrappage declines in the small car segments. Three of 2009s new products C3 Picasso, 3008 and 5008 are all new additions to the companys existing range and from 2010 the new Distinctive Citroen range is launched, beginning with the DS3 and then extended to the C&D segments with the DS4 and DS5. We believe this range will prove highly successful and will not only accord with current customer sentiment but provide an opportunity to boost incremental margin by providing a higher pricing point for the Citroen brand. A raft of new LCVs in 2008 helped Peugeot grow its market share even in 2009s falling market. This is of course a highly profitable segment for the group and, as we argued above, we believe that despite a gradual erosion of market share from 2009s peak, growth in the segment as a whole will provide an EBIT boost of 230mn to Peugeot over the next three years. Figure 181: Peugeot to have one of the youngest and most diverse product portfolios in the sector
Segment 2008 2009 2010 2011
A&B C D 308 Q2 4007 Q3 C5 Q1 Nemo/Bipper LCV Berlingo 2Q Partner Q2
C3 Picasso Q1 C3 Q4 3008 Q1 5008 Q4
208 DS3 Q1 RCZ coupe Q1 408 Q2 C4 Q1 DS4 Q3 408 Coupe DS5 Q4 C1 C4 Picasso C5
Jumpy
Source: Company data, JD Power, Trade press, Barclays Capital
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Strength in fuel efficient engine technologies

As well as expanding its model range, Peugeot is also devoting a great deal of attention to the development of fuel efficient technologies such as diesel hybrids and EVs. Despite our concerns for share erosion in the A&B segments in 2010E due to scrappage pull-back, we still expect the long-term trend towards CO2 friendly vehicles to continue and thus Peugeots superiority in this area should set it in good stead. The companys first EV is to be a version of an existing Mitsubishi product, the i-Miev, and is due in 2010. Longer term, its hybrid diesel technology is expected to launch in 2011, coming first on the Peugeot 3008 HYbrid4 and then the Citroen DS5 HYbrid4, with a Plug-In HYbrid4 diesel to follow in 2012. An alliance with BMW on engines further highlights the companys lead in this area.
Faurecia a turnaround story but well understood by investors

Faurecias performance has long been a drag on its parent company. Currently 71% owned by PSA, Faurecia has been loss-making since 2006 and was hit hard by the severe OEM production cuts in 1H09. However, the companys management are highly focused on restructuring and efforts in North America in particular have already begun to pay off. There is still much to be done in the short term and we only forecast a 1% EBIT margin from Faurecia in 2010E but our longer-term expectations are based on our belief that the supplier can achieve margins much closer to competitor averages in each of its divisions. Figure 182: Potential for strong recovery at Faurecia based on competitive margin benchmarking
Business segment Benchmark EBIT margins (%) 2010 Midterm Global competitors Comment
Seating Interiors Exhaust
5-6 1-2 4-5
6-7 4-5 6-7
LEA, JCI, MGA JCI, numerous others TEN, Eberspracher
Front-end modules
2-3
5-6
Magna/Decoma, Plastal, Peguform and numerous others
Concentrated oligopoly Fragmented business historically, becoming somewhat more concentrated as suppliers exit Becoming more concentrated with Faurecia acquisition of EMCON; solid growth opportunities as emissions control requirements for passenger and commercial vehicles become more stringent Highly fragmented
Figure 183: PSA no. 1 position in LCV market 10E to boost EBIT
Opel Other 3% Daimler 6% 9%
Figure 184: LCV market set to recover 180bp from 2009s low
12.0% 30.0%
PSA 25%
11.0% 10.0% 9.0% 25.0%
Ford 11%
8.0% 7.0%
20.0%
Fiat 14% VW Group 15%

Source: CSM, company data and Barclays Capital
RenaultNissan 17%
6.0% 2006 2008 2010 2012 2014
15.0%
Van share of WE Market PSA share of WE van market

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We therefore forecast that the company can reach a 5% group margin by 2012E - at the top end of managements 4.5-5% target but just behind midterm peer benchmark margin, thus boosting its parent company EBIT by an estimated 850mn. The recent EMCON acquisition should further boost the company in the fast-growing exhaust systems segment. Although the market is currently looking for only a 2.5% margin by 2011E (no 2012E consensus data is yet available), we believe that the French investment community already credit a great deal of longer-term restructuring success to the company, and therefore see less upside for the PSA shareholder. There has been much speculation in the press and the investment community for a long while surrounding the likelihood of a Faurecia disposal. Although the recently announced EMCON deal will see Peugeots stake in the parts supplier diluted from 71% to 57%, with the execution of the OCEANE convertible bond taking the holding down to 51%, this still will not be low enough to allow PSA to deconsolidate Faurecias 1.5bn of debt (and thus aid Peugeot in regaining its investment grade debt rating). Change of ownership covenants currently prohibit PSAs ownership from falling below 40% and it seems unlikely that a buyer will be found for Faurecia until the companys turnaround is closer to completion. However, the PSA share has historically rebounded strongly on any news regarding an eventual disposal, hence we are wary of underweighting the share whilst M&A speculation abounds. Figure 185: Consensus earnings estimates have moved into the black for 2011E
6.00 4.00 2.00 0.00 -2.00 -4.00 -6.00 -8.00
Jul-09 Sep-08 May-09 Mar-09 Sep-09 Jul-08 Jan-09 May-08 Mar-08 Nov-07 Nov-08 Nov-09 Jan-08
Figure 186: Brokers have grown significantly more optimistic on the Faurecia share in 2H09
5.0 4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0
May-08 Mar-08 Nov-07 Jul-08 Jan-08
Sell
Buy
May-09 Nov-08 Mar-09 Jul-09 Nov-09
112
Sep-08
Jan-09
Faurecia FY09E cons EPS est Faurecia FY10E cons EPS est Faurecia FY11E cons EPS est
Source: Datastream
Faurecia Cons Recommendation

Source: Datastream
8 December 2009
Sep-09
Luke Olsen +44 (0)20 7773 8310 luke.olsen@barcap.com Barclays Capital, London Angus Allison +44 (0)20 7773 5379 angus.allison@barcap.com Barclays Capital, London Heather Beattie, CFA +44 (0)20 7773 5859 heather.beattie@barcap.com Barclays Capital, London Stella Cridge +44 (0)20 3134 9618 stella.cridge@barcap.com Barclays Capital, London
Peugeots 2016 convertible: Recommended for investors seeking defensive exposure

The convertible asset class has attracted substantial interest this year, rebounding sharply from its late-2008 trauma. Resurgent new issuance, particularly in Europe, has seen many companies raise convertible funds, including Peugeot and Faurecia. For equity investors, many convertibles offer exposure (delta) to the underlying equity, but with the defensive characteristics of downside protection (delta is higher on the upside than on the downside), senior status, an income advantage and strong takeover and dividend protection features. We believe that switching into the Peugeot convertible makes sense for relatively defensive investors who wish to step up in the capital structure and reap a significant income pick-up over the stock. We estimate that Peugeots 2016 convertible currently has a c.64% delta to the stock price and a c.3.6% income pick-up over the stock (Figure 187). At our fundamental equity analysts stock price target, we estimate that the convertibles valuation would rise 3.8% from its current level (target bond price versus current bond price). This is below the 7.5% rise in the stock. Adding the 3.6% pa income advantage, however, makes the convertibles return more competitive. The convertible is generally less liquid than the stock, although the 575mn bond has traded actively since launch in June 2009. Lastly, we view the convertibles valuation as fair relative to the equity derivative (options) market and relative to other comparable convertibles. As such, the investment rationale is not based on cheapness or richness per se, but rather, its defensive profile compared to cash equity, together with its income advantage and seniority. Figure 187: Peugeot 4.45% 2016 convertible bond details
Bond ISIN Bond currency Current bond price Parity Amount out (mn) Yield to maturity Running yield
FR0010773226
Conversion price
EUR
31.33
24.18
575
Dividend yield
0.60%
Income advantage
3.62%
Convertible delta
Current Target Target bond share price share price price
25.10
24.18
26.00
32.53
0.00%
3.62%
64%
Note: As of 4 December 2009. Source: Barclays Capital
Credit perspective
Barclays Capital credit analysts currently rate Peugeot Market Weight. While they expect credit metrics to improve through 2010, they believe Peugeot is at risk of a downgrade to mid BB by S&P and view Peugeot more at risk of material cash burn than Renault in 2010. However, following significant bond issuance this year and government funding, they believe Peugeot has significantly improved its liquidity position.
Equity rating
We believe the market is overly optimistic on PSAs potential for top-line growth and for retention of future cost savings
We are initiating coverage of Peugeot with a 2-Equal Weight rating. Despite our confidence in Peugeots product strategy, we remain more cautious than the market on the demand side of the equation for the overall European market in 2010E. We are concerned that the companys lack of scale both on a global basis but also on a platform-by-platform basis exposes the company to significant risks. We also believe that the market is already well versed in Peugeots upcoming product line-up and is already over-crediting the companys
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revenue growth potential by 2012E. We credit the company with only 2.1bn of its targeted 3.3bn in cost savings by 2012E. Likewise, we think that the Faurecia recovery story, though significant, is already well understood by the market. We hesitate to underweight Peugeot due to its superior product and when any further news on a potential Faurecia disposal would provide upside potential for PSA but the companys lack of scale and the markets over-confidence in estimates steer us away from an overweight rating. We are therefore initiating coverage with 2-Equal Weight rating and a 26 price target.
We value the PSA share using a SotP methodology but also use historical and peer average EV/EBITDA multiples and take a blended average of the two methodologies:
SotP
Using a sum-of-the-parts valuation we arrive at a value of 28/share for Peugeot, implying 12% upside potential to its current market price. We base our calculation on a blended average of peer EV/sales and EV/EBITDA multiples for the core Autos business and bring in Finance companies, GEFCO and Faurecia at historical average multiples. We apply a 5% discount to the NAV in line with the average discount that the market has historically applied when using the SotP methodology. Figure 188: Peugeot SotP implies just 12% upside to the current share price, driving our 2-Equal Weight rating
NAV, PSA mn per share Remarks
1) PSA Auto @ EV/sales multiple 2) PSA Auto @ EV/EBITDA multiple

Peugeot Auto average
6,888 5,616 6,252 3,141 650 2,078 12,121 -4,267 -819 -329 6,706 6,304
30 25
28
15% 2011E Industrial EV/sales (in line with Renault) 2.0x 2011E Industrial EV/EBITDA (in line with Renault) 0.8x book value 20% 2011E EV/sales 15% 2011E EV/sales FY10E BS date FY10E BS date FY10E BS date
Banque PSA Finance (0.8x equity) Gefco @ EV/sales multiple Faurecia @ EV/sales multiple
Group EV
14 3 9
53
Net debt Pension underfunding Minorities

SOTP (base assumption) TP applying holding discount
-19 -4 -1
30
28
5% discount
Group EV/EBITDA
Historically PSA has traded at an 8-year average of 2.4x EV/EBITDA at a group level (vs 6x at RNO and 2.7x for the sector as a whole). Our slightly below consensus EBITDA estimates put PSA at 2.5x at current share price in 2010E, just ahead of its historical average. We believe that the company should trade closer to its historical level of 2.4x, which would imply a share price of 23.
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Figure 189: PSA historical EV/EBITDA implies a 2.4x multiple is realistic to value the group
3.5x 3.0x 2.5x 2.0x 1.5x 1.0x 0.5x 0.0x 2000
2001
2002
2003
2004
2005
2006
2007
2008
Historical average
Adjusted EV/EBITDA
8 December 2009
115
A blended average of both these valuation metrics leads us to set a 26 price target for the share. Figure 190: PSA key valuation metrics
17 2.7x 17.8x 59.3x 1.4 20 0.8x 2.8 17 2.2x 17.8x 59.3x 1.4 20 0.8x 2.8
17 2.3x 8.2x 14.6x 17.2 23 0.9x 2.7 17 2.0x 8.2x 14.6x 17.2 23 0.9x 2.7
13 2.6x na (18.5x) -49.4 12 0.5x 0.0 13 1.9x na (18.5x) -49.4 12 0.5x 0.0
11 3.0x (5.1x) (3.8x) -3.6 12 0.4x 0.0 12 2.3x (5.6x) (4.1x) -3.3 13 0.5x 0.0
15 2.5x (37.6x) (12.6x) -40.8 12 0.5x 0.0 16 2.5x (40.3x) (13.7x) -37.5 13 0.5x 0.0
10 1.2x 4.4x 8.3x 25.1 11 0.4x 4.2 11 1.3x 4.9x 9.0x 23.1 12 0.5x 3.8
7 0.8x 2.2x 4.9x 25.3 11 0.4x 4.2 8 0.9x 2.5x 5.3x 23.3 12 0.4x 3.8

Downside risks to our price target are as follows: Macroeconomic risks - macroeconomic factors outside the control of the company, leading to an even weaker demand and pricing environment than we currently assume, could make our forecasts difficult to achieve. Liquidity risk current high gearing levels and lack of investment grade credit rating expose the share to balance sheet risk, especially were the Peugeot to finance any future alliance with Mitsubishi Motors with debt M&A risk if PSA were to embark on any further strategic alliances or seek to restructure its holding in Faurecia, this could provide further upside to the share and cause it to exceed our current price target.
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Figure 191: PSA Group income statement, 2006-2012E

December year-end (mn) 2006 2007 2008 2009E 2010E 2011E 2012E
Net revenues Cost of sales

Gross profit Memo: gross margin (% of sales)
56,594 (45,882)
10,712 18.9%
60,613 (48,435)
12,178 20.1%
54,356 (44,920)
9,436 17.4%
47,313 (39,700)
7,613 16.1%
47,903 (39,534)
8,370 17.5%
51,135 (40,942)
10,192 19.9%
53,115 (42,069)
11,046 20.8%
SG&A Research & development

Clean EBIT Memo: clean EBIT margin (% of sales)
(7,576) (2,017)
1,119 2.0%
(8,354) (2,072)
1,752 2.9%
(6,841) (2,045)
550 1.0%
(6,433) (1,861)
(681) -1.4%
(6,432) (1,745)
193 0.4%
(6,803) (1,866)
1,523 3.0%
(7,062) (1,940)
2,044 3.8%
Non-recurring income and (expenses)

Reported operating income
(809)
310
(632)
1,120
(917)
(367)
(700)
(1,381)
(150)
43
(140)
1,383
0
2,044
Financial income/expense & other

Pre-tax income
(105)
205
(40)
1,080
(286)
(653)
(400)
(1,781)
(450)
(407)
(350)
1,033
(350)
1,694
Income tax Memo: tax rate Companies at equity

Net before minority interest
(156) 76% 20
69
(302) 28% 48
826
96 15% 57
(500)
415 23% 40
(1,326)
35 9% 40
(332)
(321) 31% 40
752
(526) 31% 40
1,208
Minority Interest
Group interest
(114)
183
(59)
885
(157)
(343)
(100)
(1,426)
(100)
(432)
(100)
652
(100)
1,108
No of shares (average)
EPS
228.7
0.80
228.3
3.88
227.6
(1.51)
226.9
(6.28)
226.9
(1.90)
226.9
2.87
226.9
4.88
DPS
PSA segmental revenue:
1.35 44,566 11,649 3,245

53,789
1.50 45,519 12,661 3,554

57,132
0.00 41,643 12,011 3,536

52,705
0.00 36,819 9,369 3,006

45,393
0.00 36,084 10,493 3,096

45,923
1.00 38,822 11,542 3,251

49,115
1.00 40,376 11,831 3,348

51,055
Automobile revenues Faurecia revenues GEFCO revenues

Industrial revenues
Banque PSA Finance revenues

Total Group revenues PSA segmental EBIT:
1,761
56,594
1,999
60,613
2,088
54,356
1,920
47,313
1,980
47,903
2,020
51,135
2,060
53,115
Automobile EBIT Faurecia EBIT GEFCO EBIT

Industrial EBIT
267 69 151
515
858 121 155

1,144
(225) 91 127
(7)
(795) (281) 75
(1,001)
(375) 105 93
(177)
575 404 114

1,093
895 592 117

1,604
Banque PSA Finance EBIT

Total Group EBIT PSA segmental EBIT margin %
604
1,119
608
1,752
557
550
320
(681)
370
193
430
1,523
440
2,044
Automobile EBIT % Faurecia EBIT % GEFCO EBIT %

Industrial EBIT %
0.6% 0.6% 4.7%

1.0%
1.9% 1.0% 4.4%

2.0%
-0.5% 0.8% 3.6%

0.0%
-2.2% -3.0% 2.5%

-2.2%
-1.0% 1.0% 3.0%

-0.4%
1.5% 3.5% 3.5%

2.2%
2.2% 5.0% 3.5%

3.1%
Banque PSA Finance EBIT %

Total Group EBIT %
34.3%
2.0%
30.4%
2.9%
26.7%
1.0%
16.7%
-1.4%
18.7%
0.4%
21.3%
3.0%
21.4%
3.8%
8 December 2009
117
Figure 192: PSA Industrial and Group balance sheet, 2006-2012E

December year-end (mn) Industrial assets: 2006 2007 2008 2009E 2010E 2011E 2012E
Goodwill Other intangibles Property, plant and equipment Other non current financial assets Deferred tax & other Investments in associates/non-consolidated co.s
Total Industrial fixed assets
1,547 3,947 15,221 1,321 595 681

23,312
1,488 3,885 14,652 1,121 554 772

22,472
1,237 4,061 14,064 848 620 780

21,610
1,237 4,560 13,270 848 620 820

21,355
1,237 4,652 12,894 848 620 860

21,111
1,237 4,750 12,457 848 620 900

20,812
1,237 4,853 11,990 848 620 940

20,488
Inventories Accounts receivable Tax & Other receivables/assets Marketable securities Cash
Total Industrial current assets Total Industrial assets
6,826 3,043 1,929 1,132 6,339

19,269 42,581
6,913 2,857 1,951 1,483 5,185

18,389 40,861
7,757 2,001 2,086 515 2,040

14,399 36,009
6,026 2,114 2,086 515 7,224

17,965 39,321
6,836 2,391 2086 515 5,249

17,077 38,188
6,538 2,018 2086 515 6,623

17,780 38,592
6,719 2,098 2086 515 7,870

19,289 39,776
Total Finance Co assets

TOTAL GROUP ASSETS
27,191
69,094
28,768
68,975
26,381
61,720
24,300
62,971
25,000
62,538
25,500
63,442
26,000
65,126
Total Industrial LT liabilities Total Industrial current liabilities Total industrial liabilities
10,121 21,006 31,127
9,978 19,222 29,200
9,481 16,170 25,651
14,051 16,451 30,502
14,051 16,175 30,226
14,051 16,619 30,670
14,051 16,973 31,024
Total Finance Co liabilities Group shareholders' equity Minority interests

Shareholders' funds TOTAL GROUP LIABILITIES & S'HOLDERS EQUITY
24,539 13,718 388

14,106 69,094
25,874 14,245 310

14,555 68,975
23,462 13,143 134

13,277 61,720
20,899 11,990 229

12,219 62,971
21,074 11,559 329

11,888 62,538
21,009 11,984 429

12,413 63,442
21,359 12,864 529

13,393 65,126
Balance sheet analysis & drivers:
Capital employed Net working capital Working capital / Sales

Net Industrial cash (debt)
19,418 (612) -1%

116
18,840 (830) -1%

1,404
20,897 1,330 3%
(2,906)
19,477 (317) -1%

(2,292)
21,099 1,023 2%
(4,267)
20,398 57 0%
(2,893)
20,249 82 0%
(1,646)
Gearing
-1%
-10%
22%
19%
36%
23%
12%
8 December 2009
118
Figure 193: PSA Industrial and Group cash flow, 2006-2012E

December year-end mn 2006 2007 2008 2009E 2010E 2011E 2012E
Industrial cash flow: Net Income Depreciation and amortisation Non-current provisions Deferred tax (Gains) losses on disposals Share in equity co's (net of dividends) Revaluation adjustments (IFRS)
Gross cash flow
(329) 3,686 (148) (139) (54) (17) 11

3,010
405 3,559 (227) (114) (94) (46) 32

3,515
(851) 3,664 (105) (455) 124 (37) 26

2,366
(1,536) 3,405 0 (455) 0 0 0

1,414
(582) 2,985 0 (455) 0 0 0

1,948
462 2,947 0 (455) 0 0 0

2,954
918 3,063 0 0 0 100 0

4,081
(Increase)/decrease in inventories (Increase)/decrease in receivables Increase/(decrease) in payables Movement in provisions/other

INDUSTRIAL OPERATING CASH FLOW
63 54 241 66
3,434
(87) 186 119 702

4,435
(1,076) 804 (2,015) (637)

(558)
1,731 (113) 29 252

3,313
(810) (276) (254) (22)

586
298 372 296 148

4,068
(181) (80) 236 118

4,174
Capital expenditure Capitalisation of R&D Proceeds from disposals Investment in companies Investment in shares Other
INDUSTRIAL CASH FLOW FROM INVESTING
(2,520) (937) 160 (19) (1) (155)

(3,472)
(1,924) (789) 156 (7) 11 (280)

(2,833)
(2,080) (1,069) 78 (2) (25) (79)

(3,177)
(1,952) (1,258) 100 0 0 0

(3,110)
(1,837) (964) 100 0 0 0

(2,701)
(1,719) (989) 100 0 0 0

(2,608)
(1,787) (1,012) 100 0 0 0

(2,699)
Group dividend Minority dividend Equity issued/(redeemed) ST Debt issued/(redeemed) LT Debt issued/(redeemed) Other
INDUSTRIAL CASH FLOW FROM FINANCING NET CHANGE IN INDUSTRIAL CASH
(309) 155 (39) 205
(309) 146 (23) (559)
(342) 151 (43) 929
0 138
0 140 0
(227) 140 0 0
(227) 0 0 0
4570 273
12 19
(745) 835
695 (3,099)
4,981 5,184
140 (1,975)
(87) 1,374
(227) 1,247
Operating cash from Finance Co's Investing cash from Finance Co's Finance Co minority dividends FX & eliminations
NET CHANGE IN GROUP CASH
210 (34) (193) (60)

(58)
512 (20) (157) 131

1,301
590 (22) (167) (5)

(2,703)
(300) 0 (143) 0
4,741
0 0 (140) 0
(2,115)
0 0 (140) 0
1,234
0 0 0 0
1,247
PSA cash flow analysis & drivers:
Total movement in WC Industrial FCF Group FCF

Industrial depn & amort / sales, % Industrial capex / sales, %
424 (23) 153 6.9% 4.7%
920 1,722 2,214 6.2% 3.4%
(2,924) (3,707) (3,139) 7.0% 3.9%
1,899 103 (197) 7.5% 4.3%
(1,362) (2,215) (2,215) 6.5% 4.0%
1,114 1,360 1,360 6.0% 3.5%
93 1,374 1,374 6.0% 3.5%
8 December 2009
119
Figure 194: PSA revenue mix by division YTD 09

GEFCO 6% Banque Finance 4%
Figure 195: PSA geographical revenue mix, YTD 09

ROW Lat Am 9% 7% C&E Europe 8%
Faurecia 20%
Autos 70%
W Europe 76%
Source Company data, Barclays Capital
Figure 196: Peugeot WE unit sales by model, YTD09A

Expert 1% 406+ 407 2% 405 (kit) 16% 3008 2% 307 / 308 19% Boxer & Bipper Other Partner 1% 3% 7%
Figure 197: Citroen WE unit sales by model, YTD09A

C1 10% C2 / Saxo 4% C3 (incl. Pluriel) 17% C3 Picasso 6% C4 / Xsara 29% ZX 6%
106 / 107 7%
LCV + Other Berlingo 6% 13% C-Crosser 1% C5 / Xantia 8%
206 / 207 42%
Figure 198: PSA EBIT mix by division, 2011E

Banque PSA Finance EBIT 28%
Figure 199: PSA EBIT margin %, 2002A-2012E

6.0% 5.0% 4.0%
Automobile EBIT 38%
3.0% 2.0% 1.0% 0.0% -1.0%
GEFCO EBIT 7% Faurecia EBIT 27%

-2.0% -3.0% 2000 2002 2004 2006 2008 2010E 2012E
Autos EBIT Margin %

PSA Group EBIT Margin %
8 December 2009
120
PORSCHE MERGER BENEFITS MAY NOT FLOW TO PREF HOLDERS: 2-EQUAL WEIGHT
PSHG_p.DE / PAH3 GY Stock Rating
2-EQUAL WEIGHT
Sector View
2-NEUTRAL
Price Target
55.00
Price (04-Dec-2009)
47.51
Potential Upside
We are initiating coverage of Porsche with a 2-Equal Weight rating and a 55 price target. While Porsches near-term prospects as a sports car manufacturer are strong in the face of a challenging market, the real value of Porsches pref shares lie in the current 51% holding of VW shares and their eventual conversion into VW NewCo shares (likely prefs). While we maintain a positive stance toward VW prefs (with a 1Overweight and 85 target), we believe that public shareholders in both firms face transactional risk around the future fundraising and eventual merger ratios. With VW we believe that the ultimate earnings power, against the near-term low valuation in light of Qatari share sales, offers better protection against the vagaries of offering dilution and exchange ratios than do the Porsche prefs. Figure 200: Porsche headline data & valuation multiples (at current share price), 2008-11E
(mn) 2008A 7,466 876 11.3 35.95 2009E 6,260 676 10.3 -14.29 2010E 7,094 760 10.7 1.47 2011E 8,362 977 11.7 4.74 2012E 8,912 1,370 15.4 7.61
16%
Sales Adjusted/clean EBIT EBIT margin (%) BC EPS Consensus EPS Industrial EV/sales (%) Industrial EV/EBITDA P/E ratio (%)
35.95 209 10.8x 2.8x
-14.45 187 10.5x (6.6)
2.73 40 3.8x (53.4)
6.81 27 2.5x (84.2)
7.76 23 1.8x 263.3x
2-Equal Weight, 55 price target

We are initiating coverage of Porsche with a 2-Equal Weight rating and a 55 price target, reflecting the uncertainties and risks in the next 16-18 months. Overall, while most of the value of Porsche is in its VW stake, and we are positive on VW prefs, we see several transactional risks to Porsche pref holders from future fund raising and merger valuations that lead us to prefer VW pref shares as our vehicle for capturing the future value of VW. We base our price target for the Porsches preference shares using an average of EV/sales and EV/EBITDA metrics at historical and peer average multiples (for further details please see the valuation section).

Positives:
Strong underlying operating performance in difficult year Modular strategy to drive additional cost savings while enhancing product differentiation Continued dominance of German market provides buffer against weak post-scrappage pricing environment Porsche merger valuation mechanics not as impactful on pref value as market believes
8 December 2009
121
Risks:
Continued selling pressure as Qatar liquidates remaining pref shares Rights issue in 2010 creates additional supply and selling pressure Clarity on Porsche merger pricing not likely until 2011 European pricing war undermines profit recovery and stalls margin recovery
Earnings power of the sports car company remains strong

While transparency into Porsche results ex Volkswagen and option losses is limited (and likely to become more limited as Porsche SE moves to equity income for both VW AG and Porsche AG), underlying results of the sports car company within the financial speculation company appear strong. Porsche disclosed a 10.3% core operating margin for 2008/2009, indicating roughly 675mn of clean operating earnings for its sports car operations. While about 200mn below the 876mn earned in 2008, revenue fell by a likely 1.2bn indicating incremental margins of 17%. The strong performance was likely driven by a richening mix, with the relative strength of the 911 (up from 32% to 36% of sales) and the Cayenne (steady at 46% of sales) offsetting the volume decline in the lower margin Boxster/Cayman. Figure 201: Porsche key operating metrics
mn Unit sales (units): 2004/05 2005/06 2006/07 2007/08 2008/09E 2009/10E 2010/11E 2011/12E
Boxster/Cayman 911 Cayenne Panamera

Total unit sales Total production
18,009 27,826 41,884 0 88,379 90,954 59,723 6,256 6,337 1,204 19.0% 77% 7,204
27,906 34,386 34,134 0 96,794 102,602 62,568 7,123 6,326 1,571 21.5% 42% 43,539
26,146 37,415 33,943 0 97,517 101,844 63,724 7,368 7,296 1,146 15.2% -173% - 587,733
21,747 31,423 45,478 0 98,652 105,162 63,172 7,466 7,530 876 11.3% -274% - 237,889
13,140 27,070 34,265 763 75,238 76,739 69,911 6,260 7,778 676 10.3% 17% 8,541
16,000 30,000 26,000 17,000 89,000 90,800 68,000 7,094 6,560 760 10.7% 10% 6,115
18,000 32,000 35,000 22,000 107,000 109,200 68,000 8,362 7,294 977 11.7% 17% 12,058
18,900 33,920 38,500 23,100 114,420 116,800 68,000 8,912 8,412 1,370 15.4% 71% 52,930
Average selling price () Revenue Total operating perf. Adjusted EBIT Adj. EBIT margin Incremental margin Incremental EBIT per unit
8 December 2009
122
Figure 202: Stronger mix likely to drive higher earnings in 08/09E

100% 80% 60% 40% 20% 0% 2006/07 Boxster/Cayman
1% 35% 46% 46%
38% 32% 36%
27%
22% 2007/08 911 Cayenne
17% 2008/09E Panamera
Going forward, we are looking for 14,000 unit growth in 2009/10, driven largely by the Panamera, with margins reaching 10.7%. In 2010/11 (the likely time period for starting the IDS valuation), units could advance by another 18,000, driven by broader economic recovery, and with incremental margins of 17% EBIT of 977mn. The benefits of the VW modularity would likely not begin until 2012, when margins could expand to 15%, closer to the 2001-07 average of 16.9%. As this margin expansion (incremental margins of over 70%) is based on VW contributions, it is not clear how much of that margin expansion would be shared with Porsche pref holders.
Net debt to be worked off by set of transactions but risk remains

While the sports car operating side of Porsche handled the curves of 2009 ably, the financial side of the story was less heartening. Porsche disclosed that its liquidity situation was critical as of June 2009, alleviated somewhat when it was able to recapture use of 1.4bn of cash pledged as collateral for its derivatives on VW shares. With 11.4bn of net debt, and 13bn total (with pensions and hybrids) Porsche can (by design) work off most of its net debt if the planned series of transactions consummate. If not, as the annual report warns, as underscored by the accountants letter If the steps involved in the merger of Porsche Automobil Holding SE and Volkswagen AG and thus the debt relief of Porsche Automobil Holding SE do not take place as planned, this could once again lead Porsche Automobil Holding SE into a critical liquidity situation by the end of 2009 which could put the ability of the company and group to continue as a going concern at risk. (Source: Porsche Annual Report 2008/09, page 243)
VW fundraising and Porsche transaction timeline

However, the transaction structure has been designed to alleviate Porsches debt burden. In this quarter, we expect VW to finalize its purchase of 49% of Porsche AG for 3.9bn. In addition, by mid 2010, the market will be asked to absorb up to roughly 90mn additional VW pref shares up to 25mn from Qatar Holding LLC (whose lock-up period expires on 31 December 2009, although it is not clear whether Qatar holds actual shares or options shares, and, if options, if deliverable in physical delivery of shares) and about 65mn from a
8 December 2009 123
VW pref issue in 1H10 (assuming 4bn raised at 60/share). The net result is to almost double the publically held pref share count from the 55mn outstanding prior to Qatars initial sale to about 170mn leading to, in our view, much of the recent weakness in VW prefs. Figure 203: Merger timeline
Date 2009 Event
3 December 2009 3 December 2009 18 December 2009 31 December 2009 by 31 December 2009
2010
Announcement of DAX official ranking as of 30 Nov VW EGM gave authorisation for VW pref share issuance Qatar option expiry on VW ords Expiry of Qatar lock-up period on VW prefs Purchase of 49% of Porsche AG by VW for 3.9bn
11 March 2010 sometime in 1H10

2011
VW FY09 results Potential VW pref issue (est 4bn, window likely 11 Mar-15 May)
sometime in 1H11 sometime in 1H11 sometime in 2011
VW purchases Porsche Holding Salzburg for 3.55 EV Porsche SE capital increase (est. 5bn) Porsche SE merges into VW AG
We expect the VW pref issue at some point following the 2009 results announcement on 11 March 2010. Before the merger, VW is to purchase two assets 49% of Porsche SE (for 3.9bn, paid to Porsche AG) and Porsche Holdings Salzburg (for 3.55bn, paid to family shareholders of the auto dealer). Porsche would also pursue a capital increase of about 5bn, likely timed after Porsche/Piech family members receive the proceeds from the Salzburg sale. After the capital increase, Porsche SE (which at that times owns half of Porsche AG and its VW ord shares but has largely paid down its debt), merges into VW AG, with Porsche ord shareholders largely receiving VW ords and Porsche prefs would get VW prefs (although merger details could vary).
Transaction sequence aimed at stepping down net debt

However, the transaction structure has been designed to alleviate Porsches debt burden, beginning with the initial purchase of 49% of Porsche SE. Figure 204: Porsche merger dynamics to reduce net debt
mn Transaction impact Running total
Porsche net debt as of Nov. 2009 Sale of Porsche SE (4Q09) Porsche capital increase (1H11) Est. operating cash flow 09/10 and 1H11
Est. net debt at time of merger (inc. hybrids and pensions)
-11.4 3.9 5.0 0.8 -7.5 -2.5 -1.8

-1.8 -3.5
8 December 2009
124
Porsche valuation driven by merger exchange formula

As Porsche is basically a holding shell for Volkswagen shares, valuation of Porsche must be in context of a future merger with VW. As we review these steps, we become convinced that VW pref holders face relatively little risk from the future share offerings and mergers, while the Porsche pref holders face greater downside risk around terms of the Porsche fund raising and merger valuations. In terms of risks to valuation from these transactions, we start with the value the core operating businesses of both VW and Porsche (as this will likely form the basis for the future IDW S-1 valuation), and add in external affiliates (ie, MAN) and subtract net debt. For purposes of this exercise, we have chosen a low adjusted EV/EBITDA multiple for VW (2.5 x vs historical average of 3.5x) for the industrial business. For Porsche, we assume 6.0x for a gross operating enterprise value of 10bn (note that this is somewhat below the 12.4bn VW pegged the value of Porsche SE at; again, we have chosen to be conservative as this would imply that VW overpaid for Porsche SE). Step 1: Value of stand-alone operating firms Adjusting for VW's cash balance, and including the value of financial services and MAN leads to an enterprise value of 44bn for VW, or 95 per pref share (at a 20% discount), before giving effect to VWs purchases of Porsche-related assets. While Porsche operating business is strong, even at a 6x multiple for the SE earnings, Porsche would have negative value (but for the VW shares). Figure 205: Value of VW & Porsche operating businesses
mn Starting point operating businesses and 'external' affiliates 2011 EBTIDA EV/EBITDA multiple 11,469 2.5x 1,765 6.0x VW Porsche
Core auto operations Financial services "External" associates

Gross value of operating firm and external affiliates less debt
28,671 9,372 -2,396

35,647
10,590 239
10,828
Net debt (cash) Minorities Hybrid liabilities Pension (after tax)

Net value of firm before intracompany ownership per share per ord per pref
-18,840 1,905
11,400
1,020 8,495
44,086 108 119 95
-431
-1,161 - 7
at discount of
20
8 December 2009
125
Step 2: Giving effect to VW purchase of Porsche related assets One investor concern is that VW, in an attempt to gain Porsche family buy-in to the merger, agreed to overpay for the initial stake in Porsche SE (which provides cash to pay down Porsche net debt) and for control of Porsche Holding Salzburg (which will provide cash to the families to use to subscribe to Porsche fund raising). Even assuming VW overpaid for Porsche SE by 1.25bn (as the 12.4bn paid for a 49% equity stake would imply a EV/EBITDA of 7.6x vs our assumption of 6.0x) and by Salzburg by 1.5bn (with no public financials we have arbitrarily assumed an overpayment), pref value per share would still be 89. Also note that at this point, Porsche as an operating company has negative value, with more than 100% of the value of Porsche shares attributable to its holdings in VW. With the VW shares included (assuming a 102 per share, near our target of 100 for the VW ords), Porsche would have an indicative value of 86 per share at this point. Figure 206: VW purchase of Porsche assets
mn Net value of firm before intracompany ownership per share Plus intra-group transactions VW minority in Porsche AG: Value of equity business interest Cash received/(paid) Debt (assumed)/shed Memo: value creation (dilution) VW purchase of Porsche Salzburg Value of business interest Cash received/(paid) Memo: value creation (dilution) Value after sales to VW (ex cross-holdings) -862 862 VW 44,086 108 Porsche -1,161 - 7
3,038 -3,900
-3,038 3,900
2,000 -3,500
-1,500 41,724 41,724 102 112 90 -298
Value of Porsche AG stake in VW

Net value of firms before fund raise per share per ord per pref at discount of
15,325
15,027 86
20
8 December 2009
126
Step 3: Giving effect to potential dilution from fund raising While we believe an offering below the current share price would be dilutive to both firms, our VW price target of 85 can withstand dilution. Porsche, on the other hand, with the stated intention of raising about 5bn (and, given the debt walk down, the need to raise that amount), is more vulnerable to dilution. Moreover, as the offer is likely to be tilted toward the family and other strategic ord purchasers, pref shareholders run some risk of ill treatment. Were 5bn of shares offered at 40, the shares would be diluted down from 76 to 62, which is near our price target of 55, even before adding a discount for transaction risk. Figure 207: Effects of fund raising
mn Value after sales to VW (ex cross-holdings) Fund raising VW 41,724 Porsche -298
4,000 80
50 488 45,724 45,724 94 103 82
5,000 125
40 300 4,702
Shares issued Price per share

New share count Value of firms after fund raise (ex cross-holdings)

Net value of firms after fund raise
14,041
18,743 62
per share
per ord per pref
at discount of
20
8 December 2009
127
Step 4: Potential risk from relative IDW S1 relative valuations and pref/ord exchange ratios Finally, while investors are concerned that VW pref shareholders will wind up with less of the merged company than what they could consider their fair share, Porsche investors may have similar valuation risk were, for example, merger synergies allocated more to VW. At our base case valuations, Porsche shareholders would get 37% of the economic value of the merged entity and VW shareholders 63% (roughly in line with ingoing ownership). However, even at that point pref holders could face some risk around the division on merger value between Porsche ords and prefs based on discussions with the companies, we understand that a merger of a company with ords and prefs into another company with ords and prefs is relatively unchartered territory in German corporate law. Figure 208: Merger allocation options
VW Who brought what to the table: Porsche
VW shareholders ex Porsche Porsche shareholders Core business VW stake

Total
31,683 4,702 14,041

31,683 18,743
% of newco Per share

per ord per pref
63%
94 103 82
37%
62
at discount of
What if "unfair"
20% 27,734 10,400 12,291

27,734 22,692

Total
% of newco Per share

per ord per pref
55%
82 90 72
45%
76
at discount of
20
Even assuming, however, that Porsche shareholders get 45% of the combined firm, and that VW is arbitrarily undervalued, and Porsche SE is overvalued by a factor of 3x, would create only about 76 of value per Porsche share making the upside of a merger that tilts towards Porsche not worth the risks were prefs diluted more in either the fundraising or the merger process.
Rating
We are initiating coverage of Porsche with a 2-Equal Weight rating and a 55 price target, reflecting the uncertainties and risks in the next 16-18 months.
8 December 2009
128
We value the Porsche preference share based on an average of EV/sales and EV/EBITDA metrics at historical and peer average multiples:
EV/sales
Porsche prefs have historically traded at an eight-year average of 100% EV/sales, although rose to 200% as sales dipped in 2009. At current market price the shares are only trading at 27% 2010E EV/sales on our estimates. Figure 209: Slightly above consensus revenue & earnings estimates
2010E Barclays Capital Consensus Variance
Revenue (mn) EPS ()
7,094 1.47
7,332 2.73
-3.2% -46.2%
We believe given the fundraising and merger risks that Porsche should trade at 50% EV/sales, closer to the peer historical average of 43%, and implying a value of 60/share. Figure 210: Porsche EV/sales metrics
250% 200% 150% 100% 50% 0% 2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
EV/Sales
EV/EBITDA
Historically Porsche has traded at an average of 4.6x EV to EBITDA during 2001-07 (before the extensive distortion of its options earnings) vs 3.4x for the sector as a whole). Looking out to 2011E, when we expect the merger to finalize, at the current market price the share is trading at only 1.3x. Recognizing some of the risks inherent in the merger and future dilution, we conservatively believe that the company should trade at 3.1x, from which we derive a price of 50/share. An average of both these valuation metrics leads us to set a 55 price target.
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129
Figure 211: Porsche EV/EBITDA

12.0x 10.0x 8.0x 6.0x 4.0x 2.0x 0.0x 2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
Adjusted EV/EBITDA
Figure 212: Porsche key valuation metrics

Industrial EV/sales (%) Industrial EV/ EBITDA Industrial EV/ EBIT P/E FCF yield (%) Price/sales (%) Price/book Dividend yield (%)
152 5.3x 5.9x 6.3x 13.9 122 1.6x 1.2 152 5.0x 5.0x 5.9x 8.7x 10.1 169 2.2x
77 3.4x 1.2x 2.6x 5.8 147 1.1x 1.1 252 3.6x 2.1x 3.9x 4.3x 3.5 246 1.9x
209 10.8x 2.0x 2.8x -24.1 238 1.1x 0.7 192 1.8x (0.1) 1.9x 1.7x -40.8 141 0.6x
187 10.5x (2.4) (6.6) -14.8 355 21.1x 0.7 -14 (0.7) (0.7) 0.2x (2.8) -34.2 154 9.1x
40 3.8x 3.7x (53.4) -0.3 137 8.0x 1.6 39 1.9x 3.7x 3.6x (52.9) -0.3 136 7.9x
27 2.5x 2.3x (84.2) 28.1 98 5.4x 1.9 44 2.1x 4.1x 3.8x (99.3) 23.9 115 6.3x
23 1.8x 1.5x 263.3x 4.6 92 3.9x 1.9 39 1.6x 3.2x 2.5x 310.6x 3.9 108 4.6x
Industrial EV/sales (%) Industrial EV/ EBITDA Industrial EV/ EBIT P/E FCF yield (%) Price/sales (%) Price/book Dividend yield (%)

Risks to our price target are as follows: External risk macroeconomic factors outside the control of the company, leading to a stronger demand and pricing environment than we currently assume. Risks from financial transactions Porsche plans to issue future equity and complete a merger of Porsche AG into VW AG. The pricing and terms for the equity issuance and future merger are not known at this point, and may be set in a way that prejudices owners of Porsche pref shares
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Figure 213: Porsche income statement

Year-end July (mn) Porsche standalone Units 98,652 75,238 89,000 107,000 114,420 118,216 122,587 127,161 2007/08 2008/09E 2009/10E 2010/11E 2011/12E 2012/13E 2013/14E 2014/5E
Average selling price Vehicle revenues Spare parts and accessories' revenue Other revenue (from credit financing/leasing)
Revenue Total operating performance
63,172 6232 516 718

7,466 7,778
69,911 5260 400 600

6,260 6,560
68,000 6052 412 630

7,094 7,294
68,000 7276 424 662

8,362 8,412
68,000 7781 437 695

8,912 8,962
68,000 8039 450 729

9,218 9,268
68,000 8336 464 766

9,565 9,615
68,000 8647 478 804

9,929 9,979
Other operating income Cost of materials Personnel expenses Depreciation and amortisation Other operating expenses
EBIT EBIT margin Adjusted/clean core EBIT Adjusted/clean EBIT margin Other financial income PBT
19,773 -4,170 -1,358 -569 -13,744

7,709 103.3% 876 11.3% 859 8,569
60,215 -3,318 -1,322 -600 -60,558

-4,897 4.0% 676 10.3% 497 -4,400
-3,760 -1,470 -704 -600

760 10.7% 760 10.7% -520 240
-4,432 -1,505 -788 -710

977 11.7% 977 11.7% -500 477
-4,456 -1,586 -790 -760

1,370 15.4% 1,370 15.4% -500 870
-4,609 -1,613 -800 -790

1,456 15.8% 1,456 15.8% -500 956
-4,783 -1,674 -838 -820

1,500 15.7% 1,500 15.7% -500 1,000
-4,964 -1,738 -901 -850

1,526 15.4% 1,526 15.4% -500 1,026
PBT margin Income taxes

Tax rate (on pre-associate income) Net income
114.8% -2,177 28.8%

6,392
-70.3% 1,100 25.0%

-3,300
3.4% -82 34.0%

158
5.7% -167 35.0%

310
9.8% -304 35.0%

565
10.4% -335 35.0%

622
10.5% -350 35.0%

650
10.3% -359 35.0%

667
Adjustments/minority interests
Net profit Porsche AG
101
6,290
100
-3,400
350
-192
417
-107
544
21
572
49
587
64
595
72
VW contribution to Group Units (000s)

Revenue
5,000 107,700 -103,900

3,800
4,700 103,000 -100,800

2,200
4,800 107,400 -103,900

3,500
5,000 113,900 -109,000

4,900
5,400 118,700 -113,000

5,700
5,600 123,300 -116,800

6,500
5,800 127,600 -120,300

7,300
VW Other operating items

VW EBIT
VW financial result
VW pre-tax
-300
3,500
-300
1,900
100
3,600
100
5,200
100
6,200
100
7,100
100
7,900
VW tax etc.
VW net income
-1,100
2,400
-700
1,200
-1,100
2,500
-1,100
3,500
-1,100
4,200
-1,100
4,900
-1,100
5,300
VW minority at 62.6% (vs -1.50?) Consolidated revenues Consolidated EBIT

Consolidated EBIT Margin
1,501 7,466 7,709

103.3%
751 110,094 2,960

2.7%
1,564 115,762 4,477

3.9%
2,190 122,812 6,270

5.1%
2,628 127,918 7,156

5.6%
3,066 132,865 8,000

6.0%
3,316 137,529 8,826

6.4%
Consolidated Porsche SE income statement (includes VW from 5 Jan 09) 113,960 -1,097
-1.0%
Consolidated adjusted EBIT

Consolidated adjusted EBIT margin
876
11.7%
-1,097
-1.0%
2,960
2.7%
4,477
3.9%
6,270
5.1%
7,156
5.6%
8,000
6.0%
8,826
6.4%
Consolidated PBT
Net income EPS ord shares EPS pref shares
8,569
6,290 35.94 35.95
-900
-2,501 -14.29 -14.29
2,140
257 1.47 1.47
4,077
829 4.73 4.74
6,070
1,331 7.60 7.61
7,156
1,621 9.26 9.27
8,100
1,898 10.84 10.85
8,926
2,056 11.74 11.75
EPS core op'ns

30.19
-19.43
-1.10
-0.61
0.12
0.28
0.36
0.41
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RENAULT POTENTIAL FOR GREATER COMMONALITY DRIVES 1-OVERWEIGHT RATING

RENA.PA / RNO FP Stock Rating
3-OVERWEIGHT
Sector View
2-NEUTRAL
Price Target
We are initiating coverage of Renault (RNO) with a 1-Overweight rating and a 42 price target. Our 1-Overweight rating relies on the assumption that the glass is half full in relation to future potential synergies from the Renault-Nissan BV (RNBV) alliance. Whilst we acknowledge that the company is currently in a far from secure position in balance sheet terms and is yet to show evidence of current profitability in its automotive business, we believe this leaves plenty of upside potential to the current share price. Recent bull arguments for RNO have revolved around access to the early recovery in the US autos market, via the Nissan stake, and Nissans strong Chinese exposure. Whilst we agree that a strong position in the US market (as well as in those emerging markets which have remained resilient throughout the crisis) is likely to aid Nissans performance, we believe that this effect is already fully understood in relation to the RNO share, and would argue that investors can choose more direct US exposure via other names in the global sector. We believe that additional value can be extracted from the RNO share via the potential for increased use of commonality on platforms shared with its Asian associate. The unlocking of such synergies has long caused heated debate among analysts (the alliance has now been up and running for 10 years and many would argue has yet to crystallise any significant synergies for RNO) and we believe that investors have tired, of late, of waiting for evidence of cost streamlining and thus place very little equity value in the RNBV alliance. But we also believe that RNO management are now whole-heartedly focused not only on cash management but also on turning their association with Nissan into something more immediately tangible. While we think that 2009Es likely alliance cost savings will have been more a gut reaction to the crisis, we expect much longer-term actions to be in discussion and to start to bear fruit from 2010 onwards. We expect next Marchs Geneva Motor Show to present a good opportunity for management to disclose a new alliance strategy and unlock the value of scale from the RNO share. Though we do not expect the full benefits of such a strategy to materialise until 2012E, we believe that increased focus on this longerterm potential will boost investor sentiment in the near term. We are also optimistic that 2010E will herald the beginning of an improved cash management strategy, which will include the sale of selected property assets and any non-strategic investments, such as the Volvo stake. We are therefore initiating coverage of RNO with a 1-Overweight rating and a 42 price target, implying 18% potential upside from current levels.
42.00
Price (04-Dec-2009)
35.59
Potential Upside
18%
Figure 214: RNO headline data and valuation multiples (at current share price), 2008-2011E
(mn) 2008A 37,791 212 0.6 2.23 2009E 32,020 (863) -2.7 (10.30) 2010E 32,661 206 0.6 0.53 2011E 34,959 981 2.8 4.77 2012E 36,292 2,299 6.3 10.62
Sales Clean EBIT EBIT margin (%) BC EPS Consensus EPS Industrial EV/sales (%) Industrial EV/EBITDA P/E
2.23 11 1.5 24.1
(10.74) 9 1.3 (3.1)
0.37 9 1.0 60.7
4.27 11 0.9 6.7
7.46 8 0.5 3.0
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Valuation:
We base our 42 price target on a weighted average combination of a sum-of-the-parts valuation (to which we apply a 10% holding discount for the associate companies) and peer average EV/EBITDA multiples. For further detail please see valuation section.

Positives:
Greater potential for longer-term commonality/scale via Nissan alliance Geographical breadth and access to fastest growing markets in 2010E via Nissan stake Potential for debt reduction via exiting from non-strategic investments Youthful model mix in recovering C segment
Risks to our 1-Overweight view:

Under-delivery on expected alliance benefits Current high gearing levels add risk to share, especially if further cash injection is required for Avtovaz (though we view this as unlikely) With more than 60% of earnings generated by Nissan (>70% by total associate contribution) any significant downturn in either Nissans or Volvos earnings stream would have a major knock-on affect on Renaults own bottom line.
Further alliance savings possible through greater commonality and modularity

One of the common strategies that OEMs have been emphasising in recent months is the ability to leverage global scale and parts commonality. The most widespread argument at present relates to the necessity of reaching 1mn units per platform. From our analysis of current platform capabilities by manufacturer, it would at first appear that the RNO-Nissan alliance is ideally suited to win in this area. In the B & C segments, as a combined group, the two companies stand just ahead of Toyota, and 2% pts behind VW, in the scale stakes, with 14% share of total available capacity. On a segment by segment basis, the RNO-Nissan group is set to achieve well above the requisite 1mn units/platform in the B & C segments by 2011E and approaching the 1mn level on its D platform (Figure 216). Figure 215: Although RNO-Nissan far exceed PSA, there is still scope for additional commonality on B, C & D platforms
2,103
1372 745 994
1,132
233
Renault-Nissan B (Clio)
Renault-Nissan C (Megane) Europe
RNO-Nissan D (Laguna) Asia
PSA PF1 (207) South America
PSA PF2 (308)
PSA PF3 (408)
Middle East/Africa
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133
Achievement of scale but yet to realise commonality potential

RNBV has currently achieved 80% of joint purchasing potential, 30% of commonality and only a minimal proportion of potential modular savings
As we argued in the front section of this report, to gain a competitive edge manufacturers need to not just produce 1mn units per key volume platforms, but also to exploit that scale through common engineering and parts specifications. Whilst the RNO-Nissan alliance may have already extracted significant economies of scale based on joint purchasing volumes (with common suppliers used for >40% of total group purchasing and RNPO now responsible for 100% of group purchasing see discussion below), a closer analysis of the actual commonality between models on its so called shared platforms shows that there is still a long way to go before a true modular strategy is achieved. In other words, we believe that RNO-Nissan have achieved 80% of phase 1 (purchasing/scale) of the modular process, around 30% of phase 2 (commonality) but are only just beginning to experiment with phase 3 (full modularity). Figure 216: Further savings potential from greater commonality and modularity
Phase 1: Purchasing/ Scale
Phase 2: Commonality
Phase 3: Modularity
Background to the alliance

Renault and Nissan signed a partnership agreement 27 March 1999 in order to develop potential synergies from combining the strength of the two companies, whilst at the same time protecting each companys autonomy and separate brand identity. A further step was taken 28 March 2002 when Renault-Nissan b.v. (RNBV), a joint company incorporated under Dutch law and equally owned by Renault SA and Nissan Motor Co. Ltd, was formed. RNBV is responsible for the strategic management of the alliance. Figure 217: RNO-Nissan alliance structure
44.3%
RENAULT Dacia 99.43% Renault Samsung Motors 80.1% AB Volvo 20.74% AvtoVAZ 25%
50%
50%
NISSAN
RENAULT-NISSAN b.v. Dedicated Alliance team 100% Joint companies RNPO (Renault-Nissan Purchasing Organization) RNIS (Renault-Nissan Information Services)
15%(1)
Note: (1) No voting rights Source: Company data
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134
Why has it taken so long?

Despite the promise of significant synergies since the inception of the alliance 10 years ago, investors believe it has taken too long for management to generate discernable benefits from RNBV. Cultural differences between the two companies, we believe, have slowed the process, but also lack of driving force from management while auto markets were supportive. However, the harsh realities of a global recession, we believe, have finally forced management to act. On 29 May 2009 the group presented a detailed strategy for potential alliance synergies in 2009, targeting 1.5bn of combined savings, 678m for RNO. The strategy focuses on eight key areas for development, including purchasing, powertrain & vehicle engineering and manufacturing.
Why we believe significant savings will be achieved in 2009 and beyond

We believe that the alliance has now become one of the key areas of focus for Renault (along with cash generation) and that they are no longer talking about theoretical savings but are now taking definitive action to generate those savings.
12-strong alliance committee reinforces groups dedication to realizing full potential of alliance - more focus on phases 2 & 3 of the modular process (commonality and modularity)
There is now an alliance team specifically in place to oversee the performance of the alliance, with 12 people dedicated to the generation of future synergies and divided between nine key areas: purchasing (RNPO); zero-emission business; global logistics; IT; powertrain; common platform & parts; support functions; research and advance technologies and global sourcing. Management of the separate functions within Nissan and RNO will now have to report into this alliance committee who we believe are currently in the process of setting future alliance targets. We expect to hear more definitive targets for 2010 and beyond in 1H10E.
Figure 218: 1.5bn of RNO-Nissan synergies targeted for FY09

LCV, 102 Research & engineering 115 Sales & Marketing 147 Purchasing 157 Vehicle engineering 279
Figure 219: RNO Group targets 678m of these synergies
IT & Support, 48 Manf'g and logistics 363
Research & engineering 70 Sales & Marketing 63
LCV 41
IT & Support 12
Manf'g and logistics 179
Powertrains 289
Purchasing 105 Vehicle engineering 74

Powertrains 134
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Figure 220: Barclays Capital estimated Industrial EBIT walkdown showing expected alliance savings FY09E (mn)
60 130 -288 100 -1,475 -1,263 70 -80 180 -100 140
Manufacturing & logistics
Purchasing
Production stoppage
Commonality of powertrains
Other Alliance Savings
Industrial EBIT 2008E
Commonality of product
RNO standalone headwinds
Aid to suppliers
R&D, SG&A
1. Common purchasing well utilised by alliance but still further savings to realise
100% shared purchasing via RNPO in 2H09 provides 100m of likely savings
Common purchasing has been an area targeted by RNBV since its inception. However, the original scope of the Renault-Nissan Purchasing Organisation (RNPO) back in 2002 was only for 30% joint purchasing. The ease with which additional economies of scale could be achieved by increasing the groups purchasing commonality was further realised in 2008 when RNPO expanded its scope to cover 90% of alliance purchasing turnover. In 2009 this increased yet further such that by year end RNPO will cover 100% of purchasing. We expect scale economies from this area to provide 100m of savings for RNO in 2009 but since we believe that this is an area where 80% of synergy savings have been achieved already, we expect savings to reduce to just 50mn per annum going forward. 2. Savings from manufacturing & logistics to accelerate Like management, we expect to see the greatest achievement in the field of manufacturing and logistics as the company begins to further realise its potential for sharing facilities (or phase 2 of the alliance process). By the end of 2009 the alliance will cross-manufacture a total of 13 vehicles, including four new vehicles in 2009. For instance, Renault plants currently produce Nissan vehicles in Korea (Almera) and Brazil (Livina), whereas Nissan assembles Renault vehicles in South Africa (Sandero), Mexico (Clio) and Spain (Trafic). On a gross level, we expect the company to fully achieve its 179m target in this area in FY09 but that these savings will be entirely matched by additional costs of production shutdowns in the year. However, we expect these savings to accelerate in the mid-term as new models come online and provide further opportunities for cross-manufacturing. By 2012E we forecast 150mn of annual savings from this source. 3. Greater scope for commonality of models
Production shutdown costs in 2009 fully compensated by alliance manufacturing and logistic savings of 179m in 2009
Only 70% of alliance production is on common platforms and currently only 35% commonality of components even on a common platform
Currently common platforms account for 70% of the alliances production volume but the percentage of shared components across models on a shared platform is still very low. For instance, the B platform the groups largest comprising models such as the Renault Clio, Modus; Nissan Versa, Micra; and Dacia Logan and making up 34% of the total group global production was the first where management saw the opportunity for commonality. At Renaults investor day back in September 2004 management presented the benefits for the
136
8 December 2009
Industrial EBIT 2009E
new Modus model of sharing components with both the Micra and Clio. Total commonality at that point was 50% across the Clio/Modus range and 30% across the Micra/Modus. However, five years on, we believe commonality is still only around 35% in total across all models on the B platform. Figure 221: Commonality only c35% across all models on RNO-Nissans biggest platform
RNO-Nissan B platform Commonality (%) As reported by RNO Sep 04 Clio/Modus Micra/Modus FY09E Barclays estimates Across all B platform models*
Upperbody parts Platform parts Powertrain Total
25% 80% 100% 50%
5% 60% 100% (diesel)/ 0% (petrol) 30%
10% 50% 70% 35%
Source: Company data and Barclays Capital
On the C platform - Mgane/Scnic/Qashquai/Sentra etc - (38% of total group production in Europe but only 22% globally) we believe there is even less commonality at present, thus greater scope for future savings. Even more urgently, the D segment where RNO currently makes a double-digit operating loss, following the lack of payback from significant Laguna investments, remains a key area where further synergies must be achieved, as we believe there is currently very little commonality across vehicles in this segment. The new SM5 in Korea in 2010E should help provide shared capacity on this underutilised platform. In the field of shared engineering of models across platforms, we expect the new Mgane and Scnic models to have improved the commonality ratios on the C platform and that RNO will thus benefit from 70mn of savings in FY09E. However, there is still a long way to go before full modularity can be achieved across all RNO-Nissan platforms. Although we believe this to be an area with the largest potential for long-term improvement, we also think that it will be the area in which savings will take the longest to achieve as the company must wait for the renewal of its full model portfolio before full modularity can be realised. We see scope for much greater platform commonality in 2010 and beyond, with new model launches in the D and LCV segments providing opportunity for further platformsharing (see discussion on model cadence below) but it will not be until 2012 (with new generation Clio) that these savings will really start to accelerate with the potential, we believe, for 400mn of YoY cost improvement. 4. Ongoing improvement on commonality of powertrains Co-operation on powertrain development and manufacture has been exploited by the alliance for some years now for instance back in 2002 the Nissan Almera was fitted with Renaults 1.5l diesel engine in Europe. Currently 50% of powertrain components are shared and with increased emphasis on CO2 saving technologies, further sharing of development costs and manufacturing across the partnership should be a significant benefit. We believe this area can contribute 200mn per annum in savings for RNO, though again these will be back-end loaded (for further detail see Figure 222).
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5. Many other areas for savings have been identified notably research into new technologies
In total we credit RNO with the full 680m of targeted alliance synergies in FY09, although on a net level many of these will be negated by company specific headwinds, such as volume, FX and price/mix.
Finally, we expect savings in R&D (particularly in the area of headcount in 2009) and SG&A, to accelerate in future years. With an increased emphasis on electric vehicles, the ability to share battery technology with Nissan (and its partner SAIC) should generate significant savings for the group, as will the streamlining of the two companies separate R&D departments into one division Figure 222: We expect synergy cost savings to be mainly back-end loaded with the full modular potential not realised until 2012E
RNO EBIT walkdown (mn) Prior year automotive clean EBIT (mn) Volume (variable costs) 2H09E (884) 2009E 2010E 2011E 2012E
(288) (1,263) 300 (300) 450 (70) 50 430 50 100 80 230 200 200 100 100 200
630
(203) 290 0 (300) (30) 0 40 50 225 100 375 250 250 100 100 200
825
582 230 0 0 0 0 230 30 250 150 430 400 400 120 130 250
1,080
(122) (1,100) 176 35 (120) 140 0 (350) (275) 250
Raw materials Price/mix Currency Warranty

Renault standalone tailwind/(headwind) RNBV alliance savings:
110 (1,475) 100 130 70 (80)

130
Purchasing Commonality of powertrains Commonality of product Aid to suppliers

Total purchasing/commonality savings
220 180 (100) 80 140 60 200

680
Gross manufacturing & logistics Production stoppage costs

Manufacturing & logistics 96
R&D, SG&A Other alliance savings

Total other alliance savings 144
Total gross alliance savings*

YoY change in automotive EBIT
370
489
(975)
1,060
785
1,310
Current year automotive clean EBIT (mn) Industrial EBIT margin (%)
(395) (1,263) -2.6
(203) -0.7%
582 1.8%
1,892 5.5%
-4.2%
Source: Company data, Barclays Capital * ex-aid to suppliers and costs of production stoppage
Whilst the 680mn of savings we forecast for 2009E we expect to have been the easy savings or more short-term cost cutting associated with a crisis year. We therefore expect a slight slowdown in savings in 2010E as we are looking for more considered, longer-term alliance benefits to start to materialize but really expect these to be much more back-end loaded and to fully ramp up from 2012E onwards. In 2010E we therefore forecast a further 630mn of alliance savings at Renault as per the breakdown provided above. We believe company management will provide the investment community with a schedule of its own targets in early 2010 along similar lines to those estimated above and showing that savings will accelerate gradually until 2012E when the full modular potential can truly begin to be realised.
8 December 2009 138
RNO Automotive to remain loss-making in 2010E but consensus too pessimistic

Our argument for buying into the RNO share lies not, therefore, in where we see the companys results in FY09E or even in 2010E (we forecast a -203mn Automotive clean EBIT loss in 2010E, 206mn positive EBIT at the group level), but the potential that we see the company unlocking in the longer term. We believe that the market is underestimating the potential of these savings because it has been disappointed in the past by failure to produce synergies. However, we believe that commonality is finally a theme high on the agenda for all management meetings and that investors will start to hear more in coming months about the tangible benefits, and how exactly the group plans to realise those benefits. Indeed, we expect the Geneva Motor show to be a good forum for presenting a new alliance strategy (along similar lines to Fiats 4 November Chrysler synergy presentation), which is likely to focus on both improved commonality of platform production across all models but also potential R&D savings from greater pooling of resources. With firm targets and step-by-step detail on achievability of those targets, we expect the market to gradually give the company more credit for these savings thus providing momentum to the share. For 2010E we expect alliance savings to combine with a ramp up in manufacturing savings, as production recovers on the back of RNOs strong model mix (with the youthful Mgane likely to capitalise on our theory that the C segment will be the fastest growing segment in Europe in 2010E). The Mgane should also herald the beginning of the modular approach which will eventually be rolled out on all future models. Figure 223: Despite caution on top line, our EPS estimates remain above consensus
RNO Group 2010E Barclays Consensus Variance (%)
Revenue (mn) EBIT (mn) EPS ()
32,661 206 0.53
33,152 183 0.51
-1.5 12.6 3.9
Despite remaining below consensus on the overall demand equation in 2010E and also factoring in expected raw material increases of 150/vehicle, further FX headwinds and weaker overall pricing, our projected gross cost savings and the impact of an improving C segment mix, take us to an above consensus EBIT and EPS forecast for 2010E. We use consensus estimates for Nissan and Volvo associate contribution since both companies are currently non-rated. Although there have been recent minor upgrades to market assumptions for RNOs earnings and to analyst recommendations, we still believe the market is drastically underestimating the companys longer-term earnings potential based on the new concerted effort to achieve full alliance synergies.
8 December 2009
139
Geographical scope to enable further earnings expansion

We prefer to highlight RNOs alliance synergy potential rather than the more popular bull argument for buying into RNOs superior geographical reach, via its association with Nissan, which we believe is well understood and already priced into the share. With Nissan historically contributing >60% of Renault group EPS, of course Nissan earnings growth will drop down to the RNO bottom line. We therefore agree that Nissans 7% US market share, such that every 1m addition to the US SAAR would bring 1.83 to RNO EPS, helps our bull case, especially since we are forecasting a recovery of 1.6m units in the US market in 2010E to reach a 12m SAAR. Since we use consensus earnings numbers for Nissan to calculate the associate income contribution from the Asian OEM and believe that consensus is currently 0.5-1mn units behind our own US SAAR assumption, this could therefore provide some further upside potential for RNO. However, we prefer not to base our bull case purely on this well-discussed theme, especially since the Nissan share is publicly traded and can therefore be invested in directly. Figure 224: Every additional 1m units in US market, would boost RNO EPS by almost 2
Renault sensitivity to US
US SAAR change (m) Nissan market share in US Nissan incremental units sold (units) Average price per Nissan unit (EUR) Est. incremental contribution per unit (EUR) Tax rate Multiple to incremental earnings Renault ownership in Nissan Value to Renault (mn) Value per Renault share () Extra value as % of Renault current price
1.0 7.0% 70,000 13,400 5,000 35% 5.0 44% 504 1.83
5.4%
Likewise, although we agree the attraction of Nissans exposure to the Chinese market (20% of global Nissan sales) and the combined RNO-Nissan groups geographical breadth (though E European and Russian markets have yet to show signs of recovering into 2010E), we again believe that this theme is already well understood by the market. Figure 225: Analyst earnings assumptions overly cautious
20.00 15.00 10.00 5.00 0.00 -5.00 -10.00 -15.00
Figure 226: Market ratings too cautious for RNO

5.0 4.5 4.0 3.5 3.0 2.5 2.0 1.5
Aug-08 Dec-07 Apr-08 Jun-08 Oct-08 Feb-08 Sell
Nov-07
Nov-08
May-08
May-09
Mar-08
Mar-09
Nov-09
Sep-08
Sep-09
Jan-08
Jan-09
Jul-08
Jul-09
Aug-09
Dec-08
Renault FY09E EPS Renault FY11E EPS

Source: Datastream
Renault FY10E EPS RNO Cons Recommendation

Source: Datastream
8 December 2009
Dec-09
Apr-09
Jun-09
Feb-09
Oct-09
1.0
Buy
140
Youthful product cadence to boost 2010E mix

With the benefit of alliance scale, the combined RNO-Nissan global market share stands at 9%, making the partnership the third-largest group in the world in terms of sales. Although 2009 was a peak year for RNOs model cadence, scrappage benefits boosted A&B share at the detriment of the C segment and so the benefits of improved mix from the full Mgane roll out were not felt as strongly as in a more normal year. Although 2010E will be a tough market for small-car market skewed manufacturers as the overhang from scrappage phase out will take its toll on the European market (we forecast A&B segments combined market share to fall 400bp in 2010) , RNOs strong presence in a segment C set to grow, we believe, 200bp YoY should help boost mix. Figure 227: RNOs Mgane to provide mix boost from C-segment growth in 2010E
Market Share (%) 2008 2009 2010 2011 2012
A Basic B Small
Memo: A + B
10.5 29.5 40.0 31.4 8.0 39.5 79.4
13.7 33.1 46.8 29.6 7.0 36.6 83.4
11.4 31.4 42.8 32.6 6.7 39.3 82.1
11.5 32.8 44.3 31.8 6.2 38.1 82.4
12.0 32.8 44.8 31.0 6.1 37.1 81.9
C - Lower Medium D - Upper Medium

Memo: C + D Memo: A - D
Dacias Logan range has been an unmitigated success for the company. The new Logan SUV is due to be launched in 2Q10E and should further bulk out the mix of this profitable brand. Likewise, new LCV products (Master in 10E, followed by Trafic in 2011E), which traditionally make mid-single digit margins for the group, should also aid core profitability. Figure 228: RNO forecast new model introduction schedule, 2009-2012E
2009E 2010E 2011E 2012E
Renault Scnic, Fluence Dacia Samsung (RSM) SM3
Alpine, Mgane CC, Master, Safrane, Laguna (f/l) Logan SUV SM5
Mgane SUV, Trafic (ng)
Clio (ng), Electric City Car, Espace Logan (ng)
SM7
Source: JD Power, trade press, company data and BC estimates; f/l facelift; ng new generation
Figure 229: RNO-Nissan group have the best emerging-market after VW

Market Share Group Brazil China India Russia Total BRIC Brazil China Rank India Russia
Porsche-VW Group Renault-Nissan Group Fiat Group PSA Group BMW Group Daimler Group
20.6% 5.8% 24.9% 6.1% 0.1% 0.4%
11.0% 3.8% 0.5% 2.3% 0.6% 0.4%
1.4% 2.0% 0.4% 0.0% 0.1% 0.2%
4.5% 28.9% 2.6% 2.8% 0.7% 0.6%
10.6% 8.0% 5.1% 2.8% 0.5% 0.4%
2 6 1 5 15 12
1 11 24 15 23 25
9 8 11 15 14
7 1 11 10 17 22
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141
Below average capacity utilisation leaves significant scope for upside

Our analysis of capacity utilisation in the volume sector shows that RNO has one of the lowest levels in the market leaving significant room for improvement. Government involvement in the French auto industry has tied RNOs hands to some degree when it comes to improving its utilisation ratios, although the company appears to have found ways to gradually phase out full assembly roles at Sandouville, Flins and Valladolid, which we expect to ease the cost structure. Also, importantly, we see significant potential for streamlining of products across brands for instance the SM5 in Korea should hopefully ease the burden on the D platform and Nissan/RNO production in Togliatti, Russia should help Avtovaz achieve a lower breakeven point. Yet more potential benefits to reap from the conglomerate structure. Figure 230: RNO production & cap utilisation vs average for volume market, 2008A-15E
Millions 1.6 1.4 1.2 1.0 0.8 0.6 0.4 0.2 0.0 2008 2009E 2010E 2011E 2012E 2013E 2014E 2015E 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%
RNO Production (LHS)

RNO capacity utilisation % (RHS)
Focus on electric
Many investors worry that Renaults focus on electric vehicle development is a risk to the share given the significant financial outlay necessary. However, whilst we do not necessarily credit RNOs target of 10% market share for electric vehicles by 2020, we agree with the companys premise that the only way to make electric vehicles cost efficient is to roll them out en masse (a similar strategy to BMWs use of Efficient Dynamics across all models). We also believe that the US$6bn (4bn) that the group has announced it will need to spend in the field of EVs will be spread thinly over a long timeframe. In fact the company still targets -20% cut to cash R&D spend in 2009E, despite its emphasis on EV development, and does not merely see this cut as a gut reaction to the current crisis but believes that spending can be maintained at this low level (mainly as a result of sharing resources across the entire alliance, rather than depending on separate R&D functions at RNO and Nissan). RNBV is well placed to capitalise on its scale and its in-house battery development with NEC in order to share the costs of its EV investment. Indeed, we believe that the 4bn to be spent on EV development will be spread over 10 years and shared between both companies, such that RNOs annual R&D spend will only increase by 150mn per annum (8% of current R&D costs). Moreover, the 4bn is likely a gross expenditure; net expenditure is likely to be lower as government incentives (or low cost financing) will to aid the burden of developing electric vehicles. For example, Nissan will receive a US$1.6bn loan from the US Department of Energy to add flexibility to its Smyrna, Tennessee, manufacturing plant to produce zero8 December 2009 142
emissions vehicles and lithium-ion battery packs. The loan will help finance retooling the 26-year-old plant and build a new facility to manufacture batteries. When fully operational, the vehicle assembly plant will have the capacity to build 150,000 EVs a year and have an annual capacity of 200,000 batteries. The plant currently has a capacity of 550,000 vehicles but even before the downturn was only working at 73% capacity utilisation. The expansion into electric vehicles will likely boost utilisation rates for existing (non-electric) models at the plant - 2 cars and 3 trucks thus in reality using the government money to aid core operations as well as new technology investments.
Cost savings and disposals should aid longer-term debt reduction

High debt levels and lack of significant cash generation have weighed on the RNO share in recent years. We agree that this is not a share for leverage-averse investors in the short term but we believe that the market is underestimating the companys potential to materially improve its cash position. Company meetings and recent results presentations reinforce the notion that management are now firmly focused on the need for positive cash generation, with positive FCF in 2009E being a firm target. Of course, there will be a major ramp up in production levels in Q409E which will aid that goal but we think continued tight inventory management will also enable further cash benefits in 2010E. However, with Industrial net debt levels currently at 7.2bn (8.3bn after pension) leaving gearing at 51%, RNO will struggle to strengthen its balance sheet and return to investment grade debt ratings via operational cash flow alone. Figure 231: RNO debt levels peaked in 2008 reduction of debt remains key focus of mgt
8000 7000 6000 5000 4000 3000 2000 1000 0 2000 2002 2004 2006 2008 2010E 2012E 2014E -3000 -4000 0 -1000 -2000 2000 1000
Industrial Net Cash (Debt)

Industrial FCF
The company has lined up 700-1bn of assets which it aims to sell in 2010E. The positive FCF target for 2009E was initially set presuming 300-500m of these asset liquidations would occur in FY09, or in other words presuming that the operational cash flow of the business would be a negative 500mn. The fact that the company can still target positive FCF even without the aid of these sales, has been helped by scrappage-induced sales and also the companys strong order book going into Q409. However, we feel that the market is not giving enough credit to RNO for its ability to generate strong working capital inflows as production increases. Despite a change in payable terms in FY09, RNO is likely to generate 2.3bn of inflows from WC in 2009E, after 1bn cut to inventory. The company argues that this new lower inventory level (c150,000 units at dealers and 160,000-170,000 on the group balance sheet) can be maintained going forward, helping to generate, we believe, positive Industrial FCF in 2010E also.
8 December 2009 143
Dividend income no longer provides FCF boost

Dividends from associates have traditionally brought in c600m per annum to RNOs cash flow but have become a much smaller income stream in 2009 and are likely to disappear entirely from 2010E cash flow (although leaving room for further upside surprises if Nissan were to declare a dividend in 2009). Whilst we expect the Nissan dividend to return in 2011 we do not see dividend income returning to pre-crisis levels in the mid-term.
Volvo disposal likely in short term

We believe a disposal of part or all of Renaults 21.8% stake in Volvo will be the preferred option within the next 12 months
RNO is the largest shareholder in Volvo with a 21.8% stake. Though management will not confirm the possibility, many press articles have highlighted the likelihood of Renault considering the dispose of this non-strategic stake. Management have repeatedly emphasised the need to significantly reduce the companys current debt burden, and so we believe that a disposal within the next 12 months would be a preferred option, were a buyer to be found. We estimate that a potential disposal could generate 3bn of cash at current market levels. Of course RNO would look to maximise the return on its Volvo investment, therefore we expect that it will bide its time for a good exit window. Unsurprisingly there has already been considerable speculation in the press and investment community surrounding this non-core, liquid asset, but as we have seen in the past with M&A activity of this scale, no matter how well anticipated, when the action happens, the market can still react positively. If RNO were to dispose of its Volvo stake next year, we anticipate that it would provide a positive catalyst for the RNO stock and aid the groups longer-term debt reduction.
Avtovaz a short-term drag but long-term opportunity

We do not view it as likely that Renault will input any further cash into Avtovaz
We expect negative headlines relating to Renaults investment in Avtovaz to continue for the next few months. However, we do not view it as likely that Renault will input any more cash into the Russian manufacturer. Rather we expect RNO to provide expertise and scale, so that when the Russian market finally starts to recover, the company will be well positioned to capitalise on the recovery. With 25% market share in the Russian market, Avtovaz has been hard hit as the market crashed down from close to 3m vehicles in 2008 to <1.5mn in 2009E and was not prepared for the necessary cuts to production caused by a 400,000 drop in unit sales. However, with new management in place and a plan to reduce the breakeven point to 400,000 vehicles, as well as the ability for Renault and Nissan to leverage off Avtovazs existing platform, we see huge potential for upside from this stake. In the very near term we advise buying into any dips in the Renault share on the back of negative news flow, as political pressure may try to force RNO to inject further funds to the manufacturer. We think RNO will stand firm and provide strategic and operational expertise but no further cash outlay.
Rating
We are initiating coverage of RNO with a 1-Overweight rating, believing that the market is not currently crediting the share with sufficient potential for significant Alliance synergies in 2010E and beyond. Whilst we believe that the companys exposure to high growth markets in 2010E via its Nissan stake is a well understood theme, and we also remain cautious on the companys current debt structure, we believe that once the company properly discloses its new Alliance targets to the market, the resultant broker upgrades will provide 18% upside to the current share price.
Valuation Methodology
We value the RNO share using a SotP methodology which we confirm against historical and peer average EV/EBITDA multiples to reach our 42 price target:
8 December 2009 144
SotP
Using a sum-of-the-parts valuation we arrive at a 42 price target for Renault, or 18% upside potential to its current market price. We base our calculation on a blended average of peer Industrial EV/sales and Industrial EV/EBITDA multiples for the core Autos business and bring in associates at market value. However, we also apply a 10% discount to the NAV in line with the average discount that the market has historically applied. Figure 232: Renault is currently trading at a 20% discount to its SotP, versus a historical average of 10%
80% 60% 40% 20% 0% -20% -40% Jan-06 Cheap Jul-06 Jan-07 Jul-07 Discount to SotP
Source: Datastream, Company data, Barclays Capital
Expensive
Jan-08
Jul-08
Jan-09
Jul-09
Historical avg discount
8 December 2009
145
Figure 233: RNO Our SotP assumption leads us to a 1-Overweight rating and 42 price target
NAV, RNO Renault Auto @ PSA multiple Renault Auto @ PSA multiple Renault Auto Average Renault FS (0.8x equity) Renault Core Nissan stake at Market Volvo stake at market Avtovaz stake at market Group EV Net debt Pension Underfunding Minorities Options exercise (Treas. Sh.s) SOTP (base assumption) TP applying Holding discount Current share price
mn 4,963 7,782 6,373 1,528 7,901 10,635 2,861 23 21,420 (7,293) (1,046) (517) 234 12,798 11,518
per share 18 28 23 6 29 39 10 0.1 78 -26 -4 -2 1 46 42 35.59
Remarks 15% 2011E EV/sales (in line with Peugeot) 2x 2011E EV/EBITDA (in line with Peugeot)
0.8x book value 44.3% of Nissan share price of JPY605; EUR-JPY of 130 20.9% of Volvo share price of B: SKr66.6; SKr 65.5 A shares, EUR-SEK at 10.5 25% stake at market value
FY10E BS date FY10E BS date FY10E BS date FY10E BS date
10% discount
EV/EBITDA
We also cross-check our SotP calculation against peer and historical average multiples. Historically RNO has traded at an 8-year average of 6x unadjusted (ie, pre-associate stake) EV/EBITDA (vs 2.4x at PSA and 3.4x for the sector as a whole). Looking out to 2011E, when we expect autos markets to have normalised to a greater degree, our above consensus EBITDA estimates put RNO at only 4.5x at current share price. We believe that the company should trade closer to its historical level of 6x, which would imply a value of 43/share. Figure 234: Renault Group historical EV/EBITDA implies the share is currently undervalued
12.0x 10.0x 8.0x 6.0x 4.0x 2.0x 0.0x 2000
2002
2004
2006
2008
2010E
2012E
2014E
Historical average
Source: Company Data and Barclays Capital
UNADJUSTED EV/EBITDA
We give a greater weight to our SotP valuation, thus on a weighted average combination of both these valuation metrics we derive a 42 price target for the share.
8 December 2009 146
Figure 235: RNO key valuation metrics

2006 Valuation Multiples at Current Price 2007 2008 2009E 2010E 2011E 2012E
EV/sales EV/Clean EBITDA Unadjusted EV/EBITDA (pre-Associates) EV/Clean EBIT P/E FCF Yield Price/Sales Price/Book Dividend yield
Valuation Multiples at 42 Price target
10% 1.2x 8.7x 8.2x 7.7x -0.1% 62% 1.1x 3.6% 10% 1.2x 8.7x 8.2x 7.7x -0.1% 62% 1.1x 3.6%
13% 1.3x 8.6x 5.6x 9.7x 3.9% 72% 1.2x 3.8% 13% 1.3x 8.6x 5.6x 9.7x 3.9% 72% 1.2x 3.8%
11% 1.5x 10.2x (13.5) 24.1x -21.7% 42% 0.7x 0.0% 11% 1.5x 10.2x (13.5) 24.1x -21.7% 42% 0.7x 0.0%
11% 1.7x 11.5x (2.7x) (3.4x) 7.9% 32% 0.6x 0.0% 19% 2.8x 12.9x (4.6x) (4.2x) 1750.0% 39% 0.7x 0.0%
11% 1.2x 6.7x (17.4x) 65.3x -1.1% 31% 0.6x 0.0% 19% 2.0x 7.6x (28.7x) 81.0x NA 39% 0.8x 0.0%
13% 1.1x 5.0x 7.3x 7.3x -6.2% 29% 0.6x 1.4% 20% 1.7x 5.6x 11.2x 9.0x NA 36% 0.7x 1.2%
10% 0.6x 3.4x 1.8x 3.3x 13.1% 28% 0.5x 4.6% 16% 1.1x 3.8x 3.0x 4.0x NA 35% 0.6x 3.7%
EV/sales EV/Clean EBITDA EV/Reported EBITDA EV/Clean EBIT P/E FCF Yield Price/Sales Price/Book Dividend yield

Downside risks to our price target are as follows: Risks to our cost commonality assumptions, ie, under-delivery on expected alliance savings Current high gearing levels add risk to share With more than 60% of earnings generated by Nissan (>70% by total associate contribution) any significant downturn in either Nissan or Volvos earnings stream would have a major knock-on affect on Renaults own bottom line.
Credit perspective
Barclays Capital credit analysts, Rob Perry and Darren Hook, rate Renault Market Weight. They believe that Renault's credit metrics will materially improve in 2010 and it can avoid significant cash burn through next year, despite the planned phasing out of European incentives. They subsequently believe that Renault should be able to justify the ratings agencies' stable outlook.
8 December 2009
147
Figure 236: RNO Group income statement, 2006A-2012E

December year-end (mn) Revenues 2006 40,332 2007 40,682 2008 37,791 2009E 32,020 2010E 32,661 2011E 34,959 2012E 36,292
Cost of sales
Gross profit Memo: Gross Margin (% of sales)
(31,343)
8,989 22.3%
(31,408)
9,274 22.8%
(29,659)
8,132 21.5%
(25,776)
6,244 19.5%
(25,476)
7,185 22.0%
(26,918)
8,041 23.0%
(27,582)
8,710 24.0%
Cost of sales financing Research and development Selling, general and administrative expenses
Clean EBIT (Operating margin) Memo: Operating margin, % Memo: Clean EBITDA
(985) (1,963) (4,978)

1,063 2.6% 3,898
(1,121) (1,850) (4,949)

1,354 3.3% 4,219
(1,292) (1,858) (4,770)

212 0.6% 3,155
(1,057) (1,814) (4,236)

(863) -2.7% 2,463
(1,045) (1,850) (4,084)

206 0.6% 3,289
(1,119) (1,985) (3,956)

981 2.8% 4,290
(1,161) (2,063) (3,186)

2,299 6.3% 5,738
Other operating income and (expenses)

Reported Operating income Memo: Operating income, %
(186)
877
(116)
1,238
(329)
(117)
(400)
(1,263)
(150)
56
(150)
831
0
2,299
2.2% 61
2,277
3.0% 76
1,675
-0.3% 441
437
-3.9% (300)
(1,050)
0.2% (200)
310
2.4% (200)
800
6.3% 0
1,100
Financial income/(expense)
Share in associate net income
...Share in NI (loss) of Nissan Motor ...Share in NI (loss) of AB Volvo ...Share in NI (loss) of Avtovaz & other assocs
Pre-tax income
1,888 384 5
3,215
1,288 352 35
2,989
345 226 (134)

761
(400) (300) (350)

(2,613)
400 60 (150)
166
600 200 0
1,431
800 300 0
3,399
Current and deferred taxes Memo: Tax rate

Group Net Income
(255) 27%
2,960
(255) 19%
2,734
(162) 50%
599
0 0%
(2,613)
0 0%
166
(177) 28%
1,254
(644) 28%
2,756
Minority interest share of NI

Net income, Renault share
74
2,886
65
2,669
28
571
30
(2,643)
30
136
30
1,224
30
2,726
NoShares (average)
Reported EPS (average shares, pre dilution) DPS (Euros) Segmental Revenue: Automotive
256,994
11.23 3.10
258,621
10.32 3.80
256,552
2.23 0.00
256,628
(10.30) 0.00
256,628
0.53 0.00
256,628
4.77 0.50
256,628
10.62 1.60
38,409
38,679
35,757
30,230
30,831
33,089
34,382
Financial Services
Group Revenues Automotive revenue growth
1,923
40,332 -2.7%
2,003
40,682 0.7%
2,034
37,791 -7.6%
1,790
32,020 -15.5%
1,830
32,661 2.0%
1,870
34,959 7.3%
1,910
36,292 3.9%
FS revenue growth
Group revenue growth Segmental EBIT: Automotive EBIT
2.3%
-2.4%
4.2%
0.9%
1.5%
-7.1%
-12.0%
-15.3%
2.2%
2.0%
2.2%
7.0%
2.1%
3.8%
486
858
(288)
(1,263)
(203)
582
1,892
Financial Services EBIT

Group EBIT Segmental EBIT Margin %: Automotive EBIT %
492
1,063
472
1,354
487
212
400
(863)
409
206
399
981
407
2,299
1.3%
2.2%
-0.8%
-4.2%
-0.7%
1.8%
5.5%
Financial Services EBIT %

Group EBIT %
25.6%
2.6%
23.6%
3.3%
23.9%
0.6%
22.4%
-2.7%
22.4%
0.6%
21.3%
2.8%
21.3%
6.3%
8 December 2009
148
Figure 237: Renault Industrial and group balance sheet, 2006A-2012E

Property, plant and equipment & intangibles Investments in associates Investments in non-consolidated Co's Other non-current financial assets Deferred tax assets
Total Industrial non-current assets
16,263 12,943 2,401 527 588

32,722
16,788 12,956 2,423 585 603

33,355
16,862 13,745 2,186 964 523

34,280
16,326 13,745 2,186 964 523

33,744
15,621 14,045 2,186 964 523

33,339
15,803 14,345 2,186 964 523

33,821
15,918 14,645 2,186 964 523

34,236
Inventories Automobile receivables Other current financial assets Other current assets Cash and cash equivalent
Total Industrial current assets Total Industrial assets
5,301 2,210 1,678 1,633 4,963

15,785 48,507
5,927 2,177 1,184 1,839 3,697

14,824 48,179
5,261 1,846 1,167 2,106 1,141

11,521 45,801
4,307 1,574 1,167 2,106 4,189

13,342 47,086
4,392 1,605 1,167 2,106 4,087

13,357 46,696
4,623 1,632 1,167 2,106 3,369

12,897 46,718
4,804 1,696 1,167 2,106 4,212

13,985 48,221
Total Finance Co Assets

TOTAL GROUP ASSETS
25,573
68,851
25,645
68,198
23,053
63,831
20,305
62,391
20,751
62,448
21,198
62,916
21,644
64,865
Total Industrial non-current liabilities Total Industrial current liabilities Total Industrial liabilities
7,306 20,201 27,507
7,182 19,010 26,192
7,338 19,147 26,485
10,338 19,330 29,668
10,338 19,605 29,943
10,338 19,611 29,949
10,338 19,775 30,113
Total Finance Co Liabilities Group Shareholder's equity Minority Interests

Group Shareholders' Funds TOTAL GROUP LIABILITIES & S'HLDRS EQUITY
23,207 20,588 483

23,366 68,851
23,260 21,577 492

24,372 68,198
20,895 18,959 457

21,474 63,831
18,445 15,846 487

16,333 62,391
20,751 15,813 517

16,330 62,448
21,198 16,739 547

17,286 62,916
21,644 19,084 577

19,661 64,865
Balance Sheet analysis & drivers Industrial Net Cash (Debt) (2,414) (2,088) (7,944) (7,191) (7,293) (8,011) (7,168)
Pension 'Debt'
Industrial net debt incl pension debt
(1,144)
(3,558)
(1,192)
(3,280)
(1,046)
(8,990)
(1,046)
(8,237)
(1,046)
(8,339)
(1,046)
(9,057)
(1,046)
(8,214)
Net Industrial debt/EBITDA Gearing

0.7 -17.3%
0.6 -15.2%
3.0 -47.4%
3.5 -52.0%
2.5 -45.5%
2.1 -54.1%
1.3 -43.0%
8 December 2009
149
Figure 238: Renault Industrial and Group cash flow, 2006A-2012E

Industrial net income Industrial depreciation and amortisation Industrial share in net income of associates Dividends received from associates Other unrealised income & expenses
Gross cash flow
2,603 2,835 (2,272) 602 (487)

3,281
2,654 2,865 (1,668) 936 (185)

4,602
556 2,943 (431) 688 (644)

3,112
(2,768) 3,325 1,050 150 (500)

1,258
(393) 3,083 (310) 0 (200)

2,180
707 3,309 (800) 170 (200)

3,186
2,154 3,438 (1,100) 430 0

4,922
Decrease/ (increase) in inventories Decrease/ (increase) in auto receivables (Decrease)/ increase in trade payables Change in other Industrial WC
Decrease/ (increase) in Industrial working capital Industrial operating cash flow
656 51 (522) 96
281 3,562
(862) (171) 1,008 (1)

(26) 4,576
584 283 (2,676) (895)

(2,704) 408
954 272 888 200

2,314 3,572
(86) (31) 275 0

158 2,338
(231) (27) 7 0
(251) 2,934
(181) (64) 164 0

(81) 4,842
Operating cash from Sales Financing

TOTAL GROUP OPERATING cash flow
(916)
2,604
548
4,795
41
(192)
0
3,572
0
2,338
0
2,934
0
4,842
...Purchase of intangibles ...Purchase of PPE (net of disposals 2000-2003)

Industrial capex (pre-disposals post-2004)
(1,129) (3,340)
(4,469)
(1,347) (3,160)
(4,507)
(1,177) (3,043)
(4,220)
(880) (2,539)
(3,420)
(912) (2,528)
(3,440)
(943) (2,581)
(3,524)
(906) (2,682)
(3,588)
Disposals of PPE Acquisitions of investments, net of disposals Net decrease (increase) in other securities & loans
Industrial Cash Flow from Investing
884 23 421
(3,141)
942 41 652
(2,872)
835 (587) 97
(3,875)
600 0 0
(2,820)
1,000 0 0
(2,440)
0 0 0
(3,524)
0 0 0
(3,588)
Investing cash from Sales Financing

TOTAL GROUP INVESTING cash flow Dividends paid to parent company shareholders Dividends paid to minority shareholders Capital Increase and other Industrial cash flows with investors
74
(3,044)
(50)
(2,947)
(62)
(3,838)
0
(2,820)
0
(2,440)
0
(3,524)
0
(3,588)
(664) (22) (33)

(719)
(995) (22) 0
(1,017)
(1,049) (60) 0
(1,167)
0 0 0
0
0 0 0
0 0 0
(128) 0 0
(128) 0 (128)
(411) 0 0
(411) 0 (411)
Net change in financial assets & liabilities (Industrial)

Industrial cash flow from Financing
966
247
(1,765)
(2,782)
2,172
1,005
2,295
2,295
Sales & Financing cash flows from financing

TOTAL GROUP FINANCING cash flow Net change in Industrial cash NET CHANGE IN GROUP CASH Cash flow analysis & drivers
(14)
260 668 (180)
(248)
(2,941) (1,078) (1,093)
(236)
1,494 (2,462) (2,536)
(500)
1,795 3,048 2,548
(300)
(300) (102) (402)
(200)
(328) (718) (918)
(200)
(611) 843 643
Industrial gross FCF (before WCR)

Industrial FCF Industrial depn & amort / sales, % Industrial capex as % of sales
(304)
(23) 7.4% 8.7%
1,037
1,011 7.5% 8.2%
(273)
(2,977) 8.3% 8.6%
(1,562)
753 11.0% 8.4%
(260)
(102) 10.0% 8.2%
(339)
(590) 10.0% 7.8%
1,335
1,254 10.0% 7.8%
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150
Figure 239: RNO unit sales mix by brand YTD 09

Renault Samsung 5%
Figure 240: RNO revenue mix by division, 2000A-2012E

43,000 41,000 39,000 37,000 35,000 33,000 31,000 29,000 27,000 25,000 2000
Dacia 14%
Renault 81%
2002
2004
2006
2008
2010E
2012E
Automotive
Financial Services
Figure 241: RNO WE unit sales by model, YTD 09A
Figure 242: RNO EU sales mix 09e vs industry average (%)

50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% 0.35 0.3 0.25 0.2 0.15 0.1 0.05 EExecutive Pickup A - Basic C - Lower Medium Van G 0
Trafic Kangoo 5% 9% Espace 2% Laguna 6% Koleos 1%
Master Mascott Other 1% Twingo 5% 1% 9%
Clio 25%
Sandero 2% Megane 23%

Logan 6%
Modus 5%
Renault Group
Industry avg
Figure 243: RNO associate contribution to net income (mn)

4,000 3,000 2,000 1,000 0 (1,000) (2,000) (3,000) 2000 Nissan
Figure 244: RNO EBIT margin by division, 2004A-2015E

10% 8% 6% 4% 2% 0% -2% 2004
2006 Auto EBIT % FS EBIT %
2008
2010E
2012E
2014E
2002 Volvo
2004 Other
2006
2008
2010E
2012E
Motorcycle EBIT % Group EBIT %
RNO Core Contribution to NI
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VOLKSWAGEN SCALE TO WITHSTAND PRICE WARS

VOWG.DE / VOW GY VOWG_p.DE / VOW3 GY Stock Rating
1-OW prefs / 2-EW ords

Sector View
2-NEUTRAL
Price Target
85.00 prefs / 100.00 ords

Price (04-Dec-2009)
63.50 prefs / 80.39 ords

Potential Upside
34% prefs / 24% ords
We are initiating coverage of Volkswagen with a 1-Overweight rating for the pref shares and a 85 price target, and with a 2-Equal Weight and 100 price target for the ordinary shares. We believe that VW is the most advanced of the European auto makers in capturing economies of scale and is likely the world benchmark for modularity which should give it the cost position to withstand the intense price competition we expect in 2010. Moreover, we do not view the Porsche merger and attendant financial manoeuvring as posing significant downside risk to VW pref holders, as VW appears to have protected itself against an inordinate amount of net debt on Porsches balance sheet. We believe any potential overpayment for Porsche assets is only at most in the range of 6-7 per VW pref share small in light of the significant upside potential as VW returns to 4% EBIT margins by 2012 (which would be below our longer-term projections of 6-7% in 2014-15). We value the VW shares based on an average of EV/sales and EV/EBITDA metrics at historical and peer average multiples, which lead us to our 85 price target for prefs and 100 for ords (see the valuation section for further details). At the same time, we recognize that VW is seen as a consensus overweight yet has been a stock that has repeatedly punished the consensus trade. Given the erratic movements of Volkswagens shares, many investors are loath to enter into a position that could result in substantial losses. These investors should, in our view, consider options as an alternative to the shares, with the benefit that the maximum loss to a long call or put position is the premium paid.

Positives:
Global scale and scope, with leading position in Europe, Brazil and China Modular strategy to drive additional cost savings while enhancing product differentiation Continued dominance of German market provides buffer against weak post-scrappage pricing environment Porsche merger valuation mechanics not as impactful on pref value as market believes
Risks:
Continued selling pressure as Qatar liquidates remaining pref shares Rights issue in 2010 creates additional supply and selling pressure Clarity on Porsche merger pricing not likely until 2011 European pricing war undermines profit recovery and stalls margin recovery Figure 245: VW headline data and valuation multiples (at current share price), 2008-12E
(mn) 2008A 2009E 2010E 2011E 2012E
Sales EBIT EBIT margin (%) BC EPS Consensus EPS Industrial EV/sales (%) Industrial EV/EBITDA P/E ratio prefs
113808 6,333 5.6 11.94 11.94 47 4.8x 8.8x
103,316 2,024 2.0 1.62 2.51 70 8.6x 64.8x
102,908 2,339 2.3 3.96 3.52 14 2.2x 26.5x
110,631 4,256 3.8 7.40 6.54 16 2.4x 14.2x
116,204 5,276 4.5 9.34 6.61 13 2.1x 11.3x
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Scale drive can offset pricing pressures

While we are concerned about the potential for a pricing war to break out across Europe as scrappage incentives fade, we believe that VW has both the scale, and, importantly, the increased ability to exploit its scale through modularity to improve operating results even with increased price pressures. Moreover, VWs dominant market position in Germany, and in the C segment across Europe, may give it some ability to resist deep price cutting.
Global scale just the starting point

The scale arguments for VW are fairly well known. VWs dominant European and leading global scale provide the starting point for its strategy. Depending on the sales and production accounting -- whether, for example, to include various distantly-affiliated joint venture subsidiaries -- VW is either the largest or second-largest automaker in the world. VW has either surpassed, or narrowed significantly, the gap to Toyota, albeit due to the hit Toyota has taken in the US market relative to the buoyancy VW enjoyed from the German scrappage programmes. VW also has, strong emerging market positions, with top 2 ranking in Brazil (21% market share) and number 1 position in China with 11% market share, making it the number one global OEM in terms of total BRIC market share (having 10.6% share vs. GM, the next highest at 9% and RNO-Nissan at 8%). Figure 246: VW narrowing gap to Toyota in global sales (units in mn)
Fiat PSA Honda Hyundai General Motors Ford Renault-Nissan Volkswagen Toyota 2008
2.4 2.4 3.1 3.2 3.3
3.6 4.0 4.3 4.6 4.6 5.1 5.2 5.8
6.1 6.1 6.0 6.6 7.8
2009E
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Figure 247: VW ranks first and second by market share in the two largest BRIC countries
Market Share Group Porsche-VW Group Brazil 20.6% China 11.0% India 1.4% Russia 4.5% Total BRIC 10.6% Brazil 2 China 2 Rank India 10 Russia 8
Renault-Nissan Group Fiat Group PSA/Mitsubishi BMW Group Daimler Group GM (inc Opel) Ford Group Chrysler Group Toyota Group Honda Group
5.8% 24.9% 0.0% 0.1% 0.4% 19.9% 10.1% 0.4% 2.9% 4.0%
3.8% 0.5% 0.0% 0.6% 0.4% 5.7% 2.7% 0.2% 7.1% 5.1%
2.0% 0.4% 0.0% 0.1% 0.2% 2.5% 2.3% 0.0% 4.1% 3.4%
28.9% 2.6% 0.0% 0.7% 0.6% 12.9% 6.2% 0.2% 7.9% 1.9%
8.0% 5.1% 0.0% 0.5% 0.4% 9.0% 4.5% 0.2% 6.1% 4.2%
6 1 5 14 11 3 4 10 8 7
12 24 13 23 25 5 15 28 3 7
9 12 14 16 15 7 8
1 10 5 16 21 2 6 24
5 6
4 12
Figure 248: BRIC markets comprise 25% of VW group sales in 2009 and closing the gap on GM by 2012E
50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0%
41%
44%
30% 29% 25%
27% 20% 23% 18% 19% 17% 21% 17% 18% 8% 11% 6% 8% 5% 8%
RenaultNissan
GM
VW Group
Honda
Ford
Toyota
Fiat & Chrysler
PSA
BMW
Daimler Group
2009
2012
8 December 2009
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Figure 249: VW good geographical breadth, 2009E unit sales

Africa & Middle Germany East N Am 19% 1% 9% Lat Am 13% Rest of Asia 2% W EU (exGermany) 29% E Europe 9%
China 18%
VW sets benchmark for modularity through its building blocks approach

Scale is only the starting point for the VW strategy. While VW has had the leading scale in Europe for years, only recently did VW begin to drive greater benefits from its scale. Already, VW is generally acknowledged by competitors to be the furthest advanced in its thinking (along with Toyota) around modularity across platforms and geographies. VW's approach was developed by the current management team while at Audi, and centres around maximum commonality of components across vehicle platforms without compromising brand integrity and vehicle differentiation. The goals are to leverage internal engineering and research and development (ER&D), and simplify the manufacturing processes to allow for greater production flexibility within a plant and across geographies. Moreover, suppliers have similar scale savings, leveraging their engineering and tooling across larger production runs. VW first used the modular approach at Audi, where the MLB architecture (Modularer Lngsmotor-Baukasten, literally, Modular Longitudinal-Motor Building Blocks) was developed to communize all of Audis longitudinal (that is, rear-wheeled or all-wheel drive) platforms, from the A4 to the A8, as well as related CUVs (Q5 and Q7). VW now intends to move the bulk of its volume cars to the MQB architecture (Modularer Querbaukasten, literally, Modular Transverse Building Blocks). MQB will roll out first in 2011 with the new Audi A3. We would expect the MQB platform to include all of VWs volume (and some smaller premium) offerings in the B, C and D classes (e.g., VW's Fox, Polo, Golf, Jetta, Beetle, Touran, Eos and Passat; Audi's A3 and TT; Skoda's Fabia, Roomster, Octavia and Superb; and Seat's Ibiza, Cordoba, Leon, Altea and Toledo). Underneath the MQB and MLB are building blocks around four major component sets: powertrain, electrical/electronics, suspension and rest of vehicle. Within each are several sets of unique modules (some of which will likely cut across MQB and MLB) that vehicle designers can choose from. While the size of the parts will differ across vehicles, they must conform to a standard geometry, enabling quick design and manufacturing. For example, across all MQB models regardless of size, VW plans to have the same distance from the front wheel axis to the pedals, allowing VW to reduce engine mounting component variants from 18 to 2.
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VW already has top-three segment scale in B, C and D. While Nissan-Renault have the largest scale in the B segment, with over 2mn units in 2011, we believe they have little commonality across vehicles. VW, with 1.5mn units, is likely the leader when volume and commonality are considered together. Figure 250: Global production of major B segment platforms by OEM (000s units) 2011E
2,103 1,460 1,215 796 596 378 1,112 926 745
Fiat TYPE 169 (500)
Ford B2e (Fiesta)
GM Global Gamma (Aveo) Europe Asia
Honda GSP (Fit)
Hyundai PB PSA PF1 (207) (Accent)
RenaultNissan B (Versa)
Toyota NBC-2 VW (Yaris) PQ24/PQ25 (Polo)
Middle East/Africa
North America
South America
VW trails Hyundai only slightly in the C segment, with close to 2mn units in 2011. Figure 251: Global production of major C segment platforms by OEM (000s units) 2011E
1,946 1,352 1,426 1,132 1,372
1,788 1,369
1,814 1,301
Fiat TYPE 199 (Punto)
Ford C1 (Focus)
GM Global Delta (Cruze)
Honda C5 (Civic)
Hyundai HD PSA PF2 (308) (Elantra)
RenaultNissan C (Sentra)
Toyota MC-C (Corolla)
VW PQ35/PQ36 (Golf)
Europe
Asia
Middle East/Africa
North America
South America
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156
As MQB is rolled out, VW has the potential to reach 6mn units on the single platform across B, C and D and related CUV/MPV segments. In addition, as VW has demonstrated with the Polo mid-cycle reengineering, VW may have opportunities to use common components even before vehicles are completely redesigned. Overall, MQB could enable roughly 60-70% parts commonality among VW's volume brands. Savings from modularity will help both in ER&D and in ongoing unit costs. Assuming a 10% reduction in upfront costs and 20% in unit costs, VW could save up to 7-10bn from its 2008 baseline costs (well above what we have included in our model). Beyond cost saves, the modular approach can cut time to market by eliminating redesign steps in new vehicles. VW estimates up to one year shorter design cycle so even if the product cycle remains at 4 -5 years, the vehicle when released will be fresher and more in keeping with contemporary themes as the design lockdown date can be moved closer to the production launch. Figure 252: Potential additional cost savings through modularity
2009 spend Savings potential % Savings potential mn
R&D in income statement Engineering Materials
5,700 2,900 62,300
8% 8% 10%
10% 10% 15%
500 200 6,200
600 300 9,300
Total
Source: Company reports, Barclays Capital
6,900
10,200
While early in VW volume implementation, some evidence of the potential success of MQB can be seen in the Audi results because Audi led the Group in modularity. As Audi rolled out its MLB platforms, its margins expanded from 4.9% to 8.1%. Audis leverage of the MLB platform provides a significant competitive advantage in the premium segment (although we believe BMW will, albeit with lesser scale, leverage modularity across its product lines). While less discussed for brand purposes, modular sharing in upper luxury car sharing is likely to expand as Porsche is integrated. Figure 253: Increased modularity drove higher Audi margins
9% 8% 7% 6% 5% 4% 3% 2% 1% 0% 2001 2002 2003 2004 2005 2006 2007 2008 2009E 6.5% 5.8% 5.3% 4.3% 4.6% 4.9% 5.1% 8.0% 8.1%
Audi operating margin

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German dominance and C segment focus provides price war buffer

In Europe overall VW is a leader in the C segment, with its corporate volume tilted toward C. Figure 254: VWs combined share in B & C segments is highest in the industry
Fiat Hyundai Toyota General Motors Ford Renault-Nissan PSA VW 0% 5% 10% 15% B
20% C
25%
30%
35%
While we remain concerned about price wars post-scrappage in Europe, beginning in Germany where scrappage programmes first ended, we believe that VWs dominant position in Germany offers some protection. The German C segment and D segments are among the most concentrated markets in Europe. Note we measure concentration using the Hehrfindal-Hirschman index (HHI), which is the sum of the squares of the market shares of the participants. An HHI of 10,000 would be a one-layer market (10000 = 100*100 ), while a two-player market with each player at 50% share would have an HHI of 5000 (= 50*50 + 50*50). A market over 1,800 is considered concentrated, while a market over 3,000 is considered highly concentrated.
Figure 255: VW exceeds the Industry average for total sales in the C segment in Europe
50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0%
EExecutive A - Basic Pickup MPV C - Lower Medium D - Upper Medium SUV Van B - Small Other
158
VW group
8 December 2009
Industry avg
Figure 256: Concentration ratios & degree of concentration by country/segment volume OEMs
HHI ratios: A B C D E G sports MPV Pickup SUV Van

Degree of concentration:
2945 1343 3050 2090 1715 MEDIUM LOW HIGH MEDIUM LOW
2429 1359 2199 1497 1280 MEDIUM LOW MEDIUM LOW LOW
2112 2483 1260 1523 1483 MEDIUM MEDIUM LOW LOW LOW
3184 2655 2643 1740 1614 HIGH MEDIUM MEDIUM LOW LOW
4311 3528 9450 3431 4444 HIGH HIGH HIGH HIGH HIGH
3133 4263 3688 3853 3293 HIGH HIGH HIGH HIGH HIGH
2715 2211 1885 1442 2256 MEDIUM MEDIUM MEDIUM LOW MEDIUM
2821 3176 2855 2783 2938 MEDIUM HIGH MEDIUM MEDIUM MEDIUM
2753 3021 2627 2104 2267 MEDIUM HIGH MEDIUM MEDIUM MEDIUM
2745 2152 2020 2019 1705 MEDIUM MEDIUM MEDIUM MEDIUM LOW
Note: Concentration ratio = sum of squares of market shares, >1800 considered concentrated, >3000 highly concentrated Source: JD Powers, Barclays Capital analysis
VW dominates the C segment in Germany, with over 50% share in 2009, in part because VW used Golf as a scrappage programme leader. In a more normal year VW still dominates the segment, in 2006, for example, its C share amongst volume players was 44%. VW leads in all other volume segments except for A and MPV. Figure 257: VW sales by segment as percentage of German volume market sales (%)
Manufacturer VW A 4 B 31 C 51 D 41 MPV 22 Van 37 Total 35
GM Ford PSA Renault-Nissan Fiat Hyundai Toyota Daimler Group Other

8 8 12 8 22 12 11 10 5
15 12 10 6 6 4 5 11
12 9 5 7 1 5 4 6
19 12 5 3 0 0 8 11
0 56 6 8 1 3 5
5 9 15 7 11 1 0 14 0
12 10 9 7 6 5 5 3 8
Despite the pressures on pricing in Europe and Brazil in 2009, VW has posted positive pricing (in its revenue walk) every quarter in 2009, for a cumulative positive of 600mn year to date. Going forward, we expect that post-scrappage VW will attempt to moderate direct cash incentives, instead using bundled offers and let other fight heavier incentive wars.
Industrial EBIT flat in 2010 but recovering in 2011 and 2012

Given the post-scrappage pressures in 2010, we do not expect a sharp recovery in earnings, with overall operating profit up just 300mn, largely due to improvements in financial services as the credit crisis and residual value issues fade. Across the auto business, we expect the slight improvement in mix to be offset by volume and pricing pressures, currency to continue unfavourable but continue 1.4bn progress on product and fixed-cost reduction as modular strategies are further spread.
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We expect cost cutting to continue through 2012, but note that between 2009 and 2012 we have included 4.6bn of cost reduction, conservatively well below the 7-10bn potential described in the prior section. In 2011 and 2012, we expect volumes (ex China) to improve, although we are only modelling a 2,500 per unit operating profit improvement in 2011 and 1,000 in 2012, again leaving room conservatively for pricing pressure. Figure 258: VW estimated profit walk
bn 2008 2009E 2010E 2011 2012
Prior year operating profit Volume/price/mix Currency Product cost Fixed cost/depreciation Resende sale Scania Volkswagen Financial Services
6.2 0.1 -0.8 1.0 0.1 -0.2 -0.1
6.3 -4.1 -1.4 0.8 0.5 0.3 -0.1 -0.2
2.0 -0.6 -0.4 1.0 0.4 -0.3 0.0 0.2
2.3 0.7 -0.2 1.1 0.2 0.1 0.1 4.3 278
4.3 0.3 0.0 0.5 0.1 0.1 0.1 5.3 293
Current year operating profit memo: volume delta units 000

6.3
2.0
2.3
-10
-498
-127
Porsche merger valuation risks do not detract from value

Despite VWs strong business operating positions, we believe the trading value is now dominated by near-term technical issues around a potential increase in supply from Qatar Investment Fund sales and future VW fundraising. There is also mid-term uncertainty over the valuation of interim transactions and allocation of shares to Porsche SE holders around the eventual merger of Porsche and VW. However, we believe that there is not significant downside to our 85 price target, even assuming arguendo for stress testing that VW has overpaid for Porsche AG and Porsche Holdings Salzburg, the VW rights issue will be close to current market price, and further assuming that VW shareholders receive an unfairly low share of the combined entity.
VW fundraising and Porsche transaction timeline

The Porsche-VW transaction timeline, while subject to modification, is becoming increasingly clear. In this quarter, we expect VW to finalize its purchase of 49% of Porsche AG for 3.9bn. In addition, by mid 2010, the market will be asked to absorb up to roughly 90mn additional VW pref shares up to 25mn from Qatar Holding LLC (whose lock up period expires on 31 December 2009, although it is not clear whether Qatar holds actual shares or options shares, and, if options, if deliverable in physical delivery of shares) and about 65mn from a VW pref issue in 1H10 (assuming 4bn raised at 60 per share). The net result is to almost double the publically held pref share count from the 55mn outstanding prior to Qatars initial sale to about 170mn leading, in our view, to much of the recent weakness in VW prefs.
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160
Figure 259: Merger timeline

Date 2009 Event
3 December 2009 3 December 2009 18 December 2009 31 December 2009 by 31 December 2009
2010
Announcement of DAX official ranking as of 30 Nov VW EGM gave authorisation for VW pref share issuance Qatar option expiry on VW ords Expiry of Qatar lock-up period on VW prefs Purchase of 49% of Porsche AG by VW for 3.9bn
11 March 2010 sometime in 1H10

2011
VW FY09 results Potential VW pref issue (est 4bn, window likely 11 Mar-15 May)
sometime in 1H11 sometime in 1H11 sometime in 2011
VW purchases Porsche Holding Salzburg for 3.55 EV Porsche SE capital increase (est. 5bn) Porsche SE merges into VW AG
We expect the VW pref issue at some point following the 2009 results announcement on 11 March. Before the merger, VW is to purchase two assets 49% of Porsche SE (for 3.9bn, paid to Porsche AG) and Porsche Holdings Salzburg (for 3.55bn, paid to family shareholders of the auto dealer). Porsche would also pursue a capital increase of about 5bn, likely timed after Porsche/Piech family members receive the proceeds from the Salzburg sale. After the capital increase, Porsche SE (which at that time owns half of Porsche AG and its VW ord shares but has largely paid down its debt) merges into VW AG, with Porsche ord shareholders largely receiving VW ords and Porsche prefs receiving VW prefs (although merger details could vary).
Hypothetical overpayment and dilution would not detract from 85 target value
In terms of risks to valuation from these transactions, we start with the value of the core operating businesses of both VW and Porsche (as this will likely form the basis for the future IDW S-1 valuation), and add in external affiliates (ie, MAN) and subtract net debt. For purposes of this exercise, we have chosen a low adjusted EV/EBITDA multiple for VW (2.5 x vs historical average of 3.5x) for the industrial business. For Porsche, we assume 6.0x for a gross operating enterprise value of 10bn (note that this is somewhat below the 12.4bn VW pegged the value of Porsche SE at; again, we have chosen to be conservative as this would imply that VW overpaid for Porsche SE). Step 1: Value of stand-alone operating firms Adjusting for VW's cash balance, and including the value of financial services and MAN leads to an enterprise value of 44bn for VW, or 95 per pref share (at a 20% discount), before giving effect to VWs purchases of Porsche-related assets.
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Figure 260: Value of VW & Porsche operating businesses

mn Starting point operating businesses and 'external' affiliates 2011 EBTIDA EV/EBITDA multiple 11,469 2.5x 1,765 6.0x VW Porsche
Core auto operations Financial services "External" associates (ie, MAN)

Gross value of operating firm and external aff. less debt
28,671 9,372 -2,396

35,647
10,590 239
10,828
Net debt (cash) Minorities Hybrid liabilities Pension (after tax)

Net value of firm before intracompany ownership per share per ord per pref
-18,840 1,905
11,400
1,020 8,495
44,086 108 119 95
-431
-1,161 - 7
at discount of
20%
Step 2: Giving effect to VW purchase of Porsche related assets One investor concern is that VW, in an attempt to gain Porsche family buy-in to the merger, agreed to overpay for the initial stake in Porsche SE (which provides cash to pay down Porsche net debt) and for control of Porsche Holding Salzburg (which will provide cash to the families to use to subscribe to Porsche fund raising). Even assuming VW overpaid for Porsche SE by 1.25bn (as the 12.4bn paid for a 49% equity stake would imply a EV/EBITDA of 7.6x vs our assumption of 6.0x) and by Salzburg by 1.5bn (with no public financials we have arbitrarily assumed an overpayment), pref value per share would still be 90. Also note that at this point, Porsche as an operating company has negative value, with more than 100% of the value of Porsche shares attributable to its holdings in VW.
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162
Figure 261: VW purchase of Porsche assets

mn Net value of firm before intracompany ownership per share Plus intra-group transactions VW minority in Porsche AG: Value of equity business interest Cash received/(paid) Debt (assumed)/shed Memo: value creation (dilution) VW purchase of Porsche Salzburg Value of business interest Cash received/(paid) Memo: value creation (dilution) Value after sales to VW (ex cross-holdings) -862 862 VW 44,086 108 Porsche -1,161 - 7
3,038 -3,900
-3,038 3,900
2,000 -3,500
-1,500 41,724 41,724 102 112 90 -298

Net value of firms before fund raise per share per ord per pref at discount of (%)
15,325
15,027 86
20
Step 3: Giving effect to potential dilution from fund raising Another investor concern is around dilution around the planned pref offering in 1H10, in our view. We believe that VW will seek to raise about 4bn, that is, enough to fund the initial Porsche purchase for 3.9bn (although the EGM has authorized up to 135 mn additional shares). While there is some possibility VW postpones any offering, nevertheless we assume that 4bn is raised at 50 per share, for an issuance of 80mn new pref shares. The resulting dilution would be 8 per pref share, while still leaving value at 82 per share. Figure 262: Effects of fund raising
mn Value after sales to VW (ex cross-holdings) Fund raising VW 41,724 Porsche -298
4,000 80
50 488 45,724 45,724 94 103 82
5,000 125
40 300 4,702
Shares issued price per share

New share count Value of firms after fund raise (ex cross-holdings)

Net value of firms after fund raise
14,041
18,743 62
per share
per ord per pref
at discount of (%)
20
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163
Step 4: Potential risk from relative IDW S1 relative valuations Finally, we think investors are concerned that VW pref shareholders will wind up with less of the merged company than what they could consider their fair share. At our base case valuations, Porsche shareholders would receive 37% of the economic value of the merged entity and VW shareholders 63% (roughly in line with ingoing ownership). Even assuming, however, that Porsche shareholders get 45% of the combined firm, and that VW is arbitrarily undervalued, and Porsche SE is overvalued by a factor of 3x, would only dilute VW pref value to 72 in part because any undervaluation of VW shares detracts from Porsche share value. Figure 263: Merger allocation options
VW Who brought what to the table: Porsche
VW shareholders ex Porsche and after capital raise Porsche shareholders Core business VW stake
Total
31,683 4,702 14,041

31,683 18,743
% of newco per share

per ord per pref
63
94 103 82
37
62
at discount of (%)
What if "unfair"
20 27,734 10,400 12,291

27,734 22,692

Total
% of newco per share

per ord per pref
55
82 90 72
45
76
at discount of (%)
20
Rating
We are initiating coverage of Volkswagen with a 1-Overweight rating for the preference shares and an 85 price target, with a 2-Equal Weight and 100 price target for the ordinary shares. We believe that VW is the most advanced of the European auto makers in capturing economies of scale and is likely the world benchmark for modularity which should give it the cost position to withstand the intense price competition we see in 2010. Moreover, we do not view the Porsche merger and attendant financial manoeuvring as posing significant downside risk to VW pref holders, as VW appears to have protected itself against an inordinate amount of net debt on Porsches balance sheet. Any overpayment for Porsche assets is only at most around 6-7 per VW pref share small in light of the large upside as VW returns to 4% EBIT margins by 2012 (which would be below our longer-term projections of 6-7% in 2014-15).
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We value the VW preference share based on an average of EV/sales and PE metrics at historical and peer average multiples: We value the VW ords using a 20% premium to the pref shares.
EV/sales
VW prefs have historically traded at an eight-year average of 40% industrial EV/industrial sales, although rose to 66% as sales dipped in 2009. At current market price the shares are only trading at 14% 2010E EV/sales on our estimates. We believe that the current VW pref share price significantly undervalues the share based on this valuation metric, especially as we remain only just above consensus on our top-line estimates for 2010E. Figure 264: Slightly above consensus revenue & earnings estimates
Revenue (mn) EPS ()
102,908 3.96
102,437 3.63
0.5% 9.2%
We believe that VW should trade at least at 25%, still well below the 2001-05 range, implying a value of 90 for the prefs and 105 for the ords. Figure 265: At current price VW appears undervalued on EV/sales metrics
70% 60% 50% 40% 30% 20% 10% 0% 2001A
2003
2005
2007
2009E
2011E
2013E
2015E
Historical average
Source: Company Data and Barclays Capital
Industrial EV/Sales
EV/EBITDA
Historically VW has traded at an eight-year average of 3.5x adjusted EV to industrial EBITDA (vs 3.4x for the sector as a whole). Looking out to 2011E, when we expect auto markets to have normalised to a greater degree, our estimates put VW at only 1.3x at the current share price. Recognising some of the risks inherent in the merger and future dilution, we conservatively believe that the company should trade at 1.7x, from which we derive a share price of 80 for the prefs and 95 for the ords.
8 December 2009
165
Figure 266: VW has historically traded around 3.5x EV/EBITDA

10 8 6 4 2 0 2001A 2002
2003
2004
2005
2006
2007
2008
2009E 2010E 2011E 2012E
Adjusted EV/EBITDA
Historical average
An average of both these valuation metrics leads us to set a 85 price target for the preference shares and 100 for the ordinary shares. Inherent in our valuation is a 20% spread between the prefs and the ords, which is below the historical 35% discount. With the pref shares becoming the primary trading vehicle going forward, following likely DAX inclusion, as well as limited effective voting rights for the surviving public ord shares, we believe the discount should narrow.
Figure 267: VW key valuation metrics

Industrial EV/sales (%) Industrial EV/ EBITDA Industrial EV/ EBIT P/E FCF yield (%) Price/Sales (%) Price/Book Dividend yield (%)
Valuation multiples at 85/100 price target
62 7.1x 6.1x 34.4x 17.7x 7.9 66 2.7x 62 7.1x 6.1x 34.4x 17.7x 7.9 66 2.7x
60 5.3x 4.5x 11.4x 10.1x 5.3 72 2.8x 60 5.3x 4.5x 11.4x 10.1x 5.3 72 2.8x
47 4.8x 3.8x 9.0x 8.8x 2.4 55 1.8x 47 4.8x 3.8x 9.0x 8.8x 2.4 55 1.8x
70 8.6x 7.4x 74.0x 64.8x 5.0 85 2.8x 27 4.1x 2.9x 40.9x 52.3x 12.4 36 1.1x
14 2.2x 1.2x 10.1x 26.5x 6.2 33 0.9x 25 3.1x 1.8x 24.2x 22.7x 4.9 40 1.1x
16 2.4x 1.3x 4.9x 14.2x 7.1 31 0.8x 22 2.9x 1.7x 9.9x 10.8x 6.1 34 1.0x
13 2.1x 1.1x 3.3x 11.3x 2.9 29 0.8x 21 2.7x 1.5x 7.6x 9.1x 2.4 34 0.9x
Industrial EV/sales (%) Industrial EV/ EBITDA Industrial EV/ EBIT P/E FCF yield (%) Price/Sales (%) Price/Book Dividend yield (%)
8 December 2009
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Figure 268: After peaking at -90% Nov 08, the pref ord discount has narrowed to 36%
0% -10% -20% -30% -40% -50% -60% -70% -80% -90% -100% 1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
VW historical pref discount

Source: Datastream, Barclays Capital
Historical average

Risks to our price target are as follows: External risk macroeconomic factors outside the control of the company, leading to an even weaker demand and pricing environment than we currently assume, could make our forecasts difficult to achieve. Risks from financial transactions VW plans to issue future equity, purchase assets from Porsche and Porsche family companies, and complete a merger of Porsche AG into VW AG. The pricing and terms for the equity issuance and future merger are not known at this point, and may be set in a way that prejudices owners of VW pref or ord shares. Risks around pref/ord discount: the pref to ord discount has been volatile, dipping as low as 90% -- any return to abnormal discount levels would put our pref target at risk.
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167
VW preferred shares expected to replace VW ordinary shares as a member of the DAX if Qatar exercises Dec09 options
Colin Bennett +44 (0)20 777 38332 colin.bennett@barcap.com Barclays Capital, London Arnaud Joubert +44 (0)20 777 48344 arnaud.joubert@barcap.com Barclays Capital, London Abhinandan Deb +44 (0)20 777 32481 abhinandan.deb@barcap.com Barclays Capital, London Anshul Gupta +44 (0)20 313 48112 anshul.gupta@barcap.com Barclays Capital, London
If Qatar exercises its Dec09 expiry call options on Volkswagens ordinary shares, we understand that the ordinary share free float would be considered by Deutsche Boerse to be less than 10% of the market cap and therefore subject to the fast-exit rule. Under this rule VW ordinary shares would exit membership of the DAX, usually two trading days after the announcement, and VW preferred shares (as they are the top member of Novembers selection list) would replace them. As a large number of index trackers would have to buy the preferred shares, the preferred are likely to rise during a membership change.
Qatar could roll the Dec09 options to a later expiry

While we believe VW preferred shares are likely to rise once Qatar exercises its Dec09 options, a long position in the preferred shares has the disadvantage of being fully exposed to any event that weighs on the share price. For instance should Qatar roll its call option position to a later expiry, or if Qatar disposes of its remaining VW preferred share stake after the 31 December 2009 lock-up expires, we see potential downside to the preferred shares. Additionally the planned issue of new preferred shares could weigh on the share price. Figure 269: Profit and loss of Volkswagen preferred Jan10 64 call at expiry
P&L at expiration 15
10
-5 40 50 60 Stock price
70
80
VW pref Jan10 64 (99%) call is a lower-risk alternative to shares

The arguably low implied volatility and the short-dated January expiry results in a low premium cost to the investor
Given the erratic movements of Volkswagens shares many investors seem loath to enter into a position which could result in substantial losses. These investors should, in our view, consider options (with equal notional) as an alternative to the shares, with the benefit that the maximum loss to a long call or put position is the premium paid. January at-the-money (ATM) call options on VW preferred shares can currently be bought for an implied volatility of 50%, a discount to the current 61% three-month realised volatility. The arguably low implied volatility and the short-dated January expiry results in a low premium cost to the investor. Such a position benefits from offering exposure to any upside in the preferred shares, but losses are capped at the relatively low premium. As we have a 85 target price on the VW preferred shares, we see substantial upside to the strategy. VW preferred share Jan10 64 call indicative offer: 4.4 (6.8%), ref 64.4, delta 55%
8 December 2009
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Credit perspective
Barclays Capital credit analysts, Rob Perry and Darren Hook, currently rate Volkswagen Overweight. While flexibility in VW's low A rating is limited, plans to execute the Porsche merger as a 2-stage process, deleverage Porsche SE prior to the merger, and fund the acquisition with the issuance of preference shares illustrates its commitment to a low A rating, in their view. While VW will face headwinds from the expiry of incentives in Germany next year, they believe that importantly, VW will still generate significant free cash flow.
8 December 2009
169
Figure 270: Volkswagen Group and Automotive income statement, 2006A-2012E

December year-end (mn)
Group Income Statement: 2006 2007 2008 2009E 2010E 2011E 2012E
Sales revenue Cost of sales

Gross profit Gross margin %
104,875 91,020
13855 13.2%
108,897 92,603
16294 15.0%
113,808 96,612
17196 15.1%
106,533 92,178
14,355 13.5%
106,170 90,032
16,138 15.2%
116,866 99,102
17,764 15.2%
124,899 105,914
18,985 15.2%
SG&A Other operating expense (income)

Operating profit Operating margin % Equity income Other financial result
11,492 354
2,009
11,727 (1,584)
6,151
13,294 (2,431)
6,333
12,960 (2,094)
3,431
12,210 374
3,555
13,440 (1,154)
5,478
14,363 (2,321)
6,942
1.9%
5.6% 734 -342
5.6% 910 -635 275

6,608
3.2% 614 -1,409 -795

2,636
3.3% 281 -994

-712 3,124
4.7% 375 -1,121

-745 5,108
5.6% 500 -1,259

-759 6,683
Financial result
Profit before tax
-216
1,793
392
6,543
Income tax expense

Tax rate % Profit after tax
(162) -9%
1,955
2,421 37%
4,122
1,920 29%
4,688
930 35%
1,707
923 30%
2,201
1,505 29%
3,603
1,967 29%
4,716
Minority interest
Net profit attributable to shareholders
-1
1,954
-2
4,120
65
4,753
-37
1,670
-68
2,133
-82
3,521
-96
4,620
Earnings per ord share Diluted earnings per ord share Earnings per pref share Ordinary Dividend Preferred Dividend Number of Shares
Automotive Income Statement:
5.03 5.00 5.07 1.80 1.86 388 96,004

12,169 12.7%
10.43 10.49 10.34 1.93 1.99 394 98,752

14,078 14.3%
11.92 11.98 11.88 1.30 1.36 398 102,632

14,737 14.4%
4.18 4.18 4.17 1.35 1.41 400 94,485

12,016 12.7%
5.31 5.31 5.29 1.90 1.96 404 94,299

12,839 13.6%
8.67 8.67 8.64 2.00 2.06 408 104,402

15,871 15.2%
11.27 11.27 11.23 2.10 2.16 412 111,811

18,132 16.2%
Sales revenue
Gross profit Automotive gross margin %
SG&A Other operating expense (income)

Operating profit Automotive operating margin % Equity income Other financial result
10,476 46
1,739 1.8%
10,751 1,867
5,194 5.3%
12,315 3,006
5,428 5.3%
11,887 -2,271
2,400 2.5%
10,844 500
2,495 2.6%
12,006 500
4,365 4.2%
12,858 500
5,774 5.2%
580 -300 -392

1,347
809 -560 249

5,677
527 -1,219 -692

1,708
201 -590 -389

2,106
275 -601 -326

4,040
400 -612 -212

5,562
Financial result
Automotive Profit before tax
280
5,474
Income tax expense

Auto tax rate Automotive Profit after tax Memo:
-513
38% 834
-2,254
41% 3,220
-1,668
29% 4,009
-501
29% 1,207
-618
29% 1,489
-1,184
29% 2,855
-1,631
29% 3,931
Automotive EBITDA
EBITDA margin %
9,501
9.9%
12,623
12.8%
12,108
11.8%
9,571
10.1%
11,503
12.2%
12,196
11.7%
13,969
12.5%
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170
Figure 271: VW Group Revenues, Unit Sales, Production and EBIT by division, 2006-2012E
December year-end (mn) Revenue by Division
Volkswagen Audi Skoda SEAT Bentley Commercial Vehicles Scania Remaining Companies and Other
Automotive Revenues Unit sales by division (units 000s) 2006 2007 2008 2009E 2010E 2011E 2012E
70,710 31,720 7,186 5,874 1,340 8,092

NA
73,944 33,617 8,004 5,899 1,376 9,297

NA
72,928 34,196 8,039 5,196 1,084 9,607 3,865 -32,036

102,879
66,476 30,024 7,269 4,511 479 5,296 6,139 -25,341

94,853
65,760 30,969 6,840 3,901 483 5,960 5,579 -25,193

94,299
73,704 34,832 7,319 3,738 705 6,139 5,858 -27,892

104,402
77,217 38,861 8,136 4,133 862 6,323 6,151 -29,872

111,811
-28,918
96,004
-33,385
98,752
Volkswagen Audi Skoda SEAT Bentley Commercial Vehicles Scania Volkswagen China
Group Auto Unit Sales Group Unit sales Memo: Total Unit Production Operating Income by Division:
3,451 1,139 562 419 10 388

NA
3,664 1,200 620 411 10 427

NA
3,648 1,275 626 375 8 439 31 989

5,252 6,272 6,347
3,490 1,164 566 322 4 267 43 1,195

4,930 6,167 NA
3,289 1,155 533 282 4 272 45 1,315

4,607 5,966 NA
3,687 1,299 570 270 5 281 47 1,446

5,138 6,631 NA
3,863 1,449 634 298 6 289 49 1,591

5,517 7,156 NA
694
5,026 5,720 5,660
930
5,262 6,192 6,213
Volkswagen Audi Skoda SEAT Bentley Commercial Vehicles Scania Remaining Companies and other
Automotive Operating Income
918 2,054 515 -159 137 138

NA
1,940 2,705 712 8 155 305

NA
2,715 2,772 565 -78 10 375 417 -1,336

5,440
1,387 1,879 335 -228 -228 -113 168 -800

2,400
1,280 2,021 271 -319 -228 -13 84 -600

2,495
2,471 2,600 343 -344 -194 13 126 -650

4,365
2,998 3,204 465 -285 -171 41 170 -650

5,774
-63
4,383
-631
5,194
Financial Services
Group Operating income Operating margin
843 5,226 1.3% 6.5% 7.2% -2.7% 10.2% 1.7%

NA
957 6,151 2.6% 8.0% 8.9% 0.1% 11.3% 3.3%

NA
905 6,345 3.7% 8.1% 7.0% -1.5% 0.9% 3.9% 10.8% 1.2% 5.3%
916 3,317 2.1% 6.3% 4.6% -5.1% -47.6% -2.1% 2.7% 1.2% 2.5%
1,060 3,555 1.9% 6.5% 4.0% -8.2% -47.2% -0.2% 1.5% 1.2% 2.6%
1,113 5,478 3.4% 7.5% 4.7% -9.2% -27.6% 0.2% 2.2% 1.2% 4.2%
1,168 6,942 3.9% 8.2% 5.7% -6.9% -19.8% 0.6% 2.8% 1.2% 5.2%
Volkswagen Audi Skoda SEAT Bentley Commercial Vehicles Scania Financial Services
Automotive Operating Margin
1.3% 4.6%
1.4% 5.3%
8 December 2009
171
Figure 272: VW Automotive balance sheet, 2006-2012E

Intangible assets PPE Leasing and rental assets Financial services receivables Noncurrent investments and other
Total Noncurrent assets 2006 2007 2008 2009E 2010E 2011E 2012E
7110 20148 61 322 10176

37817
6736 19151 75 11602

37564
12186 22879 410 10903

46378
13,433 22,600 313 0 11,002

47,348
15,790 19,805 263 0 11,002

46,860
18,400 18,852 213 0 11,002

48,468
21,195 18,024 163 0 11,002

50,384
Inventories Financial services receivables Current receivables and other Marketable securities Cash Assets held for sale
Total Current assets Total assets Equity
12377 179 8571 5024 8117
13319 231 10002 6503 9135
6732 -103 13340 3730 7664 1007
14,561 -88 12,843 3,684 20,336
14,452 -88 8,342 3,584 16,996
14,654 -88 15,112 3,484 21,394
16,145 -88 10,007 3,384 21,901
34268 72085
39190 76754
42370 88748
51,335 98,683
43,286 90,146
54,556 103,024
51,349 101,733
20774 20719 55 4539 13719 10603 28861 1759 7288 13403 22450
51311 72085
24802 24739 63 3645 12481 12383 28509 -1139 8202 16380 23443
51952 76754
28964 26841 2123 2240 12829 15619 30688 2865 9085 16380 766 29096
59784 88748
30,238 28,333 1,905 10,084 13,959 15,642 39,685 -46 11,234 17,570 28,758
68,443 98,681
31,727 29,822 1,905 5,240 14,059 17,206 36,505 -46 4,388 17,570 21,912
58,417 90,144
34,582 32,677 1,905 5,240 14,159 18,927 38,326 -46 12,590 17,570 30,114
68,440 103,022
38,513 36,608 1,905 5,240 14,259 20,820 40,319 -46 5,376 17,570 22,900
63,218 101,731
Equity attributable to shareholders Minority interests Noncurrent financial liabilities Provisions for pensions Other noncurrent liabilities
Total Noncurrent liabilities
Current financial liabilities Trade payables Other current liabilities Liabilities held for sale
Current liabilities Total liabilities Total equity and liabilities
8 December 2009
172
Figure 273: VW Automotive cash flow, 2006-2012E

Cash flow Profit before tax Income taxes paid Depreciation Change in pension Other noncash income/expense
Gross cash flow 2006 2007 2008 2009E 2010E 2011E 2012E
774 -742 7,762 246 -384

7,656
5,474 -1,290 7,429 99 190

11,902
5,677 -1,973 6,680 132 591

11,107
2,083 -587 7,170 131 -199

8,598
2,106 -618 9,008 100
4,040 -1,184 7,831 100
5,562 -1,631 8,196 100
10,597
10,786
12,227
Change in working capital Inventory Receivables Liabilities Change in other provisions

Cash flow from operations
4,089 -118 701 431 3,075

11,745
1,773 -1,219 -555 2,092 1,455

13,675
-2,336 -2,688 -1,130 1,100 382

8,771
4,070 2,517 -1,947 2,926 573

12,668
-672 109 4,500 -6,846 1,564

9,925
2,951 -202 -6,770 8,202 1,721

13,737
-1,707 -1,491 5,105 -7,215 1,893

10,519
Acquisition of PPE Capitalized development costs Change in leasing and rental assets Change in financial services receivables Acq and disposal of equity interests Other
Cash flow from investing Net cash flow (CF from ops and CF from investing)
-3,644 -1,478 -50 -114 -1,040 -2,892

-9,218 2,527
-4,555 -1,446 -80 251 -869 -2,519

-9,218 4,457
-6,762 -2,216 -277 297 -2,571 2,311

-9,218 -447
-5,178 -2,166 -197 -15 79

-7,477 5,191
-6,213 -2,357 50 0 0
-8,520 1,404
-6,879 -2,610 50 0 0 0
-9,439 4,298
-7,367 -2,795 50 0 0 0
-10,112 407
Change in investments in securities

Cash flow from financing Exchange rate, etc. Change in auto cash
-998
-3,650
-2,020
-4,204
496
942
1,590
4,328
100
-4,844
100
0
100
0
-51 -2,172 8,117 5,314 13,431 -6,298

7,133
-81 -1,848 8,937 7,047 15,984 -2,506

13,478
-57 934 7,639 5,679 13,318 -5,279

8,039
160 11,269 20,336 3,684 24,020 -10,038

13,982
0 -3,340 16,996 3,584 20,580 -5,194

15,386
0 4,398 21,394 3,484 24,878 -5,194

19,684
0 507 21,901 3,384 25,285 -5,194

20,091
Automotive cash at EOP Securities and loans Gross automotive liquidity Total third-party borrowings
Net automotive liquidity
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173
Valuation Methodology and Risks

European Autos & Auto Parts BMW (BMW GY / BMWG.DE) Valuation Methodology: We value the BMW share based on an average of EV/Sales and PE metrics at historical and peer average multiples. BMW has historically traded at a 5-year average EV/Sales of 39%, although it dipped to 20% during the credit crisis of 2008 and at current market price is only trading at 18% 2010E EV/Sales on our estimates. By comparison, peer Daimler's historical average is 42% and on our estimates is currently trading at 44% 2010 EV/Sales. We believe that the current BMW share price significantly undervalues the share based on this valuation metric. Using its own historical average of 39% implies BMW should trade at 50/share. Secondly, historically BMW has traded at an average 11x PE (vs 13x at Daimler). Looking out to 2011E, when we expect autos markets to have normalised to a greater degree, our above consensus EBIT estimates put BMW at only 10x at the current share price. We believe the company should trade at its historical level of 11x, from which we derive a price of 35. We take a weighted average of both these valuation metrics lead us to set a 41 price target for the share. Risks which May Impede the Achievement of the Price Target: The main risks to our price target, in our view, are: 1) external risk macroeconomic factors outside the control of hte ocmpany, leading to an even weaker demand and pricing environment than we currently assume, could make our forecasts difficult to achieve; 2) risks to leasing book - we believe that the worst is now behind the company is relation to writedowns on its financial services leasing book but were second-hand prices to fall significantly and cause further writedowns to residual values, BMW's larger than average financial services penetration would result in greater downside risk than for peers. Daimler AG (DAI GY / DAIGn.DE) Valuation Methodology: We value Daimler using a SotP methodology but we acknowledge that this assumes the market gives full credit to each constituent part of the company. In reality we have seen that Daimler has tended to trade much closer to BMW multiples, despite its supposedly higher-rated truck division historically comprising 25% of earnings. We therefore cross-check our valuation against historical and peer average EV/sales estimated multiples and use a weighted average of the both methodologies to derive our target price.
1. SotP - using a sum-of-the-parts valuation we arrive at a 33 price for Daimler, implying 7% downside to its current market price. We base our calculation on a blended average of peer EV/sales and PE multiples for the core Autos business, peer EV/sales and EV/EBIT multiples for Daimler Trucks and bring in Finance companies and Vans & Buses divisions at historical average multiples. We also apply a 5% discount to the SotP valuation to take account of the historical holding discount for the trucks business. 2. EV/sales: Daimler has traded at a five-year historical median of 42% industrial EV/sales although during that period has ranged from a low of 13% in 2003 (incl Chrysler) to a high of 57% in 2007. On the same time frame, BMW has traded at a median average EV/sales of 39% and has ranged from 20% to 59%. Applying Daimlers own historical average multiple would imply a price of 31. A weighted average of both these valuation metrics leads us to set a 32 price target for the share.
Risks which May Impede the Achievement of the Price Target: The main upside risks to our price target, in our view, are:
1) external risk - macroeconomic factors ouside the control of the company, leading to a strong demand and pricing environment than we currently assume, could mean that the company exceeds our forecasts 2) were truck markets to improve faster than consensus (and our) estimates assume, this would provide upside to the current share price 3) currency risk - if USD and GBP rates were to improve significantly against the euro, this would ease the FX burden for Mecedes' earnings forecasts.
Fiat SpA (F IM / FIA.MI) Valuation Methodology: We value the Fiat share based on EV/sales and EV/EBITDA metrics against Fiats historical trading range, with a reference to the SotP methodology based on peer multiples for the various divisions to confirm our valuation.
1) EV/sales: Fiat has historically traded at a six-year historical average of 28% EV/sales. But at current market price is trading at 35% 2010E EV/sales on our estimates, highlighting our belief that the share is significantly overvalued at present. The OEM sector average range is 27%. At our 8 target price, Fiat would trade at 28% EV/sales, exactly in line with its historical average. 2) EV/EBITDA: our EV/EBITDA looks at adjusted industrial EV (backing out financial services) over industrial EBITDA. Historically, Fiat has traded at a 6-year average of 4.3x EV/EBITDA. Looking out to 2011E our below consensus EBITDA estimates put Fiat at a 4.1x current share price. However, given the 2010 headwinds we believe this discount is justified, and our target is based on 4x 2011 EBITDA from which we derive our 8 target price.
Risks which May Impede the Achievement of the Price Target: The main upside risks to our price target, in our view, are:
1) risks to our commonality assumptions - if there were to be a more rapid turnaround at Chrysler than we currently forecast 2) a more rapid turnaround in truck and/or agricultural equipment than we assume in our forecasts could provide further upside to the share
Peugeot SA (UG FP / PEUP.PA) Valuation Methodology: We value PSA using a combination of a Sum of the Parts methodology and historical and peer average EV/EBITDA multiples:
1. SotP: Using a sum-of-the-parts valuation we arrive at a value of 27/share for Peugeot, implying 12% upside to its current market price. We base our calculation on a blended average of peer EV/Sales and EV/EBITDA multiples for the core Autos business and bring in Finance companies, GEFCO and Faurecia at historical average multiples. We apply a 5% discount to the NAV in line with the average discount that the market has historically applied when using the SotP methodology. 2) Group EV/EBITDA
8 December 2009
174

multiples: historically PSA has traded at an 8-year average of 2.4x EV/EBITDA at a group level (vs 6x at RNO and 2.7x for the sector as a whole). Our slightly below consensus EBITDA estimates put PSA at 2.5x at current share price in 2010E, just ahead of its historical average. We believe that the company should trade closer to its historical level of 2.4x, which would imply a share price of 23. A blended average of both these valuation metrics leads us to set a 26 price target for the share.
Risks which May Impede the Achievement of the Price Target: The main downside risks to our price target, in our view, are:
Macroeconomic risks - macroeconomic factors outside the control of the company, leading to an even weaker demand and pricing environment than we currently assume, could make our forecasts difficult to achieve. 1) Liquidity risk current high gearing levels and lack of investment grade credit rating expose the share to balance sheet risk, especially were the Peugeot to finance any future alliance with Mitsubishi Motors with debt 2) M&A risk if PSA were to embark on any further strategic alliances or seek to restructure its holding in Faurecia, this could provide further upside to the share and cause it to exceed our current target price.
Renault SA (RNO FP / RENA.PA) Valuation Methodology: Valuation Methodology
We value the RNO share using a SotP methodology which we confirm against historical and peer average EV/EBITDA multiples to reach our 42 target price: 1. SotP - using a sum-of-the-parts valuation we arrive at a 42 target price for Renault. We base our calculation on a blended average of peer Industrial EV/sales and Industrial EV/EBITDA multiples for the core Autos business and bring in associates at market value. However, we also apply a 10% discount to the NAV in line with the average discount that the market has historically applied. 2. EV/EBITDA - we also cross-check our SotP calculation against peer and historical average multiples. Historically RNO has traded at an 8-year average of 6x unadjusted (ie, pre-associate stake) EV/EBITDA (vs 2.4x at PSA and 3.4x for the sector as a whole). Looking out to 2011E, when we expect autos markets to have normalised to a greater degree, our above consensus EBITDA estimates put RNO at only 4.5x at current share price. We believe that the company should trade closer to its historical level of 6x, which would imply a value of 43/share. We give a greater weight to our SotP valuation, thus on a weighted average combination of both these valuation metrics we derive a 42 price target for the share.
Risks which May Impede the Achievement of the Price Target: The main downside risks to our price target, in our view, are:
1)Risks to our cost commonality assumptions, ie, under-delivery on expected alliance savings 2) Current high gearing levels add risk to share 3) With more than 60% of earnings generated by Nissan (>70% by total associate contribution) any significant downturn in either Nissan or Volvos earnings stream would have a major knock-on affect on Renaults own bottom line.
Volkswagen AG (VOW GY / VOWG.DE) Valuation Methodology: We value the VW preference share based on an average of EV/sales and PE metrics at historical and peer average multiples and then set a 20% discount to value the ordinary shares. An average of both these valuation metrics leads us to set a 85 price target for the preference shares and thus 100 for the ordinary shares. This 20% spread between the prefs and the ords, is below the historical 35% discount but with the pref shares becoming the primary trading vehicle going forward, following likely DAX inclusion, as well as limited effective voting rights for the surviving public ord shares, we believe the discount should narrow. Our two valuation methodologies are:
1) EV/sales - VW prefs have historically traded at an eight-year average of 40% industrial EV/industrial sales, although rose to 66% as sales dipped in 2009. At current market price the shares are only trading at 14% 2010E EV/sales on our estimates. We believe that the current VW pref share price significantly undervalues the share based on this valuation metric, especially as we remain only just above consensus on our top-line estimates for 2010E. We believe that VW should trade at least at 25%, still well below the 2001-05 range, implying a value of 90 for the prefs and 105 for the ords. 2) EV/EBITDA - Historically VW has traded at an eight-year average of 3.5x adjusted EV to industrial EBITDA (vs 3.4x for the sector as a whole). Looking out to 2011E, when we expect auto markets to have normalised to a greater degree, our estimates put VW at only 1.3x at the current share price. Recognising some of the risks inherent in the merger and future dilution, we conservatively believe that the company should trade at 1.7x, from which we derive a share price of 80 for the prefs and 95 for the ords. An average of both these valuation metrics leads us to set a 85 price target for the preference shares and 100 for the ordinary shares.
Risks which May Impede the Achievement of the Price Target: The main risks to our price target, in our view, are:
1) External risk macroeconomic factors outside the control of the company, leading to an even weaker demand and pricing environment than we currently assume, could make our forecasts difficult to achieve. 2) Risks from financial transactions VW plans to issue future equity, purchase assets from Porsche and Porsche family companies, and complete a merger of Porsche AG into VW AG. The pricing and terms for the equity issuance and future merger are not known at this point, and may be set in a way that prejudices owners of VW pref or ord shares. 3) Risks around pref/ord discount: the pref to ord discount has been volatile, dipping as low as 90% -- any return to 'abnormal discount levels would put our pref target at risk.
8 December 2009
175

Volkswagen AG-PFD Preferred (VOW3 GY / VOWG_p.DE) Valuation Methodology: We value the VW preference share based on an average of EV/sales and PE metrics at historical and peer average multiples:
1) EV/sales - VW prefs have historically traded at an eight-year average of 40% industrial EV/industrial sales, although rose to 66% as sales dipped in 2009. At current market price the shares are only trading at 14% 2010E EV/sales on our estimates. We believe that the current VW pref share price significantly undervalues the share based on this valuation metric, especially as we remain only just above consensus on our top-line estimates for 2010E. We believe that VW should trade at least at 25%, still well below the 2001-05 range, implying a value of 90 for the prefs. 2) EV/EBITDA - historically VW has traded at an eight-year average of 3.5x adjusted EV to industrial EBITDA (vs 3.4x for the sector as a whole). Looking out to 2011E, when we expect auto markets to have normalised to a greater degree, our estimates put VW at only 1.3x at the current share price. Recognising some of the risks inherent in the merger and future dilution, we conservatively believe that the company should trade at 1.7x, from which we derive a share price of 80 for the prefs. An average of both these valuation metrics leads us to set a 85 price target for the preference shares. Inherent in our valuation is a 20% spread between the prefs and the ords, which is below the historical 35% discount. With the pref shares becoming the primary trading vehicle going forward, following likely DAX inclusion, as well as limited effective voting rights for the surviving public ord shares, we believe the discount should narrow.
Risks which May Impede the Achievement of the Price Target: Risks to price target
The main risks to our price target, in our view, are: 1) External risk macroeconomic factors outside the control of the company, leading to an even weaker demand and pricing environment than we currently assume, could make our forecasts difficult to achieve. 2) Risks from financial transactions VW plans to issue future equity, purchase assets from Porsche and Porsche family companies, and complete a merger of Porsche AG into VW AG. The pricing and terms for the equity issuance and future merger are not known at this point, and may be set in a way that prejudices owners of VW pref or ord shares. 3) Risks around pref/ord discount: the pref to ord discount has been volatile, dipping as low as 90% -- any return to 'abnormal discount levels would put our pref target at risk
Porsche Automobil Holding SE (PAH3 GY / PSHG_p.DE) Valuation Methodology: We value the Porsche preference share based on an average of EV/sales and EV/EBITDA metrics at historical and peer average multiples:
1. EV/sales- Porsche prefs have historically traded at an eight-year average of 100% EV/sales, although rose to 200% as sales dipped in 2009. At current market price the shares are only trading at 27% 2010E EV/sales on our estimates. We believe given the fundraising and merger risks that Porsche should trade at 50% EV/Sales, closer to the peer historical average of 43%, and implying a value of 60/share. 2. EV/EBITDA - Historically Porsche has traded at an average of 4.6x EV to EBITDA during 2001-07 (before the extensive distortion of its options earnings) -- vs 3.4x for the sector as a whole). Looking out to 2011E, when we expect the merger to finalize, at the current market price the share is trading at only 1.3x. Recognizing some of the risks inherent in the merger and future dilution, we conservatively believe that the company should trade at 3.1x, from which we derive a price of 50/share. An average of both these valuation metrics leads us to set a 55 price target.
Risks which May Impede the Achievement of the Price Target: The main risks to our price target are:
1) External risk macroeconomic factors outside the control of the company, leading to a stronger demand and pricing environment than we currently assume, could mean the company exceeds our forecasts. 2) Risks from financial transactions Porsche plans to issue future equity and complete a merger of Porsche AG into VW AG. The pricing and terms for the equity issuance and future merger are not known at this point, at may be set in a way that prejudices owners of Porsche pref shares
8 December 2009
176
ANALYST(S) CERTIFICATION(S)
We, Kristina Church and Brian A. Johnson, hereby certify (1) that the views expressed in this research report accurately reflect our personal views about any or all of the subject securities or issuers referred to in this research report and (2) no part of our compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this research report.
IMPORTANT DISCLOSURES CONTINUED

For current important disclosures regarding companies that are the subject of this research report, please send a written request to: Barclays Capital Research Compliance, 745 Seventh Avenue, 17th Floor, New York, NY 10019 or refer to www.lehman.com/disclosures or call 1-212-5261072. The analysts responsible for preparing this research report have received compensation based upon various factors including the firm's total revenues, a portion of which is generated by investment banking activities. Research analysts employed outside the US by affiliates of Barclays Capital Inc. are not registered/qualified as research analysts with FINRA. These analysts may not be associated persons of the member firm and therefore may not be subject to NASD Rule 2711 and incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearances and trading securities held by a research analysts account. On September 20, 2008, Barclays Capital acquired Lehman Brothers' North American investment banking, capital markets, and private investment management businesses. All ratings and price targets prior to this date relate to coverage under Lehman Brothers Inc. Barclays Capital produces a variety of research products including, but not limited to, fundamental analysis, equity-linked analysis, quantitative analysis, and trade ideas. Recommendations contained in one type of research product may differ from recommendations contained in other types of research products, whether as a result of differing time horizons, methodologies, or otherwise.
Risk Disclosure(s)
Options are not suitable for all investors. Please note that the trade ideas within this research report do not necessarily relate to, and may directly conflict with, the fundamental ratings applied to Barclays Capital Equity Research. The risks of options trading should be weighed against the potential rewards.
Risks:
Call or put purchasing: The risk of purchasing a call/put is that investors will lose the entire premium paid. Uncovered call writing: The risk of selling an uncovered call is unlimited and may result in losses significantly greater than the premium received. Uncovered put writing: The risk of selling an uncovered put is significant and may result in losses significantly greater than the premium received. Call or put vertical spread purchasing (same expiration month for both options): The basic risk of effecting a long spread transaction is limited to the premium paid when the position is established. Call or put vertical spread writing/writing calls or puts (usually referred to as uncovered writing, combinations or straddles (same expiration month for both options): The basic risk of effecting a short spread transaction is limited to the difference between the strike prices less the amount received in premiums. Call or put calendar spread purchasing (different expiration months & short must expire prior to the long): The basic risk of effecting a long calendar spread transaction is limited to the premium paid when the position is established. Because of the importance of tax considerations to many options transactions, the investor considering options should consult with his/her tax advisor as to how taxes affect the outcome of contemplated options transactions. Supporting documents that form the basis of our recommendations are available on request.
The Options Clearing Corporations report, Characteristics http://www.theocc.com/publications/risks/riskchap1.jsp

Primary Stocks (Ticker, Date, Price)
and
Risks
of
Standardized
Options,
is
available
at
BMW (BMWG.DE, 04-Dec-2009, EUR 32.75), 1-Overweight/2-Neutral Daimler AG (DAIGn.DE, 04-Dec-2009, EUR 35.91), 3-Underweight/2-Neutral Fiat SpA (FIA.MI, 04-Dec-2009, EUR 10.56), 3-Underweight/2-Neutral Peugeot SA (PEUP.PA, 04-Dec-2009, EUR 24.18), 2-Equal Weight/2-Neutral Porsche Automobil Holding SE (PSHG_p.DE, 04-Dec-2009, EUR 47.51), 2-Equal Weight/2-Neutral Renault SA (RENA.PA, 04-Dec-2009, EUR 35.59), 1-Overweight/2-Neutral Volkswagen AG (VOWG.DE, 04-Dec-2009, EUR 80.39), 2-Equal Weight/2-Neutral Volkswagen AG-PFD Preferred (VOWG_p.DE, 04-Dec-2009, EUR 63.50), 1-Overweight/2-Neutral
Guide to the Barclays Capital Fundamental Equity Research Rating System:
Our coverage analysts use a relative rating system in which they rate stocks as 1-Overweight, 2-Equal Weight or 3-Underweight (see definitions below) relative to other companies covered by the analyst or a team of analysts that are deemed to be in the same industry sector (the sector coverage universe). In addition to the stock rating, we provide sector views which rate the outlook for the sector coverage universe as 1-Positive, 2-Neutral or 3Negative (see definitions below). A rating system using terms such as buy, hold and sell is not the equivalent of our rating system. Investors 8 December 2009 177
IMPORTANT DISCLOSURES CONTINUED

should carefully read the entire research report including the definitions of all ratings and not infer its contents from ratings alone.
Stock Rating 1-Overweight - The stock is expected to outperform the unweighted expected total return of the sector coverage universe over a 12-month investment horizon. 2-Equal Weight - The stock is expected to perform in line with the unweighted expected total return of the sector coverage universe over a 12month investment horizon. 3-Underweight - The stock is expected to underperform the unweighted expected total return of the sector coverage universe over a 12-month investment horizon. RS-Rating Suspended - The rating and target price have been suspended temporarily due to market events that made coverage impracticable or to comply with applicable regulations and/or firm policies in certain circumstances including when Barclays Capital is acting in an advisory capacity in a merger or strategic transaction involving the company. Sector View 1-Positive - sector coverage universe fundamentals/valuations are improving. 2-Neutral - sector coverage universe fundamentals/valuations are steady, neither improving nor deteriorating. 3-Negative - sector coverage universe fundamentals/valuations are deteriorating.
Below is the list of companies that constitute the "sector coverage universe":
European Autos & Auto Parts
BMW (BMWG.DE) Peugeot SA (PEUP.PA) Volkswagen AG (VOWG.DE)

Distribution of Ratings:
Daimler AG (DAIGn.DE) Porsche Automobil Holding SE (PSHG_p.DE) Volkswagen AG-PFD Preferred (VOWG_p.DE)
Fiat SpA (FIA.MI) Renault SA (RENA.PA)
Barclays Capital Inc. Equity Research has 1375 companies under coverage. 40% have been assigned a 1-Overweight rating which, for purposes of mandatory regulatory disclosures, is classified as a Buy rating; 44% of companies with this rating are investment banking clients of the Firm. 45% have been assigned a 2-Equal Weight rating which, for purposes of mandatory regulatory disclosures, is classified as a Hold rating; 39% of companies with this rating are investment banking clients of the Firm. 13% have been assigned a 3-Underweight rating which, for purposes of mandatory regulatory disclosures, is classified as a Sell rating; 32% of companies with this rating are investment banking clients of the Firm.
Barclays Capital offices involved in the production of equity research:
London Barclays Capital, the investment banking division of Barclays Bank PLC (Barclays Capital, London) New York Barclays Capital Inc. (BCI, New York) Tokyo Barclays Capital Japan Limited (BCJL, Tokyo) So Paulo Banco Barclays S.A. (BBSA, So Paulo) Hong Kong Barclays Bank PLC, Hong Kong branch (BB, Hong Kong) Toronto Barclays Capital Canada Inc. (BCC, Toronto)
8 December 2009
178
This publication has been prepared by Barclays Capital; the investment banking division of Barclays Bank PLC, and/or one or more of its affiliates as provided below. This publication is provided to you for information purposes only. Prices shown in this publication are indicative and Barclays Capital is not offering to buy or sell or soliciting offers to buy or sell any financial instrument. Other than disclosures relating to Barclays Capital, the information contained in this publication has been obtained from sources that Barclays Capital believes to be reliable, but Barclays Capital does not represent or warrant that it is accurate or complete. The views in this publication are those of Barclays Capital and are subject to change, and Barclays Capital has no obligation to update its opinions or the information in this publication. 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European Autos &amp; Parts 2009 Q4 Barclays

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EQUITY RESEARCH

EUROPEAN AUTOS & AUTO PARTS: INITIATION OF COVERAGE

Barclays Capital | European Autos & Auto Parts

Barclays Capital | European Autos & Auto Parts

Summary of our Rating, Price Target and Earnings in this Report

New %Chg Old New %Chg Old New %Chg

Barclays Capital | European Autos & Auto Parts

Barclays Capital | European Autos & Auto Parts

Price Mkt Cap

EPS 2010 2011 2009

EPS growth 2010 2011 2009

Sales 2010 2011 2009

Sales growth 2010 2011

25% -11% -24% 8% 16% 18% 24% 34%

0.24 (2.02) 0.18

1.64 0.61 0.05

3.14 2.20 0.42 2.87 4.74 4.77 8.67 8.67

-53% -244% -88% NA -140% -563% -65% -65% -174% -88%

586% NA -71% NA NA NA 27% 27% 142% 27%

92% 259% 723% NA 222% 799% 63% 63% 317% 222%

7% 10% 4% 7% 18% 7% 11% 11% 9% 9%

US OEMs Ford Motor Co. 2-Equal Weight $8.94 Rating

$103,508 $116,441 $133,130 EV/sales

Share price performance

Dec 08 1 month 3 month

36.48 37.90 11.47 25.67 61.20 37.37 82.90

17.22 17.20 3.32 11.30 27.12 10.17 29.55

21.61 26.70 4.59 12.15 54.85 18.55 38.02

0% 10% -2% 4% -11% 11% -25% -7% -2% -1%

4% 7% 28% 14% 6% 8% -68% 9% 1% 8%

137.1x NA 59.7x NA NA NA 19.2x 15.2x 57.8x 39.5x

20.0x 58.6x 209.5x NA 32.3x 67.0x 15.2x 12.0x 59.2x 32.3x

20% 45% 34% 6% 187% 11% 67% 67% 55% 39%

18% 44% 35% 7% 40% 11% 27% 27% 26% 27%

18% 40% 32% 7% 27% 13% 20% 20% 22% 20%

Barclays Capital | European Autos & Auto Parts

THE YEAR OF UNINTENDED CONSEQUENCES

Barclays Capital | European Autos & Auto Parts

BMW (1 Overweight, 41 price target) (see page 42)

Daimler (3- Underweight, 32 price target) (see page 59)

Fiat (3- Underweight, 8 price target) (see page 78)

Barclays Capital | European Autos & Auto Parts

Peugeot (2- Equal Weight, 26 price target) (see page 101)

Porsche (2- Equal Weight, 55 price target) (see page 121)

Renault (1- Overweight, 42 price target) (see page 132)

Barclays Capital | European Autos & Auto Parts

1-OW prefs / 2-EW ords

85.00 prefs / 100.00 ords

63.50 prefs / 80.39 ords

34% prefs / 24% ords

Barclays Capital | European Autos & Auto Parts

SCRAPPAGE HANGOVER LIKELY WORSE THAN CONSENSUS EXPECTATIONS

Barclays Capital | European Autos & Auto Parts

Figure 2: European summary of current scrappage schemes

A: 1500 > 13 years New car min Euro 4 45 mn 9 months 2009

SK: 2000 > 10 years 22.1 mn 9 months 2009

RO: 1000 > 10 years Max 60,000 vehicles 11 months 2009

Barclays Capital | European Autos & Auto Parts

Figure 3: Barclays Capital 2009E scrappage model

Barclays Capital | European Autos & Auto Parts

Figure 5: Barclays Capital 2010E scrappage model

change in base demand 6% 5% 5% 5% 2% 5% 5% 5%

Barclays Capital | European Autos & Auto Parts

European Autos & Parts 2009 Q4 Barclays

European Autos & Parts 2009 Q4 Barclays