Opel Sale: Buyer Beware...Seller Too

Aug.13.09 | About: Magna International (MGA)

GM’s sale of Opel is still hanging fire. The German government is exerting heavy pressure on GM to choose the Sberbank-Magna deal (under which Sberbank would most likely sell its share to Deripaska’s OAO Gaz) over the rival RHJ International bid. But GM is balking, for reasons that are quite understandable, to anyone who is familiar with Russian business practice:

Sources say that GM feels that Magna has taken advantage of unwavering support from German unions and local politicians, force-feeding Detroit a deal that it simply could not swallow.

Neither Magna nor RHJ will comment on the talks, but Smith has carefully documented developments in the negotiations in hopes of fostering understanding in Berlin for GM’s views and preparing the political ground for a possible deal with RHJ.

“We started the week with about 30 issues to resolve … I can report some progress, resolving perhaps one-third of the issues during a first day of talks,” he stated.

Smith explained on Thursday that most of his time in talks with Magna was still devoted to resolving deviations from a memorandum of understanding signed in May between GM and Magna, of which some were “very fundamental in nature”.

Sticking points included Opel’s involvement with GM’s Chevrolet brand in Russia, intellectual property transfer rights in Russia, access to advanced technology, product development responsibilities, and minority shareholder rights. [Emphasis added.]

All of these are legitimate concerns, and GM would have virtually no chance of enforcing any claims over IP, or shareholder rights (it would retain a minority 35 percent stake under the deal), in a Russian court.

But as Art Durnev of McGill University and Pat Akey of the LBS point out, Magna should be quite cautious as well:

Mr. Deripaska, Russia’s richest man before the financial crisis, has unparalleled control over the Russian aluminum sector and other related industries such as automotives. He emerged from the “aluminum wars” in Russia vastly wealthy and very well connected to the Russian government. In 2007, Mr. Deripaska invested US$1.5-billion in Magna, giving him control of 42% of the board seats and 20% ownership of the firm. He purchased the shares on a bank margin where they were pledged as collateral. After he received a margin call last October, he was forced to sell the shares at a loss of approximately US$625-million.

The benefit for Magna, Canada’s largest automobile parts manufacturer, in entering this deal is apparent: access to the expanding auto market in Russia with one of the best-connected businessmen in the Kremlin. However, Magna may have discounted the opaque nature of Russian businesses and the objectives of its newest investor when agreeing to the deal. Mr. Deripaska has stated publicly that his interests corresponds to the Kremlin’s, which are likely not the same as the interests of the existing stakeholders in Canada.

Russian politics are quite volatile. Last month, Vladimir Putin publicly blasted the oligarchs and, before a TV audience, forced Mr. Deripaska to sign a contract for supplies to restart production at idle factories. Should Mr. Deripaska fall out of favour, his existing companies’ future would be very uncertain, adversely affecting Canadian co-investors.

. . . .

This volatility already led Mr. Deripaska to diversify abroad. Like other Russian oligarchs, he had moved much of his wealth to the United Kingdom; however, a compromising conversation he had on his yacht with British politicians last year led him to move his assets again. He cannot access the United States (due to allegations of connections to Russian organized crime) so he is transferring his remaining assets into ventures within Canada. Canadian investors, therefore, are bearing the political risk that Mr. Deripaska is trying to diversify away.

. . . .

Magna and other Canadian companies should consider the implications of entering into cross-border investments. The Russian government has not been shy to advance its political-economic agendas and physical investments in areas that have poor investor protection institutions are more susceptible to nationalization.

Akey & Durnev raise the prospect that Magna (NYSE:MGA) could suffer if Deripaska falls from favor. I think it is also a very real possibility that Magna could suffer even if Deripaska remains in favor. It does not take a leap to imagine circumstances under which Deripaska exploits his Kremlin connections, resulting in Magna being harmed in favor of Deripaska’s OAO Gaz. Either way, Magna is treading on very dangerous ground.

It is also hard to understand the obsession of the German government with forcing a Canadian-Russian deal over an EU (Belgian) alternative. Do Merkel and the German unions really believe that Deripaska (and Putin) will have the interests of German workers at heart, or that Russia would hesitate for a moment to act in ways that are detrimental to Opel?

And Magna itself is hardly a model citizen, even without Deripaska in the mix. Magna’s Frank Stronach has had myriad problems with minority shareholders, including this new lawsuit. So Germany is treading on very dangerous ground as well. But as I’ve noted before, the Germans have been strangely deferential to the Russians, especially in these times of economic stress. But the Germans should remember: Marry in haste, repent at leisure. And Magna should remember too.