Capital Markets

Chrysler Drives Deeper into Junk

Fitch Ratings blames declining unit volumes and revenues for the auto maker's new B status.
Stephen TaubMay 7, 2008

Fitch Ratings has pushed Chrysler’s debt ratings deeper into junk territory.

The ratings agency has downgraded the Issuer Default Rating (IDR) of the embattled U.S. carmaker to B from B+, with a Negative Rating Outlook. Fitch also downgraded its senior secured bank facilities based on the downgrade of the IDR and Fitch’s recovery rating methodology.

“The downgrade reflects the decline in unit volumes and revenues resulting from weak economic conditions, modest share losses, certain strategic initiatives, and the effect of these factors on the company’s operating performance,” the debt rater stated.

It stressed, however, that Chrysler’s restructuring efforts remain on track, and its liquidity is expected to remain adequate over the near term to fund restructuring costs and operating losses through a period of economic weakness.

Chrysler, which was bailed out by the Carter Administration in 1979, was purchased in 1998 for $36 billion by Daimler-Benz AG. One year ago, Daimler sold all but 19.9 percent of its stake in Chrysler to Cerberus Capital Management LP for 5.5 billion Euros ($7.4 billion at the time the deal closed). Under the deal, Cerberus agreed to invest $5 billion in Chrysler over the following five years and take responsibility for Chrysler’s $18 billion liability for its workers’ health-care benefits and pension obligations.

Fitch pointed out that since 2000, Chrysler’s market share losses have been more moderate than at Ford and General Motors, requiring fewer reductions in assembly capacity and the associated fixed costs. “In a stable revenue environment, this would allow cost reductions to flow more quickly to the bottom line,” the agency stated.

However, the severe impact of weakening economic conditions has made this more challenging, and has extended the projected timeline for Chrysler to realize a positive cash flow, Fitch stated in its announcement. It blamed the company’s steep decline in 2008 unit sales on reduced fleet sales, and product eliminations and inventory reductions — all issues that could affect Chrysler’s long-term prospects.

Fitch noted that Chrysler’s cash flow will remain negative in 2008, due to capital investments, restructuring costs, and other one-time items. It said the company is realizing substantial reductions to its fixed-cost structure, the bulk of which have resulted from salaried and hourly headcount reductions. Variable purchasing, material and other efficiencies have been more difficult to realize as rising commodity costs have offset other progress, it added.

“Cost reductions and the new UAW contract have positioned the company to moderate operating losses during the current economic weakness, but a return to positive free cash flow is likely to require continued execution on the company’s cost reduction efforts and a stabilization in market share and industry sales,” Fitch noted.

However, Fitch acknowledged that unit volumes in 2008 and into 2009 will be aided by the new Dodge and Chrysler minivan offerings, the Dodge Journey crossover, the low-volume Dodge Challenger, as well as the fall launch of the redesigned Dodge Ram pickup. Several products at the smaller end of Chrysler’s lineup, including the Dodge Caliber and Jeep Patriot, have supported unit volumes as consumers migrate to smaller, fuel-efficient vehicles, Fitch pointed out.

Still, Fitch tempered that positive news: “On a consolidated basis, however, these factors will be more than offset by weakness in the larger end of the company’s product portfolio — the effect of a depressed residential construction market on Chrysler’s key pickup lineup, high gas prices, and the impact of general economic conditions on industry sales.”